Tuesday, June 10, 2014

Alabama Supreme Court Addresses the Consequence of the Death of the Only Member of an LLC

Alabama Supreme Court Addresses the Consequence of the Death
of the Only Member of an LLC


            An LLC must have a member.  The Alabama Supreme Court recently considered what happens when the sole member of an LLC dies and the statutory requirements for the admission of the successors to the financial interests in the LLC are not strictly satisfied.  Spoiler Alert – the LLC is by the terms of the LLC Act dissolved.  L.B. Whitfield, III Family LLC v. Whitfield, ___ So. 3d ___, 2014 WL 803363 (Ala. Feb. 28, 2014).


            In an effort to centralize control over a 50% block of the voting stock of a family company, L.B. Whitfield organized an LLC of which he was the sole member and contributed the stock into the LLC.  L.B. and his son Louie were identified as the managers of the LLC. 


            L.B. passed away, and while his estate was fully probated neither Louie nor any of his sisters, they being L.B.’s heirs took any specific actions to address the LLC and their place therein.  Louie did, however, take certain steps such as applying for a federal taxpayer identification number for the LLC on the basis that it was now a multi-member LLC classified for tax purposes as a partnership.  Louie continued to run the LLC, and distributions were made from time to time 25% to each of Louie and his three sisters.


            Some ten years later tension began to arise between Louie, who was as well employed in the family business, and his sisters who were not, including that the sisters were barred from meetings of the board of directors other than the annual meeting.  By letter, the sisters sought rescission of a transaction pursuant to which they had to exchange certain voting shares in the company for non-voting shares.  In response, the LLC and Louie brought suit seeking a determination that the sisters did not have the right to unwind the prior transaction, requiring the voting shares and returning the non-voting shares.  The sisters filed a counterclaim which, when ultimately amended, sought a determination that the LLC had been dissolved at the time of L.B.’s death and that the LLC must proceed to wind-up and dissolve in accordance with Alabama law.

            After a great deal of back and forth with respect to arguments of waiver, laches, estoppel, etc., both the trial court and the Alabama Supreme Court reached the crux of the matter, namely whether an LLC must dissolve upon the death of its sole member.  In this regard, it is important to note that the Alabama LLC Act contains a provision allowing, inter alia, that the successors of the last member may, subject to certain procedural requirements, elect themselves to membership and thereby continue the LLC.  Alabama Stat. § 10A-5-7.01(3).  Kentucky has an analogous statute at KRS § 275.285(4).  In that it was clear that there was no question that L.B., the sole member of the LLC, had passed away, “The family LLC must prevail, if at all, on its argument that it continued its normal existence following L.B.’s death by demonstrating that one of the two exceptions described in subparagraphs a and b of § 10A-5-7.01(3) is applicable.”  2014 WL 803363, *11.  In that the LLC made no argument with respect to subsection (b) of § 10A-5-7.01(3), only subsection (a) was at issue.  Finding that the statutory requirements for the continuation of an LLC by the successors of the sole deceased member has not been satisfied, the Court determined that it had been dissolved by operation of law.

Subparagraph a. requires that “[t]he holders of all the financial rights” in the limited liability company agree in writing to continue the legal existence and business of the limited liability company and to appoint one or more new members. The Family LLC contends that this requirement was met when Louie, as L.B.’s personal representative, probated L.B.’s will and, during the pendency of L.B.’s estate proceeding, established a new employer-identification number for the Family LLC, opened a bank account, and worked with accountants to establish capital accounts for himself and his sisters. In those actions, we see no “agree[ment] in writing” of the nature contemplated by § 10A-5-7.01(3)a. Moreover, even if those actions somehow did constitute an “agreement in writing” for purposes of § 10A-5-7.01(3)a.
The Family LLC asserts that the sisters’ consent to the final settlement of L.B.’s estate constituted such a writing, but, as discussed, the final settlement clearly was not directed to that purpose. (In addition, all the sisters testified that they had no idea the final settlement represented such consent.) Nor did the actions of the sisters in respect to such matters as accepting dividends generated by Whitfield Foods constitute an “agreement in writing” as contemplated by the statute. (For that matter, and even to the extent those distributions passed through the Family LLC, the act of accepting such distributions did not justify a Again, the authority granted a personal representative 10 under § 10A-5-6.04(a)(1) is only for the purpose of allowing a personal representative to take steps necessary to “settl[e] the member’s estate” and “administer[] the member’s property,” not to allow the personal representative to determine whether the limited liability company continues in its normal existence and business and, if so, who will be its members.

Our understanding of the meaning of the various provisions of the LLC Law as set forth above is a function of the plain language used in those various statutory provisions. This understanding, however, is fully buttressed and corroborated by the inherent nature of limited liability companies and by fundamental principles attendant to their formation and the acquisition of membership status in them. Such principles require a rejection of the notion embedded throughout the Family LLC’s attempt to interpret those provisions differently -- that somehow the sisters could agree to the continuation of the Family LLC and/or become members of it by implication or by Louie’s actions rather than their own actions and consent. The nature of limited liability companies and the fundamental principles discussed below do not allow for such possibilities.  2013 WL 803363, *12.
      The takeaway is simple; where a statute sets forth requirements that must be satisfied in order for an LLC to be continued after the death of the sole member, it should be expected that those requirements must be strictly satisfied.

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