Tuesday, January 6, 2015

Both Yes and No to an LLC's Petition for Bankruptcy Protection

Both Yes and No to an LLC's Petition for Bankruptcy Protection


In a recent decision from the bankruptcy court for New Jersey, the ability of a particular LLC to file for bankruptcy protection was affirmed. At the same time, it was determined that the application lacked a legitimate basis. In re: Crest By The Sea, LLC, No.: 14-31681-ABA, 2014 WL 7366200 (Bankr.. N.J. December 23, 2014).

Initially , it should be noted that this decision, while making clear that the debtor was a limited liability company, the several times to the LLC as being "incorporated."  Clearly these statements are inaccurate.

The LLC originally had five members, but one of them declared bankruptcy.  At the time of filing of the bankruptcy petition, only three of the members had approved it.  It was open to debate whether the operating agreement allowed a simple majority of the members to approve the filing of a petition for bankruptcy, or whether unanimity was required.  The court indicated that a fair reading of the operating agreement was that only a majority vote of the members was required.  However, the court found that the post-filing approval of the bankruptcy petition by the last member was sufficient to give rise to unanimous approval if that was required.  Either way, the court did give effect to the provision of the New Jersey LLC act providing, inter alia, that a member is dissociated (i.e., lose of the right to participate in the LLC’s management) by reason of bankruptcy. 

Having determined that the bankruptcy petition was validly filed, the court then turned its attention to its intrinsic legitimacy.  In this instance, the court was able to determine that the bankruptcy petition was filed for the purpose of delaying certain state court actions and that no conceivable reorganization of the entity could take place.   Finding there to have been bad faith in the filing as evidenced by numerous errors in the petition and the related schedules, admission that it was filed in order to delay the state court proceedings and the failure of the signatory of the petition to appear at an evidenciary hearing:

[T]he court find that the Debtor abused the provisions, purpose and spirit of bankruptcy law in filing its bankruptcy petition. As such, the court has no choice but to dismiss the Debtor’s bankruptcy petition for cause under Section 70 (a) of the Bankruptcy Code.

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