Question: “Does a member of an Arizona limited liability company owe other members of the company any fiduciary duties?
Answer: A March 27, 2014, Arizona Court of Appeals opinion in the case of TM2008 Investments, Inc., vs. ProCon Capital Corp. says that the members of an Arizona limited liability company do not owe any fiduciary duties to the other members unless the members signed an Operating Agreement that creates and imposes contractual fiduciary duties on the members.
Since the TM2008 Investments case involves fiduciary duties we should first explain what the term means. The Cornell University Law School Legal Information Institute says the following about fiduciary duties:
“A fiduciary duty is a legal duty to act solely in another party’s interests. Parties owing this duty are called fiduciaries. The individuals to whom they owe a duty are called principals. Fiduciaries may not profit from their relationship with their principals unless they have the principals’ express informed consent. They also have a duty to avoid any conflicts of interest between themselves and their principals or between their principals and the fiduciaries’ other clients. A fiduciary duty is the strictest duty of care recognized by the US legal system.”
If a person owes a fiduciary duty to another person it also means it is much easier for the principal to sue the fiduciary for breach of a fiduciary duty and win a judgment because there is a higher standard of care associated with the fiduciary duty than would otherwise apply.
The TM2008 Investments, Inc., vs. ProCon Capital Corp. case arises from a dispute among the two members of Doveland Developments, LLC, a company formed to buy land and develop it into homes. Unfortunately the project was not successful. The lender threatened to foreclose and sell the land and go after the owners of the two members (Steve Tackett and Bonnie Vanzant) of Doveland Developments, LLC, because they had personally guaranteed the payment of the loan. The members of Doveland Developments, LLC, are TM2008 Investments, Inc., and ProCon Capital Corp.
When the lender notified the parties that the loan was in default Bonnie Vanzant paid the loan in full. She then sued Steve Tackett under an indemnification agreement they had signed to collect from Steve one half of the money Bonnie paid to the lender under her personal guaranty of the loan. TM2008 Investments filed a petition to dissolve and liquidate Doveland Developments due to the inability to conduct business in light of the members’ substantial disagreements. ProCon Capital filed counterclaims against TM2008 Investments for breach of the implied covenant of good faith and fair dealing (count 1) and breach of contract (count 3), and against TM2008 Investments and the Bonnie and James Vanzant personally for breach of fiduciary duty (count 2).
The lawsuits were consolidated. The trial court granted Bonnie Vanzant’s motion for summary judgment on the indemnification claim, but denied TM2008 Investments’ motion for summary judgment on the counterclaims. Just before trial, ProCon Capital voluntarily dismissed with prejudice counts 1 and 3. After jury trial on the claim for breach of fiduciary duty, the jury returned a verdict in favor of ProCon Capital and against TM2008 Investments and the Vanzants personally for $1,039,754. The losers appealed.
The primary issue before the Arizona Court of Appeals was whether or not Arizona’s limited liability company law provides that a member of an Arizona LLC owes a fiduciary duty to the other members of the LLC. ProCon Capital argued that because Arizona corporate and partnership law create fiduciary duties on shareholders and partners, respectively, Arizona law must therefor create fiduciary duties on members of an Arizona LLC. The appellate court disagreed. The court said:
“We decline in this case to mechanically apply fiduciary duty principles from the law of closely-held corporations or partnerships to a limited liability company created under Arizona law. The legislature did not explicitly outline any such duties for members of an LLC; instead, the LLC Act allows the members of an LLC to not only create an operating agreement, but also delineate in that agreement the duties members owe one another.”
Translation: The court said Arizona’s LLC statutes do not subject members of Arizona LLCs to any fiduciary duties and neither do any Arizona appellate court opinions.
However, the court said that an Operating Agreement can contain language that creates one or more fiduciary duties on members. The Operating Agreement of Doveland Developments, LLC, contained this clause that ProCon Capital aruged created a fiduciary duty on TM2008 Investments, Inc, and Bonnie and James Vanzant:
It is agreed any Member shall not be liable to the Company or any other Member for any damages or the like relating to any vote, decision, action, inaction or the like taken on behalf of the Company in accordance with these provisions and other provisions of this Agreement if such is done in good faith and with reasonable business judgment including the duty to make management decisions with the care of an ordinarily prudent person in a like position and similar circumstances and in a manner believed to be in the best interests of the Company.
The appellate court found that the above quoted language did not create a fiduciary duty on the members.
The court reversed the trial court and sent the case back to the trial court.
Lessons to Be Learned
The TM2008 Investments, Inc., vs. ProCon Capital Corp. case stands for the following:
- Arizona’s statutes that govern Arizona limited liability companies do not create fiduciary duties on members.
- Members of an Arizona LLC can create one or more fiduciary duties by inserting appropriate language in the LLC’s Operating Agreement.
The issue of whether the Operating Agreement of a multimember Arizona LLC should or should not contain fiduciary duty provisions is a topic for another article. Hint: A member in control of an Arizona LLC would not want any fiduciary duties in the Operating Agreement, but the minority member would want the opposite.