A Bankruptcy Case of Interest to LLCs

There's an interesting NY bankruptcy case that any Limited Liability Company would do well to read, In re: Die Fliedermaus LLC, particularly any LLC considering filing for bankruptcy.

In 1995, the defendants, in the restaurant business, formed the debtor limited liability company, which operated between 1996 and 2001. It filed for Chapter 11 bankruptcy relief on Oct. 4, 2001. An examiner's report suggested potential causes of action against the defendants arising from the debtor's payment of distributions while operating at an alleged loss between 1997 and 2001, and pursuant to Bankruptcy Code §544(b) and New York's Debtor and Creditor Law (DCL), the trustee in bankruptcy sought to recover the debtor's distributions as fraudulent conveyances.

Seeking dismissal, the defendants argued, among other things, that the three-year limitation period of New York's Limited Liability Company Law (LLCL) barred the trustee from reaching distributions prior to Oct. 4, 1998. The court dismissed the trustee's §544(b) claims insofar as they sought to avoid transfers made prior to Oct. 3, 1998. However, it determined that LLCL §506 did not raise the defendants to the status of creditors taking for value, who would have shielded them from liability under the DCL.

In the decision on a motion to dismiss by defendants, the US District Court judge for the Southern District, Judge Gropper, also ruled that an LLC's members, if no manager has been designated in the Organization Agreement, are insiders with at least a prima facie fiduciary duty according to bankruptcy law. Here's a bit of what the judge wrote:

"Under New York law, '[u]nless the articles of organization provides for management of the limited company by a manager . . . management of the limited liability company shall be vested in its members,' and any such members 'exercising such management powers or responsibilities shall be deemed to be a manager for purposes of applying the provisions of this chapter . . . and any such member shall have and be subjected to all the duties and liabilities of a manager provided in this chapter.' LLCL §401. The LLCL further provides that a 'manager shall perform his or her duties as a manager . . . in good faith and with that degree of care that an ordinarily prudent person in a like position would use under similar circumstances.' LLCL §409. This 'is the same fiduciary standard applied to corporate directors.' 16 N.Y. Jur Business Relationships §2107. Thus, absent any language in the Organization Agreement to the contrary, and none is alluded to, the . . . Defendants had the right to manage and control the Debtor and therefore were in a prima facie fiduciary relationship with the Debtor. . . .

"As stated above, the LLCL presumptively puts members in control of the LLC, and as such they are in a position to exert influence over the LLC. This sufficiently places then with the parameters of the Bankruptcy Code's definition of insider."

New York Law Journal: http://tinyurl.com/3ogrp [sub req'd]
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