1031 Exchanges - LLCs & Partnerships

It's Important Who Drafts the Operating Agreement and Partnership Agreement

Recently, I was called by a former client who was concerned because he was the managing member of an LLC that had done a multiple property exchange. One of the other members, an attorney, had drafted the LLC's Operating Agreement (the document the defines the repsonsibilities of the members and who has the authority to bind the LLC). The attorney member had purchased authorized the release of funds for the purchase of Property A (the managing member was not aware of this purchase until after it had been completed). Subsequently, the attorney member encumbered the property and added an additional owner to the title. The property is now in foreclosure.

The managing member called me to find out how this could have happened so that it could be prevented from happening again.

My suggestion to him was that he have an outside attorney review the Operating Agreement to make sure that it reflected the intent of all of the members. They had counted on the attorney member to draft a document that protected all of the members of the LLC but apparently he did not discuss that he had a conflict of interest.

Moral of the Story: Don't try to cut corners by eliminating the critical step of having the Operating Agreement reviewed by an uninterested third party, especially when one of the members drafted it, to make sure it reflects the intent of all of the members.

The above is also true when a partnership is involved because the Partnership Agreement and the Operating Agreement of an LLC outlines responsibilities and dictates who is authorized to act on behalf of the entity.

THIS INFORMATION IS PROVIDED FOR EDUCATIONAL AND INFORMATIONAL PURPOSES ONLY. THIS IS NOT TAX/LEGAL ADVICE. INDIVIDUALS ARE STRONGLY ENCOURAGED TO HAVE THEIR SITUATION REVIEWED BY THEIR OWN TAX/LEGAL COUNSEL.