by Louis T. M. Conti and Gregory M. Marks
This is the third in a four-part installment of articles describing the new Florida Revised LLC Act (revised act), which took effect January 1. This installment addresses member dissociation, dissolution and winding up of the LLC, reinstatement after dissolution, and actions by members (direct and derivative). When reading the following descriptions of the new law, keep in mind that these are statutory “default” rules, which may be over-ridden or otherwise modified except to the extent provided in F.S. §605.0105 of the revised act.
Dissociation of a Member
The revised act significantly increases the ways in which a member may dissociate from an LLC. Existing law permits a member to withdraw only upon bankruptcy, dissolution, and winding up, or the occurrence of an event stated in the LLC’s articles of organization or operating agreement. The revised act1 adds no less than 10 new ways in which a member may dissociate (or be dissociated), depending upon whether the member is an individual or an entity, and if an entity, which type. The two most notable dissociation provisions may be the voluntary dissociation by express will, and the involuntary dissociation by expulsion.
Dissociation by express will recognizes the power of a member to withdraw from an LLC at any time. Withdrawal of a member affects the member’s dissociation, and under the revised act,2 a member may withdraw, rightfully or wrongfully, at any time. The operating agreement cannot vary a member’s power to dissociate.3 When a member wrongfully dissociates from an LLC, however, the wrongfully dissociated member incurs liability to the LLC and remaining members for any damage caused by the wrongful dissociation. This liability arises in addition to any other liability of the dissociated member to the LLC or other members. Any dissociation in breach of the operating agreement is deemed to be wrongful. The revised act4 expressly recognizes that the article of organization or operating agreement may prohibit an assignment of a member’s interest, such that a withdrawal effectuated by an assignment in violation of such a restriction would be deemed wrongful for this purpose. Additionally, dissociating before the LLC is wound up is deemed to be wrongful if it takes place by express will, by judicial order, in bankruptcy (in the case of a member-managed LLC), or by dissolution of a member that is an entity (other than an estate or nonbusiness trust).
Dissociation by expulsion can occur under one of two circumstances under the revised act.5 First, the operating agreement can prescribe a method by which a member may be expelled. Upon expulsion under the operating agreement, the member is dissociated. Absent a method for expulsion in the operating agreement, the members may unanimously agree to expel a member. Expulsion by unanimous consent is only available if the LLC cannot lawfully carry on its activities with the expelled member; the expelled member has transferred its entire transferable interest in the LLC (other than under a security agreement or a charging order that has not been foreclosed); or the expelled member is a corporation or other entity that is dissolved. It is noteworthy that under existing law the transfer of a member’s entire interest will automatically terminate the transferor’s status as a member, and that under the new law this will not occur unless the transferor’s expulsion must be unanimously approved. It may be advisable, therefore, to have the operating agreement provide for automatic dissociation to avoid the need for such an approval by all of the members.
Expulsion of a member can also be effectuated by judicial order in a case in which a member’s wrongful conduct adversely and materially affects the company’s activities and affairs, constitutes a willful or persistent and material breach of the operating agreement, violates fiduciary duties or other statutory standards of conduct (in the case of member-managed company), or makes it not reasonably practicable to carry on the company’s activities and affairs with that person as a member.6
The revised act7 describes the rights, obligations, and legal status of dissociated members. A dissociated member holds its transferable interest as a “transferee” only. The dissociated member has no right to participate in management, nor has any management obligations to the LLC. Also, a member’s dissociation does not discharge any debt that the dissociated member owes to the LLC or any member. Finally, the revised act eliminates the existing law’s prohibition on a dissociated member’s receiving a distribution, but the dissociated member’s status as a transferee means it will be entitled to distributions only at the time the dissociated member would otherwise have received them (which substantively has the same effect).8
Dissolution and Winding Up
The revised act does not change the events causing dissolution (upon an occurrence stated in the articles or operating agreement, upon the consent of all members, upon the passage of 90 days without a member, upon entry of a decree of judicial dissolution, or upon administrative dissolution); however, it significantly modifies the judicial dissolution procedure,9 comprehensively addresses winding up,10 and makes a few changes to administrative dissolution and reinstatement.11
• Judicial Dissolution Procedure — The revised act12 adds three new bases for judicial dissolution upon petition by a member or manager, creating five instances for seeking judicial dissolution. A court may dissolve an LLC upon a member or manager establishing that 1) the LLC’s activities are unlawful; 2) it is not reasonably practicable to carry on in conformity with its articles or operating agreement; 3) the controlling members or managers have acted illegally or fraudulently; 4) the company’s assets are being misappropriated or wasted, causing injury to the company or to one or more members; or 5) the managers or members are deadlocked and irreparable injury to the company is being threatened or suffered. The revised act eliminates a creditor’s right to petition a court for judicial dissolution.
The revised act13 now permits a “deadlock sale provision” in the LLC’s operating agreement to control over a judicial dissolution action brought based on member deadlock. A “deadlock sale provision” is any provision in the operating agreement which is, or may be, applicable in the event of a deadlock among members or managers, which can break the deadlock. For example, a buy-sell provision, a governance change, a “casting vote,” a call or put right, a forced partition or sale of the company or its assets, among other examples, are all forms of deadlock sale provisions.
This deadlock breaking mechanism incentivizes members to address in their operating agreement the possibility of future deadlock, and provides a mechanism to avoid the costly and uncertain litigation seeking judicial dissolution. Note, however, that except for such a deadlock sale provision, the operating agreement cannot vary the grounds for judicial dissolution.14
Another significant change to the dissolution procedure is the revised act’s15 adoption, with slight variation, of the Florida corporate statutory “Election to Purchase Instead of Dissolution” provision,16 which permits a corporation or its shareholders to buy out the shares of a shareholder seeking dissolution. As adopted, the revised act now authorizes an LLC or its members to purchase the interest of a member in a proceeding seeking judicial dissolution. An election to purchase, once filed with the court, is irrevocable unless the court determines that it is equitable to set aside or modify the election.
The revised act also borrowed the corporate law provisions for notice to, and inclusion of, other LLC members in the election to purchase, as well as the provisions regarding payment of “fair value” for the membership interest. The parties may agree on a fair value and terms for purchase of the interest, or if they cannot agree, one party may petition the court to determine fair value and the terms for payment, which may include payment of the fair value over time in installments. A court’s determination of fair value binds all parties. The revised act requires that a court preserve proportionate ownership in the LLC to whatever degree practical.
The revised act also borrows the Florida corporate statutory provisions pertaining to a court’s appointment of a receiver or custodian, and upon a showing of good cause, the court also has authority to order another remedy, in its discretion, including equitable remedies. The new law also sets forth the broad powers and authority of a receiver or custodian.
• Winding Up — In clearly bifurcating dissolution from winding up, the revised act17 assigns several obligations to each phase. Dissolution still includes filing articles of dissolution and provides the LLC’s right to revoke the articles of dissolution within 120 days.18 However, in departing from existing law, rather than requiring the LLC to declare in its articles of dissolution that it has discharged its debts, distributed its assets, and provided for satisfaction of any suits, the revised act19 properly assigns that activity to the winding up phase. Filing articles of dissolution as soon as an event of dissolution occurs initiates the winding up phase.20 A new nonwaivable provision21 makes it clear that the operating agreement cannot vary certain aspects of the requirements for winding up the company’s affairs.
If the LLC has no members, the articles of dissolution must appoint a person to wind up the LLC. Otherwise, the members or managers (as appropriate) upon dissolution must wind up the affairs of the LLC. An LLC with no members may be wound up by the legal representative of the last person to have been a member. If the legal representative declines, then transferees holding a majority of rights to distributions from the LLC may appoint someone to wind up the LLC. On application, or in a judicial dissolution, a court may supervise the winding up of an LLC, including appointing a person (who may be a receiver or custodian) to wind up the LLC. A person appointed to wind up the dissolving LLC has the power of a sole manager.
Winding up enables a dissolving LLC to discharge or provide for the discharge of liabilities, close the LLC’s activities, and distribute the LLC’s assets in as orderly a manner as practical. In winding up, an LLC may preserve its activities for a reasonable time, prosecute and defend actions, sell property, settle disputes by mediation or arbitration, and do any other necessary acts.
The revised act22 retains, in substantially similar form, the existing law’s priority for discharging liabilities and distributing assets. The revised act23 also retains the existing law’s elective procedures for notification and satisfaction of any “known claims,” and any conditional, contingent liabilities and unmatured claims.
The revised act24 establishes a new procedure for resolution of unknown claims against the LLC, by which a dissolving LLC may publish notice of and provide for satisfaction of any unknown claims. This procedure is essentially the same as the one that applies to unknown claims under the existing corporation and limited partnership statutes, and enables a dissolving LLC to file a notice to creditors with the Department of State (on a prescribed form) or, alternatively, to publish a single notice of dissolution in a newspaper of general circulation to address unknown claims. The notice must state that the LLC is dissolving and must provide information about how potential claimants may present their claims. The revised act bars any unknown claim brought more than four years after a dissolving LLC files or publishes a notice in accordance with this procedure.
A dissolving LLC that complies with one of the two notification procedures pertaining to unknown claims may petition the court to determine a sufficient amount of security necessary to satisfy all contingent, unknown, and after-occurring claims.25 By posting the court-ordered security, a dissolving LLC satisfies all contingent, unknown, and after-occurring claims against it. For claims both known and unknown, the revised act26 retains the existing law’s limitation on the liability of any single member or transferee. A member or transferee may be held liable only for amounts up to its proportionate share of the claim and may not be held liable for an amount in excess of the total amount of assets distributed to that member or transferee.
To provide public notice of the end of the winding up phase, an LLC may (but need not) file a statement of termination with the Department of State.27 The statement of termination includes some of the attestations that the revised act eliminates from the articles of dissolution under current law, namely that the LLC has discharged its debts, distributed its assets, and provided for satisfaction of any suits. The filing of the statement of termination gives constructive notice of the termination, subject to a “burn-in” period of 90 days.28
The default rule29 for assets remaining after the discharge of all LLC obligations provides that assets must be distributed to members (and transferees), first, in proportion to the value of their unreturned capital contributions, and then in the same proportion in which they shared distributions before dissolution. In a case in which the default distribution rule applies, this would mean that the remaining amount would be distributed in proportion to the total capital contributions made to the company.30
• Administrative Dissolution and Reinstatement — The revised act makes a few noteworthy revisions to the administrative dissolution and reinstatement process that arise when an LLC fails to do one of the following four things: file an annual report, pay a fee or penalty, have a registered agent, or file a statement of change of registered agent or registered agent’s address. The revised act31 eliminates the provision in the existing law that expressly made the listed grounds for administrative dissolution nonexclusive. The revised act32 also modifies the reinstatement process after administrative dissolution. An administratively dissolved LLC may petition the department for reinstatement, and if the department determines that an application contains the required information, and that the information is correct upon payment of all fees and penalties, the department “shall” reinstate the LLC. Once reinstated, the reinstatement relates back to and takes effect as of the effective date of the administrative dissolution.
Existing law requires the LLC to exhaust all administrative remedies before petitioning the court for reinstatement. The revised act, however, eliminates the administrative exhaustion requirement, and permits judicial review of a denial of reinstatement within 30 days after notice of the denial by the department. Finally, the revised act eliminates the existing law provision declaring that a court’s decision in a reinstatement hearing is appealable.
Direct Actions by Members
Under the revised act, a member may bring a direct action against another member, manager, or the LLC, to enforce or protect the member’s individual rights and interests, including rights and interests under the operating agreement, the LLC act, or those arising independently of the member relationship. A member bringing a direct action must plead and prove an actual or threatened injury that is not solely the result of an injury suffered, or threatened to be suffered, by the company.33
There is no intent in the new language “arising independently of the member relationship” to create a new cause of action. Rather it is meant to clarify that a direct action may be warranted if a member has rights or interests adversely affected by the other members, managers, or the LLC, arising outside of the member’s status as a member.34
Derivative Actions by Members
There has been a material change in the revised act regarding derivative actions. Following the uniform act, the revised act now provides for demand futility as a change from existing law. So, a member may bring a derivative action to enforce the rights or interests of the LLC if the member first makes demand requesting that the company take “suitable action” to enforce the company’s rights, and the managers or other members do not take the suitable action “within a reasonable time not to exceed 90 days.” A member may also bring a derivative action if a demand under subsection (1) would be futile, i.e., irreparable injury would result to the company by waiting for the managers or other members to take the action to enforce the company’s rights.35
The reasons for moving away from universal demand and including demand futility are primarily two-fold. First, demand futility is part of RULLCA §802, and, second, there are numerous closely held Florida LLCs operating today, and many of them are managed by members or managers who are the subject of much of the litigation brought by other members seeking derivative actions to enforce company rights (e.g., an action to preserve company assets or prevent company waste, or to hold someone accountable for breach of their fiduciary duties). In those instances, it would be futile to ask such a member or manager in control of the company to take actions against themselves. Moreover, as you will see below, the revised act now provides that in certain instances where irreparable injury may result from delay, a member may bring a derivative action without demand if he or she can establish the potential for irreparable harm if the action were delayed. An example may be when the manager or member in control is attempting to transfer or sell the company’s assets for less than fair value, or in a transaction in which those in control have a clear conflict of interest, and the member is seeking an injunction on behalf of the company.
The revised act added the 90-day maximum time frame for demanded actions. RULLCA only required action within a “reasonable time,” but the drafting committee felt that left too much potential for abuse. Second, RULLCA provides for demand futility, but does not have “irreparable injury” as a basis for avoiding demand.
To be a proper plaintiff in a derivative action, the person seeking the action must be a member at the time the action is commenced, and 1) must have been a member when the conduct giving rise to the action occurred; or 2) must have obtained their status as a member by operation of law or pursuant to the terms of the operating agreement from a person who was a member at the time of the conduct.36
Special Litigation Committee
As in existing law, in a derivative action, an LLC may appoint a special litigation committee (SLC) to investigate claims asserted in the proceeding to determine whether it is in the best interests of the company that the action should be pursued in the name of the company. The SLC must be composed of one or more disinterested and independent individuals, who may be members, managers, or complete outsiders. In some instances one or more industry or legal experts may be retained as the SLC.
The SLC is appointed either by the company if it meets the statutory requirements for being able to select the SLC (which varies based on whether the company is member managed or manager managed); or the company can move to ask the court to appoint the SLC.
Once appointed, the SLC may 1) continue the lawsuit as a derivative lawsuit under the control of the plaintiff; 2) continue the lawsuit under the control of the SLC; 3) dismiss the lawsuit; 4) settle the lawsuit; or 5) take any other action the SLC deems appropriate.37
The criteria for the SLC are that he, she, or they possess the requisite ability to make the required determinations, be independent, and act in good faith and with reasonable care. A properly comprised SLC, after its investigation must prepare a report that he, she, or they shall “file or cause to be filed” and serve on all parties.
If the SLC meets the foregoing requirements, the revised act provides that the court may enforce the determination of the SLC. This is a deviation from RULLCA, which provides that a court shall enforce the determination of the SLC if all of the requirements are met. The drafting committee, after much debate and some dissention, believed that it was better to leave discretion in the hands of the court as to enforcement of the SLC determination.
The revised act also provides rules for the burden of proof, and in F.S. §605.0806, provides that any benefits or proceeds from the derivative action belong to the company, not to the derivative plaintiff, but that a successful derivative plaintiff may be entitled to reasonable attorneys’ fees and costs.
1 Fla. Stat. §605.0602.
2 Fla. Stat. §605.0601.
3 Fla. Stat. §605.0105(3)(i).
4 Fla. Stat. §605.0601(4).
5 Fla. Stat. §§605.0602(4) and (5).
6 Fla. Stat. §605.0602(6).
7 Fla. Stat. §605.0603.
8 Fla. Stat. §605.0502(2).
9 Fla. Stat. §605.0702.
10 Fla. Stat. §§605.0707-605.0713.
11 Fla. Stat. §§605.0714-605.0716.
12 Fla. Stat. §605.0702(1).
13 Fla. Stat. §605.0702(2).
14 Fla. Stat. §605.0105(3)(j).
15 Fla. Stat. §605.0706.
16 Fla. Stat. §607.1436.
17 Fla. Stat. §§605.0707-605.0713.
18 Fla. Stat. §605.0707.
19 Fla. Stat. §605.0709.
20 Fla. Stat. §605.0707.
21 Fla. Stat. §605.0105(3)(k).
22 Fla. Stat. §§605.0710 and 605.0711(10).
23 Fla. Stat. §§605.0711(1)-(9).
24 Fla. Stat. §605.0712.
25 Fla. Stat. §605.0713.
26 Fla. Stat. §§605.0711-605.0712.
27 Fla. Stat. §605.0709(7).
28 Fla. Stat. §605.0103(4)(b)2.
29 Fla. Stat. §605.0710.
30 Fla. Stat. §605.0404.
31 Fla. Stat. §605.0714.
32 Fla. Stat. §605.0715.
33 Fla. Stat. §605.0801.
34 See RULLCA, Commentary to §801.
35 Fla. Stat. §605.0802.
36 Fla. Stat. §605.0803.
37 Fla. Stat. §605.0804.
Louis T. M. Conti and Gregory M. Marks served as the chair and reporter, respectively, of the drafting committee. Conti is a partner in the Tampa office of Holland & Knight, a uniform law commissioner, and a former chair of the Business Law and Tax sections of The Florida Bar. Marks is a partner in the Sarasota office of Shumaker, Loop and Kendrick, and has served on the executive council of the Tax Section of The Florida Bar. Both authors have previously served in leadership positions of previous Florida Bar business entity drafting committees.
This column is submitted on behalf of the Business Law Section, Stephen E. Nagin, chair, and Mark Nichols, editor.