In 1992, the Arizona legislature enacted the Arizona Limited Liability Company Act. Since that time the LLC has become the entity of choice for many individuals, businesses, partners and investors. While there obviously are differences between corporations and LLCs, attorneys in Arizona have always believed that there were many similarities.
For instance, when you form a corporation Articles of Incorporation must be filed with the Arizona Corporation Commission. When you form a LLC Articles of Organization containing generally the same type of information must be filed with the Arizona Corporation Commission. Shareholders in a corporation may enter into Bylaws that govern the shareholders, directors, officers and their various dealing with and among each other. Similarly, members in a LLC may enter into an Operating Agreement that governs the members and management of the LCC.
Based on the similarities and the abundance of Arizona case law on corporations, attorneys have looked to that law when dealing with issues between members of LLCs for the past twenty-one years. Part of the reason for this is that there still is, after so many years, little published case law on LLCs regarding issues between members and or managers.
When issues of wrongdoings have arisen between members in a LLC, breach of fiduciary duty claims have been brought in state court lawsuits. Recently, in a lawsuit I am involved with in bankruptcy court, these issues were dealt with in a surprising manner by the bankruptcy judge.
The bankruptcy judge dismissed claims based on breach of fiduciary duty based on the belief that there are no fiduciary duties between members of a LLC unless they are specifically provided for in an operating agreement. This was shocking to me, as well as to other attorneys at my firm and other firms who I spoken with about this issue. The bankruptcy judge specifically said the Arizona Limited Liability Company Act does not state that there are fiduciary duties between members, there is no Arizona case law on the issue and declined to impose fiduciary duties on members unless specifically set forth in the operating agreement.
As always, whether the potential lack of fiduciary duties is good or bad depends on the position of you or your client. There are situations where you or your client will or won’t want there to be fiduciary duties between LLC members. Because of this, the important takeaways include the following:
- At the time LLCs are being formed if you or your client want there to be fiduciary duties between members put it in the operating agreement to be safe.
- If you don’t want there to be fiduciary duties between members specifically state there are no fiduciary duties on the operating agreement.
- It is impossible to know what other Arizona state, federal or bankruptcy judges will find on this issue in any given case based on my recent experience.
- Attorneys need to be speaking with their clients about this issue to determine whether an existing operating agreement needs to be amended.
If you or your clients have concerns with this type of issue, please let me know if I may be of assistance in discussing and analyzing the issues so educated decisions can be made about either existing relationships between members or where there have been actions that appear to support a claim for a breach of fiduciary duties between LLC members.