Most Chapter 7 bankruptcy debtors do not own investment interests in limited liability companies. People who file bankruptcy have either liquidated all investments or do not have money to invest in business.
I saw an interesting bankruptcy case where the debtor owned part of an LLC which in turn owned a 141 acre ranch with a lodge, free and clear. One of the LLC members filed bankruptcy. The bankruptcy trustee sought a way to monetize the debtor’s interest in the LLC. The trustee wanted to have the LLC liquidated, the land sold, and the money distributed.
The LLC operating agreement stated that if any member filed bankruptcy that the LLC would be liquidated. The trustee wanted the agreement’s liquidation provision enforced.
The court said that Section 541 of the Bankruptcy Act invalidated contract provisions which terminates the debtor’s property interest conditioned upon the debtor’s bankruptcy, so that the LLC is not dissolved the this member’s bankruptcy. The trustee complained that without the automatic dissolution provided by the operating agreement he had no way to get the value of the debtor’s interest in free and clear property for the estate.
The court recognized that , “a trustee holding a debtor’s interest in a LLC is in a Knotty position to realized value.” The court suggested the trustee seek judicial dissolution under state law. Unfortunately for the trustee, state court forced dissolution is difficult. The case is In re Warner