Returning to the Theme: The Personal Representative of a Deceased Member May Not Bring Action for Dissolution

Returning to the Theme: The Personal Representative of a Deceased Member
May Not Bring Action for Dissolution

In a recent decision by the Nebraska Supreme Court, it considered and rejected the suggestion that the personal representative of the estate of a deceased member could, with respect to the LLC, bring an action for, among other things, dissolution of the LLC. Benjamin v. Bierman, 305 Neb. 879, 943 N.W.2d 283 (2020). 

Mark Benjamin, deceased (“Mark”), was a 50% member in Sixth Street Rentals, L.L.C. (“Rentals”) with Douglas S. Bierman (“Doug”) and a 33.33% member in Sixth Street Development, L.L.C. (“Development”) along with Doug and Eugene J. Bierman (“Eugene”). Brenda, Mark’s widow and personal representative, brought suit against the LLCs and the other members for accountings, to dissolve both Rentals and Development, and damages. Negotiations as to the purchase of the estate’s interests in Rentals and Development proceeded through agreement on purchase price (determined by third-party appraisal), but then the buyers would not close. “The district court found that appellees breached the operating agreements of Rentals and Development, ordered an accounting for each, declined to dissolve either, and awarded Brenda damages of $22,200 with respect to Rentals and $473,233 with respect to Development.”

      In affirming the determination that Brenda, as Mark’s personal representative, lacked standing to bring an action for the dissolution of the LLCs, wrote:

Both Rentals and Development are limited liability corporations {sic – companies}, governed by the Nebraska Uniform Limited Liability Company Act. Under that act, a member is defined as “a person that has become a member of a limited liability company under section 21-130 and has not dissociated under section 21-145.” Neb. Rev. Stat. § 21-145 (Reissue 2012) provides that a person is “dissociated as a member from a limited liability company” upon the death of that person. Thus, upon Mark’s death, he was dissociated and was no longer a member per the definition of the term under the act.

Dissociated members' “right to participate as a member in the management and conduct of the company’s activities terminates,” and thereafter, a dissociated member has limited rights. In the instance presented here, the death of a member, “the deceased member’s personal representative or other legal representative may exercise the rights of a transferee provided in subsection (c) of section 21-141 and, for the purposes of settling the estate, the rights of a current member under section 21-139.” These rights are limited and primarily consist of the right to have access to records or other information concerning the company’s activities.

Brenda has alleged that dissolution is proper under § 21-147(a)(4)(B) and (a)(5)(B). Both of those subsections require an application to be made by a member, but Mark ceased to be a member upon his death. By virtue of this dissociation, Brenda is also not a member. As such, she cannot seek dissolution under the plain language of the act.

Nor are we persuaded by Brenda’s contention that article IX, section 2, of the operating agreement granted Mark the power to transfer governance power, along with his economic interest, in Rentals and Development. That section provides:

Any Member may transfer by gift or bequest all or any portion of his or her interest in the Company to a spouse or child of the transferring Member, or to a trust established for the benefit of such spouse or child, or to an existing Member of the Company upon written notice to the Company, of such gift or bequest.

We read the plain language of this section of the agreements as permitting the transfer of some or all of a member’s or dissociated member’s interest in a limited liability company by gift or bequest. Indeed, under Neb. Rev. Stat. §§ 21-140 and 21-141 (Reissue 2012) of the act, an interest in a limited liability company is personal property that is transferable. But any interest that is transferred is accompanied by limited rights, as discussed above. We do not read the language of the operating agreements as broadening the rights accompanying the interest to include governance power or, indeed, any other power beyond that permitted by the act.

We agree with appellees that Brenda lacks standing to seek dissolution, and therefore, we find no merit to her assignment of error on appeal.

      The court went on to affirm a determination that the defendants were liable for breach of contract, namely the failure to close on the repurchase, in accordance with the terms of the operating agreements, of Mark’s interests in Rentals and Development.

Ohio Court Addresses Consequences of Resignation From An LLC

Ohio Court Addresses Consequences of Resignation From An LLC

In a recent decision from Ohio, the court addressed the efficacy of a member’s resignation from an LLC, the impact of that resignation upon that now former member’s personal bankruptcy filing, and as well title ownership to certain domain names that the member had secured on the LLC’s behalf. Cutting to the chase, the resignation was effective, the efforts to undo the resignation were ineffective, the resignation and the impact thereof as defined in the operating agreement were not limited by the ipso facto clauses of the Bankruptcy Code, and the domain names belong to the LLC. In re: LaGroux (AllCare Medical Services, LLC v. Buzulencia), Case No. 17-40198, Adversary Proceeding No. 17-4045, 2019 WL 3933797 (Bankr. N.D. Ohio Aug. 19, 2019).

LaGroux had been a 25% member in AllCare Medical Services, LLC (“AllCare”). In this Adversary Proceeding, it sought rulings with respect to the efficacy of his resignation from the LLC and the impact thereof. It also sought a determination that certain Internet domain names that LaGroux had procured were the property of the LLC.

On November 3, 2016, LaGroux emailed two of the three other members of AllCare announcing that effective 6 p.m. that evening he was resigning from the company. The next day, subsequent to the effective time and date of the prior email resignation, he sent an email seeking to undo his prior resignation; the subject line of that email was “Un-resignation.” In response, he received an email from one of the other members, who was as well the chief operating officer of the company, stating that the un-resignation was rejected and that the resignation would stand. In December, 2016, LaGroux began working as a consultant for Greenleaf, a competitor of AllCare. AllCare’s operating agreement provided a member could not consult with a competitor.

On February 9, 2017, LaGroux filed a voluntary petition under Chapter 7 of the Bankruptcy Code. His Schedule A/B indicated that he held a 25% membership interest in AllCare. He did not on his initial Schedule A/B list any of the Internet domain names, and he did not bring them up at his Section 341 meeting of creditors. He subsequently amended his Schedule A/B to include the domain names. Also, he changed the passwords to the domains notwithstanding that he had previously given those passwords to Gobbi, another member of the company and its chief operating officer.

The first issue addressed by the court was the resignation/un-resignation. It was found that the resignation was effective in that AllCare’s operating agreement allowed a member to voluntarily resign. The email was found sufficient to satisfy the “written notice” of the Ohio LLC Act and specifically Ohio Rev. Code § 1705.16. That being the case, the un-resignation email was insufficient to change his status in that, at that point in time, he was no longer a member of the company and AllCare’s operating agreement provides that the addition of a new member required the unanimous consent of the then current members. In that the members other than LaGroux, now a former member, had not consented to his admission as a member, “the ‘un-resignation’ email did not reinstate LaGroux’s membership in AllCare.” 2019 WL 3933797, *5.

In what may be dicta, the court noted as well that had LaGroux actually been re-instated as a member of the company, his work on behalf of a competitor, commenced in December, 2016, would have violated the terms of AllCare’s operating agreement.

LaGroux admitted at trial that Greenleaf is in the same business as AllCare. As AllCare’s duty of loyalty provision does not allow LaGroux to invest or engage in any business with a competitor, LaGroux would have known that he would have been in violation of AllCare’s operating agreement by working as a consultant for Greenleaf. Because he likely would not have acted in violation of the operating agreement if he believe he still had a noneconomic interest in AllCare it is more likely that LaGroux believed he had only an economic interest in AllCare at that time.

As such, the time of his bankruptcy filing, LaGroux was not a member in the LLC, but rather the holder of a bare economic interest. The fact that he continued to be reflected as a member for tax purposes did not impact upon the state law effects of his resignation and the consequent loss of member status. Id.*6.

The trustee argued that the provisions of the Ohio LLC Act and AllCare’s operating agreement should be subordinated to federal bankruptcy law. Specifically, it was argued that “any provision of the operating agreement that was triggered by LaGroux  filing bankruptcy and led to his disassociation is an ipso facto provision and should not be permitted to prevent the transfer of LaGroux’s interest to LaGroux’s estate.” Id. The trustee as well argued that he was not obligated to sell LaGroux’s interests pursuant to the redemption provisions of the operating agreement. Id. With respect to the ipso facto argument, it was found that the argument is inapplicable. “The court has determined that LaGroux withdrew from AllCare prior to filing bankruptcy. That means that LaGroux gave up his noneconomic interest in AllCare upon his withdrawal and only held an economic interest at the time of filing. Because LaGroux only possessed an economic interest when he filed for bankruptcy, LaGroux’s estate similarly can only hold an economic interest.” Id. There was rejected the trustee’s argument that the trustee is not bound by the right of redemption set forth in the operating agreement and the attendant of valuation provision, it was held that the trustee is bound by those provisions. As the provision was applicable to any former member, and not merely upon a member’s bankruptcy:

[T]he right of first purchase provision is in effect any time a member withdraws from AllCare and is not an ipso facto provision. At the time LaGroux withdrew from AllCare prior to his bankruptcy filing, LaGroux was required to comply with this provision of the operating agreement. Thus, the trustee in this case is not excused from complying with this provision of the operating agreement. Id.*7

Subsequent to LaGroux’s bankruptcy filing, another member in AllCare, Simmons, sold all of his interests to the remaining members. The trustee’s assertion that the estate should have been allowed to participate in that acquisition was rejected on the basis that LaGroux was not a member in the LLC on that date, and therefore could not exercise a member’s right to participate in the purchase.

With respect to the domain names, and undertaking a factual analysis, it was found that LaGroux held mere legal title. It was suggested by the court that AllCare could file a motion for an order of abandonment in LaGroux’s bankruptcy case with respect to those domain names.

LLC Dissolved When Member’s Heirs Are Not Admitted as New Members

LLC Dissolved When Member’s Heirs Are Not Admitted as New Members

      An LLC must have a member; elsewise it dissolves.  A recent decision from Iowa considered whether the children and heirs of an LLC’s sole member had been admitted as members. Finding they had not it was held that the LLC had dissolved for lack of a member. Felt v. Felt, No. 18-0710, 2019 WL 2372321 (Iowa Ct. App. June 5, 2019).

      Richard Felt organized an LLC through which to hold certain farm properties. David, one of Richard’s sons, was appointed a co-manager of the LLC at the time of its formation. Richard was, however, the sole member. Richard had two other children, Daniel and Susan. Richard’s spouse Patricia pre-deceased the transactions subject to this dispute.  Richard’s will provided that his property would be divided equally between his three children.

      Richard died on November 4, 2015. Under the Iowa LLC Act, upon the loss of its sole member, an LLC will be dissolved unless a new member is admitted within ninety days. See Iowa Code § 489.401(4). “Once the ninety days passed, if the LLC had no member it dissolved as a matter of law. See Iowa Code § 489.701.” 2019 WL 2372321, *4.

      After the ninety-day period had elapsed, Daniel and Susan filed suit challenging a number of David’s actions and the continuing existence of the LLC. The trial court found that David had been admitted as a member in the ninety day period, and it was that determination that was the subject of this appeal. “The only question before us is whether the LLC had a member in compliance with the operating agreement following Richard’s death.” Id.

      The Court of Appeals began by noting the operating agreement did not, inter alia, provide that the heirs of the LLC interests would be admitted as members. In the face of David’s assertion that he admitted himself as a member, it was noted that he had not satisfied the operating agreement’s requirement that a new member execute a joinder to the operating agreement. Rather, while David had as a manager signed a joinder to the operating agreement at the time the LLC was formed, there was no joinder as a member. Id., *5.

       It was found that a letter from Richard’s attorney to his heirs that referenced the transfer of the interest (but which was silent as to the requirements for admission into membership) did nothing to constitute any of the children as a member. Last, an insurance policy for the LLC in which the three children were identified as “members” was held insufficient to remedy “the contractual deficiency of the missing joinder agreement.” Id., *7.

      Reversing the trial court the Court, of Appeals held:

On our review, we are constrained to construe the contract according to its terms and the statutory law. We determine the intent of the parties forming the company from the language of the contract. The operating agreement only provides one way for a potential member to show agreement to become a member: the joinder agreement. We find none of the unit holders of Felt Farms LLC complied with the contractual requirements for membership by signing a joinder agreement prior to the end of the ninety-day statutory period. Therefore, the LLC dissolved as of February 3, 2016. Id. (citation omitted).

      The Court of Appeals several times named the attorney who prepared the LLC for Richard, noting a lack of experience, the use of a form operating agreement acquired from the bar association, and a lack of appreciation for the distinction between assignees and members. While it made no determination as to those deficiencies, it may be that the Court was generally cautioning attorneys that LLCs are not that simple and that attorneys “dabble” in LLCs at their peril.

     For a case applying the then Alabama springing-member provision, see L.B. Whitfield III Family LLC v. Whitfield, 150 So.3d 171 (Ala. 2014). 

An Unsettling Decision from Louisiana on Inspection of Books and Records

An Unsettling Decision from Louisiana on Inspection of Books and Records

      A recent decision from the Louisiana Supreme Court, in a perhaps troubling decision, held that the executor of the estate of a deceased member of an LLC has limited rights to inspect the LLC’'s books and records. Succession of McCalmont, No. 2019-C-0359, 2019 WL 2181408 (La. May 20, 2018).

      In the decision of the Louisiana Court of Appeals, it assessed a pair of operating agreements and the LLC Act to determine whether the executor of the estate of an individual member in several LLCs could inspect the LLC’s books and records. Applying that law, the Court of Appeals held that the executor did not have a right to inspect the books and records even as it acknowledged that this could place the executor and any other successor in a Catch-22 situation, namely an entitlement to receive distributions when and as made even as there are no information rights with respect to what those distributions should be. As to that point, the Court of Appeals noted:

We further note that the law as written allows for the creation of situations whereby an assignee of a deceased member's rights, while due distributions, may never be able to see company records to ensure he is actually receiving those distributions in full, because remaining members can simply withhold records that would show what, if anything, may be owed. However, the Limited Liability Companies Act and the limited jurisprudence dealing with the transfer issue before us clearly limit what Jay, as an assignee, is entitled to. While Jay and the estate may be entitled to distributions from the LLCs, they are not entitled to the records which they seek.

Succession of McCalmont, 2018 WL 6521176, *8 (La. App., Cir. 3, Dec. 12, 2018).

      The Louisiana Supreme Court would in part reverse, holding that the executor has the right “to inspect the records of the limited liability companies in which Ms. McCalmont had an interest in so far as those records arose prior to the date of her death.”

       One justice, concurring, suggested that the executor should have the right to inspect all books and records of the LLC, whether arising before or after the date of death.

      For myself, this decision is troubling. Notwithstanding the circumstance suffered by the executor as identified by the Court of Appeals, that is the natural consequence of treating the estate as the assignee of the decedent. It is just as much a stranger to the LLC as is any other third-party. If the legislature believed that “death is a sufficiently high transaction cost to preclude abuse” such that inspection of books and records by an estate should be permitted, it could have easily written that in the statute. It did not. If the members of the LLC thought that the estate of a deceased member should be entitled to inspect books and records, that could easily have been written into the operating agreement. In this instance, that was not done. To afford the executor of a member’s estate the right to inspect the LLC’s books and records as they existed prior to the date of death is equivalent to saying that an assignee of a membership interest has the right to inspect the books and records for the period before the assignment. That is, however, antithetical to what has always been the law of unincorporated business organizations. Some LLC Acts, an example being that of Massachusetts (see M.G.L.A. 1526 C § 42), provide that the estate of a member has the rights of a member. Louisiana could have adopted a statute to that effect. It did not. It seems inappropriate for the court to be creating rights that were at least implicitly rejected in the drafting of the controlling statute.

Missouri Court Interprets Operating Agreement, But Sets Up a Foot Fault as to a Member’s Disassociation

Missouri Court Interprets Operating Agreement, But Sets Up a Foot Fault as to a Member’s Disassociation

      In this recent decision from the Missouri Court of Appeals, it was called upon to apply an operating agreement and the LLC Act to a dysfunctional two-member company. Nicolazzi v. Bone, No. ED 106292, 2018 WL 6052144, 564 S.W.3d 364 (Mo. Ct. App. Div. 4 Nov. 20, 2018).

      Nicolazzi and Boone were the members in Spirit Adult Day Care, LLC, it formed in 2005. The company had a written operating agreement, it providing that each member would contribute $50,000 to the LLC. The agreement did not, however, set a deadline for making those capital contributions. At trial, the LLC’s CPA testified that Bone contributed in excess of $50,000, while Nicolazzi contributed only $25,700. In 2011 Nicolazzi inquired of a competitor whether they would like to buy his interest in the LLC. It would appear those discussions went nowhere. Over 2011 the relationship between Nicolazzi and Bone “steadily deteriorated,” and Nicolazzi ultimately ceased to participate in the LLC’s activities. The opinion does not specify whether or not the operating agreement detailed the job responsibilities of the members and their commitment to provide services. On June 20 Bone filed articles of incorporation for a new corporation named “Young in Spirit Adult Day Care Center, Inc.,” and the next day advised Nicolazzi that she was dissolving the LLC. The operating agreement, addressing involuntary dissolution, provided “Either Member may initiate a dissolution of the LLC after 30-days’ written notice to the other Member in which case the affairs of the LLC shall be wound up as soon as is reasonably possible and all remaining assets divided as provided for by law.” Shortly after receiving notice of Bone’s plans, Nicolazzi filed suit, requesting:

·         a determination as to whether Bone was a member of the LLC;

·         whether Bone had misappropriated LLC assets or herself and the new corporation;

·         for the recovery of distributions to Bone exceeding her 50% interest in the LLC;

·         for an accounting; and

·         for a constructive trust.

      Bone counter-claimed, asking for a ruling that Nicolazzi  was not a member of the LLC because he:

·         failed to make the required $50,000 capital contribution;

·         failed to participate in the LLC’s management;

·         breached the operating agreement by soliciting the purchase of his interest without Bone’s consent; and

·         fraudulently misrepresented the amount of his capital contribution.

      A bench trial followed, ending on October 9, 2012. Judgment was entered on November 1, 2017. Ultimately, Bone prevailed, it being found that Nicolazzi had breached the LLC’s operating agreement both by failing to make the required capital contribution and soliciting the sale of his interest in the company without Bone’s consent. The trial court deemed those breaches as constituting “events of withdrawal” from the LLC to the effect that Nicolazzi he was no longer a member of the LLC. That left Bone as the sole member of the LLC. It was also found that all payments due to Nicolazzi that were due and owing had been satisfied. This appeal followed.

Nicolazzi was a Member in the LLC

      Based upon the operating agreement’s recitation that Nicolazzi (as well as Bone) were the members of the LLC, and that the operating agreement did not set any additional prerequisites or conditions to being a member, Nicolazzi was a member: “As [Nicolazzi] is named as a member of the LLC in the operating agreement and sign the operating agreement when the LLC was formed, he was a member of the LLC from that point onward.”

Nicolazzi Breached the Capital Contribution Obligation

      While, at trial, Nicolazzi and his expert had testified that he had contributed in excess of $50,000 to the venture, the LLC’s CPA testified that he had not done so. The trial court accepted the testimony of the LLC’s CPA. Addressing that determination, the appellate court wrote that “We defer to the trial court’s findings of fact in a court-tried case.” On that basis, it was determined that Nicolazzi had failed to satisfy his obligation to contribute $50,000 to the LLC. With respect to the absence, in the operating agreement, of a deadline for making the contribution, it was written:

and even though there was no deadline in the operating agreement or Appendix A for when the parties were required to make the initial capital contributions, we need not analyze the meaning of the word “initial” as used in the operating agreement here. At trial, it was established that both parties intended and understood that “initial,” as used in “initial capital contribution,” meant the agreed upon amount of $50,000 would be paid within six months of the execution of the LLC’s operating agreement; as such, we give effect to that intent. …. Further, under any definition of the word “initial,” [Nicolazzi’s] failure to make the required $50,000 capital contribution within a five-year time span, as the trial court found, undoubtedly constitute breach of the operating agreement. 2018 WL 6052144, * 6.

Nicolazzi Did Not Breach the Operating Agreement by Soliciting a Sale of His Interest

      The LLC’s operating agreement provided that a member could not sell his or her interest in the LLC without the consent of the other member. The trial court had found that Nicolazzi, by soliciting a potential sale of his interest, had breached the operating agreement. This determination was set aside on appeal; “We find that this conclusion is an erroneous application of the law.” Id. Rather, the court found that while consent was required to actually consummate a sale or other transfer, those provisions did not prohibit or even address an attempt to sell or discussion of the sale of an interest. Id.

Nicolazzi Did Not Withdraw From the LLC; Bone is Not the Sole Member

      The determination that Nicolazzi had withdrawn from the LLC was set aside on the basis that none of his actions fell within any of the statutory events that constitute a withdrawal from the LLC; the operating agreement itself did not define what would constitute a withdrawal. Specifically, it was found that while he had breached the obligation to make his capital contribution, that breach did not constitute withdrawal.

And Then the Court of Appeal Sets Up the Foot Fault

      Continuing its analysis of whether or not Nicolazzi had withdrawn, the Missouri Court of Appeals unfortunately set up a foot fault as to withdrawal.  As do many LLC Acts, that of Missouri, at § 347.123(4)(c), identifies the events of withdrawal as including:

Unless otherwise provided in the operating agreement whereby specific consent of all members at the time, the member … files a petition or answer seeking for himself any reorganization, arrangement, composition, readjustment, liquidation or similar relief under any statute, law or regulation.

       And here’s where the problem is set up. The Court of Appeals wrote that, notwithstanding the question needs to be resolved by the trial court:

We remand this case with instructions for the trial court to determine whether [Nicolazzi’s] filing of his petition constitutes an “event of withdrawal” pursuant to § 347.123(4)(c).

      First, it is unclear how the relief sought by Nicolazzi would fall within any of the categories referenced in this statute. Second, these provisions apply with respect to a member of the LLC (“for himself”) and not with respect to the LLC itself. At least two courts, namely Darwin Limes, LLC v. Limes, No. WD-06-049, 2007-Ohio-2261, 2007 WL 1378357 (Ohio Ct. App. 6^th Dist May 11, 2007) and Sayers v. Artistic Kitchen Design, 633 S.E. 2d 619 (Ga. App. 2006) have already made clear that language of this nature refers to the member itself, and does not extend to actions vis-a-vie the LLC such as moving for its judicial dissolution.

Death and Conversion of a General Partner

Death and Conversion of a General Partner

      A recent decision from California addresses two changes with respect to general partners in limited partnerships. One of those situations was the death of a natural person, and the other was the conversion of the corporation into an LLC. Wong v. California Forefront, Inc., B281939, 2018 WL 4404148 (Ca. Ct. App. Second Dist. Sept. 17, 2018).

       Lily Wong was one of the two original general partners in Park Center Partnership. The other original general partner was California Forefront, Inc. An individual, Wyman Ip was the only limited partner. When Lily Wong died, her husband, as trustee of the Lily Y. Wong Family Trust, asserted that he was the successor general partner. In the alternative, it was asserted that when CFI, in 2010, converted from a corporation to a limited liability company, it was in effect disassociated as a general partner. Both of these assertions were rejected.

      While it was acknowledged that, upon the death of Lily Wong, her trust became the assignee of her economic interest in the partnership, applying the terms of this particular limited partnership agreement, which imposed specific limitations upon affiliates of existing partners, it was found that the trust could not be a successor general partner.

      With respect to the conversion of CFI from a corporation into a LLC, the court cited the applicable provision of the statute, it providing that upon conversion the converted entity is “the same entity that existed before the conversion.” That being the case, it was held that the conversion of a corporate general partner into the form of an LLC did not effect that corporation’s disassociation from the limited partnership or the alteration of its status as a general partner.

Exercise of Voting Rights After Death

Exercise of Voting Rights After Death

       The recent decision from Louisiana is focused upon the obligation to make distributions to an assignee, in this case an estate, and the question of whether the surviving member’s failure to make distributions was dischargeable in bankruptcy. There is, however, an interesting side question with respect to voting rights. Free v. Winborne, Civ. Act. No. 17-1606, 2018 WL 4265254 (W.D. LA. Sept. 6, 2018).

      Samuel Free and James Winborne were each 50% owners in two real estate related businesses. Windborne passed away, and the plaintiff in this action, Leasa Winborne, was appointed to administer his estate. She would eventually bring suit against Free alleging he was converting assets belonging to the LLCs and withholding her rights to 50% of the net proceeds.

      As recited by the court, basing its analysis upon the work of the underlying Bankruptcy Court, “The operating agreements also provide that upon the member’s death, that member’s successor shall become an asset in the of the deceased member’s interests in the companies.” 2018 WL 4265254, *2. Those same operating agreements went on to provide that “an assignee has no management rights and the member for whom the assignee acquired its interest retains their voting rights until such time as the assignee is admitted as a Member.” Id. In this instance, the Leasa Windborne, the assignee, was never admitted as a substitute member. It was provided in the operating agreements that the LLCs would dissolve with the consent of a Majority in Interests of the Members.” Id. *3.

      Free asserted that he had voted to dissolve both of the LLCs in his capacity as the sole remaining member, thereby giving effectively unanimous consent to that transaction. This argument was set aside on the basis that:

However, the Bankruptcy Court determined that Free did not account for Mr. Winborne’s remaining voting rights, noting that per the terms of the operating agreements Free did not have a Majority in Interest because his share was only 50%. Id. at *3.

      And there the problem arises. Any action requiring a majority vote of the members would, necessarily, have to include the deceased Mr. Winborne. Alternatively, Free would need to admit Winorne’s widow, Leasa, as a member. Absent one of those actions, it would seem that the LLC could not take any action. It is somewhat difficult to accept that that was their intent in drafting the operating agreement. Still, it was part of the holding in this decision.

      Also featured in the opinion is a most curious reading of the provision addressing the “Events of Dissolution” of this LLC. As recited by the court, it read:

The Company shall be dissolved upon the occurrence of any one of the following events: (a) expiration of the Company’s term; (b) entry of an order for relief with respect to the Company under Chapter 7 of the Bankruptcy Code; (c) entry of the judgment of dissolution of the Company pursuant to La Rev Stat Ann section 12:1335; and (d) consent to dissolve the company by a Majority in Interest of the Members.

      The Bankruptcy Court had found that, even in the context of a consent to dissolve given by a Majority in Interest of the Members, that alone would not be effective absent entry of a decree of dissolution pursuant to La. Rev. Stat. Ann. section 12:1335. This interpretation is most curious in that the lead-in provision of the clause referred to “any one of the following events.” How the “and” between subsections (c) and (d) could be read as requiring both elements is, a curious question.

Deceased Member’s Right of Redemption Subordinated to LLC’s Bank Obligations

Deceased Member’s Right of Redemption Subordinated to LLC’s Bank Obligations

      A recent decision from Louisiana councels that a member’s rights to distributions from an LLC, in this instance a liquidating distribution upon death, may be subordinated to the right of the LLC’s lender. Succession of Dinesh Shaw, M. D. v. Alexandria Investment Group, LLC, 2017-1026, __ So.3d __, 2018 WL 4000485 (La. Ct. App. 3^rd Aug. 22, 2018).

      Shaw was a member of Alexandria Investment Group, L.L.C. (“AIG”). AIG’s operating agreement provided, inter alia, that upon a member’s death, they would receive the member’s percentage interest in the appraised fair market value of the LLCs assets. Shaw passed away in May, 2016, and the representative of his estate was appointed later that month. That representative, Munsterman, advised AIG of Shaw’s death and requested that the payout begin. When the LLC asserted that it was not obligated to affect a redemption, but merely had the right to do so, Munsterman brought suit against the LLC seeking Shaw’s portion of the value of its assets, an amount exceeding $1.3 million. In turn, Red River Bank (“RRB”), AIG’s primary creditor, intervened in that action, asserting it had a first priority security interest in substantially all of AIG’s assets and that Shaw had assigned to it all claims he might have against AIG. That assignment provided:

Guarantor hereby assigns to lenders all claims which it may have or acquire against Borrower or any assignee or trustee of Borrower in bankruptcy; provided that, such assignment shall be effective only for the purpose of assuring the Lender full payment of Borrower’s indebtedness guaranteed under this Guaranty.

      Finding that the claim of Shaw’s estate would have to await satisfaction of AIG’s debt to RRB, it was found that:

We find most compelling the language which found under the provision “Guarantor’s receipt of payment,” wherein the Guarantor (Dr. Shaw) agreed to refrain from attempting to collect or enforce his own collection and reimbursement rights against AIG “until such time as all of [AIG’s] indebtedness that then remains is fully paid and satisfied.” We find the facts of his case fall under this provision. The Succession is attempting to collect from AIG the [death payment] of Dr. Shaw’s Ownership Interest prior to AIG’s indebtedness being fully satisfied. This action is truly prohibited under the terms of the Commercial Guaranty, to which Dr. Shaw agreed. As such, we find the Succession does not have a right of action to recover at this time, based on the prematurity of the claim.

     This fact pattern, not atypical, sets up a curious conflict. The LLC is obligated, within so many days of the member’s death, to begin making a redemption payment, and the member’s estate is not able to enforce that right. What then is the impact upon the estates right to a liquidating distribution? Is it merely suspended until such time as the bank covenants have been satisfied and, by contract, the LLC is permitted to make the distribution, or rather is it lost, and the estate, absent a separate negotiated agreement, is forever to be a transferee of the decedent? If there is only a suspension of the right, is the valuation still determined by the decedent’s date of death, or should the redemption price be reassessed as of the date on which the redemption payment may be made.

      It is also worth considering what would be the outcome if the decedent had not assigned all of his rights against the LLC to the bank and there was only either a bilateral guarantee of the bank debt between the bank and each member? In addition, what would be the effect of only a loan covenant between the LLC borrower and the bank to the effect no distributions would be made until the loan was satisfied?

 

Death, Dissolution and Dissociation: Louisiana Court Considers the Effect of Seriatim Deaths

Death, Dissolution and Dissociation: Louisiana Court Considers the Effect of Seriatim Deaths

      In a recent decision from the Louisiana Court of Appeals considered the effect of the seriatim deaths of several members of an LLC and, ultimately, whether an action for judicial dissolution initiated by a member who subsequently passed away could continue. In this instance, the court found that the action for judicial dissolution of the LLC could continue.  Schauf v Schauf, No. 51, 919-CA, __ So.3d __, 2018 WL 1937068 (La. App. 2 Cir. April 25, 2018).

      Angela Schauf organized the Schauf Family LLC in 2001, keeping 50% of the ownership for herself and distributing to each of her four children a 12.5% interest. Those four children were Peter, Paul, Mary and Kathryn. Angela and all of the children executed an operating agreement; the LLC’s only asset was farmland that was leased out. Angela passed away, and her interest in the LLC was divided amongst the four children, resulting in each of them becoming a 25% member. Then, each of Peter and Kathryn passed away, leaving their interests in the LLC to their respective spouses, Jo Ann and Michael.

      Thereafter, there arose disagreements with respect to the LLC and each of Jo Ann (assignee of Peter) and Michael (assignee of Kathryn) as well as Mary, an original member, sought to dissolve the LLC, sell its assets and distribute the proceeds. Paul objected to any dissolution, and as well rejected the proposal that he buy out the other members. Nonetheless, everyone except Paul did vote to dissolve the LLC and appoint Jo Ann as its liquidator.

      Paul filed suit, asking for a ruling that the appointment of the liquidator and vote to dissolve the LLC was null and void. Then, Mary passed away, and a motion was filed to substitute Jo Ann, Mary’s executrix, in the lawsuit. In turn, the trial court granted Paul’s application for summary judgment, in which there was declared void the vote to liquidate and the appointment of Jo Ann as the LLC’s liquidator. Conversely, the defendant’s motion for summary judgment was denied on the basis that they had no authority to dissolve the LLC and liquidate its assets. The defendants filed this appeal.

      The court’s opinion begins with a review of the status of the estate of a deceased member under the Louisiana LLC Act. Specifically, the estate does not become a member (absent a contrary provision in either the articles or operating agreement).

“Thus, an LLC’s articles of organization or a written operating agreement could, but have not in this case, provide that a person who inherits a decedent member’s interest in the LLC would become a member of the LLC or would have certain rights that are provided only to members.”

      From there the court offered some observations as to the status of a decedent member’s estate vis-a-vie the LLC, namely:

The rule treating a decedent member’s legal representative as an assignee of the decedent’s interest may be problematic. As an assignee of the decedent member’s interest, the decedent’s legal representative is entitled only to receive distributions from the LLC as authorized by the LLC’s operating agreement or by the members, to share in the LLC’s profits and losses, and to receive allocations of the LLC’s items of income, gain, loss, deduction, and credit. A decedent member’s legal representative may not become a member of the LLC or exercise any of the rights or powers of a member unless the LLC’s articles of organization or a written operating agreement provides otherwise or the legal representative is admitted as a member of the LLC. Thus, the legal representative of a decedent member may not participate in the management of the LLC, vote on the LLC’s affairs, or inspect the LLC’s records unless the LLC’s articles of organization or an operating agreement specifically accords such management rights to the decedent’s legal representative or the legal representative is admitted as a member of the LLC. Without the right to vote or inspect records, a decedent member’s legal representative will have little ability to protect the interests of the decedent’s estate or heirs with respect to the decedent’s interest in the LLC. Id at *6-7.

      Still, the court noted that an action for judicial dissolution may be brought by any member on the grounds that it “is not reasonably practicable to carry on the business of the LLC in conformity with its articles of organization and operating agreement.” La. R. S. 12:1335. The court went on to find that Mary had been a member of the LLC at the time the petition for judicial dissolution was filed, that “[h]er death did not terminate the dissolution process once it had been initiated.” and that JoAnn, as Mary’s executrix, could continue the dissolution action. Id., *8.

      Almost in passing, the court rejected the suggestion that, consequent to the articles of organization providing that the LLC would dissolve after 25 years, it could not be dissolved prior to that time.

      If this decision is restricted to its facts, namely an action for judicial dissolution, it is an entirely reasonable outcome. At the time the action for judicial dissolution was filed, three of the four persons having a derivative economic interest in the LLC’s assets no longer wish to be in business together. Likewise, one half of the members did not want to be in business with the other half. It would be dangerous, however, to extend this decision beyond the context of an action for judicial dissolution. If, in contrast, the suit were to have involved a derivative action or a request to inspect documents by a member who then passes away, different policy concerns, they being focused upon the LLC’s internal management, would arise.

Disassociation of Member Pursuant to Operating Agreement Given Effect

Disassociation of Member Pursuant to Operating Agreement Given Effect

      A recent decision from Connecticut held that the provision of an operating agreement providing that upon certain defaults a member would be disassociated would be enforced. The immediate effect of this ruling is that a suit against the disassociated member for breach of fiduciary duty and conversion of company assets may proceed in federal court pursuant to diversity jurisdiction Inteliclear, LLC v. Victor, Civil No. 3:16cv1403 (JBA), 2016 WL 5746349 (D. Conn. Oct. 3, 2016).

      Inteliclear, LLC had four members: Victor (30%), Powell (30%), Barretto (30%) and DeVito (10%). Victor was the LLC’s “General Manager.” Prior to this suit they had been involved in litigation as to the company. After the dismissal of that litigation (initiated by Victor), the other members voted to remove Victor as the General Manager, and this suit was filed against him.

      The claims against Victor arose out of his operation for the LLC other than in compliance with the operating agreement. For example, while it provided that a check exceeding $5000 could be issued only with the approval of a majority of the members, Victor was apparently writing $5000 checks without that member consent. In addition, he was using company funds to pay personal expenses. Consequent to that conduct, the members other than Victor advised him that he was disassociated as provided in the operating agreement.  The operating agreement of Inteliclear, LLC provided in part:

   The default by any Member in the performance of any Member’s covenants, obligations, responsibilities, duties or undertakings set forth and provided for under the provisions of the Operating Agreement, this Members Agreement, the Members Confidentiality and Non-Compete Agreement or any amendment or successor thereto, in which event, in addition to any remedy in law or at equity available to the non-defaulting Members, the non-defaulting Members may elect to treat such default as a withdrawal of the defaulting Member in connection with such Member’s desire to no longer provide Member’s Services to the Company under paragraph 8.B of this Members Agreement and may proceed with the elections provided non-withdrawing Members in paragraphs 8.B(1) and (2) above in regard the defaulting ember’s [ (sic) ] Interest.”Barretto, Powell and DeVito advised Victor that his violations of the operating agreement would be treated as effecting Victor’s disassociation from the LLC. Victor then moved the LLC’s funds to a new bank. He as well withdrew $30,000 for himself. The suit sought a declaration that Victor, having been disassociated from the LLC, could not act on its behalf. 2016 WL 5746349, n. 7.

      The thrust of this decision was whether the suit could be filed against Victor in federal court. An LLC is treated, for purposes of diversity jurisdiction, as having the citizenship of each of its members. If Victor was still a member of the LLC, there would be no diversity and the suit would be dismissed. If, in the alternative, Victor was a disassociated (i.e., a former member) of the LLC, the suit could proceed.

      The court would hold that Victor was disassociated from the LLC (i.e., no longer a member) and in consequence his citizenship would not be attributed to the LLC. In doing so it had to resolve the question of whether it was making a determination on the merits, which it could not due absent a trial on the merits, or rather resolving a jurisdictional question. In part on the basis that there had been a hearing on the motion for a restraining order, that affording Victor due process, the court said:

   The Court is satisfied that the appropriate way to proceed is to hear and decide the factual issues bearing on its subject matter jurisdiction, recognizing that they also implicate elements of at least one of the substantive claims as well as the basis for the injunctive relief sought. 2016 WL 5746349, *5.

       Reviewing Victor’s conduct, the court found that injunctive relief keeping him from alleging he had control of the LLC was warranted on the basis that he was no longer a member of the LLC. Rather, he had been disassociated under the terms of the operating agreement consequent to his own conduct.

   The Court finds that Plaintiff has demonstrated that Barretto, Powell and DeVito had legitimate justification for believing that Defendant defaulted in the performance of his “covenants, obligations, responsibilities and undertakings” under the Agreements.  As early as the end of 2015, Barretto, Powell and DeVito suspected Defendant was broadly misappropriating InteliClear funds and hired Ram Associates, an accounting and financial consulting firm, to investigate records that they became privy to as a result of the state court action but had not been otherwise able to obtain from Defendant in the ordinary course of business.

   Most significantly, as Plaintiff claims, Plaintiff’s American Express and bank records appear to show that Defendant treated InteliClear’s accounts as his own personal piggy bank. The evidence showed that Defendant used Plaintiff’s American Express card to purchase personal items such as a guitar costing over $500 for himself; airline tickets for his wife, daughter and even his daughter’s former boyfriend, totaling well over $2,000; a gym membership costing over $1,000 for his wife and that he used InteliClear funds to pay his personal credit card bill.  The evidence showed these charges and payments were not “reasonable and necessary business, educational and profession expenses” permitted by Paragraph 4(1) of the Members Agreement, nor reimbursable expenses under Paragraph 8.1 of the Operating Agreement. Additionally, they were not authorized by the other Members. Plaintiff characterizes Defendant’s actions as, in effect, stealing from Plaintiff, demonstrating that he is a defaulting Member under Paragraph 12 of the Members Agreement. 2016 WL 5746349, *5 (citations to record deleted).

Illinois Court Addresses Effect of Reinstatement of LLC, Gives Effect to the Fact That Dissolution Did Happen

Illinois Court Addresses Effect of Reinstatement of LLC, Gives Effect to the Fact That Dissolution Did Happen

      A recent decision from Illinois interprets and places certain limits upon the effect of the statute providing that, upon reinstatement after administrative dissolution, it is as if it never took place. In this case, the fact that it took place had legal effect. CF SBC Pledgor 1 2012-1 Trust v. Clark/School, LLC, __ N.E.3d __, 2016 Il. App. (4^th) 150568, 2016 WL 4702589 (Ill. App. 4th Dist. Sept. 8, 2016).

      Clark/School LLC was the borrower pursuant to a mortgage that included as an event of default the failure to maintain the LLC as an LLC.  A default was declared under the mortgage on the basis that the LLC had been administratively dissolved as well as other defaults in the covenants.  In response to a declaration of default and the appointment of a receiver, the LLC asserted that there was no default in the existence covenants in that the LLC had been reinstated by the Illinois Secretary of State pursuant to a statute that provides, inter alia, that the reinstatement after administrative dissolution relates back to and in effect cures the dissolution.  The lender responded, inter alia, that the subsequent cure of the dissolution did not impact the fact that it had taken place.  Rather:

In this case, Section 4.14 of the party’s mortgage security agreement plainly stated that the mortgage loan was made in reliance on defendant’s continued existence as an LLC.  Defendant agreed to maintain its existence and ensure its continuous right to carry on its business.  The party’s agreement defined defendant’s breach of Section 4.14 as an “Event of Default.” In its December 2013 complaint, plaintiff alleged defendant failed to maintain its existence as an LLC because it was not in good standing with the Secretary of State and dissolved in September, 2011.  Defendant acknowledges that, at the time plaintiff filed its complaint, it was not in good standing and had been dissolved.  Under these circumstances, we hold the LLC Act’s relation-back provision does not apply to prevent defendant’s dissolution from constituting an “Event of Default under the party’s agreement.

      In support of its ruling on the LLC Act, the court cited Virendra S. Visla M.D., Ltd. v. Parvais, 884 N.E. 2d 790, 796 (Ill. App. 3d 2008) wherein an employment agreement was found to be terminated by the administrative dissolution of the employer medical corporation.

      This ruling should be considered in light of the provisions of the Kentucky LLC Act which provide for the dissociation of certain business entity members upon the dissolution thereof.