Can I enter zero for ownership percentage for an LLC member who had no involvement, zero investment, zero income?

[KellyJ1]

My daughter and I formed an LLC this year.  I sell online wedding supplies, gifts, she was going to photograph weddings.  For personal reasons she was not able to become involved this year at all.  The LLC had income and expenses on my part, but she had zero investment, zero income in either the photography or gift section.   Can I enter her as having 0 ownership percentage?

[AlanT]

Yes, you can have a partner with 0% interest.  There are no federal guidelines for the establishment of partnerships and therefore no minimum interest amount that a partner can have in a company.

However, I would suggest that if your daughter is no longer going to be a part of the business, you prepare the final 1065 and become a single member LLC.  Then you can report the business on Schedule C of your personal return, thus eliminating the need to file two income tax returns.  

[Doug_L]

Hi AlanT,

    You wrote: Yes, you can have a partner with 0% interest.

Did you mean partner here as interchangeable with member?

If so, does this apply to all states in the United States or would each state have individual rules?

This is my very question I've been searching for an answer for months with no one seeming to be able to help.

We are in New Jersey and are looking to have three members, adding a third to the two who currently own 50% of the LLC but wanting the third to be a member because the other institutions we're dealing with want only members to be able to act on behalf of the LLC.  The way the original operating agreement is worded, the LLC is member managed which is why we don't want to make the third a manager as we believe it would entail more work to change the structure of the LLC to allow for management to be by managers who are not members. Hoping you're still receiving notifications of responses to this thread.

Thanks,

Doug_L

[Critter-3]

I HIGHLY recommend you seek local professional assistance for this issue since it also involves state rules on top of federal ones.  Adding and removing partners can be tricky especially with tracking the partner's basis.  

[Doug_L]

Thanks for your response, Critter-3, but just to clarify, in my case there is no mention of partners -- the operating agreement refers to members.  If there is some general law that says members of an LLC can also be referrd to as partners, then okay, but otherwise, to reduce confucion, we have members in our LLC.

Next, regarding any tricky tracking of calculating basis, if by that you are referring to a cost basis of equity percentage issue, that is not an issue as each of the two brothers adds an equal amount of money and owns 50% of the LLC.  The third brother who is self sufficient would be a third member of the LLC just so he would be able to "manage" the business for his two brothers' benefit.  No member would be removed from the LLC

So having said all that, can anyone answer definitively if a person can be a member of a New Jersey LLC without actually owning any equity in the LLC?

[Carl]

IRS rules/guidance for multi-member LLCs/Partnerships is covered in IRS Publication 541 at https://www.irs.gov/pub/irs-pdf/p541.pdf

I didn't dig into it. But I can't find anything that specifies an ownership/interest percentage requirement. Seems rather odd to me.

[Mike9241]

how is it possible to have a partner/member that has neither an ownership % or profit /loss %.  state rules would determine this. 

[Doug_L]

That's what I'm asking....does New Jersey state law allow this?   No where in the standard "stock" operating agreement does it discuss the matter, only that capital contribution amounts should be clarified per member in the schedule at the end of the operating agreement.  I might add that the term member in its simplest definitions does not imply ownership, and perhaps if one couldn't not have any ownership, an LLC would be comprised instead of owners rather than members to make that point more clear?

[Doug_L]

Hi Carl,

I agree; I also couldn't find anthing dictating a minimum.  I was just hoping someone could definitively answer if it is okay and doesn't break any rules.

[Anonymous_]

New Jersey has adopted both the Revised Uniform Limited Liability Company Act and the Uniform Partnership Act. 

Both of these Acts provide:

(d) A person may become a member [partner] without:
(1) acquiring a transferable interest; or
(2) making or being obligated to make a contribution to the limited liability
company [partnership]

See https://www.uniformlaws.org/HigherLogic/System/DownloadDocumentFile.ashx?DocumentFileKey=0a06fb33-7f...

[Doug_L]

Thanks tagteam,

     I was hoping someone would come through with a definitive response, and this certainly sounds pretty definitive to me.  I even posed my question to the two law professors who teach the relevant course:

CORP7131

Business Associations This course considers the organization and operation of business enterprises with particular emphasis on the corporate form. The class includes an introduction to agency and partnership and limited liability companies. Corporate issues to be discussed include: nature of the corporation; corporate formation; corporate privilege and power; special problems of close corporations; fiduciary duties of directors and controlling shareholders; rights of shareholders; use of proxy machinery; derivative suits; and liability for insider trading, including an analysis of SEC Rule 10b-5.

Mind you, I wasn't asking them for advice; rather, I was asking the same question I posed in this forum, and here's the pitiful response they gave me:

"We cannot give you legal advice.  You should talk to a lawyer. However, in some other states, the structure you're proposing works.  On the basis of some assumptions beyond the scope of this email, to confirm whether the same is true in New Jersey, the lawyer would probably want to look at the definition of "member" and the definition of "interest" in the relevant statute.  If someone can be a member without an ownership interest, the answer is probably yes.  Again, this isn't legal advice and you should consult with a lawyer.  I have never looked at the NJ LLC statute and this is just an educated guess."

According to Wikipedia, Seton Hall Law School is the only private law school in New Jersey, and, according to the U.S. News & World Report rankings, is the top-ranked of the two law schools in the state.

[Rick19744]

This question is way beyond the scope of a forum such as this:

• The original reply to the original question which used the word "partner" when the entity was an LLC was most likely just used incorrectly; since an LLC has "members".  However, an LLC taxed as a partnership,  follows the same tax regulations as a partnership, and as such, the terminology is sometimes used interchangeably when discussing questions.
• The reason you are not able to get a definitive answer is because you would need to consult with an attorney who understand the NJ LLC statute.  
• While some state LLC statutes may allow for a zero interest ownership, the next question is whether this zero interest member would be deemed a member for federal income tax purposes.  Including a zero percent member on an LLC form 1065 would more likely than not invite an audit inquiry.
• Without going into the historical and technical aspects, there is an unwritten "understanding" that the IRS would not accept anything less than a 1% interest.  This is based on revenue procedures related to partnerships.  There may be some general partners in a partnership who own less than 1%, but those are most likely drafted by $1,000 an hour attorneys.
• I also believe you should be able to accomplish what you need to accomplish without adding a zero percent interest member.  A simple letter drafted on company letterhead indicating John Doe has the authority to contract and bind the LLC in matters related to the company.
• In summary, I would not be comfortable taking the position with a zero percent member, but as noted previously, you need to have a one on one with a NJ attorney who understands the NJ LLC statute AND understands federal subchapter K (the partnership rules). 
• As an additional comment, your operating agreement WILL need to be updated should you add another member.  The NJ revised LLC statute (effective for NJ LLC's formed on or after 3/18/2013) has a provision that states "Under RULLCA, each member of an LLC is entitled to an equal share of the profits or losses, regardless of capital contributions or percentage ownership interests."  If you don't amend and update your LLC operating agreement, this could come back to haunt the LLC.  Yes all things may appear rosy now, but things change and can become ugly quickly.
• As a second additional comment, I don't believe the response you received from the professor was pitiful at all.  They provided a response, but indicated they have not reviewed the NJ LLC statute.  That's a fair response.  You get what you pay for in most cases.  The exception to that rule is this forum, where you get way more than you pay for !!! 😁

[Anonymous_]

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@Rick19744 wrote:

• While some state LLC statutes may allow for a zero interest ownership, the next question is whether this zero interest member would be deemed a member for federal income tax purposes. 

---

I absolutely concur with @Rick19744 in this respect; whether a zero interest member would be deemed to be a "member" for state law purposes is a separate inquiry from whether a zero interest member would be deemed to be a "member" for federal income tax purposes (the latter of which is sure to draw increased scrutiny).

[Doug_L]

Wow! Lots to consider.  So are youu saying that the original response to the original person's question that stated

Yes, you can have a partner with 0% interest.  There are no federal guidelines for the establishment of partnerships and therefore no minimum interest amount that a partner can have in a company.

is incorrect?

If you're concerned about the answer mentioning partner and not member, I'd like to point out that

IRS Publication 541 (March 2022) states:

A domestic LLC with at least two members that doesn't file Form 8832 is classified as a partnership for federal income tax purposes.  

[Anonymous_]

---

@Doug_L wrote:

So are you saying that the original response to the original person's question that stated:

Yes, you can have a partner with 0% interest.  There are no federal guidelines for the establishment of partnerships and therefore no minimum interest amount that a partner can have in a company.

is incorrect?

---

I am by no means certain what others who have replied in this thread are saying, but the answer is essentially correct in the sense that, according to the Uniform Acts that I cited in my previous post, you indeed can have a partner (or member of a multi-member LLC) with a 0% interest for the purposes of state law (at least those states that have adopted the Acts) and there are no federal guidelines (at least no federal income tax guidelines) that address that scenario.