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.
Jersey Court Considers Effect of Law Firm Not Maintaining
In a recent case from New Jersey, that was considered the
effect of a dissolving law firm not maintaining tail malpractice insurance
coverage and the impact of that failure on the part nurse personal
responsibility for claims against the partnership.In this instance, based particular on the
wording of the New Jersey statute, it was determined that the partners did not
lose the limited liability afforded by LLP status.Mortgage
Grader, Inc. v. Ward & Olivo, LLP, Docket No. A-3777-13T3 (NJ App. Div.
Nov. 14, 2014).
Ward and Olivo organized Ward & Olivo, LLP with
themselves as the only partners.In
July, 2009, plaintiff Mortgage Grader, Inc. retained W & O and specifically
Olivo to represent it in some patent infringement litigation. The litigation
was ultimately settled in return for certain one-time payments to Mortgage
Grader for which the defendants received licenses of the intellectual property.
On June 30, 2011, Ward and Olivo ceased actively practicing
through W & O; thereafter it had no activities except collecting
outstanding fees.The firm’s
professional malpractice policy expired on August 8, 2011, and no tail coverage
In October, 2012, Mortgage Grader filed a lawsuit against the
W & O partnership, Oliva and Ward, it being alleged that Oliva’s
representation of it in the litigation was deficient.Ward had never been involved in the
representation of Mortgage Grader.
While Ward sought to be dismissed from the lawsuit on the
basis that he has no liability for the activities of the partnership, it being
an LLP, Mortgage Grader asserted that LLP status had been lost where the partnership
ceased to maintain malpractice insurance coverage, that being a condition
precedent under the New Jersey statute for law firms organized as LLPs.
The trial court held that, inter alia, as W&O no longer maintained liability insurance it
lost its LLP status and would be treated as a traditional general partnership
in which Ward would be responsible for Olivo’s malpractice.The appellate court disagreed.Referring to the language of the controlling
Supreme Court rule, there were defined consequences for a firm not maintaining the
required insurance including termination or suspension of the firm’s ability to
practice law or to otherwise discipline it.N.J. S. Ct. Rule 1:21-1C.As
treatment of an LLP as a general partnership was not a defined consequence of
the failure to maintain required insurance, the trial court’s effort to do so
was reversed.As such Ward was
practicing with Olivo as partners in an LLP, and Ward was properly dismissed
from the suit against W&O and Olivo alleging Olivo’s malpractice.
The Court alluded to, but did not base its decision upon,
the question of whether a firm is required to maintain tail coverage.
The Kentucky LLP statute was amended in 2012 in response to Evanston Ins. Co. v. Dillard Department
Stores, Inc., 602 F.3d 610 (5th Cir. 2010), to provide, inter alia, that
the question of LLP status will be determined as of the time of the operative
facts giving rise to the claim versus when the claim is filed.See
also Rutledge, The 2012 Amendments to
Kentucky’s Business Entity Statutes, 101Kentucky Law Journal Online1, 2-3(2012).For that reason the
question presented in Mortgage Grader,
Inc. v. Ward & Olivo, LLP has in Kentucky already been resolved.
Exculpation for Those Who Aid & Abet a Breach of the Duty of Care
recent decision from the Delaware Court of Chancery has highlighted a curious
consequence of a 102(b)(7) exculpation of director liability for breach of the
duty of care, namely that there can still be aiding and abetting
liability.In re Nine Systems Corporation Shareholders Litigation, C.A. No.
3940-VCN (Del. Ch. Sept. 4, 2014).
the course of the opinion the court noted that directors may be held liable for
breach of the duty of loyalty, but:
whose unfair conduct implicated solely the duty of care may be exculpated from
liability for monetary damages if the corporation’s certificate of
incorporative includes an exculpatory provision pursuant to 8 De. C. §
Exculpation under 102(b)(7) is not
the same as there was no violation of the duty of care; it is only a statement
that the directors involved are not personally liable for the breach.
reason, persons who may be charged with having aided and abetted the director’s
breach of duty may still be held liable for the consequences thereof.
[102(b)(7)] does not exculpate those who aided and abetted a breach of
fiduciary duty, even if the underlying breach is of solely the duty of care.
there stands the dichotomy: the director who violated the duty of care is not
responsible for having done so, but the advisor who aided and abetted that
failure may be held liable.
Fiduciary Duty Cases, the Language of the Statute Matters
everyone owes everyone fiduciary duties.Rather, fiduciary duties are the exception to the usual rules of caveat
emptor that apply throughout commercial, arms-length relationship.
often courts, in assessing fiduciary duties in business entities, entirely
ignore the statutory language as to the nature of the duties.For example, in Mason v. Underhill, No. 2006-CA-002144-MR, 2008 WL 1917179 (Ky.
App. May 2, 2008), notwithstanding that Kentucky had adopted both the Uniform
Partnership Act (1914) and the Revised Uniform Limited Partnership Act (1985),
neither of those statutes was actually mentioned, the Court quoted the New York
case of Meinhard v. Salmon at length
in describing what are the fiduciary duties of the general partner of a limited
partnership; the fact that the statutes actually defined those duties was
somehow entirely ignored.
that error was not repeated by the Michigan Court of Appeals in BSA Mull, LLC v. Garfield Investment Company,
2014 WL 4854306, *6 (Mich App. Sept. 30, 2014).Therein it was asserted that a duty of loyalty owed among the members
was violated.Upholding the rejection of
that violation, the Court of Appeals wrote:
requirement that a manager discharge duties “in the best interest of the
[LLC],” MCL 450.4404(1), indicates that a manager’s fiduciary duties are owed
to the company, and not the individual members.
In that no duty was owed the
individual member, the claim failed.
determination is in accord with that of the Virginia Supreme Court in Remora Investments, LLC v. Orr, 673
S.E.2d 845 (Va. 2009).
Kentucky Supreme Court, in Ballard v.
1400 Willow Council of Co–Owners, Inc., 430 S.W.3d 229 (Ky.2013), held that
the statutory duty owed by non-profit directors is owed solely to the
corporation on the basis that the statute requires directors to act “in the
best interests of the corporation.”See also Baptist Physicians Lexington, Inc.
v. New Lexington Clinic, P.S.C., 436 S.W.3d 189, note 4 (Ky. 2014).
organized in Kentucky, the duty of loyalty which binds members in a
member-managed LLC and managers in a manager-managed LLC is by statute “to
account to the LLC and hold as trustee for it …”KRS § 275.170(2).
of the statute matter, both for defining what is the duty owed and just as
importantly to whom it is owed.
of the Earth & the Sinking of the White Ship
Pillars of the Earth is in
my view an excellent book both for its description of events “from the ground
level” of the period of English history known as the Anarchy as well as its
treatment of medieval as people just like those of the modern era who are just
trying as best they can to make it through each day.
The fulcrum of the macro-political
events described in the book is the Anarchy, the contest between Matilda,
daughter of King Henry I (and former spouse of the Holy Roman Emperor, hence
her title “Empress”), and Stephen of Blois, Henry’s nephew (just to keep things
confusing Stephen’s wife was named Matilda) for the English throne after
Henry’s death.The expected heir to
Henry I was his son William.William,
however, drowned on this day in 1120 in the sinking of the White Ship, thereby
affording Follett the pivot around which to write Pillars of the Earth.
The Death of Mary Tudor and Reginald Cardinal Pole
November 17 marks the anniversary of the deaths in 1558 of both Queen Mary Tudor and Reginald Cardinal Pole.
Mary has gone down in history with the label "Bloody Mary," attached to her by later English who were themselves of a Protestant viewpoint.
Life was in many respects not good to Mary. The only surviving child of Henry VIII and Catherine of Aragon, she grew up within and firmly believed in her mother's strict Spanish Catholicicism. As Henry withdrew England from obedience to the Pope as a mechanism for achieving the "divorce," obvious strains arose between Mary and her father. That marriage being ultimately declared invalid, Mary found her position changed from Princess to a bastard unable to inherit the throne. The birth of the presumably legitimate Princess Elizabeth further cut Mary off from her expected inheritance. Enmity between Mary and Anne Boleyn made the situation even more difficult, Mary being required to serve Elizabeth even as a member of the Boleyn family, who likewise was against Mary, was in charge of the household. While Boleyn's execution and the declaration of the invalidity of her marriage to Henry as well rendered Elizabeth illegitimate, the birth of Edward (ultimately Edward VI) removed her even further from the throne.
After the death of Edward VI Mary finally succeeded to the throne, but her reign was at best troubled. Believing herself to be duty bound to undo the "reforms" of her father and their expansion under her brother, Mary reaffirmed the obedience of theEnglishChurch to Rome, recalled Cardinal Pole and made him Archbishop of Canterbury, and set about the return of the Catholic faith. As demonstrated by the work of A.J. Scarisbrick and Eamon Duffy, this was for the most part a small task - the overlay and substitution of what we today consider to be "Protestant" aspects of faith were a thin facade. Still, there were "true believers" who were executed, most notably Cramner, former Archbishop of Canterbury.
Her marriage to Philip of Spain was a disaster, especially on a personal level.
By coincidence, today as well marks the death of Cardinal Reginald Pole, who under Mary served as the last Roman Catholic Archbishop of Canterbury. Pole had been exiled by Henry VIII when Reginald wrote against the "divorce" from Catherine of Aragon, subsequent marriage to Anne Boleyn and rejection of Papal Supremacy. Pole was then in Italy and out of Henry's reach. Pole's mother, Margaret Pole, however, was in England - she was executed at Henry's orders when she was 67 years old. Reginald Pole returned to England with Mary's rise to the throne, taking on the See of Canterbury from the disgraced (and soon dead) Cramner.
Where Mary's reign of just over 5 years was one of tumult at the highest political levels, for at least a significant and perhaps a majority of the population it was a return to the preferred old ways, a view put forth expertly by Professor Scarisbrick in his The Reformation and the English People. Elizabeth's reign would by contrast be seen as one of peace and growth, later dubbed the Gloriana. As they say, the winners write the history. Elizabeth would rule until 1603.
Court Addresses Contractual versus Fiduciary Obligations
In a recent decision, a Massachusetts court discussed the
treatment of claim that involves breach of contract and which, absent a
contract, would be a breach of fiduciary duty.The court found that the contract controls, and that there is not a
separate action for breach of fiduciary duty.In effect, where the terms of the contract fully encompass the alleged
improper activity (in this case investment in a competitor), the contract
controls.Gatof v. Northland Investment Corp., 2014 WL 5819364 (Sup. Ct.
Mass. Oct. 20, 2014).
Wyoming Supreme Court Upholds
Decision to Pierce the Veil of Single-Member LLC
the decision rendered
last week, the Wyoming Supreme
Court has pierced
the veil of the single-member LLC. That Court’s determination
that issues of tax classification and
as part of a decision to pierce is troubling. Green Hunter
Energy, Inc. v. Western Ecosystems Technology, Inc., No. S-14-0036, 2014 WL 5794332
(Wyoming Nov. 7, 2014).
Green Hunter Energy, Inc. was the sole member of Green Hunter Wind Energy, LLC (the “LLC”). The LLC contracted with
Western Ecosystems Technology, Inc. (“Western”) for certain consulting services. Western was never paid for those services. After receiving
a judgment in its favor against the LLC exceeding $43,000 and finding the LLC without assets to satisfy the judgment, this action was brought against the corporate member, seeking to pierce the veil of the LLC. Initially, it is worthy of note that the opinion describes
piercing as the “extraordinary equitable
remedy,” providing further
support to the notion that piercing is not of itself a cause of action. Further, the Court noted that this determination, as are all determinations on
piercing, must be made “under the specific circumstances
of [the] case.” ¶¶ 1, 39.
The single-member LLC
had, for itself, no employees. Rather, employees of the parent corporation
on behalf of the LLC. The most damning factor in support of piercing was the
of the LLC. Essentially, it had no ongoing capital. Rather, from time to time, the parent corporation
to the LLC with the direction that certain invoices be satisfied.
to say, no contribution was
ever made for the purpose of satisfying the
plaintiff’s invoices. This control
of what invoices would
(and would not) be satisfied also
the LLC’s activities.
To this point, the opinion appears to be well within the accepted grounds
the veil. That said, there are troubling aspects of this opinion in that the trial courts relied upon, which reliance was permitted by the Wyoming Supreme
Court, issues with respect to the tax classification
of the LLC. This single-member LLC had a federal default tax classification
as a “disregarded entity,” which classification
was not altered
by an election to treat the LLC as an association taxable as a corporation. For example, it was noted that the LLC’s tax return was consolidated with
that of its corporate parent; consequent thereto
the parent was able to deduct $884,092 in expenses and claim an additional loss of $61,047. ¶45. The Court noted as well that:
Appellant has enjoyed significant tax breaks attributable
to the LLC’s losses, without bearing any responsibility
for the LLC’s debt and obligations
to such losses. Such a disparity of the risk and rewards resulting
from this manipulation would
lead to injustice.
that “Federal tax law allows the LLC’s losses to be attributed to [the single-member] and a consolidated tax return filed,” the Supreme
Court noted that
the tax treatment was only one factor utilized
in the determination to
pierce the veil:
Instead, [the trial court] considered Appellant’s tax filings as only one of many relevant pieces
of evidence demonstrating that
the LLC to itself, while at the same time it concentrated wind
debts it decided would not be paid in the LLC. ¶48.
It is my view that it is not appropriate to
of tax classification.
Initially, to do so draws aline between entities
that are for tax purposes treated
on a pass-through basis
that are taxed on the entity basis, setting the former on a path towards piercing
while the latter are not. Simply put, tax classification
in no manner impacts
has been misused to the detriment
of the third-party. In this particular case, had the LLC been taxed as a C Corporation, with all other facts remaining
the same, the LLC still would have been without assets with which to satisfy the plaintiff’s claim. In addition, this sort of analysis introduces an
unnecessary level of complexity
in that numerous jurisdictions
impose entity level
taxes on what are, for federal tax purposes, disregarded entities. See,
e.g., KRS § 141.0401. If piercing analysis
is to look at tax classification
as a factor, what will be the result when there is a divergence between federal
and state treatment?