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  • Writer's pictureLoon Creek Team

Putting the UnDead (Funds) to Rest

To angel investors, a “Zombie” is a portfolio company that is neither alive nor dead: the company survives and operates but has a much longer timeline to exit than originally expected. Since angels rely on exits to get their money back or claim their loss, a Zombie is our worst nightmare!

When those Zombies are held within a fund’s portfolio, they create an especially scary experience for fund managers and investors: we continue to incur the costs and time-consuming tasks of managing a fund that has reached the end of its life, but we have no idea if or when the remaining portfolio companies will resurrect or finally die. After 10+ years of managing the fund, we’d like to stop filing tax returns and producing K-1s, reduce expenses to as close to zero as possible, eliminate fund governance, and get rid of the bank account with its minimum balance requirements, yet preserve the value (if any) in the underlying securities. Talk about slaying monsters!!

So what are our options? We asked several leading angels around the country for their Zombie-Fund-killing recommendations. Here is what they told us:

1. Form a liquidating trust. Form a trust to receive the assets, the beneficiaries of which are the fund members. The downside: a trust is expensive to set up, has to have a trustee and must file tax returns. Investors still receive K-1s. Bottom line, there’s no real advantage to this unless it is an unusual situation.

2. Sell the losers to someone for $1.00. So long as it’s an arms-length transaction this will enable the fund to recognize the loss on its losers and be done with them. The Seattle Alliance of Angels created a “Lost Causes” fund that serves this purpose. Should any of the lost causes actually resurrect, any proceeds are contributed to charity.

3. Distribute shares. Ask each company to issue shares to the individual fund members. Several downsides to this approach: the company may not want to do this as it will complicate its cap table and incur legal/administrative expense; whatever negotiating power the fund held is now fractionalized; and there may be regulatory ramifications to this approach.

4.Stock Redemption. Persuade the company to buy back its stock, probably at the price of the last round. This assumes the company has liquidity, positive equity, and sees it to its advantage to do so.

Clearly none of the above options are ideal, and none work in every situation. But there is another way, and one that we have used successfully. The SPV vehicle we angels often form to aggregate individual investors to make an investment could also be used as a liquidation vehicle. So, there is a fifth option:

Distribute to a Single Purpose Vehicle. You can form a manager-managed LLC and distribute the securities and their tax bases to the LLC (aka SPV). The members of the SPV are the members of the former fund. You will incur the one-time expense of setting up the LLC, but thereafter expenses are zero to minimal. Someone has to agree to act as the Manager, but the duties are minimal. Structured correctly, you will not have to file a tax return until there is taxable activity such as an exit.

Giving Tax the Axe

An LLC is not required to file a tax return in years it has no income and no expenses.[1] The key to making this work efficiently for the investors is to keep income and expenses other than the sale or write off of the securities out of the SPV. If you do so, in the years you have no securities transactions, you will not have to file an income tax return. How do you do this?

1. Pay setup costs out of the fund. There will be some cost to setting up the SPV. Pay these from fund assets so that they will flow through to the investors in the final fund tax return.

2. No State Renewal Fee. Form your LLC in a state that does not charge a renewal fee to keep the LLC active.

3. Transfer only stock in non-dividend paying C Corps. Simply holding stock in a C Corp does not generate income or expense. But flow-through entities and dividends do mean you will have to file a tax return. If the Fund holds any dividend-paying stock, or interests in any flow-through entities such as LLCs, liquidate or distribute these investments before forming the SPV.

4. Write off lost causes. For those portfolio companies that are truly dead (no hope of exit even if they are still operating), burying them is better than simply moving the corpse to the new entity. If the fund does not have sufficient evidence to write off an investment for tax purposes, sell it to someone for $1.00 in the final tax year for the fund.

5. Close the bank account. Once all expenses have been paid, distribute remaining cash to the members other than any amount you may want to reserve for future expenses. Cash reserves can be held in a number of ways for the benefit of the SPV, but it’s important that you don’t receive interest or incur bank charges, each of which could necessitate filing a tax return. When there is a sale of securities out of the SPV, the funds will flow into and out of the designated account.


Typically, SPVs are formed as manager-managed LLCs. The manager will sign all documents on behalf of the SPV, including authorizing the sale or write off of an investment, tax returns, and instructions to receive and disburse funds. Usually one of the Fund managers or officers serves in this position. Compensation, if any, can be carried interest or just a straightforward share of any distributions.


When structured correctly, replacing a Zombie Fund with an SPV eliminates governance issues, eliminates annual tax returns and K-1s in years when there are no write-offs or sales of securities, eliminates the bank account, and preserves the underlying value of its security holdings to the benefit of the members.

Loon Creek specializes in SPV formation and management services for angels, including winding down funds. If you have a fund nearing its end of life, we’d be happy to discuss how you might use an SPV to put it to rest. You can learn more about our services on our website.

[1] “Except as provided below, every domestic partnership must file Form 1065, unless it neither receives income nor incurs any expenditures treated as deductions or credits for federal income tax purposes.” Italics added. Instructions for Form 1065 (2019), Who Must File, IRS


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