When Can a New Jersey LLC Expel One of Its Members?

When Can a New Jersey LLC Expel One of Its Members?

Disputes among members of a limited liability company (LLC) are not uncommon and can often be resolved outside of court. However, LLC disputes can sometimes escalate to the point that an LLC seeks to expel a member from the business. When seeking to remove a member, LLCs may rely on the provisions of their operating agreement regarding expulsion. In the absence of such an agreement, the New Jersey’s Revised Uniform Limited Liability Company Act will govern.

There are various reasons why a New Jersey LLC may want to remove a member, including retirement, internal disputes, wrongful conduct, or death. In some cases, the members of an LLC can hold a meeting and adopt a resolution to remove the member (if approved by the majority of votes). However, if the member contests the removal, court intervention may be necessary.

Many operating agreements contain provisions establishing when a member may be removed from the LLC. This is the simplest way to expel a member as the grounds for expulsion and required procedures are outlined in terms of the agreement. A well-drafted operating agreement will address both voluntary resignations and involuntary removals. Expulsion provisions should specify when a member can be expelled, the required votes for expelling an LLC member, and the procedure for buying out the departing member’s interest.

In the absence of an operating agreement or provision in an operating agreement regarding expulsion, New Jersey’sRevised Uniform Limited Liability Company Act (LLC Act) controls. The statute provides for the disassociation of another member under several circumstances including where a member gave notice of withdrawal; where the person is expelled as a member under the operating agreement; or where the member is a corporate entity or partnership that has dissolved or had its charter revoked.

When the parties can’t reach an agreement out of court, an LLC may expel a member by judicial order. Specifically, a New Jersey court may order a member expelled under the following circumstances: (a) the member engaged in wrongful conduct that adversely and materially affected the LLC’s business; (b) the member willfully or persistently committed a material breach of the operating agreement; or (c) the member engaged in conduct relating to the LLC’s business which makes it not reasonably practicable to carry on the business with the member as a member of the LLC.

In IE Test, LLC v. Carroll, the New Jersey Supreme Court addressed the “not reasonably practicable” standard, confirming that LCCs must meet a high bar to be granted judicial expulsion. According to the justices, the New Jersey Legislature did not intend for expulsion to be available whenever “it would be more challenging or complicated for other members to run the business with the LLC member than without him.” Instead, the LLC Act mandates that it must be “unfeasible, despite reasonable efforts, to keep the LLC operating while the disputed member remains affiliated with it.”

As the New Jersey Supreme Court noted, the LLC Act does not define the term “not reasonably practicable,” or specifically describe the conduct that implicates subsection 3(c) of the LLC Act. Accordingly, the Court established a multi-factor test, under which no factor is determinative:

• The nature of the member’s conduct in relation to the company’s business;
• Whether the entity can be managed to promote the purposes for which it was formed with the member remaining;
• Whether the dispute precludes the members from working with one another to pursue the company’s goals;
• Whether there is a deadlock among the members;
• Whether, despite deadlock, members can make decisions on the management of the company under the operating agreement;
• Whether there is still a business to operate, in light of the company’s financial position; and
• Whether continuing the company with the member is financially feasible.

Expelling an LLC member is often fraught with business and legal challenges. Scarinci Hollenbeck’s business litigation attorneys have significant experience resolving LLC disputes, including LLC expulsions. Our experienced attorneys also routinely work with LLCs to draft operating agreements that protect the interests of the LCC members and help prevent protracted legal battles.