Involuntary Expulsion of Troublesome Members Under Florida’s Revised LLC Act
Far too often, limited liability company (LLC) members fail to consider the all-too-real risks of future deadlock or dissension, and thus fail to craft an operating agreement providing for a reasonable and equitable mechanism for removing an unruly member. Fortunately, Florida’s Revised Limited Liability Company Act (revised act)1 contains several new provisions to facilitate the involuntary dissociation of a troublesome member. First, judicial dissociation, or rather, what the revised act refers to as judicial “expulsion,” provides for the involuntary dissociation of a troublesome member upon application by another member or the company to the court.2 While judicial expulsion is one of the more noteworthy changes to the revised act, a member can also be involuntarily “expelled” by the unanimous consent of the other LLC members (although expulsion by consent does not focus solely on troublesome members).3
Thus, whether by judicial fiat or unanimous consent of the other members, Florida LLCs’ newly found ability to dissociate an unruly member makes it more attractive for companies to do business in Florida, particularly when an operating agreement fails to address the involuntary dissociation of a member.
Background and Effective Dates
The revised act was enacted in 2013 and took effect January 1, 2014, for new Florida LLCs and January 1, 2015, for all Florida LLCs. The revised act is a thorough overhaul of Florida’s Limited Liability Company Act (old act) and is based on the Revised Uniform Limited Liability Company Act of 2006, as amended in 2011 (RULLCA).4
Like the old act, the revised act is a “default statute” in that it provides default rules that must be followed when there is no operating agreement; the operating agreement does not address a particular issue; or the operating agreement purports to modify or waive certain statutory rights and provisions that cannot be modified or waived under the revised act.5 LLC members attuned to the statutory requirements will have comprehensive operating agreements intended to address significant default rules that may be altered and the most common issues that arise among the members, managers, and company. Nevertheless, an LLC’s operating agreement may not address every default rule or issue that arises, such as the necessity of dissociating an unruly member and the mechanisms by which to do so.
Involuntary Dissociation Under the Revised Act 6
Involuntary dissociation, or dissociation by expulsion, can occur under one of two circumstances. First, the operating agreement can prescribe a method by which a member may be involuntarily expelled.7 However, absent a method for expulsion in the operating agreement, the members may unanimously vote to expel a member.8 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 his or her entire transferrable interest in the LLC; or the expelled member is a corporation or other entity that is dissolved.9 Thus, expulsion by unanimous consent under the revised act arguably only applies to unruly members to the extent the lawful activities of the LLC can no longer be carried on.
Judicial expulsion, on the other hand, permits members of an LLC, with no contractual means of extricating themselves from a deadlock or other impasse, to apply to the court to dissociate a member who engages in “wrongful conduct” that “adversely and materially” affects the LLC’s business or “willfully or persistently” commits a “material breach of the operating agreement” or for material violations of the member’s duties under the revised act.10 T he revised act also authorizes dissociation by the court when a member engages in conduct “which makes it not reasonably practicable to carry on the activities and affairs with the person as a member.”11 Judicial expulsion, therefore, is particularly helpful when unforeseen conflicts arise after an LLC is formed and the operating agreement fails to include a method by which to resolve those conflicts.
Rights, Obligations, and Legal Status of a Dissociated Member
The revised act’s use of the word “expulsion” in connection with the involuntary dissociation of a member connotes the complete and full termination of that member’s rights and interests in the LLC. Indeed, the word “dissociation” ordinarily is defined as the “disconnection or separation of something from something else.”12 However, per the terms of the revised act, the involuntary expulsion of a member does not actually “oust” or “banish” that member from the LLC, thus, terminating any and all of the member’s rights or interests.13 Rather, judicial dissociation simply serves to limit a member’s rights by precluding them from participating in the management of the LLC’s affairs.14 This is appropriate because the member’s participation is what is giving rise to the troublesome conduct. Such limitations include terminating their future fiduciary duties,15 which, by their troublesome conduct, the dissociated member is presumably violating. Dissociation also restricts the dissociated member’s interest to include only the member’s economic rights.16
Regardless of whether a member becomes dissociated by judicial decree, unanimous consent, or even voluntarily by express will, the member’s right to participate in the management and conduct of the LLC’s activities and affairs ends. So too do their fiduciary obligations to the LLC. Further, the member is limited to receiving distributions from the LLC only at the time he or she would otherwise have received them.17 Dissociation also does not relieve a member of any existing liabilities, debts, or obligations he or she owes to the LLC or other members. 18
The Interpretation and Application of the Revised Act’s Judicial Dissociation Language
Florida appellate courts, to date, have not had occasion to interpret or apply the revised act’s judicial expulsion or unanimous consent language since the act’s enactment in 2013. Even though judicial expulsion provisions now appear in numerous states’ LLC acts, the caselaw addressing judicial expulsion is sparse. Given this lack of caselaw, as discussed below, courts in other jurisdictions have turned to LLC and partnership dissolution cases in order to interpret and apply their act’s judicial expulsion standards.
For example, in IE Test, LLC v. Carroll, 2014 WL 8132907 (Super. Ct. N.J. March 17, 2015), the Superior Court of New Jersey affirmed on appeal the trial court’s determination that the continued operation of an LLC with a member who demanded repayment of the LLC’s debt to him was not “reasonably practicable” within the meaning of New Jersey’s LLC act governing judicial dissociation.19 Because the superior court was not able to locate a reported decision interpreting subsection (b)(3)(c) of New Jersey’s LLC act, which provides for judicial expulsion if “the member engaged in conduct which makes it not reasonably practicable to carry on the business with the member as a member of the LLC,” or a decision interpreting verbatim language from the Revised Uniform Limited Liability Company Act (RULLCA),20 the court looked to LLC dissolution law to analyze the situation.21 The court noted that both New Jersey’s LLC act and the RULLCA permits judicial dissolution of an LLC “whenever it is not reasonably practicable to carry on the business in conformity with the operating agreement.”22
The court discussed and applied the Colorado Court of Appeal’s decision in Gagne v. Gagne, 338 P.3d 1152, 1159 (Colo. Ct. App. 2014), in which the Colorado court construed for the first time Colorado’s LLC act, which permitted judicial dissolution “if it is established that it is not reasonably practicable to carry on the business of the limited liability company in conformity with the operating agreement of said company.”23 The Colorado court set forth a number of factors to be considered in making the “not reasonably practicable” determination. These factors included: “(1) whether the management of the entity is unable or unwilling reasonably to permit or promote the purposes for which the company was formed; (2) whether a member or manager has engaged in misconduct; (3) whether the members have clearly reached an inability to work with one another to pursue the company’s goals; (4) whether there is a deadlock between the members; (5) whether the operating agreement provides a means of navigating around any such deadlock; (6) whether, due to the company’s financial position, there is still a business to operate; and (7) whether continuing the company is financially feasible.”24
Finding Gagne persuasive, the Superior Court of New Jersey applied the Colorado court’s factors to Carroll, holding that dissociation was warranted due to the irreparable deterioration of the members’ relationship following the one member’s insistence on repayment of the debt.25
On August 2, 2016, the Supreme Court of New Jersey reversed and remanded the superior court’s decision in Carroll, holding that expulsion under the LLC act’s “not reasonably practicable” standard was not necessarily satisfied by the mere existence of a conflict among members.26 In interpreting the statutory language, the Supreme Court found that subsection (b)(3)(c) requires a court to evaluate the LLC member’s conduct relating to the LLC, and assess whether the LLC can be managed notwithstanding that conduct, prior to expelling a member pursuant to the not reasonably practicable standard.27 According to the Supreme Court, this inquiry involved the consideration of a modified version of the factors set forth in Gagne:
“(1) [T]he nature of the LLC member’s conduct relating to the LLC’s business; (2) whether, with the LLC member remaining a member, the entity may be managed so as to promote the purposes for which it was formed; (3) whether the dispute among the LLC members precludes them from working with one another to pursue the LLC’s goals; (4) whether there is a deadlock among the members; (5) whether, despite that deadlock, members can make decisions on the management of the company, pursuant to the operating agreement or in accordance with applicable statutory provisions; (6) whether, due to the LLC’s financial position, there is still a business to operate; and (7) whether continuing the LLC, with the LLC member remaining as a member, is financially feasible.”28
The Supreme Court found that because the appellate court in Gagne construed a Colorado statute that addressed dissolution of an LLC and not the expulsion of an LLC member, it was necessary to amend the Gagne factors to better conform to the judicial dissociation language found in the New Jersey statute.29
As Florida caselaw in this area develops, select cases in both Florida and other jurisdictions interpreting and applying the “not reasonably practicable” language in both the LLC and partnership dissolution contexts may be instructive. In Horizon/CMS Healthcare Corp. v. Southern Oaks Health Care, 732 So. 2d 1156 (Fla. 5th DCA 1999), the Fifth District Court of Appeal affirmed the trial court’s order of dissolution noting that dissolution fell within the scope of §620.8801(5) (c), permitting judicial dissolution of a partnership when “[i]t is not otherwise reasonably practicable to carry on the partnership business in conformity with the partnership agreement.”30
In Horizon/CMS, Horizon and Southern Oaks entered into several partnership and management contracts for the ownership of a new 120-bed nursing home facility and a preexisting facility formerly owned by Southern Oaks.31 Three years into the 20-year partnership, Southern Oaks sued alleging numerous defaults and breaches by Horizon.32 Horizon claimed irreconcilable differences between the two entities and sought dissolution of the partnership under both an express provision of the partnership agreement and Florida’s version of the Revised Uniform Partnership Act (RUPA).33 After finding largely in favor of Southern Oaks, the trial court ordered dissolution of the partnership “finding that the parties to the various agreements which are the subject of this lawsuit are now incapable of continuing to operate in business together.”34 Although the issue on appeal centered around Southern Oaks’ entitlement to damages for lost future profits, the Fifth DCA noted that “[w]hile ‘reasonably practicable’ is not defined in RUPA, the term is broad enough to encompass the inability of partners to continue working together, which is what the [trial court] found.”35
Interestingly, the few cases that do discuss judicial dissociation fail to interpret the “material breach” or “wrongful conduct” bases for dissociation found in the various states’ (and in Florida’s) LLC acts. The New Jersey Superior Court, in All Saints University of Medicine Aruba v. Chilana, 2012 WL 6652510 (Super. Ct. N.J. Dec. 24, 2012), even sidestepped a “wrongful conduct” analysis despite the fact that appellants’ alleged wrongful conduct was the most contentious issue raised in the appeal.36 The court found it easier to justify dissociation under the “less stringent” not reasonably practicable standard: “Given these significant differences in the applicable statutory tests, we elect to confine our analysis to the trial court’s determination under subsection 3(c) — the less stringent provision — rather than subsection (a).”37 Nevertheless, the “material breach” and “wrongful conduct” bases for involuntary dissociation are less likely to be problematic or in need of judicial interpretation simply because the “material breach” of an operating agreement is a familiar concept and well-developed in contract law. The same is true regarding the concept of “wrongful conduct” that is equally well-developed in tort jurisprudence.
The revised act’s introduction of involuntary expulsion highlights the importance of including a forced buyout provision in an LLC operating agreement, especially since a dissociated member retains his or her rights to the economic benefits of their membership even though that member’s fiduciary duties terminate upon dissociation. A buyout provision triggered by dissociation could prevent the dissociated member from competing with the LLC while preserving the member’s right to receive distributions and other economic benefits from the LLC.38
Involuntary dissociation is an important tool for LLCs as it limits the risks associated with alternative, more intrusive mechanisms for dealing with troublesome members, such as judicial dissolution, wherein the fate of the company usually lies in the hands of a judge. Accordingly, LLCs should consult with their legal advisors during and after formation to ensure that their operating agreements not only address the revised act’s new involuntary dissociation provisions, but also the consequences of any such dissociation for its members and company.
1 The revised act is codified at Fla. Stat. Ch. 605.
2 Fla. Stat. §605.0602(6).
3 Fla. Stat. §605.0602(5).
4 Louis T.M. Conti & Gregory M. Marks, Florida’s New Revised LLC Act, Part I, 87 Fla. Bar J. 8 (Sept/Oct 2013).
5 Fla. Stat. §605.0105.
6 Under the revised act, a member of a Florida LLC can also dissociate voluntarily at any time, rightfully or wrongfully, by withdrawing as a member by express will. Fla. Stat. §605.0601(1) and §605.0602(1).
7 Fla. Stat. §605.0602(2), (4).
8 Fla. Stat. §605.0602(5).
10 Fla. Stat. §605.0602(6).
12 Dissociation, Merriam-Webster’s Collegiate Dictionary (11th ed. 2016); Black’s Law Dictionary does not define “dissociation” but does define “dissociate”: “To regard (two things or people) as separate and not connected to each other.” Dissociate, Black’s Law Dictionary (10th ed. 2014).
13 Fla. Stat. §605.0603(1).
14 Fla. Stat. §605.0603(1)(a).
15 Fla. Stat. §605.0603(1)(b). This would not necessarily be the case in a manager-managed LLC.
16 Fla. Stat. §605.0603(1)(c); §605.0710(1)-(2)(b); §605.1006.
17 Fla. Stat. §605.0404(2).
18 Fla. Stat. §605.0603(2).
19 IE Test, LLC, 2014 WL 8132907, reversed and remanded, 226 N.J. 166, 140 A.3d 1268 (Sup. Ct. N.J. Aug. 2, 2016).
20 New Jersey’s LLC act was repealed effective March 18, 2013, and replaced with the RULLCA. The superior court notes that the provision of the LLC act at issue in Carroll remained “essentially unchanged in the RULLCA.” Id. at *1, fn.1.
21 Id. at *5-6.
22 Id. at *6.
23 Id. (citing Gagne v. Gagne, 338 P.3d 1152, 1159 (Colo. Ct. App. 2014)).
25 Id. at *7.
26 IE Test, LLC v. Carroll, 226 N.J. 166, 140 A. 3d 1268, 1275-79 (Sup. Ct. N.J. Aug. 2, 2016).
27 Id. at 1275-79.
28 Id. at 1279.
29 Id. at 1279, fn.7.
30 Horizon/CMS, 732 So. 2d at 1160-61.
31 Id. at 1157.
33 Id. at 1157-58.
34 Id. at 1157.
35 Id. at 1160.
36 Chilana, 2012 WL 6652510 at *14-18.
38 Consideration should also be given to whether in a manager managed LLC dissociation as a member would also disqualify a manager from participating in the management of the LLC.
Dennis A. Nowak is a partner in the Miami office of Rumberger, Kirk & Caldwell, P.A. An experienced trial lawyer for over 30 years, he represents clients in securities class actions, shareholder derivative lawsuits, securities litigation, including corporate governance litigation, business torts, internal investigations, financial institution litigation, mergers and acquisitions, and real estate litigation. He also represents clients in investigations and enforcement actions by the Securities Exchange Commission, the Federal Deposit Insurance Corporation, and other regulatory agencies.
Caitlin M. Trowbridge is an associate in the Miami office of Rumberger, Kirk & Caldwell, P.A. She handles cases for individuals and corporate entities in a variety of state and federal litigation matters, including complex corporate disputes, securities law violations, breach of contract and warranty claims, officer and director liability, commercial landlord/tenant matters, foreclosures, and insurance coverage disputes.