Exclusion of a Member from an LLC: When It Is Possible and How the Procedure Works

Exclusion of a member from a limited liability company (LLC) is one of the ways in which membership in the company ceases.

This measure is relatively rare and is applied only when a member’s conduct seriously jeopardizes the company’s operations. The Company Law provides two main ways of exclusion:
• by a decision of the company’s assembly, in specific situations prescribed by law;
• by a court decision, when there are justified reasons such as causing damage to the company, breach of obligations, or obstruction of business operations.

In both cases, the share of the excluded member becomes a treasury share of the company.

Termination of membership status

Membership in a limited liability company may cease for several reasons:

1. death, if the member is a natural person, or deletion from the relevant register, if the member is a legal entity;
2. withdrawal from the company – every member has the right to withdraw without stating a reason;
3. exclusion from the company – this measure is taken when it is believed that the member is causing damage to the company;
4. transfer of the entire share;
5. withdrawal and cancellation of the share – which is also a specific action resulting in a reduction of the share capital.

When is exclusion of a member from an LLC possible?

The Companies Act provides for exclusion of a member when the conduct of a member prevents or endangers the company’s operations.

A limited liability company often has two or more members who jointly participate in managing and operating the company. When relationships among members function well, an LLC represents a flexible and stable business model. However, in practice, conflicts are not uncommon and may seriously jeopardize the company’s operations.

Exclusion of a member is a legal mechanism by which a member is removed from the company when their behavior or failure to fulfill obligations calls into question the normal functioning of the company.

The Company Law distinguishes two basic forms:

1. exclusion of a member by a decision of the company’s assembly
2. exclusion of a member by a court decision

When is a member excluded by a decision of the company’s assembly?

Every member is obliged, within a specified period, to pay or contribute the agreed amount of their subscribed contribution. If a member fails to fulfill this obligation even within an additional deadline, the Company Law provides the company with the possibility to adopt a decision on exclusion of member.

This decision is adopted at the company’s assembly. According to Article 195 of the Companies Act:

“The assembly adopts a decision on exclusion of a member by a two-thirds majority of votes of the remaining members, unless a different majority is prescribed by the memorandum of association.”

It is important to highlight several consequences of such exclusion:
• the share of the excluded member becomes a treasury share of the company
• the member has no right to compensation for the value of the share
• the assembly decision serves as the basis for deletion of the member from the register of business entities

Thus, a member who has failed to fulfill their basic obligation towards the company may be excluded without compensation.

In addition, if payment of their contribution is necessary for satisfying the company’s creditors, their obligation to pay the subscribed contribution and other payments still exists. Moreover, the company may claim damages from that member in court proceedings.

When can a member be excluded by a court decision?

In practice, exclusion of a member by court decision is much more common.

According to Article 196 of the Company Law, the company may file a lawsuit with the court when there are justified reasons for exclusion.

These reasons may include:

1. intentional or grossly negligent damage to the company
2. failure to perform specific duties towards the company prescribed by law or the memorandum of association
3. conduct contrary to the memorandum of association, the law, or good business practices, which obstructs or significantly hinders the company’s operations

Such situations most often occur when a member:
• abuses their position within the company
• maliciously blocks decision-making
• uses company information for personal benefit
• causes reputational or financial damage to the company

It is important to note that the decision to initiate the lawsuit is also adopted by the company’s assembly.

Consequences of filing a lawsuit for exclusion

Court proceedings take a certain amount of time, and during that period the member whose exclusion is requested formally retains all rights within the company.

For this reason, the law allows the court to impose interim measures.

After the company substantiates its claim, if the court finds it necessary and justified to prevent damage to the company, it may, for example:
• suspend the voting rights of the member
• restrict other membership rights
• introduce temporary compulsory administration in the company

After a judgment excluding the member becomes final, the member’s share becomes a treasury share of the company.

As in the case of exclusion of a member by assembly decision, the excluded member remains obliged to pay or contribute the subscribed contribution and any additional payments, but only if necessary for satisfying the company’s creditors.

The company’s right to file a lawsuit for exclusion

The memorandum of association cannot exclude in advance the company’s right to file a lawsuit for exclusion of a member, nor the right of the excluded member to compensation for the value of their share.

The law prescribes relatively strict deadlines.

A lawsuit for exclusion of a member may be filed:
• within six months from the date of learning about the reason for exclusion
• no later than five years from the occurrence of the reason for exclusion

A member holding at least 5% of the company’s share capital may independently initiate court proceedings in their own name but for the account of the company if:

• the assembly does not decide on the request to file a lawsuit within two months from the submission of the request, or
• rejects the request, or
• the lawsuit is not filed within 30 days from the decision to initiate proceedings

In this way, the law also provides protection to minority members.

What happens to the share of the excluded member?

When the court renders a decision on exclusion, the member’s share becomes a treasury share of the company.

However, unlike exclusion by assembly decision (due to failure to pay contributions), in this case the member may have the right to compensation for the value of their share.

According to Article 197 of the Company Law, the excluded member may file a lawsuit to claim compensation for the value of their share.

This claim may be filed within 180 days from the date the judgment on exclusion becomes final.

The court determines the amount of compensation, which is generally based on the value of the portion of the liquidation surplus that would have belonged to the member proportionate to their share.

The court also determines the payment deadline, taking into account the financial situation of the company and its expected revenues in the ordinary course of business, provided that this deadline cannot exceed two years from the date the judgment becomes final, unless the memorandum of association provides for a longer period.

If the company fails to pay the compensation within the specified period, the member may seek enforcement of their claim (for the taken share). If the value is insufficient to cover the awarded compensation, the claim is extinguished.

At the same time, the company may also claim damages from the member who was excluded by court decision.

Why is it important to properly regulate relations in the memorandum of association?

In practice, many disputes among LLC members can be avoided if relationships are clearly regulated in the memorandum of association.

The memorandum of association may regulate in more detail:
• obligations of company members
• specific duties of members
• procedures in case of conflict
• grounds for exclusion of a member

Clearly defined rules can significantly reduce the risk of lengthy and costly court disputes.

FAQ – frequently asked questions about exclusion of an LLC member

Can a member be excluded without court proceedings?

Yes, by a two-thirds majority decision of the assembly, but only in the specific case where the member fails to fulfill the obligation to pay or contribute their subscribed contribution even after an additional deadline.

Who initiates the procedure for exclusion of a member?

Court proceedings are generally initiated by the company, based on a decision of the assembly. The law also allows members holding at least 5% of the share capital to initiate proceedings in specific cases.

Does the excluded member have the right to compensation for their share?

In the case of court-ordered exclusion – yes, the member may claim compensation for the value of their share.
In the case of exclusion due to unpaid contribution – no, the member is liable to the company.

What happens to the share of the excluded member?

The share becomes a treasury share of the company, which the company may further dispose of in accordance with the law.

Conclusion

Exclusion of a company member represents a serious legal measure applied when a member’s conduct seriously jeopardizes the interests of the company.

The Company Law provides two main avenues:
• exclusion by assembly decision in specific cases
• exclusion by court decision based on justified reasons

In practice, these procedures are often complex and may have significant consequences for both the company and its members.

Therefore, it is important that company members understand the legal framework governing their mutual relations and resolve potential disputes with appropriate legal support.

Law Firm Petrović Mojsić & Partners