Contribution Default Remedies for LLCs and Partnerships: Tax Consequences of Dilution, Set-Offs and Constructive Loans

For an LLC or partnership to be viable, the members must contribute capital or services, either initially at formation or through additional contributions later. A default on member contributions under the LLC operating or partnership agreement can cause significant financial, economic, and tax effects for the entity.

Members who have fulfilled their contribution commitments must recognize that contribution defaults by other members can affect their ownership, voting, and financial interests. Contribution defaults can trigger unwanted regulatory penalties and dismantle counsel’s carefully calibrated entity structure.

For instance, a non-U.S. investor who owns more than 50% of certain entities is subject to U.S. reporting requirements and higher tax rates, requiring the non-U.S. investor to ensure other members do not disrupt their interests by failing to meet a capital commitment. In other circumstances, contributing members may want to ensure that their interests increase disproportionately in relation to the interests of defaulting members.

To guard against unintended tax consequences, members must that LLC operating and partnership agreements include contribution-default remedies, such as interest dilution, distribution set-offs or constructive loans. Specific aspects of contribution commitments and defaults can become complicated. Tax professionals must possess in-depth knowledge of the available contribution-default remedies and the potential tax consequences.

Listen as our panel provides a detailed analysis of contribution-default remedies, the mechanisms for structuring such provisions, the tax implications upon their enforcement, and planning techniques to ensure protection against interest disruption.

1. Capital contribution commitments for LLC and partnership
2. Contribution-default remedies and other methods to protect LLC and partnership interests
3. Tax implications of contribution-default remedies
4. Planning techniques and best practices for drafting default and other interest-maintenance provisions

The panel will review these and other principal issues:

• Available contribution-default remedies for LLCs and partnerships
• Structuring partnership and LLC operating agreement provisions addressing the failure to satisfy capital commitments
• Natural and punitive dilution of non-contributing member interest
• Distribution set-off of unpaid capital commitments and related implications
• Adopting constructive loans to help ensure that contribution-defaults do not affect members’ interests
• Tax consequences based on the type of default remedy chosen and the manner in which partners determine percentage interests
• Strategic tax planning to avoid potential adverse tax consequences for partners and members

Learning Objectives

After completing this course, you will be able to:

• Ascertain thorough knowledge of the complex tax issues for partnerships and LLCs when there default in contribution commitments
• Understand key aspects of the applicable regulations regarding partnership or LLC contributions, such as Sections 721, 704(b) and 704(c)
• Identify available contribution-default remedies for partnerships and LLCs
• Understand methods in determining percentage interest and their impact on allocations and distributions
• Recognize tax consequences based on the type of default remedy chosen and the manner in which partners determine percentage interest
• Identify strategic tax planning techniques to avoid potential negative tax consequences for partners and members

• Field of Study: Taxes
• Level of Knowledge: Intermediate
• Advance Preparation: None
• Teaching Method: Seminar/Lecture
• Delivery Method: Group-Internet (via computer)
• Attendance Monitoring Method: Attendance is monitored electronically via a participant's PIN and through a series of attendance verification prompts displayed throughout the program
• Prerequisite: Three years+ business or public firm experience at mid-level within the organization with supervisory authority over other preparers/accountants in preparing complex tax forms and schedules and preparing for partnership audits. Specific knowledge and understanding of partnership structures, operating agreements, allocations and distributions and IRS partnership audits.

Strafford Publications, Inc. is registered with the National Association of State Boards of Accountancy (NASBA) as a sponsor of continuing professional education on the National Registry of CPE Sponsors. State boards of Accountancy have final authority on the acceptance of individual courses for CPE Credits. Complaints regarding registered sponsons may be submitted to NASBA through its website: www.nasbaregistry.org.

IRS Approved Provider

Strafford is an IRS-approved continuing education provider offering certified courses for Enrolled Agents (EA) and Tax Return Preparers (RTRP).