Members | Partners | Shareholders Category Archives — Page 4 of 5 — The Business Divorce Law Report Published by Business Lawyer

May 15, 2015

Does the LLC Statute Trump Agency Law?

Agent Fails to Dislcose Principal Exists, Avoids Liability

Was the limited liability company statute supposed to eliminate basic principles of agency law? That seemsto be the import of a decision by the Appellate Division of Superior Court in Castro v. Giacchi, Docket No. A-6220-12T2 (N.J. Super. App. Div. December 5, 2014)(Opinion Below) that reversed a judgment against an individual who failed to disclose that he was acting on behalf of a limited liability company.

Perhaps just as important as our first question: does it really matter? Here the answer is pretty easy. Absolutely. Understanding agency law – that is the law that governs when one person acts on behalf of another – is critical to understanding how business entities function. The reason is that even though a business entity is a legal person, but it can an only act through its agents. The business entity is distinct from its principals.

Contractor’s Handshake Deal with Sub

The decision arose out of a contruction contract. Castro was subcontracted to do carpentry work on a new home under construction in Southhamptom by Defendants. It was a handshake deal. Plaintiff contended that he never knew Giacchi was acting on behalf of anyone other than himself, but he received two progress payments John & Sons ANG, LLC. The final bill was sent to ANG.

Ordinarily, an agent who fails to disclose he is entering into a contract on behalf of a principal is individually liable on the contract, unless the other party knows or had reason to know the agent was acting on behalf of a principal.

* * *

But N.J.S.A. 42:2B-23 shielded a member or agent of a limited liability company from all of its debts. The statute did not limit the circumstances under which a member or agent was immune from liability, including those where a member or agent of a limited liability company entered into a contract without disclosing the identity of its principal. Being clear and unambiguous, our sole function is to enforce the statute according to its terms.

March 4, 2014

New Jersey LLC Statute Limits Creditors Rights

by Jay R. McDaniel, Esq.

A recent amendment to New Jersey’s limited liability company law changes the rights of creditors seeking to collect a judgment from a member of a limited liability company, eliminating the creditor’s right to foreclose the member’s interest.

Foreclosure of LLC Member Interests Eliminated

This particular aspect of the Revised Uniform Limited Liability Company Act (RULLC) is one of the more controversial provisions of the newly enacted statute because it eliminated a key asset protection aspect of LLCs. Under the prior statute, a creditor’s right was limited to a “charging order.” The amendment to the statute simply restores the prior law.

Under most state limited liability company statutes, a creditor has the right obtain a charging order that provides that when an LLC distributes money to its members, the debtors share goes to the party holding the charging order. It only works if any money is actually distributed to the members.

The RULLC was based on a model act devised by the Uniform Law Commission and contained a provision that allowed judgment debtors to foreclose an interest under certain circumstances. What that meant was that if the judgment creditor was being paid, it had a right to seek a foreclosure of the interest, meaning that it would be sold at a judicial auction.

May 15, 2013

The Little Big Breach – Restrictive Covenants

by Jay R. McDaniel, Esq.

Most of the cases that we handle – like any other litigation – get settled before trial. One of the incentives to settle is that invariably the departing owner will agree to some sort of restrictive covenant against competing against his former company.

The case that goes to trial, or which is resolved on a substantive motion, leaves this issue wide open. In fact, there is no statutory basis to deter the ousted business owner from setting up a competitor and trying to lure away the business of his former company, and one would suppose with a bankroll secured by the purchase of his or her interest.

Since most business divorce litigation ends with a deal, and restrictive covenants are critical aspects of those transaction, I thought it worthwhile to write about a recent decision of the Appellate Division that gives a stern warning that the restrictive covenant had better been honored.

February 25, 2013

Court Permits LLC Removal Without Wrongful Conduct

by Jay R. McDaniel, Esq.

Landmark Decision Will Make Removal of Members Eaiser

Many limited liability company litigators have presumed that to expel a member from a New Jersey limited liability company you must establish wrongful conduct such as dishonesty or involement in a a competing business. And moreover, if the case is successful, the next assumption was that the company must buy back the interest of the ousted member

Both the trial court and the attorneys involved in All Saints University of Medicine Aruba v. Chilana, Docket No. A-2628-09T1, App. Div Dec. 24, 2012 (read decision below), seem to have made the same assumptions. The appellate court, however, in this recent decision made clear that neither is accurate.

Limited Liability Company Act Permits Expulsion Through Involuntary Dissociation

Similar situations actually arise with some frequency. One of the members of an LLC, for whatever reason, becomes a hindrance to the continued operations of the business. Perhaps the LLC needs capital and the member will not, or cannot, contribute their fair share. Perhaps the LLC relies on the members working in the business on a daily basis and one of them stops coming to work. (Editor’s note: The Supreme Court has drawn portions of the reasoning of the Apellate Division into question in its 2016 decisions in IE Test v. Kenneth Carroll. Read our coverage of the decision here.)

December 31, 2012

Five Expensive Mistakes When Forming a New Jersey LLC

by Jay R. McDaniel, Esq.

New Jersey Limited Liability Company Attorneys

Imagine that the limited liability company you and your partners started five years ago is involved in a nasty corporate governance lawsuit. Perhaps one of the partners needs to be expelled, or maybe one of the owners is involved in a competing business. Imagine that you are spending tens of thousands of dollars every month on legal fees, that the business is in a state of constant disruption and that you haven’t had a good night’s sleep in weeks.

And now, accept the fact that this could have been avoided.

The chances are that if a closely held business is involved in this type of litigation it is because the owners did not plan well when they started the business. How do I know? Having litigated many of these matters over the years, I see the same mistakes made early in the life of the business surfacing again and again as the source of litigation.

New Jersey Limited Liability Company Operating Agreement

This is my non-exclusive list of what I think are the most expensive mistakes that I see people make in their business. There are others, to be sure, but these are the ones that I see as the source of litigation among the members.

No Operating Agreement: Actually, I am not going to count not having an operating agreement as one of the five “mistakes.” It is not really a mistake, it is a colossal blunder, kind of like drunk driving – you may get away with it for a while, but you know how it’s going to end.

November 9, 2012

LLC Mortgage May Be Challenged

by Jay R. McDaniel, Esq.

Purchaser Alleges Mortgage Was Not Approved by All LLC Members

A mortgage given by a New Jersey limited liability company to one of its members can be challenged by the purchaser in a court-approved sale of the business, the Appellate Division holds, reversing the trial court.

This case arises out of the estate planning undertaken by John Best and his wife, defendant Patricia Ann Best, after Mr. Best learned that he was terminally ill. The couple owned Sea Village Marina in Northfield (across the bay from Margate). They had transferred 25 percent of the business to their son, John, in 1994.

November 9, 2012

Stock Certificate Transfer Claim Rejected

by Jay R. McDaniel, Esq.

Ownership Transfer Rejected When Stock Certificate Note Endorsed

One of the principles of corporate law that comes up with some frequency in shareholder disputes is that a share certificate is not an interest in a company, but only evidence of ownership. That does not mean, however, that the formalities for issuing and transferring shares can be ignored.

As a recent case from the Appellate Division of the New Jersey Superior Court demonstrates, a court may refuse to recognize what the plaintiff claimed had been a transfer of shares in a closely held corporation when the alleged transferee could not produce the endorsed stock certificate.

November 2, 2012

Buy-Sell Agreement to Arbitrate is Enforceable

by Jay R. McDaniel, Esq.

Dispute Related to Repurchase of Shares Under Buy-Sell Agreement Subject to Agreement to Arbitrate

Agreements to arbitrate are frequently added to buy-sell agreements and other corporate governance contracts. These agreements will be enforceable in nearly all circumstances and the parties should be certain that arbitration – rather than litigation in court – is what they really want.

In a recent appeal from a court order refusing to enforce an agreement to arbitrate after the parties had already been in litigation for two years, the Appellate Division of Superior Court rejected arguments that the arbitration clause was narrowly drawn. Gatta v. Gatta, Docket No. A-3161-11T (App. Div. October 26, 2012). Because the subject matter of the dispute was also the subject matter of the contract, the agreement to arbitrate was enforceable notwithstanding the delay in asserting the right.

Shareholder Seeks to Enforce Arbitration Right

The appeal was brought by Defendant Joseph Gatta from the trial court’s denial of an application to compel arbitration under a shareholders agreement. Gatta and the company, Joseph Gatta & Sons, Inc., were sued by Gatta’s brother, Anthony Gatta, one of four shareholders in the business. Anthony sued after he was fired and the company did not respond to his demands to purchase his interest.

November 1, 2012

LLC Minority Interest Subject to Levy

by Jay R. McDaniel, Esq.

Court Issues Writ of Execution on Minority LLC Interest of Ex-Spouse

One of the perceived benefits of the limited liability form of doing business is the limited remedy that a creditor has when attempting to use the LLC member’s interest as a source to satisfy a judgment. The majority position has been that the judgment creditor may be able to secure a charging order, but can neither foreclose on the interest (that is a force a judicial sale) or divest the debtor of their management rights.

A decision by a Chancery judge in Ocean County involving a New Jersey limited liability company affirms that the “sole remedy” is the charging order – something that is about to change under recent amendments to the LLC statute – but finds that a court may issue a writ of execution. Leonard v. Leonard, Docket No. FM:15-450-05 (App. Div. June 13, 2012)(approved for publication).

Charging Order Sole Remedy under LLC Act

Under the current law, a judgment creditor that receives a charging order is entitled to receive the distributions that the the debtor-LLC member would otherwise receive, if anything. However, beginning with limited liability companies organized after March 2013, and the following year with all New Jersey LLCs, judgment creditors will be able in some circumstances foreclose the interest of the LLC member.

The issue in this case was the ability of a judgment creditor — in this case a custodial parent seeking to enforce a child support award – to levy against the interest of a minority member of a New Jersey limited liability company. The plaintiff and defendant divorced in 2004, with the plaintiff agreeing to pay alimony and child support. The plaintiff, however, alleged that as of 2012, the defendant had unpaid support totaling $110,000. Plaintiff moved to secure a judgment and a writ of execution against the defendant’s 10% interest in a real estate limited liability company, Blydan Okay Group, LLC.

October 25, 2012

New Jersey Limited Liability Company Operating Agreements

by Jay R. McDaniel, Esq.

Operating Agreements for Limited Liability Companies to Change Under Revised Limited Liability Company Act

Part of an ongoing series on the adoption of New Jersey’s revised limited liability company act.

The amendments to the New Jersey’s Limited Liability Company Act, N.J.S.A. 42:2C-1-94 that begin to take effect in March 2013 will bring a new era in the way the members of a limited liabilit industry-agreement y company structure their affairs. The days in which the members must put their agreements in writing will soon be over, and the owners of New Jersey LLCs should take a hard look at their own operating agreements and course of doing business.

In adopting the Revised Uniform Limited Liability Company Act, the state legislature has approved a fundamental change to the way LLCs operate in New Jersey. We are examining these changes in a series of articles and today focus on the effect of the changed definition of operating agreements.

Written Operating Agreements Not Required

The old law may have been rigid, but at least it was clear. It was not required in New Jersey (as in some other states) to have an operating agreement, but if you did, it had to be in writing. If there was no written operating agreement, then the “default” rules provided by the statute governed. That has changed significantly. The new law defines an operating agreement as

“the agreement, whether or not referred to as an operating agree

ment and whether oral, in a record, implied, or in any combination thereof, of all the members of a limited l

iability company …”

To understand just how much of a change is this definition, we can look at a 2004 decision of the Appellate Division in Kuhn v. Tuminelli, 366 N.J. Super. 431, 841 A.2d 496 (App. Div. 2004). In that case, the plaintiff and defendant owned a limosine service and the defendant embezzled funds by endorsing checks to the company and keeping the funds. Kuhn argued that the defendant did not have authority to convert the checks and named as a defendant the check cashing service that had negotiated the checks.