Wednesday, November 9, 2011

Rednour Properties, LLC v. Spangler Roof Services, LLC - A Rant in Three Parts (Part III)

Rednour Properties, LLC v. Spangler Roof Services, LLC –
A Rant in Three Parts (Part III)

What Next?

A Motion for Discretionary Review has been filed with the Kentucky Supreme Court. In the judicial sphere, there seem to be four possible outcomes to the Rednour dispute, namely:

• The Supreme Court does not grant discretionary review, leaving Rednour an unreviewed and published decision;

• The Supreme Court does not grant discretionary review, but does direct the Court of Appeal’s decision not be published;

• The Supreme Court grants discretionary review and overturns the troubling aspects of the Rednour decision; or

• The Supreme Court grants discretionary review and affirms the troubling aspects of the Rednour decision.

All of these options carry a significant aspect of uncertainty. Assuming the Kentucky Supreme Court does grant discretionary review (and we likely will not have a decision on that for many months), there will be a significant delay thereafter in the release of the final decision. Assuming it to be the fastest possible course, even a denial of review but a de-publishing of the Court of Appeals’ ruling would not entirely resolve our issues as Rednour, being the only decision on this point in Kentucky, may continue to be cited as authority.

A Legislative Response?

Unlike states such as Texas that have sought to reduce the rule of piercing the veil to statute, Kentucky has relied exclusively on common law save and except for a provision in the LLC Act providing that the failure to maintain the required records is not a basis for setting aside the otherwise applicable rule of limited liability. While it should remain under consideration, attempting a legislative fix would involve a number of issues including the decision as to whether to only respond to the problems raised by the Rednour decision or, alternatively, to adopt an entirely statutory formula for piercing (a middle point may as well be possible) and the need to amend multiple statutes so that a consistent rule can be adopted. There is as well the risk that certain members of the bar would object to either or both of the reversal of Rednour and/or any effort to reduce to statute the piercing rules.

What to do Now?

Assuming we have a year until these issues can be resolved, we must decide what we are going to do in the meantime. With respect to newly organized entities, are we still going to organize single member LLCs and single shareholder corporations in Kentucky, and what are going to do with respect to those SMLLCs and single shareholder corporations that are already our clients?

New Organizations

If someone walks into our office today and requests a SMLLC or single shareholder corporation, are you going to still organize them in Kentucky (presumably with appropriate disclosure as to the risk) or are you automatically going to organize them in another state?

Existing SMLLCs and Single-Shareholder Corporations

Similar to the question above, but in this instance restricted presumably to those clients with whom we have an ongoing relationship, a decision needs to be made whether you will advise them of these developments in the law and lay out their options, namely remain organized in Kentucky or reorganize in another jurisdiction.

The Internal Affairs Doctrine

Of course, domiciling these ventures in Delaware or another jurisdiction assumes, when the question of piercing a foreign corporation or LLC arises, that the court will apply the proper law, that being the law of the jurisdiction of organization. In the case of a corporation this rule is recited in the Restatement (2nd) of Conflicts § 307 and in Kentucky law at KRS § 271B.15-050(3). It is embodied well in our LLC Act. KRS § 275.405(2). See also United States v. Daugherty, 599 F. Supp. 671, 673 (E.D.Tenn. 1984) (applying Kentucky law to determine whether corporate veil should be pierced because corporation was incorporated in Kentucky); Soviet Pan Am Travel Effort v. Travel Committee, Inc., 756 F. Supp. 126, 131 (S.D.N.Y.1991) (“Because a corporation is a creature of state law whose primary purpose is to insulate shareholders from legal liability, the state of incorporation has the greater interest in determining when and if that insulation is to be stripped away.”).

Why Are We Even Needing to Consider These Issues?

I appreciate that some believe it inappropriate to challenge the Bench by suggesting that a ruling was not well reasoned and insightful. I am not one of those persons, and those who are of that viewpoint should not read the balance of this column.

The public and the practicing bar have every right to expect that the decisions of all of our courts, but especially those at the appellate level, are complete and well grounded. Decisions like Rednour that entirely depart from the statutory law, the case law and the extensive scholarly commentary, impose a significant burden upon Kentucky’s business community and our too fragile economy. Untold hours are now going to be spent redomesticating existing business to other jurisdictions in an effort to avoid the application of this decision. For the same reason, newly organized businesses are more likely to be organized outside of Kentucky, and they will now bear the cost of foreign qualification and of additional tax filing. These costs are a tax on business that have directly come about by at best weak and even non-existent analysis. Kentucky cannot and should not have to bear these costs.

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