This blog, written by Thomas E. Rutledge, focuses primarily on business entity law in Kentucky. Postings on contract law, contractual and statutory construction, and the entity law of other jurisdictions appear as well. There may as well be some random discussions of classical, medieval and renaissance history.
Wednesday, March 5, 2014
2014 Kentucky General Assembly Proposal for Updating Business Entities Laws
Kentucky General Assembly
for Updating Business Entities Laws
S.B. 178, sponsored by
Senator Sara Beth Gregory, proposes a number of changes to Kentucky business
entity laws, namely:
·The adoption of the
Kentucky Revised Nonprofit Corporation Act (2014), a new nonprofit corporation
act based on the ABA’s Model Nonprofit Corporation Act (3rd)
·The adoption of the
Kentucky Unincorporated Nonprofit Association Act (Sections 164-195)
·Significant updating of
Kentucky’s LLC Act as it relates to nonprofit LLCs (Sections 200-204, 209)
and clarification edits to Kentucky’s business entities statutes (e.g., Sections 196, 197, 198, 199, 205,
206, 209, 212-215)
The Kentucky Revised
Nonprofit Corporation Act (2014)
The Kentucky Revised
Nonprofit Corporation Act (2014) is based on the American Bar Association’s
Model Nonprofit Corporation Act (3rd), as reviewed and modified by a
committee of leading practitioners from across the Commonwealth.This will be the first substantive re-write
of Kentucky’s law on nonprofit corporations since 1968.
Anyone familiar with
the existing nonprofit corporation act has been frustrated by its lack of
attention to many common questions and its outdated limitations upon many
entirely appropriate business practices.The new Act is intended to remedy those problems.For example, the new statute will:
flexibility for meetings of the board, of the members and of delegates,
allowing telephonic and internet meetings and allowing the electronic
distribution of meeting notices;
·subject to appropriate
limitations, permit nonprofit corporations to make “distributions” to parent
·allow member meetings
to be conducted by written ballot, thereby avoiding the expense of convening a
physical meeting while protecting the rights of any members to participate in a
meeting that, invariably, will be scheduled inconveniently for someone.
Further examples of this
increased flexibility are set forth on Exhibit A hereto.
Of course, this
discussion so far relates to membership corporations.The new Act retains the option of organizing
a nonprofit corporation without members.The statute provides that, if the nonprofit corporation does not have
members, anything that would otherwise be decided by the members will be
decided by the board of directors.Section 23(2).
The current statute
often gives a blanket rule and only occasionally provides that the rule may be
modified in the corporation’s articles of incorporation or bylaws.Largely reversing that practice, the new Act
is written substantially in the form of “unless otherwise provided in the articles
of incorporation or bylaws.”As such,
particular organizations will more often than not be able to define its own
rules, with the statute providing a default rule applicable when no specific
rule has been agreed upon.
At the same time, it
has been recognized that Kentucky’s laws are very successful in protecting
directors of nonprofit corporations from personal liability.Those provisions were added to the statute in
1988 and mirror the protections that exist in Kentucky business corporations.Those protections have been retained in the
new law, with additional procedural protections with respect to conflict of
interest transactions, all with an aim to affording directors appropriate
protection from personal liability.Nonprofit corporations and their directors are also protected from non-meritorious
and abusive law suits by exacting requirements for bringing a derivative
action.At the same time, directors who
abuse their positions may still be held accountable.
The statute provides a
two-step transition regimen.See Section 154.Initially, all nonprofit corporations
organized after the statute’s effective date will be subject to the new
Act.Thereafter, existing nonprofit
corporations may elect to be governed by the new statute.We anticipate that most organizations, after
even cursory consideration, will determine to elect into the new statute.In doing so, the existing rules of that
organization will almost invariably be retained consequent to the statute’s
continuous statement of “except as otherwise provided in the articles of
organization or the bylaws.”For that
reason, existing nonprofit corporations should have few if any surprises upon
electing to be subject to the new law.The election into the new law by existing
entities is entirely voluntary – there is no “drag in” provision, and
corporations governed by the current law will not be forced to be governed by
the new Act.Still, certain
“logistical” provisions (e.g.,
allowing notice of a member meeting to be set by e-mail) have been added to the
old Act as a means of providing greater flexibility to those existing
organizations.See Sections 163, 149.
are an important segment of the economy.No one is benefitted by having an archaic statute that often renders it
impossible to answer simple questions or that imposes outdated
limitations.This new statute, while not
entirely eliminating those questions, will greatly diminish them.For that reason, the Kentucky Revised Nonprofit
Corporation Act (2014) deserves your support.
Unincorporated Nonprofit Association Act
Often individuals with
a charitable bent will engage in projects without incorporating a nonprofit
corporation.Examples of such a venture
might be a group that is sponsoring a Little League team or collecting funds in
order to pay for an uninsured person’s medical procedure.To date, Kentucky law has been silent as to
how such groups should be treated.They
are not, obviously, nonprofit corporations because no corporation has been
created.They are not partnerships
because a partnership must have a for-profit purpose.KRS § 362.175(1); id. § 362.1-101(10).The
Kentucky Unincorporated nonprofit Association Act, based on a uniform act
drafted by the National Conference of Commissioners of Uniform State Laws,
fills this gap.Essentially, with
respect to nonprofit ventures, this statute will provide a default series of
rules addressing factors such as management and control of the venture and
ownership of any contributed or collected assets.The statute affords significant flexibility;
to the extent a particular group has agreed to rules and procedures, especially
its internal management, they will be respected.In addition, by making a simple filing with
the Secretary of State, an unincorporated nonprofit association may afford its
members limited liability from its debts and obligations.
The uniform act upon
which this is based is pending this year in Oklahoma and South Carolina, as
well.The act in this form or its
earlier 1986 version has been adopted in approximately 13 other jurisdictions
including Illinois, Texas and Delaware.
When it was originally
drafted, the LLC Act did not provide for nonprofit LLCs.Skeletal nonprofit provisions were added in
2007.Since then, there have been
changes in Federal tax law that make nonprofit LLCs a useful tool.For that reason, the LLC Act provisions
governing nonprofit LLCs have been updated and expanded to make this a viable
option.At the same time, protections
are retained with respect to donations for particular limited purposes.
Revisions to Kentucky Business Corporation Statutes
revisions are typically technical in nature.For example, one erroneous “reasonably” in the Business Corporation Act
is corrected to “honestly.”Section
215.The assumed name act is updated to
address unincorporated nonprofit associations (Section 199), as is the statute
on annual reports.Section 198.Two technical corrections as to series under
the statutory trust act are made.Sections 213, 214.A particular
fact situation requiring a limited partnership to dissolve is added.Section 212.
Notice of a Meeting of the Members
current law, notice of a meeting of the members must be in writing and may be
either mailed or personally delivered.KRS § 273.197.
-- Is notice by e-mail “written”?
-- Is notice by e-mail “mailed”?
-- Is notice
by UPS mailed?
uThe new act allows for notice by
e-mail, courier services, and otherwise.Section 5.
Lack of Clarity of Whether or Not a Corporation Has Members
·Under current law,
whether or not a corporation has members may be determined by either the
articles of incorporation or the bylaws.KRS § 273.187(1).This formula creates a variety of
problems.First, it is entirely possible
for an organization’s articles of incorporation to provide that the corporation
will not have members while its bylaws go on to provide for members and their
respective rights.Second, because the
bylaws are not of public record, a third party dealing with any particular
nonprofit corporation is unaware of whether or not it has members and is unable
to plan accordingly.
uUnder the new law, whether or not a
corporation has members will be determined exclusively by reference to the
articles of incorporation, which must state whether or not there are
also Section 23(1).
Meeting of the Board by Conference Call
·The current statute is
silent as to whether the board may meet by conference call.There are no provisions to the effect that:
-- a meeting held by phone is valid
-- that a director attending by phone
counts toward the quorum; or
-- that a
director attending by phone is “present” for purposes of voting.
uThe new act expressly authorizes board
meetings by conference call or other electronic means (e.g., Skype).Section 68(2).
Meeting of the Members by Conference Call
·The current law is
silent as to whether some or all of the members may meet by conference call or
other electronic means.As such it is
not clear whether:
-- a meeting held by conference call is
-- whether a
member attending by phone counts as present for purposes of determining a
quorum (KRS § 273.203); or
a member attending by phone is present for purposes of a vote (id.).
uThe new act expressly allows members to
participate in a meeting of the members by conference call or other electronic
means (e.g., Skype).Section 39(5).
Lawsuit by Disgruntled Member Against the Board of Directors
·Under existing law, any
disgruntled member of a nonprofit corporation can file a lawsuit (and in some
instances, lawsuit after lawsuit) challenging the actions of the board of
directors.Such is the situation in the
current saga of Flint v. CoachHouse, a dispute between a single member
in a condominium association and that organization that spans now, I
understand, eleven separate lawsuits and numerous appeals to the Kentucky Court
of Appeals.There are no statutory
requirements funneling his and similar objections to the operation of a
nonprofit corporation into the format of a derivative action nor providing for
the early dismissal for such suit.
uUnder the new act, Flint could not
bring his action against Coach House for the simple reason that he would not
constitute 20% of the voting members of the corporation.Section 116.Under the new statute, absent satisfaction of the standing requirements,
the suit will be automatically dismissed.Further, even if standing requirements are satisfied, the board of the
corporation is specifically authorized to appoint a special litigation
committee.If the special litigation
committee determines that the action is not in the best action of the
corporation, the court must dismiss the lawsuit.Section 119(1).
·Under current law,
written notice of a meeting must be given “to each member entitled to vote at
such meeting.”KRS § 273.197.Even if a
member moves or cannot be reached, the corporation is required to continue
uUnder the new law, if several notices
are returned, the corporation is no longer obligated to send notices.Section 145.
corporations desire to organize voting and similar activities on a regional
basis with delegates appointed by each region.For example, a religious organization may wish to allow all of the
churches in a particular congressional district to collectively appoint three
members to the corporation’s board of directors, and those same churches would
appoint three persons to attend a meeting of the members.Under the current statute, absent
extraordinarily well-drafted bylaws, it is unclear whether and how this format
can be accomplished.
uUnder the new act, detailed provisions
governing actions by and through delegates are addressed.
Non-Voting Directors and Quorum Requirements
corporations have non-voting directors.A quorum of the board is typically a simple majority of the total number
of directors.The current act is silent
as to whether and how those non-voting directors are counted for determining
whether a quorum of directors is present. For example, if there are seven
directors, four voting and three non-voting, it is unclear whether the presence
of the three non-voting and one voting director could be considered a quorum.KRS § 273.217.
uUnder the new act, it is made clear
that non-voting directors are not included in determining a quorum.Sections 34, 39.