When Withdrawing Is Better Than Fighting

By Cliff Ennico

February 23, 2016 6 min read

"For the past several years I have run a small service business with a partner. We are 50/50 owners of a limited liability company but have never signed a formal agreement.

"Over the past year, we have found ourselves disagreeing more than agreeing on things. Late last year, I discovered that my partner had formed her own company and was pitching business to some of our LLC's clients.

"I called her on the carpet for this, and she came back with an offer to break up our company. I was only too happy to do this, as the company has hardly any assets, but when I read over the details I learned she was proposing to take virtually all of the best clients for herself, and wanted me to agree that I wouldn't solicit these clients for a period of five years after the breakup!

"The relationship is clearly turning poisonous, and I just want to get out of it, although I don't really want to hand everything over to her. I was the one responsible for developing most of these client relationships, and I doubt many of them will want to do business with her unless I'm involved somehow. There are one or two I may want to continue working with.

"What is the best way to end this relationship?"

Here is a rare — very rare — situation where NOT signing a formal agreement is actually a good thing!

When you form an LLC with two or more partners, it is customary to sign an operating agreement — similar to a partnership agreement — describing how the business will be run, how the partners will share profits and losses, and so forth. Normally, not signing this agreement and doing business on a handshake is a bad idea, as it opens the door to disagreements and arguments down the road.

In this case, though, probably the best thing this reader could have done is NOT sign an agreement with this partner. Why?

Because operating agreements also contain numerous clauses restricting the outside activities of the LLC owners. It is not uncommon for agreements of this type to prohibit owners from competing with the LLC business or soliciting customers for a period of two to three years after withdrawing from the company.

Had this reader signed such an agreement, she would be forced to dissolve the LLC and spend lots of time (and legal fees) negotiating with her "ex" over who gets what after the breakup, who can manage which clients, and so forth — just like ending a marriage. And as in many divorces, the negotiations can get quite heated. In extreme cases, the dispute may be thrown into judicial dissolution — a court-supervised breakup of the LLC where the judge can almost be counted on to make all of the wrong decisions about how assets should be divided.

As I understand it, the LLC has no assets except for maybe a little cash, maybe some equipment and supplies that can be easily replaced, and (most importantly) its list of customers, suppliers and other relationships. Just like a law practice that doesn't own its clients, a business like this doesn't own these people. While the partners may haggle over who will handle what accounts, ultimately the client decides whom they wish to do business with, and they can go wherever they wish — to another company altogether, if need be.

Because these partners never signed an operating agreement, each of them is free to do whatever they wish except steal the LLC's trade secrets (this is prohibited by statute in most states). If the LLC has any debt, the debt remains with the LLC and neither partner is personally on the hook.

So here's what I might recommend to this reader: Instead of engaging in a long, frustrating and fruitless negotiation with your partner, withdraw as a member of the LLC instead. Have your attorney draft a simple, one-page letter, in which you:

—Sell your 50 percent interest in the LLC to the partner for $1 and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged.

—Resign from all positions as a member, manager, employee or agent of the LLC.

The letter of withdrawal should be effective as of the last day of the immediately preceding calendar year, and you should send it certified mail so you have proof of receipt.

But that's it — get away clean. Then, wait a little while, set up a company of your own, and start telling your ex-clients where they can find you.

Your partner won't be happy — in fact, I predict she will be quite furious — but as long as you avoid saying anything negative about her, and you don't steal any LLC trade secrets (for example, be sure not to use a business name that's too similar to the LLC's name), there shouldn't be anything she can do about it legally.

Cliff Ennico ([email protected]) is a syndicated columnist, author and former host of the PBS television series "Money Hunt." This column is no substitute for legal, tax or financial advice, which can be furnished only by a qualified professional licensed in your state. To find out more about Cliff Ennico and other Creators Syndicate writers and cartoonists, visit our Web page at www.creators.com.

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