Corporate Law – Can There Be Personal Liability With Limited Liability Companies? How about in Delaware?
November 22nd, 2016
Mr. Andrew Cuevas, Esq., is the President of Cuevas, Garcia & Torres, P.A., and Vantage Property Title Company. Cuevas, Garcia & Torres, P.A., provides legal services in the areas of Community Association Law, Corporate Law, Real Estate law, and Business Immigration, including title insurance services through Vantage Property Title Company. If you have any questions regarding this article or any other questions, you may contact Mr. Cuevas at (305) 461-9500 or via e-mail at [email protected]. If you are interested in reading previous newsletters, please visit www.cuevaslaw.com, select the icon for Newsletters, and then choose the area of law you are interested in.
Can There Be Personal Liability with Limited Liability Companies?
How about in Delaware?
People usually open Florida Limited Liability Companies not only to obtain beneficial tax treatment but also to ensure the members can avoid personal responsibility of corporate obligations. Florida law generally provides for limited liability for owners and managers by stating that members and managers of a limited liability company ” [are] not personally liable, directly or indirectly, by way of contribution or otherwise, for a debt, obligation, or other liability of the company solely by reason of being or acting as a member or manager.” Florida Statute §605.0304(1). The separation of a legally organized entity from its owner and the prohibition of piercing the corporate veil, absent proof that the entity was organized or used to mislead creditors or to work a fraud on them, has been Florida’s common law for decades. The Florida revised Limited Liability Company Act (the LLC Act) even protects the owner when corporate formalities are not observed.
There are however some exceptions to the rule that members and managers cannot be held personally liable for company obligations. Florida Statute provides that this liability is imposed without the need to pierce the corporate veil of the LLC, and includes the following exceptions:
- a members written obligation to make future contributions;
- execution of an agreement for a to-be-formed LLC prior to its organization;
- the two-year clawback for distributions approved and made which are in violation of FS§605.0405, which liability can be imposed on the transferee as well as the members of a member-managed LLC;
- Responsible person liability for taxes owed to the United States;
- similar responsible party liability for Florida sales or use taxes; and
- tortious conduct individually committed by a member or manger.
Furthermore, there are also other developing court-created exceptions, such as when there are multiple levels of LLC’s formed for the express purpose of either avoiding liability or “hiding” who the actual owners of an entity are. The matter of In re USA Cafes, L.P Litigation, 600 A.2d 43 (Del. Ch. 1991), started the expansion of fiduciary duties when limited partnerships are managed by a corporate general partner. At issue was whether the individual directors of the corporate general partner owed the fiduciary duties of loyalty and due care to the limited partnership and the limited partners when, as a matter of corporate law, their duty of loyalty ran to their own corporate general partner and its shareholders. The court relying on trust law held that the directors had the “duty not to use control over the partnership’s property to advantage the corporate director at the expense of the partnership” USA Cafes has been relied upon extensively to extend the fiduciary duty of loyalty down the corporate trail to persons in control. The Delaware courts have consistently relied on USA Cafes to expand the duty of care to the control individuals.
The extension of fiduciary duties down the corporate line together with recent changes to the LLC Act imposes a requirement for attorneys drafting operating agreements to specifically address the fiduciary duties owed by a managing member or manager of an LLC. For example, the operating agreement executed by all of the members could include specific actions that do not breach the duty of loyalty, such as a real estate rental entity allowing one of its managers to use a unit rent-free to manage the LLC and store the records of the LLC. Alternatively, the attorney could recommend that the client consider organizing the LLC in Delaware. The Delaware Limited Liability Act allows members pursuant to the operating agreement to eliminate all fiduciary duties that may otherwise be owed.
If the goal of the corporate owner is to limit exposure to a potential claim for breach of fiduciary duties then formation of a Delaware LLC with an operating agreement that includes exculpatory language may be the way to go. However, if the Delaware LLC operates in Florida, an issue may arise regarding whether and how a Florida court would apply the Florida LLC Act in determining the enforceability of contractual exculpatory clauses.
The formation and operation of an LLC entity does not insulate its members and managers from all potential liability exposures. In addition. Layering entities with a structured LLC also does not necessarily insulate the ultimate control persons from potential liability exposure. The operating agreement should be drafted to thoughtfully consider restrictions of fiduciaries’ duties, identifying conduct that the members agree does not constitute a breach of fiduciary duty by the managers or managing members, and exculpatory language that a Florida court would accept as not violating the “manifestly unreasonable” standard.
T his article is solely a partial explanation of all the issues related to the topic of this newsletter, and is not to be considered legal advice. Persons interested in establishing effective corporate structures should consult with legal counsel to obtain explanations of all issues addressed herein and determine what corporate structures would best fit your purposes. This Newsletter is for informational purposes only and should not be relied upon as a legal opinion.