Limited Liability Companies: Do Not Confuse an LLC’s Membership Interests with Its Underlying Assets

In re Gialamas, 606 B.R. 798 (Bankr. W.D. Wisc. 2019) –

A judgment creditor sought relief from the automatic stay and abandonment with respect to a strip mall shopping center. The motions referred to “real estate.” However, the strip mall was not owned by the debtor. Rather the debtor owned the membership interests in a limited liability company (LLC), which in turn owned the strip mall. The debtor and unsecured creditor’s committee objected.

The creditor obtained a ~$16.7 million judgment against the debtor. A later order denying a motion of the debtor’s wife motion seeking to prevent enforcement against marital property, included a statement that “the Blackhawk Junction Strip Mall shall be sold and the proceeds of such sale, up to and including [~$1.2 million] shall be paid to [the judgment creditor] in partial satisfaction of the Judgment.” The judgment creditor contended this language gave him a pre-petition lien on the debtor’s interest in the mall.

The property had been assessed at ~$3.3 million. However, the judgment creditor argued that taking into account fire damage and a pending property tax foreclosure, it was worth only ~$1.2 million with a forced sale value of ~$475,000. After adding the lien claimed by the creditor, he argued that the mall was of inconsequential value (supporting abandonment), lacked equity and was not necessary for a reorganization, and his interest was not adequately protected (supporting relief from the automatic stay).

In ruling against the judgment creditor and finding that the referenced order did not create a common law lien, the bankruptcy court noted that the state supreme court had ruled that supplemental proceedings are merely a discovery tool in the aid of judgment collection, and did not create a lien. Rather a judgment lien is created when a creditor dockets a money judgment, identifies specific personal property, and levies on the property.

To levy a creditor can (1) execute on the property with the assistance of the sheriff, (2) serve a garnishment in an action to seize specific property, or (3) obtain an order to apply specific personal property in satisfaction of the debt. The judgment creditor argued that the order ruling on the marital property issue constituted an order to apply specific property to satisfaction of his debt.

The bankruptcy court ruled against the creditor, finding that he did not show that the order created a lien on property of the bankruptcy estate. The critical fact was that order was ambiguous in its references to the strip mall. The state court order seemed to reference the underlying real estate itself, which was owned by the LLC, while the debtor’s interest was only in the membership interests of the LLC.

The membership interests of the LLC were part of the bankruptcy estate, while the underlying assets owned by the LLC were not. Since the state court order at best gave the creditor a lien on the strip mall, which was not itself part of the bankruptcy estate, the bankruptcy court did not have any basis for considering relief from the automatic stay or abandonment.

Accordingly, the court denied the judgment creditor’s motions.

Since the LLC was a single member entity, it would be interesting to see what the court would have done if it found that the judgment creditor had a lien on the membership interests. It is natural to feel that control of the single member of an LLC should provide access to the LLC’s assets. However, that is not necessarily the case. The LLC may have its own creditors whose interests who have priority over the member’s interests, and some LLC statutes limit the remedies available for enforcing a judgment against membership interests – for example limiting the remedy to a charging order.

Vicki R. Harding, Esq.

About BankruptcyRealEstateInsights

Vicki R. Harding was a partner in the Detroit office of Pepper Hamilton LLP who moved to Arizona seeking warmer weather. Ms. Harding continues to handle commercial transactions with an emphasis on real estate and bankruptcy issues (but no longer owns a snow shovel).
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