A creditor may reach 100% of an LLC’s distributions to a debtor. However, a creditor may only reach 25% of a debtor’s wages after tax withholdings. That’s a big difference. But in the context of an LLC where a debtor performs labor, is the money received therefrom to be characterized as a distribution or as wages?
Two dentists, Sharon Cobham and Nicole LeCann, formed a limited liability company called Joint Entities, LLC. Through that entity, Cobham and LeCann ran various dental practices from 2000 to 2010.
In 2010, LeCann filed a derivative lawsuit on behalf of Joint Entities against Cobham, alleging various wrongs against the company. The case was litigated before the Business Court in North Carolina and entered a judgment in favor of Joint Entities and McCann against Cobham for just short of $2.3 million.
After entry of the judgment against Cobham, Joint Entities and LeCann moved for enforcement of the judgment and obtained an injunction against Cobham to prevent her from dissipating her assets to avoid satisfaction of the judgment. Post-judgment enforcement litigation then took off against Cobham. This was in 2013.
Cobham filed for bankruptcy on January 6, 2014. Ultimately, the bankruptcy court denied Cobham the discharge of her debt to Joint Entities and LeCann. Cobham then appealed that denial all the way to the U.S. Fourth Circuit Court of Appeals, but in the end the denial was affirmed.
Fast forward to November 4, 2022, when Joint Entities and LeCann started a new action in the North Carolina Superior Court to enforce the judgment. The new action was against Cobham and Cobham’s professional association referred to as “Winston-Salem I”. In this new action, Joint Entities and LcCann filed a motion in aid of execution on January 10, 2025, against both Cobham and Winston-Salem I.
Although unclear when, Cobham formed a new professional limited liability company called Cobham & Associates, PLLC (“C&A”), through which to run her dental practice. At a hearing, Cobham admitted that she was the sole member of C&A. The Superior Court then entered an order that directed C&A and Winston-Salem I to start making payments to Joint Entities and LeCann to satisfy the judgment. Cobham was also ordered to provide a list of all her assets. The court also restricted to $2,500 per month that Cobham could pay herself for support and also prohibited C&A and Winston-Salem I from transferring or encumbering its assets.
Cobham and C&A appealed this latest order, resulting in the opinion in Joint Entities, LLC v. Nicole LeCann DDS, 2026 WL 2248253 (N.C.App., Aug. 5, 2026), that we shall now examine. You can should read that opinion for yourself here and of course it controls if my summary of it in any way differs.
I’ll skip past some mundane technical appellate issues and get right to the meat of what interests us.
The appeals court first observed that, under North Carolina LLC law, a charging order is a creditor’s only remedy to satisfy the judgment against a debtor’s interest in an LLC. A charging order works to charge the debtor’s economic interest in the LLC, meaning that the creditor can take only the debtor’s right to distributions from the LLC.
North Carolina’s LLC law defines a “distribution” as ” the direct or indirect transfer of money or other property to, or incurrence of indebtedness by, an LLC for the benefit of an interest owner in respect of the interest owner’s ownership interest.” On the other hand, “distribution” does not include compensation for services paid to the debtor.
The salient issue of this case is whether the salary received by Cobham from C&A was a “distribution” under North Carolina LLC law. A salary is compensation for services. It is not paid “in respect of the owner’s ownership interest. Thus, Cobham’s salary was not a “distribution” and was not subject to a charging order. Because Cobham’s salary was not subject to a charging order, it was error for the Superior Court to restrict Cobham’s salary to $2,500 per month. Thus, the Superior Court’s order restricting Cobham to $2,500 per month was reversed and vacated.
The appeals court did affirm the injunction against C&A dissipating its assets and this ended its opinion.
The Chief Judge of the North Carolina Court of Appeals filed a separate opinion, concurring in part and dissenting in part. This opinion agreed with the majority that Cobham’s salary was not subject to a charging order. It suggested, however, that the Superior Court could monitor those payments to make sure that they were in fact “salary”. In this light, limiting Cobham’s salary to $2,500 per month was a way of doing this monitoring since the Superior Court could allow Cobham more compensation, or not. This opinion also suggested that if a sole member of an LLC used it to simply hide assets, then its corporate veil could be pierced.
ANALYSIS
A decade ago I wrote the article, LLC Distributions Arising From The Debtor’s Labors Subject To 25% Earnings Exemption In Alexander (May 22, 2016), which examined a similar issue. I mention that article and its date to illustrate that this issue hasn’t exactly been a common one. But it is very interesting nevertheless and it has been consistently determined in the same way … over the whole of two opinions.
From an enforcement perspective, the difference is this: Distributions are subject to being 100% taken by a creditor and the debtor retains the tax liability. Wages, however, whether characterized as hourly or salary, may be garnished by a creditor up to only 25% of net disposable income (which means after tax withholdings). So it is a big difference for a creditor, being 100% versus 25% after taxes.
But there is another important difference. Distributions typically derive from the net profits of the business. Wages result from labor performed.
This seems easy enough, but in the context of LLCs and partnerships it gets more difficult. An LLC member might contribute labor to the LLC which causes the LLC to be more profitable and the LLC member is then paid by distributions. Theoretically, in that circumstance, a part or all of the LLC member’s distributions might be treated as wages for purposes of the Federal Wage Garnishment Law which imposes the 25% limit on net disposable income. But we don’t yet have enough case law to reach this conclusion.
This issue is somewhat similar to the issue relating to whether distributions are subject to self-employment taxes, but that is beyond the scope of this article.
There will likely be future cases where the LLC’s operating agreement makes a difference in determining what is a distribution as opposed to a wage. The issue did not appear in this case because Cobham was the sole member of C&A. There is an argument that a single-member LLC doesn’t really have an operating agreement for the simple reason that there is nobody for the sole member to contract with. If C&A had been a multi-member LLC and the operating agreement had more specifically defined what constitutes a distribution and salary, or Cobham had an employment agreement with the LLC to pay her a particular salary, then that might have been dispositive. We’ll have to wait for a multi-member LLC case to find out.
From an asset protection planning perspective, it is of course better that a person takes a large salary, subject to the 25% garnishment limitation, with a minimal distribution that is then subject to creditors receiving 100% through a charging order. If that stands up, then the debtor will have at least have the 75% remaining wage after garnishment to fund living expenses.
Whether it will stand up is still a largely unanswered question. There are good signs in the two cases so far, but that is not nearly enough caselaw to start reaching a firm answer.
So stay tuned.
Read the full article here