Membership Interest Purchase Agreement

A Membership Interest Purchase Agreement in the United States sets out the consideration, warranties and completion steps for the purchase it documents.

Limited liability companies are created under state LLC statutes, and the primary legal framework for LLC membership interest transfers in any given transaction is the LLC Act of the state in which the LLC is organized, together with the LLC's own operating agreement. The Revised Uniform Limited Liability Company Act (RULLCA), promulgated by the Uniform Law Commission in 2006 and adopted in modified form in approximately 20 states including California, Idaho, Iowa, Nebraska, South Dakota, Utah, Vermont, Wyoming, and the District of Columbia, provides the default statutory framework for LLC governance and member transfers. Older states continue to apply non-uniform LLC statutes — Delaware, the most popular state for LLC formation, is governed by the Delaware Limited Liability Company Act, Del. Code Ann. tit. 6, §§ 18-101 et seq.; Florida by Fla. Stat. Ch. 605; New York by N.Y. LLC Law; and Texas by Tex. Bus. Orgs. Code Ch. 101.

Under most state LLC statutes and RULLCA § 502, a membership interest is freely transferable (i.e., the economic rights — the right to receive distributions and liquidating distributions — can be transferred without member consent), but the transfer of governance rights (voting rights, the right to participate in management, and the right to information) typically requires the consent of the other members unless the operating agreement provides otherwise. This distinction between the transfer of economic rights and the admission of a transferee as a full member with governance rights is critical in drafting the MIPA — the buyer should confirm that the operating agreement permits full membership admission upon consummation of the purchase, or negotiate the required member consents as a closing condition.

For federal income tax purposes, an LLC taxed as a partnership (the default for multi-member LLCs under Treasury Regulations § 301.7701-3) treats a sale of membership interest as a sale of a partnership interest governed by IRC §§ 741 and 751. The seller generally recognizes capital gain or loss on the difference between the amount realized and the adjusted basis in the LLC interest. If the LLC holds 'hot assets' — unrealized receivables or inventory items (as defined in IRC § 751) — a portion of the gain may be recharacterized as ordinary income. The buyer's basis in the acquired membership interest is the purchase price (cost basis), and the parties may negotiate an IRC § 754 election to allow the LLC to adjust the basis of its assets to reflect the purchase price paid.

The Foreign Investment in Real Property Tax Act (FIRPTA), 26 U.S.C. § 1445, requires buyers to withhold 15% of the purchase price from foreign sellers (non-US persons) when acquiring interests in US real property holding companies — which can include LLCs that directly or indirectly hold US real estate — unless an exemption applies or the IRS issues a withholding certificate. The MIPA should address the seller's FIRPTA certification (Form 8288-B or the seller's certification of non-foreign status) as a closing deliverable.

A US Membership Interest Purchase Agreement is needed whenever a member of an LLC wishes to sell all or a portion of their membership interest to another person or entity — whether an existing member buying out a co-member, a third-party buyer acquiring a controlling or minority stake, or an investor purchasing a passive economic interest — and both parties require a binding written contract that governs the transfer.

Small business owners who have formed LLCs for restaurants, professional practices, construction companies, technology startups, real estate investment companies, and retail businesses frequently use MIPAs when a founding member exits the business (buy-out by remaining members), when an outside investor acquires an equity stake (investment round), or when the entire business is sold to a third-party buyer through an interest sale rather than an asset sale.

Private equity firms and strategic acquirers — including middle-market buyout firms, family offices, and corporate development teams at companies such as Amazon, Google, and private strategic acquirers in healthcare, technology, and consumer products — use MIPAs when acquiring majority or controlling stakes in LLC-structured businesses. The choice between an asset purchase and a membership interest purchase has significant tax, liability, and operational implications: an interest purchase transfers all of the LLC's liabilities (known and unknown) to the buyer, while an asset purchase allows the buyer to selectively acquire assets and assume only specified liabilities. Buyers in interest purchases typically require complete representations and warranties insurance (R&W insurance) placed with carriers such as AIG, Berkshire Hathaway Specialty Insurance, and Liberty Mutual to protect against undisclosed liabilities.

LLC members exiting pursuant to a buy-sell agreement triggered by deadlock, death, disability, or retirement use MIPAs to document the terms of the buyout. A shareholders' agreement or operating agreement buy-sell provision may establish the price (based on a predetermined formula, an appraisal mechanism, or a shotgun clause), and the MIPA documents the actual transfer once the price is determined.

Venture capital funds and angel investors acquiring preferred membership units in early-stage LLC-structured technology companies, biopharmaceutical startups, and consumer brands use MIPAs — often accompanied by a subscription agreement and an amended and restated operating agreement — to document the investment terms, the investor's preferred economic rights (priority distributions, liquidation preference), and governance rights (board representation, information rights, protective provisions).

In real estate joint ventures organized as LLCs — where a developer-operator member holds a promoted interest (carried interest) and an equity investor member holds a preferred return interest — the MIPA is used when one member sells its interest to a third party or to the other JV member, and must address the specific economic mechanics of the preferred return, promoted interest, and any waterfall distribution provisions in the operating agreement.

A legally binding US Membership Interest Purchase Agreement must contain the following essential provisions to define the interest being transferred, protect the buyer through representations and warranties, satisfy state LLC act transfer requirements, and complete the transfer through an organized closing process.

The description of the purchased interest must precisely identify: (1) the LLC, including its full legal name, state of organization, and the date of its Articles of Organization or Certificate of Formation; (2) the membership interest being sold — expressed as a percentage of total membership interests, a specific number of units (if the LLC has issued units), or both; (3) whether the purchased interest includes both economic rights (distributions, liquidating distributions) and governance rights (voting, management participation, information rights); and (4) any transfer restrictions in the operating agreement that must be satisfied or waived to complete the transfer.

The purchase price and payment terms must specify: the total consideration (cash, promissory note, earn-out, equity in the buyer's entity, or a combination); the payment schedule (upfront payment at closing vs. deferred payment via promissory note with specified interest rate and amortization); any post-closing purchase price adjustments (working capital adjustments based on a closing balance sheet, escrow holdbacks for indemnification claims); and the treatment of any distributions from the LLC declared before closing but paid after closing.

The seller's representations and warranties are the primary mechanism by which the buyer learns about the LLC's business, operations, and liabilities and obtains contractual protection against undisclosed problems. Standard seller representations in a MIPA include: (1) the seller's authority and capacity to sell the interest and the absence of encumbrances on the interest; (2) the LLC's due organization and good standing in its state of formation and all states where it is qualified to do business; (3) the accuracy of the LLC's financial statements and the absence of material changes since the most recent financial statement date; (4) the absence of undisclosed liabilities, pending litigation, regulatory investigations, or employee claims; (5) the LLC's compliance with applicable law; (6) the validity and enforceability of material contracts and the absence of material defaults; (7) the accuracy of the LLC's tax returns and the absence of undisclosed tax liabilities; and (8) the completeness and accuracy of the LLC's capitalization table confirming the seller's ownership of the interest being sold.

The buyer's representations and warranties typically include: the buyer's authority and legal capacity to purchase the interest; the absence of governmental or third-party consents required by the buyer; and confirmation that the buyer is acquiring the interest for its own account and not with a view to resale in violation of federal securities laws (the Investment Company Act of 1940, 15 U.S.C. § 80a-1 et seq., and the Securities Act of 1933, 15 U.S.C. § 77a et seq., may be implicated if the membership interest is a security).

The closing conditions specify what must occur before either party is obligated to close the transaction. Standard closing conditions include: the accuracy of all representations and warranties on the closing date; the absence of any material adverse change in the LLC's business; receipt of all required third-party consents (including required member consents under the operating agreement and consents required under material contracts with change-of-control provisions); and the delivery of all required closing documents.

The indemnification clause must specify: (1) the seller's obligation to indemnify the buyer for losses arising from breaches of the seller's representations, warranties, and covenants; (2) the survival period for representations and warranties (typically 12 to 24 months after closing for general representations, with longer survival for fundamental representations such as title to the interest, authorization, and tax representations); (3) deductible or basket amounts below which indemnification claims are not payable; (4) a cap on the seller's aggregate indemnification liability (typically a percentage of the purchase price); and (5) the parties' obligation to provide prompt written notice of indemnification claims and to cooperate in the defense of third-party claims.