Forming an LLC in Another State May Not Be Smart

Florida debtors often form LLCs in other states because they believe the laws of the foreign state provide better asset protection in the manner of protection of single-member LLCs or more privacy for multi-member LLC ownership. Owning a membership interest in a foreign LLC can have unintended consequences as Florida debtors recently found out in a recent Iowa Supreme Court case.

A man and his wife living in Florida jointly owned a membership interest in an LLC formed in Iowa. A creditor obtained a money judgment against the husband. The creditor domesticated the judgment in Iowa and levied upon the husband’s LLC interest. The debtor claimed that his interests were exempt from execution because they were tenants by entireties property pursuant to Florida law.

If and when there is a judgment against a Florida resident owner of an LLC the law is unsettled regarding the location of a debtor’s LLC interest for purposes of judgment collection. The legal issue is whether collection against a Florida debtor’s LLC membership interest based upon Florida law where the debtor resides or the laws of the state where the LLC is formed. Under Florida case law, the LLC membership interest is located where the Florida debtor resides. Other states have reached the opposite result, and most states have not considered the issue. The debtor in this case contended that Florida exemption laws applied to his LLC interest because he and his wife lived in Florida.

The Iowa Supreme Court ruled that the laws applicable to LLC membership interests are the laws of the state where the LLC is organized; in this case, Iowa. The court reached a different result than Florida law. Iowa does not recognize tenants by entireties ownership. Therefore, this Florida debtor’s interest in an Iowa LLC cannot be protected under the entireties exemption applicable in Florida.

This case is a warning to Florida debtors trying to gain advantage by forming LLCs outside Florida. If an LLC is formed in a state that has less asset exemptions than Florida, and the state court find that its laws applies because the LLC was organized there then the Florida debtor could lose asset protection of the LLC interest that would have been available if the LLC were organized in Florida.

Delaware and Nevada are popular states of LLC organization. There are non-legal websites promising asset protection benefits of LLCs formed in these states. Delaware law exempts entireties property; Nevada law does not recognize entireties ownership.