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.
Outcome, but the Court of Appeals is Confused as to the
a recent decision the Court of Appeals correctly found that it would not second
guess the decisions made by a board of directors as to how corporate assets
should be applied to remedy existing problems.At the same time, however, the Court was off base as to what is the
Business Judgment Rule, and was off base as to who owes and who is the beneficiary
of the fiduciary obligations in a corporation.Davis v. Innwood Condominium
Property Owners Association, Inc., No. 2013-CA-001221-MR, 2014 WL 2938486
(Ky. App. June 27, 2014).
owned a condominium in the Ironwood development, a low and fixed income
complex. The property has in recent years faced a number of challenges
including the need to expend some $100,000 in brick repairs in order to remedy
a code violation, significant repairs to the heating system, and an increase in
insurance premiums after a fire.A
special assessment of the owners was made in order to increase reserves.
who at various times has served on the board of directors, brought suit
alleging that the board had failed to satisfy the terms of the master deed as
to a number of issues including exterior maintenance, limitations upon
occupancy of units and failing to require background checks on occupants.In addition, he alleged that the board had
failed to maintain the property as a “first-class condominium.”Collectively, he asserted that these
failures, characterized as breaches of fiduciary duty, reduced the fair market
value of his unit.
discovery, the trial court dismissed the complaint as being subject to the
“business judgment rule”; this appeal followed.
argument was that the Master Deed set forth requirements, that even though some
issues were being address the board was not requiring full compliance with
those requirements, and a breach of fiduciary duty therefore resulted.The Court of Appeals affirmed the trial
court’s determination that the Business Judgment Rule precluded court
intervention, it writing:
The business judgment rule
is “a presumption that in making a business decision, not involving
self-interest, the directors of a corporation acted on an informed basis, in
good faith and in the honest belief that the action taken was in the best
interests of the company.” Allied Ready Mix
Co., Inc. ex. rel. Mattingly v. Allen, 994 S.W.2d 4, 8 (Ky.App.1998).
The record below indicates that the Board sought guidance from its management
company, Prudential Parks, and Weisberg Realtors in making decisions as to how
to best address the issues raised by Davis. The record further reflected that
the Board did not have all of the necessary funds at its disposal to
immediately fix each of the problems raised by Davis. However, the Board, based
upon the advice it received, in consideration of the financial status of the
tenants and owners at Innwood, did vote to approve a Special Assessment for
repairs and maintenance. By considering the economic standing of its residents
and the problems at issue and making such a decision, this Court is not
persuaded that the Board breached any fiduciary duty in this instance.
Finding there to be no assertion of
fraud or conflict of interests that precludes the application of the Business
Judgment Rule, the trial court’s dismissal of the complaint was upheld.
said, before the quoted language above the court misidentified the source of
the Business Judgment Rule as being in the statutory formulae of the standards
imposed upon corporate directors, those being KRS §§ 273.215 and 271B.8-300.Sorry, but that is not the case.Those cases recite the standards of performance and the standards of
culpability imposed upon directors.The
Business Judgment Rule, in contrast, applies not to corporate directors but
rather to the courts called upon to assess the actions taken by the directors,
and creates a presumption against judicial review of decisions made by a
corporate board.In no manner is this
presumption against judicial review “codified” in the the Kentucky statutes on
business and nonprofit corporations.
point, this one clearly dicta, in which the Court of Appeals was on less than a
sound footing was in finding that there exists a fiduciary duty running from
the corporation’s board to the individual owners thereof.The Court of Appeals acknowledged that this
determination is in contrast to that made in the then not final Ballard v. Willow
Council of Co–Owners, Inc., 430 S.W.3d 229,
2013 WL 6134150 (Ky. 2013).A
motion for reconsideration in Ballard was
denied on June 19, 2014, and that decision is now final. Hence the suggestion
in Davis that a fiduciary duty is
owed directly to the owners should be treated as moot.
The Importance of Maintaining Correct Registered
Office/Registered Agent Information
A decision rendered by the
Kentucky Court of Appeals last week reinforces the importance of maintaining
current registered office/agent information with the Kentucky Secretary of
State, as well as current principal place of business information.In this instance, a corporation failed to
satisfy each of these obligations.Ultimately, it was saddled with a default judgment, which judgment was
not set aside on the basis of “excusable neglect.”Bradford
White Corp. v. Kentucky Farm Bureau Ins. Co., No. 2013-CA-001549-MR (Ky.
App. July 25, 2014) (Not to be published).
Kentucky Farm Bureau Insurance
brought a subrogation claim against Bradford White Corporation based upon a
defective water heater that Bradford White had manufactured.Bradford White is a Pennsylvania corporation
qualified to transact business in Kentucky.
Service was attempted on
Bradford White not less than four times including at the registered
office/agent it identified on its filings with the Pennsylvania Secretary of
State and as well through the Kentucky Secretary of State via the registered
office/agent identified on the Certificate of Authority.All of these efforts were unsuccessful, the
certified mail containing the summons and the complaint being in each instance
returned as undeliverable.The trial
court issued a default judgment against Bradford White.Ultimately, by some mechanism not recounted
in the decision, Bradford White became aware of the default entered against it
and sought to have the default judgment set aside on the basis of “excusable
The Court of Appeals, affirming
the trial court on an abuse of discretion standard, was having none of an
argument of “excusable neglect.”Rather
the Court of Appeals found that Bradford White had repeatedly failed to update
its address, as well as its registered office/agent information, with the
Pennsylvania and Kentucky Secretaries of State.Ultimately:
Bradford White’s lack of actual
knowledge [of the lawsuit] was not caused by the plaintiff, Secretary of State,
or the post office.Rather, it was
caused by Bradford White’s willful ignorance or negligence.
The lesson is simple – a
company obligated to maintain registered office/agent information with the
Secretary of State, as well as current information as to the principal place of
business address, is rendering itself subject to a default judgment if it fails
to do so.The failure to keep those
records current will not be a defense to the failure to receive actual notice
of a suit.
All that said, the Court of Appeals did somewhat (greatly) overstate
the effect of a certain statute.Essentially, the Court described the failure to maintain current
registered office/agent and principal office address information as being
“criminal,” citing KRS § 14A.2-030(2).This is an overstatement of the statute.That provision provides for misdemeanor treatment of the execution and
delivery to the Secretary of State for filing of a document when it is known
that the contents thereof are not true.This provision applies only at the time information is filed; it is
inapplicable to the obligation to keep information current.
District Considers Citizenship of a Donative Trust;
Citizenship to that of the Trustees
In a recent decision, the Judge Russell of the Western
District considered how to assess, for purposes of diversity jurisdiction, the
citizenship of a donative trust.He determined
that only the citizenship of the trustee, and not as well the citizenship of
the trusts’ beneficiaries, would be pertinent.Watkins v. Trust Under Will of
William Marshall Bullitt, Civil Act. No. 3:13-CV-01113-TBR, 2014 WL 2981016
(W.D. Ky. July 1, 2014).
a beneficiary of the Bullitt Trust, brought suit on a number of grounds including
breach of fiduciary duty andagainst PNC
Bank, the Trust’s trustee. PNC removed to federal court, and Watkins sought a
remand, arguing that there should be attributed to the trust the citizenship of
its Kentucky domiciled beneficiaries.Were that done diversity would be lacking.PNC argued that only the citizenship of the
trustee should be considered in determining the trust’s citizenship.
Court began by reviewing the competing rulings of Carden v. Arkoma Associates, 494 US 185 (1990) (citizenship of an
unincorporated association determined by reference to the citizenship of all of
the members therein) and Navarro Savings
Association v. Lee, 446 US 458 (1980) (in suit brought by trustees in their
individual capacities, only the citizenship of the trustees would be relevant in
determining citizenship) and noted that the subject trust was a traditional
donative (and not a business trust).From there Judge Russell determined that as the Bullitt Trusts lacks independence
but is “dependent upon PNC to own and manage its property for the benefit of
the beneficiaries,” only the citizenship of the trustees would be relevant.
holding is consistent with certain rulings of other courts while it is at the
same time in opposition of other rulings – it does not appear that a majority
rule has yet emerged.Reviews of those
other rules can be found HERE and HERE.
Court of Appeals
Refuses to Adopt Outsider Reverse Piercing
In a recent decision, the Court
of Appeals rejected an effort by a judgment creditor to effect an outsider
reverse pierce of a corporation in order to secure assets that would be applied
to satisfy a debt of the sole shareholder. Williams
Estate v. William C. Oates Estate, No. 2012-CA-000327-MR, 2014 WL 2937773
(Ky. App. June 27, 2014).
Cecil Williams, in August,
1990, loaned $62,500 to William Oates. While the loan was unsecured, apparently
Oates told Williams that he owned a piece of residential real estate. No
mortgage was filed, however against that real estate. In actuality, Oates did
not own the house; rather, it was owned by William C. Oates Realty Co., Inc.,
of which Oates was the sole shareholder. Oates never repaid Williams the
borrowed $62,500. Ultimately, when Williams brought suit, he was awarded a
default judgment. However, he was never able to collect thereon. That judgment
was subsequently renewed so that it would not become subject to the 15 year
statute of limitations of KRS § 413.090. Ultimately the corporation was
administratively dissolved after Oates' death, and its assets were distributed
to Oates’ heirs. In turn, Williams sought to recover those assets from the heirs
in order to satisfy the debt. In
addition, Williams sought to have the corporate existence set aside ab initio, thereby treating the
corporation's assets as those of Oates individually.
Both of these arguments were
With respect to the suggestion
that the corporation had never really existed, the court relied upon KRS § 271B.2-030(1),
which provides that the existence of the corporation begins when the articles
of incorporation are filed with the Secretary of State. The court noted as well
that the corporation had filed, for several years, the necessary annual reports
with the Secretary of State, and tax returns had been filed. From this the court determined that the
corporation had “established its corporate existence.”
Turning to the effort to pierce
the veil, the court noted that the plaintiff was attempting to do a “reverse
pierce.” Citing Turner v. Andrew, 413
S.W.3d 272, 277 (Ky. 2013), “reverse piercing” was described as “a theory in
which the creditor of an individual who was the sole member of the corporation
seeks to pierce the veil to obtain corporate assets to satisfy the member’s
personal debt.” It was notes as well that the Turner court had stated that it is unclear whether Kentucky
recognizes reverse piercing.In this
decision, the Court observed that the plaintiff had failed “to provide any
thoughtful insights were compelling arguments as to why this concept should be
adopted in the Commonwealth.”
Last, and perhaps alluding to
the rule of White v. Winchester Land Development
that contractual creditors are in the position to protect themselves by
contract, it was observed that “a loan for the sum of money at issue should
have been secured when it was originally made.”
Kentucky Ban on Same-Sex Marriage Held Unconstitutional
By statute and Constitution,
Kentucky has laws providing, inter alia,
that it will not recognize same-sex marriages performed in other states and
that same-sex marriages may not be performed in Kentucky.Earlier this year, Judge Heyburn declared
unconstitutional that aspect of Kentucky law providing that Kentucky will not
recognize same-sex marriages performed in other jurisdictions.That decision is currently being appealed to
the Sixth Circuit Court of Appeals in concert with similar rulings from other
states throughout the Sixth Circuit.
Since Judge Heyburn’s initial
decision, additional Plaintiffs have joined the case.Specifically, these new Plaintiffs desire to
be married in Kentucky; they are not married under the laws of any foreign
jurisdiction.Yesterday, Judge Heyburn
held that those aspects of Kentucky law precluding a same-sex marriage are unconstitutional.Ergo, Kentucky has no legitimate basis for
denying marriage licenses to same-sex couples.The issuances of those marriage licenses will not, however, commence
immediately; Judge Heyburn has stayed his ruling until the Sixth Circuit can
consider the issue.
Of concern primarily to
attorneys involved in due process analysis, Judge Heyburn did not find that
sexual orientation creates a protected class.Rather, it was not ultimately necessary to engage in that analysis as
under even the highly differential rational basis analysis, the prohibition of
marriage licenses to same-sex couples failed: “Kentucky’s laws banning same-sex
marriage cannot withstand Constitutional review regardless of the
standard.The Court will demonstrate
this by analyzing Plaintiffs’ challenge under rational basis review.” Slip op.
Before Judge Heyburn (and as well argued to the Sixth Circuit), the state of Kentucky has argued that
restricting marriage to heterosexual couples insures a balanced birthrate, that
being necessary for Kentucky’s long term economic viability.This argument has been widely lampooned,
In response, the Court wrote:
This Court will begin with
Defendant’s only asserted justification for Kentucky’s laws prohibiting
same-sex marriage: “encouraging, promoting, and supporting the formulation of
relationships that have the natural ability to procreate.”Perhaps recognizing that procreation-based
arguments have not succeeded in this Court, nor any other Court post-Windsor, Defendant adds a disingenuous
twist to the argument:traditional
marriages contribute to a stable birth rate which, in turn, ensures the state’s
long-term economic stability.
These arguments are not those of
serious people.Though it seems almost
unnecessary to explain, here are the reasons why.Even assuming the state has a legitimate
interest in promoting procreation, the Court fails to see, and the Defendant
never explains, how the exclusion of same-sex couples from marriage has any
affect whatsoever on procreation among heterosexual spouses.Excluding same-sex couples from marriage does
not change the number of heterosexual couples who choose to get married, the
number who choose to have children, or the number of children they have.The Court finds no rational relation between
the exclusion of same-sex couples from marriage and the Commonwealth’s asserted
interest in promoting naturally procreative marriages.Slip op. at 15.
on to observe “that Kentucky’s laws do not deny licenses to other
non-procreative couples reveals the true hypocrisy of the procreation-based
argument.” Slip op. at 16.
Responding to the likely
suggestion by some that allowing same-sex marriage in some manner impinges upon
their rights, Judge Heyburn wrote:
Sometimes, by upholding equal rights
for a few, Courts necessarily must require others to forebear some prior
conduct or restrain some personal instinct.Here, that would not seem to be the case.Assuring equal protection for same-sex
couples does not diminish the freedom of others to any degree.Thus, same-sex couples’ right to marry seems
to be a uniquely “free” constitutional right.Hopefully, even those opposed to or uncertain about same-sex marriage
will see it that way in the future.Slip.
op at 19.
From there Judge Heyburn
delivered the punch line, namely:
IT IS HEREBY ORDERED THAT to the
extent Ky. Rev. Stat. §§ 402.005 and .020(1)(d) and Section 233A of the
Kentucky Constitution denies same-sex couples the right to marry in Kentucky,
they violate the Equal Protection Clause of the Fourteenth Amendment to the
United States Constitution, and they are void and unenforceable.