Thursday, March 28, 2013

Court Rejects Notion That LLC is a “Nominal Party” to the Suit Over Its Assets

Court Rejects Notion That LLC is a “Nominal Party” to the Suit Over Its Assets

      In a recent decision, Judge Simpson of the Western District of Kentucky resoundingly rejected the notion that an LLC is only a nominal party to a lawsuit between its members as to its assets.  R.C. Tway Co. v. High Tech Performance Trailers, LLC, Civ. Act. No. 3:12-CV-122, 2013 WL 842577 (W.D. Ky. Mar. 6, 2013).
      This action was filed in federal court pursuant to its diversity jurisdiction.  As such, it was necessary that none of the plaintiffs have the same citizenship as any of the defendants.  At the time the complaint was filed, defendant High Tech Performance Trailers, LLC (“High Tech”) had as its sole member Bruce Hanusosky, an Ohio citizen.  As such, High Tech was a citizen of Ohio.  It bears noting that, after the time the complaint was filed, High Tech converted from an Ohio LLC to an Ohio corporation.  Under the rule of Grupo Dataflux v. Atlas Global Group, L.P., 541 U.S. 567, 570-71 (2004), the citizenship test applicable to LLCs rather than that of corporations was applied to High Tech.
      On the plaintiffs’ side, R.C. Tway Co. is a Kentucky corporation with its principal place of business in Kentucky.  Ergo, it is a citizen of Kentucky.  Kentucky High Tech Performance Trailers, LLC (“Performance Trailers”) had as its members Tway and High Tech.  As such, Performance Trailers is a citizen of both Kentucky, attributed to it through Tway, and Ohio, attributed to it through High Tech.  At this point of the analysis, diversity jurisdiction is lacking in that Ohio citizenship is shared by both a plaintiff and a defendant.  In response thereto, the plaintiffs asked the court to disregard Performance Trailers’ citizenship on the basis that it is but a nominal party to the action.  This suggestion was ultimately rejected by Judge Simpson, and the action was dismissed without prejudice for lack of subject matter jurisdiction.
      As an aside, where the Court utilized “High Tech” and “Ky. High Tech,” which I found confusing, I here utilize “High Tech” for the Ohio LLC (a defendant) and “Performance Trailers” for the Kentucky LLC (a plaintiff).
      Performance Trailers was organized as a joint venture vehicle between Tway and High Tech for the manufacture of custom trailers.  Under Performance Trailers’ operating agreement, Tway had day-to-day operational control, including the right to accept deposit of company funds.  The complaint alleged that High Tech and Hanusosky received at least $330,000 of Performance Trailers’ funds but did not surrender them to the LLC care of Tway.  There were additional allegations of various breaches of the operating agreement, intellectual property infringement and breach of a non-compete provision in the operating agreement.
      By means of complaint filed in January, 2012, Tway notified High Tech of Performance Trailers’ dissolution; Articles of Dissolution were subsequently filed with the Kentucky Secretary of State.  In the sixteen-count complaint, there were several allegations in favor of Performance Trailers, including those for High Tech’s failure to perform obligations owed Performance Trailers under the operating agreement, breaches of fiduciary duties owed to Performance Trailers, claims for defamation of Performance Trailers consequent to a press release issued by High Tech and claims for theft of the company funds received and not remitted.

      Based upon these facts, the Court determined that:

Each of the claims identified above clearly alleges that High Tech or Hanusosky violated some duty it owed directly to [Performance Trailers], thus causing [Performance Trailers] injury.  As [Performance Trailers] is the allegedly injured party for each of those claims, it is the one that is entitled to enforce the rights granted by substantive law.  Accordingly, [Performance Trailers] is not a nominal party, but instead is a real party in interest as to those claims.  2013 WL 842577, *3.

      While not cited therein, this statement from Judge Simpson is consistent with the ruling of the Kentucky Court of Appeals in Chou v. Chilton, No. 2009-CA-002198-MR, 2009-CA-00-2284-MR, 2012 WL 6526184 (Ky. App. Nov. 16, 2012), wherein the court, analyzing the issues in the terms real party in interest, dismissed for lack of standing claims brought by a member of an LLC on his own behalf (the LLC itself was not a party to the action) seeking damages for breach of the operating agreement, fraud, misappropriation, breach of fiduciary and gain taken by the defendant members.  See also, e.g., Pinnacle Fitness and Recreation Management, LLC v. The Jerry and Vickie Moyes Family Trust, 844 F.Supp.2d 1078 (S.D. Ca. 2012) (dismissing claims brought by member for breach of fiduciary duties owed the LLC and for tortious interference with LLC’s prospective business advantage).
      Against this the plaintiffs argued that Performance Trailers “has no real interest in the outcome of this case” consequent to its dissolution and the plan to marshal its assets, satisfy its debts and distribute the remaining assets amongst the members.  Rejecting this analysis, the Court wrote:

However, the court disagrees that the filing of Articles of Dissolution and the request for a distribution of assets renders [Performance Trailers] a nominal or formal party to this action.  First, Kentucky law makes clear that even after the filing of Articles of Dissolution, a limited liability company remains an existing entity.  KRS § 275.300(2).  Indeed, after dissolution, a limited liability company is empowered to take actions necessary for winding up its affairs, including inter alia, collecting assets and suing or being sued.  KRS § 275.300(2)(a) and (4)(a).  As a limited liability company retains the power under state law to enforce its rights in court until the company has finished winding up, there is no basis for disregarding it entity status and holding it to be merely a nominal party to an action simply because it has been dissolved.
Nor does the fact that the parties request that this court effect an orderly distribution of [Performance Trailers’] assets change the analysis.  Questions regarding diversity of citizenship are assessed based upon “the state of facts that existed at the time of filing – whether the challenge be brought shortly after filing, after the trial, or even for the first time on appeal,” Grupo Dataflux, 541 U.S. at 571.  In other words, that the party contemplate that at the end of this action, [Performance Trailers] will no longer be an existing entity is meaningless to the diversity analysis.  The question is whether, at the outset of the action, [Performance Trailers] was entitled to enforce the rights it was asserting against High Tech and Hanusosky.  The answer to that question is plainly yes.

       On that basis the suit was dismissed.
       An LLC is not, on behalf of its members, a nominee holder of title to various assets.  Rather, an LLC is a legal entity distinct from its members that for itself holds title to assets.  See, e.g., KRS § 275.010(2) (“A [LLC] is a legal entity distinct from its members.”); id. § 275.150(1) (limited liability of members from LLC’s debts and obligations); id. § 275.155 (member not a proper party to an action against the LLC); id. § 275.240(1) (property of LLC is not that of its members); and id. § 275.246(2) (title to LLC’s property vests in the LLC and not in the members).  As such, the LLC cannot be ignored, and its rights, distinct from those of the members or a member, must be both respected and preserved.

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