Wednesday, March 5, 2014

2014 Kentucky General Assembly Proposal for Updating Business Entities Laws

2014 Kentucky General Assembly
Proposal 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) (Sections 1-157)
·                     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)
·                     Miscellaneous clean-up 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the existing nonprofit corporation act has been frustrated by its lack of attention to many common questions and its outdated limitations upon many entirely appropriate business practices.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:
·                     provide maximum 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 organizations; and
·                     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.
      Nonprofit corporations 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.
The Kentucky 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.
Nonprofit Limited Liability Companies
         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.
Miscellaneous Revisions to Kentucky Business Corporation Statutes
      The miscellaneous 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.

·                     Exhibit A

Notice of a Meeting of the Members


Under 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?

u         The 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.

u         Under 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 members.  Section 11(1)(g).  See 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.

u         The 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 valid;

--          whether a member attending by phone counts as present for purposes of determining a quorum (KRS § 273.203); or

--          whether a member attending by phone is present for purposes of a vote (id.).

u         The 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. Coach House, 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.

u         Under 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).

Futile Notices


·                     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 sending notices.

u         Under the new law, if several notices are returned, the corporation is no longer obligated to send notices.  Section 145.

Delegate Meetings


·                     Many nonprofit 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.

u         Under the new act, detailed provisions governing actions by and through delegates are addressed.

Non-Voting Directors and Quorum Requirements


·                     Many nonprofit 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. 

u         Under the new act, it is made clear that non-voting directors are not included in determining a quorum.  Sections 34, 39.

No comments:

Post a Comment