Joseph Voll and Robert Dunn were business partners in a pair of restaurants in Connecticut called Macdaddy's Macaroni & Cheese Bar. One restaurant was held in what would be known shorthand as the Monroe LLC, and the other similarly as the Fairfield LLC. A third company without a restaurant, the Management LLC, provided operational services to both Monroe LLC and Fairfield LLC.
Voll and Dunn owned all three LLCs as 50%-50% members, with the idea that profits would flow up from Monroe LLC and Fairfield LLC into the Management LLC, which would then distribute the profits equally to Voll and Dunn.
Voll was a construction general contractor, and he contributed the moneys and labor to build the first restaurant, which would go into Monroe LLC. For his 50%, Dunn contributed the concept, menus, and operational support. Dunn then was working as an investment broker, but soon agreed to give up that job and work at Monroe LLC on a full-time basis.
The first Macdaddy's opened on July 4, 2011, but even before the concept was proven to be viable on a long-term basis, Voll and Dunn started looking for a second location only a few months later. The two decided on a location, and cut a deal with the property owner whereby Voll, Dunn, the property owner and his wife (the latter two, the Swansons, taking profits in lieu of rent), would all be 25% owners in the second company, being the Fairfield LLC. Certain licensing fees and royalties would also be paid to Management LLC, which was owned only by Voll and Dunn.
Apparently, there was not enough profit to sustain Dunn's financial needs, and so beginning in January, 2012, Voll started loaning him $4,000 per month.
The second Macdaddy's finally opened in September, 2012, and it was to be run by the Swansons. However, about the time that Macdaddy's opened, the Swansons had some medical emergency and were unable to manage that restaurant, so Dunn started managing both Macdaddy's. (At some point, apparently, the Swansons ceased to be members in Fairfield LLC, leaving only Voll and Dunn as the remaining 50%-50% members).
Unbeknownst to Voll, investment banker Dunn had never run a restaurant successfully, and he also had sticky fingers. Only 10 days after the July 1, 2011, opening of the first Macdaddy's, Dunn started taking unauthorized withdrawals from Monroe LLC, depositing $21,150 in cash into this TD Bank account from July, 2011, to February, 2012, and depositing another $17,600 in cash into his Jordan's Future, LLC (named for his daughter), from August, 2011, to May, 2012. Dunn disguised the payments as "management fees" or "consulting fees", etc., on the checks, which were never authorized by the Monroe LLC or Voll.
Dunn also took another $5,750 in unauthorized "draws" from Monroe LLC, and further used Monroe LLC's assets to barter for goods and services for his home, including lawn care services and firewood deliveries, for $6,320. A later reconciliation of Monroe LLC's books against its point-of-sale system showed a cash shortfall of $39,425 between June, 2012 and November 15, 2012. Dunn also diverted the insurance proceeds from Hurricane Sandy's damage into a second bank account that he opened in the name of Monroe LLC but didn't tell Voll.
Dunn's sticky fingers didn't stop with Monroe LLC, but extended to Management LLC as well. Dunn wire-transferred $5,500 from Management LLC to Jordan's Future LLC's account, and also removed the licensees fees of $10,000 from the Management LLC account. This was all on top of checks and at least one use of the company's debit card for personal purposes.
That brings us to Fairfield LLC, which Dunn started looting immediately to the tune of $8,000 taken from the cash register in September 2012. Changing his method, Dunn enrolled Macdaddy's into a Groupon promotion and used it to divert another $7,076 into Jordan's Future LLC's account. Even after Voll figured out what was going on and filed a lawsuit, Dunn withdrew another $16,000 from Fairfield LLC's account.
For his part, Voll received only a single distribution from the Management LLC for $1,500, but ended up with a big mess. Monroe LLC was behind on its rent, utilities, taxes, and payments to its suppliers. Checks were bouncing NSF. But Voll was eventually able to right the ship -- and pursue Dunn.
For his part, Dunn attempted to portray himself as the victim of Voll's "treachery" in trying to steal the Macdaddy brand and force Dunn out of the business. Dunn justified his defalcations as merely putting food on the table for his family. Oh, and Dunn claimed that he intended to pay Voll back for every last penny as soon as future stores opened. But the Court didn't buy any of it:
In any event, the court does not credit the defendant’s testimony. Indeed, the defendant is perhaps the least credible witness this court has ever seen. From early in the life of the restaurant, the defendant reneged on the agreement he had made. He began siphoning cash out of the Monroe restaurant to whatever purpose he saw fit. His effort to justify his use of the Monroe cash register as his own personal piggy bank is frankly, astonishing. He claims he had to take the money because he had no income but this, we know, is not true. He was taking cash and diverting funds for months while he was still employed at [an investment banking firm]. Further, his diverting of funds was a regular and frequent occurrence within months of the Monroe restaurant opening. He also claims he had no choice because he had to take care of his family. However, the amounts taken are well in excess of the amount needed to sustain a small family. Between July 2011 and November 2012, the defendant had siphoned off in excess of $100,000.00 from the Monroe restaurant alone, to include over $6,000 for lawn care and firewood. This is hardly bread and milk money. Finally, and perhaps most importantly, the defendant’s after-the-fact explanation that he intended to even things out with the plaintiff once the second and third stores were opened is a self-serving and wholly incredible claim.
Dunn had failed with a previous restaurant prior to meeting Voll, and had a default judgment entered against him in the amount of $132,444. In a very smart strategic move, Voll bought that judgment against Dunn, and in June, 2013, Voll had the Marshall levy upon Dunn's interest in Management LLC, Monroe LLC and Fairfield LLCs (the "three LLCs"). The Marshall also gave Dunn an Exemption Claim Form by which Dunn could contest the execution.
Later, the State Marshall published a Notice of his intent to auction off Dunn's interest in the threes LLCs. Dunn apparently blew all this off, and did not file any objection or claim for exemption. Instead, Dunn told the Marshall that he was going to file for bankruptcy before the auction, which he did. The bankruptcy filing caused the auction to be put off several times, but Dunn did not comply with the bankruptcy court's request for certain paperwork, and Dunn's bankruptcy proceeding was dismissed on December 2, 2013.
The next day, December 3, 2013, the Marshall finally held the auction. Although given notice of the auction, Dunn did not object. Voll appeared at the auction and "credit bid" $50,000 for Dunn's interests in the three LLCs, meaning that Voll didn't pay cash for the interests but instead credited Dunn with $50,000 against the outstanding judgment (which is very common in post-judgment auctions and completely proper).
At some point, and apparently following the maxim that "the best defense is a good offense", Dunn brought lawsuits against Voll asserting various claims relating to the three LLCs.
Now holding the interests in the three LLCs, Voll moved to dismiss Dunn's lawsuits on the basis that Voll no longer had a membership interest in the three LLCs. Dunn responded that the Marshal's auction and Voll's purchase of the interests were facially invalid because it was not permitted under Connecticut law -- at best, Voll could only get a charging order which created a lien on Dunn's distributive rights in the three LLCs, not actual title to them. But before Dunn's motion could be heard, Dunn withdrew his lawsuits relating to the three LLCs, thus rendering his motions moot and they were not heard.
The Court set Voll's case against Dunn for trial, and Voll amended his Complaint to request a Declaration from the Court that Voll's purchase of Dunn's interests in the three LLCs was valid. Dunn counterclaimed for a contary Declaration that Voll's purchase of Dunn's interest was invalid because Voll was limited to a charging order. Dunn also sought an order requiring Dunn to fund the building of two additional Macdaddy's, and (this took some chutzpah under the circumstances) for an accounting.
We are most interested here in the Court's resolution of the charging order issue, but before we get there it is important to summarize what the Court first decided.
The Court found, not surprisingly under these facts, that Dunn had breached his fiduciary duties to the three LLCs, that Dunn's conduct constitute civil theft and conversion, and that Dunn violated the Connecticut Uniform Trade Practices Act (CUPTA). Dunn was thus liable for damages to the three LLCs, as follows: (1) to Monroe LLC for $109,021; (2) to Management LLC for $23,948; and to Fairfield LLC for $23,000.
The Connecticut civil theft statute provided for treble damages, and since Voll proved up his civil theft case, the above damages were trebled -- so the judgment was upped to north of $450,000. The Court also found that Dunn was directly liable for damages to Voll for violation of CUPTA (for which duties are also owed to members of an LLC which is harmed by conduct). As lagniappe, the Court also tacked on interest and Voll's attorneys' fees to the judgment against Dunn.
This finally brings us to the charging order issue, which Dunn owing a heap of money to Voll.
Connecticut law allows for a judgment to be enforced against "any property" of the judgment debtor, unless that property is exempt by some specific statute (and there is no exemption for LLC interests there). In this context, the term "property" includes any personal property that the debtor is capable of assigning or transferring. Such property may be levied by the local Marshal (a/k/a "levying officer"), and sold at auction, with the net proceeds after the expense of the auction going to the creditor.
An interest in an LLC is an interest in personal property. To determine whether a debtor may assign or transfer his interests in an LLC, the Court looked to Connecticut's LLC Act, which provides that such interests may be assigned "[e]xcept as provided in writing in an operating agreement".
However, the LLC Act provides another significant limitation, which is that the assignee (i.e., the person to whom an interest is assigned) will not have any rights to participate in the management of the LLC, and therefore is nothing like a full owner of the interest. In other words, the assignee only receives what amounts to the assignor's economic rights, but not the assignor's management rights which the assignor retains.
Here, Dunn argued that because an assignee could not receive the Full Enchilada, being both the economic rights and management rights, the rights therefore were not capable of assignment, and thus further were not personal property that could be levied upon.
The Court noted that the provisions of the LLC Act were not dispositive, since those provisions could be modified by the parties through the LLC's Operating Agreement.
[NOTE: Not all provisions of an LLC Act can be "agreed away" by the Operating Agreement, or other side agreement between the members, but those provisions relating to assignability usually can be modified by the members. This does not mean that the Operating Agreement controls the LLC Act or anything like it. Instead, the LLC Act itself allows for the parties to change certain "default" terms, and otherwise enter into agreements within the construct of the Act. Thus, an Operating Agreement can modify a wide variety of things under the LLC Act, but still cannot violate the LLC Act by agreement -- in the end, the LLC Act will always control.]
The Court reviewed the Operating Agreements for Fairfield LLC and Management LLC and determined that they freely permitted assignment of the full ownership interests in those two LLCs. Further, the "Membership Interest" was defined in those Operating Agreements as basically all rights, including management rights. Other provisions required that notice of the assignment be given to the companies and to members (who would then have a right to purchase the interest, almost like a "right of first refusal"), but otherwise Dunn's membership interests were assignable.
Because Dunn's interests in Fairfield LLC and Management LLC were assignable, held the Court, they were subject to execution and levy under Connecticut law.
[Note: Arguably, the Court got this part dead wrong, since whether an LLC's interests is assignable or transferrable normally has nothing to do with whether the interest is subject to execution and levy, or instead is limited in remedy to a charging order. Apples and Orangutans.]
This now brings us back to the Connecticut LLC Act, where Dunn argued that the charging order remedy was "exclusive", which means that among the various remedies available to creditors to go after assets, the one that a creditor must employ is the charging order remedy, and not other remedies such as the levy which Voll pursued here instead.
Indeed, the plain text of Connecticut's charging order statute does not, as many other states do, expressly provide that the charging order is the exclusive remedy available to creditors. The legislative history of the Connecticut LLC Act is also silent on the issue. The Court interpreted this statutory silence to create an ambiguity on the issue, and contrasted that with the clear language in Connecticut's Uniform Partnership Act (UPA) which does make clear that the charging order is the exclusive remedy.
But a partnership has at least two partners, and therefore as the Court importantly noted in its Footnote 28:
The exclusivity provision prevents the situation of the non-debtor partners having a stranger thrust upon them in the management of the affairs of the partnership. The provisions are designed to protect the debtor’s partners from such an occurrence and to preserve the idea that people pick their own partners in matters of business.
The LLC is a different animal, sayeth the Court, since it could theoretically have only one member, and to limit the creditors remedy would run against the grain of public policy, since it would permit the debtor to stiff the creditor by simply not making distributions to the debtor's 100% interest subject to the charging order lien, such that execution and levy in that case would be warranted. This analysis is entirely consistent, the Court thought, with the idea that a partnership interest is not "property" because it was not assignable, and thus not subject to the execution and levy procedure. But,
On the other hand, as noted above, the LLC Act defers, as may be applicable, to the LLC operating agreement on the issue of transferability. Consistent with such a deferral, the Act contains no exclusivity provision with respect to charging orders. In short, the LLC Act gives greater deference to the member’s ability to negotiate the terms and conditions of the operating agreement. Therefore, to the extent the operating agreement provides for the transferability of a full membership interest in an LLC, the LLC Act is consistent with the postjudgment procedure statutes but ONLY if the charging order provisions are nonexclusive. If the charging order provisions are an exclusive remedy, the LLC Act becomes inconsistent with the postjudgment procedures statutes in situations such as the one presented here.
In other words, the Court was saying that so long as the Operating Agreement provided that the LLC interests were assignable and transferrable, then the LLC Act and the execution and levy statutes are consistent, but if the LLC interests were made to not be assignable or transferrable in the Operating Agreement, then a conflict would arise between the LLC Act and the execution and levy statute. Presumably, the Court wanted readers to then draw the conclusion that because the Operating Agreements here provided for the LLC interests to be assignable and transferrable, there was thus no conflict between the LLC Act and the execution and levy statute.
[Note: This foregoing particular conclusion of the Court is quite dubious.]
Moving on, Dunn next argued that the charging order remedy must be exclusive, or else it would violate a fundamental tenant of the LLC Act, which is that members may only freely choose their fellow members, and cannot have a creditor thrust upon them as an involuntary member. Voll countered to the effect that while such a concern might be of interest in other cases, it was not a concern here because Voll was already a member of the three LLCs.
Voll's simple argument was spot on, direct hit battleship, checkmate. At this point, the Court should have simply have adopted Voll's argument and declared that it's Miller Time!
Instead, the Court instead started to ramble about how the LLC Act promoted freedom of contract, and here the Operating Agreements provided that they could accept third-party strangers if a membership interest were assigned or transferred. To bolster this (lame) argument, the Court engaged in a long discussion of the holding of the Supreme Court of Florida in Olmstead v. FTC, 44 So.3d 76 (Fla., 2010), which dealt with a creditor's execution upon the debtor's interest in a single-member LLC, and which of course had nothing to do with the instant case that involved two members in Voll and Dunn.
Apparently, the Court was also trying to make the point that so-called "reverse veil piercing" can also be employed against a debtor's interest in an LLC as proof that the charging order remedy is not really "exclusive", which sort of makes sense in an odd way until one realizes that veil piercing (whether straight or reverse) is not a statutory post-judgment remedy like execution and levy, but rather in the way of court-created doctrine to reach an equitable result in cases where elevating corporate form over economic substance would lead to an unjust result.
In the end, the Court granted Voll's request for a declaratory judgment that his levy on Dunn's shares was appropriate and that Voll now owned Dunn's former interests in the three LLCs, and accordingly denied Dunn's claim for the opposite relief.
ANALYSIS
This is one of those cases where the Court reaches the correct result, Voll wins on the charging order issue, based on a bunch of shoddy, and sometimes flatly incorrect, reasoning. Fortunately, the Court had the good sense to designate that this Opinion would not be published so that no subsequent tribunal would be handcuffed into following its often faulty logic.
Admittedly, it would be better if the Connecticut LLC Act clearly provided that a charging order is the "exclusive remedy" among the numerous statutory post-judgment remedies that creditors may use to collect against a debtor's interest in an LLC. However as a fundamental tenant of LLC law, and partnership law from which LLC law largely derives, the charging order must naturally be the "exclusive remedy" anyway, because of the "pick your partner" (i.e., not be forced into a hostile partnership with somebody you never wanted to be a partner with) nature of the partnership and LLC acts.
I'm not going to waste any more time on the Court's faulty reasoning, but instead concentrate here on what is an important point: It may be that different rules apply to the situation where both the creditor and debtor are members of the same LLC, just as different rules apply to the situation of the single-member LLC -- both situations are anomalies in the area of charging order law.
The reason is found in the Court's moment of lucidity in its footnote 28, which correctly states that the purpose of charging order exclusivity is to prevent one member from being forced into an involuntary partnership with a creditor who is a stranger to the LLC, and Voll's observation that charging order exclusivity thus serves no purpose where the creditor is already a member of the LLC. That makes perfect sense, and has a good chance of becoming the rule in intra-member disputes such as these.
In disputes between members, it doesn't make any sense that the creditor/member would be restricted to a charging order against the interest of the debtor/member, at least in the situation where there are only two members, and the creditor/member holds a judgment in excess of the value of the debtor/member's interest. Otherwise, the utterly ridiculous result would obtain where the creditor/member owns 100% of the LLC, but the debtor/member still can interfere in the management of the LLC.
However, if there are three of more members with management rights, i.e., the creditor/member, the debtor/member, and some other member not a party to the dispute, this might not be the case if allowing the creditor/member to take the debtor/member's management rights would upset the balance of power between members.
Take, for instance, the situation where Able, Baker and Charlie are all 1/3rd members of an LLC and all have management rights. If Able takes Baker's interest with management rights, then Charlie would suddenly find himself as a minority member as to Able -- something which Charlie never agreed to. In that case, it might well be the Able is limited to a charging order against Baker's interest as if Able were a third-party creditor. But such wasn't the case here.
This issue of intra-member disputes can be, and arguably should be, addressed by planners when drafting the Operating Agreement for their clients. As LLCs continue to proliferate as the entity-of-choice by consumers, these sorts of disputes are likely to arise with some frequency, and indeed this is the second appellate opinion to address with issue within the last ten months, the other opinion being one from June 2014 that I wrote about in my article The Charging Order Is Wear It's At, LLC, In Intra-Member Dispute.
Another issue that arises in this case, but which the Court doesn't address, is whether Dunn may have waived his objection to the execution and levy procedure by not objecting to it at the time. Dunn presumably could have objected to the Marshal's levy before the auction, or at the time Voll moved to confirm the sale, but deliberately chose to do nothing. Maybe this was proper under Connecticut law, but it seems like a dangerous gambit since courts generally are quite reticent about unwinding a judicial sale after it has been confirmed.
Finally, in defense of the Court here, I will note that the partnership and LLC acts do a poor job of giving guidance to the courts as to what happens in situations involving charging orders, presuming that the state legislature will accordingly conform their post-judgment enforcement statutes to flesh out the charging order procedure -- but, with the rarest of exceptions (such as California), they never do.
Thus, the vast majority of courts must adopt what amount to their own ad hoc procedures based on their best understanding of this complicated area of the law. As here, courts will often and somewhat predictably get the some or all of the reasoning quite wrong, though usually and somewhat amazingly reaching the correct result. This is as much a commendation of our judicial officers who are trying to do the right thing under procedurally difficult circumstances, as it is an indictment of the utter lack of practical guidance provided by the partnership and LLC acts as to how this charging order thing (a rarity in American law that has its only significant and unique application to partnerships and LLCs) should be administered.
It is really no different than a recipe that gives a list of diverse ingredients and then says "cook it" -- it's a recipe for disaster.
CITE AS
Voll v. Dunn, 2014 WL 7461644 (Conn.Super., Unpublished, Nov. 10, 2014). Full Opinion at https://chargingorder.com/opinion-2014-connecticut-voll-charging-order.html
This Article at http://onforb.es/1Ickvxv and http://goo.gl/RZmwTe
