LLC's Nevada Lawsuit Almost Ended by Failure to Pay Its $125 Annual Franchise Fee
The plaintiff in AA Primo Builders, LLC v. Washington, No. 53983, 2010 Nev. LEXIS 55 (Nev. Dec. 30, 2010), saw its three-year-old lawsuit thrown out because it failed to pay its annual $125 fee to the Nevada Secretary of State. (“For want of a nail ….”) When the case was dismissed the LLC quickly paid the fee and filed the required annual report, but the trial court refused to allow the LLC to reinstate its lawsuit.
Many states require LLCs to file an annual report and pay an annual fee. For example, besides Nevada’s $125 fee, Delaware’s annual LLC fee is $250, and Washington’s is $69. Delaware Limited Liability Company Act (DLLCA) § 18-1107(b); Wash. Admin. Code § 434-130-090.
Failure to pay the fee or file the annual report can result in the LLC no longer being in good standing (Delaware, DLLCA § 18-1107(h)) or being administratively dissolved (Washington, Wash. Rev. Code § 25.15.280). These are enforcement mechanisms – upon later payment of the fees and filing of the required report, the LLC can be reinstated. DLLCA § 18-1107(i); Wash. Rev. Code § 25.15.290.
Nevada’s LLC Act provides that after an LLC has been in default of its filing and annual fee requirement for 12 months, “the charter of the company is revoked and its right to transact business is forfeited.” Nev. Rev. Stat. § 86.274(2). The LLC may then pay all the accrued fees and apply for reinstatement at any time up to five years after the initial default. Nev. Rev. Stat. § 86.276.
The trial court in AA Primo Builders apparently reasoned that if the LLC could not transact business then it could not maintain a lawsuit, and that the LLC’s reinstatement did not cure its default. On appeal, the Nevada Supreme Court overruled the trial court.
The court found three reasons to allow an LLC whose charter is revoked and then reinstated to continue its litigation. AA Primo Builders, 2010 Nev. LEXIS 55, at *13-14. First, an LLC’s right to “transact business” is separate from its capacity to sue and be sued. Id. Second, the LLC’s reinstatement relates back to the date of forfeiture as if the right to transact business had at all times remained in force. Id. at *14. Third, dismissal of the suit because of forfeiture of the LLC’s charter should not be ordered without first staying the case for a brief time to allow the LLC to reinstate its charter. Id.
The court relied in part on Nev. Rev. Stat. § 86-274(5), which says that if an LLC’s charter is revoked, “the same proceedings may be had with respect to its property and assets as apply to the dissolution of a limited-liability company.” A dissolved LLC must be wound up, and the dissolution does not impair any remedy or cause of action by or against the LLC. Nev. Rev. Stat. § 86-505.
The syllogism runs as follows. Major premise: a dissolved LLC can sue and be sued. Minor premise: an LLC whose charter has been revoked for nonpayment of fees is treated like a dissolved LLC. Conclusion: An LLC whose charter has been revoked can sue and be sued. The Nevada Supreme Court accordingly reversed the trial court and remanded to allow the LLC’s lawsuit to proceed.
It happens fairly frequently that LLCs fail to file their annual report and pay their annual fees. Usually the LLC will eventually learn of the problem and reinstate itself. If a lawsuit is underway, courts in most states will generally allow the LLC to continue with its suit if it is reinstated. Nevada’s statute was not clear on the point because its terminology – revoking the LLC’s charter and forfeiting the LLC’s right to transact business – connotes permanence and a lack of power to operate.
As a policy matter, AA Primo Builders came out the right way. The fact pattern involved an LLC that was properly formed but later failed to pay a modest annual fee and make a routine, administrative annual report. The consequence, revocation its charter, is an enforcement mechanism, a spur to cause the LLC to come into compliance with its reporting and payment obligations.
To take away an LLC’s ability to sue in court because it overlooked paying a smallish annual fee, even though the LLC then pays its annual fees up to date and fills out its forms, would be more than is necessary for the state’s enforcement mechanism. It would be akin to killing the dog to eliminate its fleas.
Texas Joins the Series LLC Crowd
Texas has joined the seven other states that have authorized series LLCs. The Texas bill authorizing series LLCs was signed by Governor Perry in May and will become effective on September 1, 2009. S.B. 1442. The states that currently authorize series LLCs are Delaware, Illinois, Iowa, Nevada, Oklahoma, Tennessee and Utah.
Most state LLC acts allow an LLC to provide for classes of members with different member rights per class. But a series LLC can go further by establishing multiple series of assets, members and managers. The debts and obligations of a series will be enforceable only against the series’ assets, and will not be enforceable against the other series in the LLC or against the LLC generally, and vice versa. The members associated with a series can be given separate rights and duties with regard to the assets of the series.
The separation of assets and partitioning of liabilities between series, all within one LLC, can avoid many of the inefficiencies and costs associated with multiple related entities. For example, a series LLC could be used to hold multiple parcels of real estate, each in a separate series and all within the one LLC. Or, separate divisions of a business could be held by one LLC, but with each division in a separate series.
The Texas statute is similar in many respects to the Delaware act. Both authorize an LLC’s operating agreement to establish one or more designated series. Both acts provide that the liabilities of a series are enforceable only against the assets of the series and not against the LLC generally (and vice versa), if
(a) the records of the series account for its assets separately from the assets of any other series or the LLC generally,
(b) the operating agreement states the liability limitations, and
(c) the certificate of formation gives notice of the limitations on liability.
Each series may in its own name sue and be sued, contract, and hold title to its assets, including real estate and personal property.
Series LLCs can be useful, but there are legal uncertainties involved in their use. Series LLCs are relatively new – Delaware was the first state to authorize series LLCs, in 1996, and there is almost no case law on them. Major areas of uncertainty involve taxation, bankruptcy, and doing business in multiple states.
There are many open tax questions with regard to series LLCs. Although the Internal Revenue Service issued a Private Letter Ruling in 2008 and clarified that each series’ federal tax characterization is determined independently, other state and federal tax questions remain.
It is unclear whether an LLC series will be treated as a debtor in federal bankruptcy court, or whether the bankruptcy court will ignore the series and only consider the entire LLC. The result may depend on whether the relevant state law will treat the series as a separate entity with its own liability shield.
Including Texas there are now eight states whose LLC acts authorize series LLC, but that leaves 42 other states with no series provisions in their acts. It is not at all clear what the courts of a non-series state would do when faced with a claim by a local creditor against an out-of-state series LLC formed under the laws of, say, Delaware. Will the non-series state honor the series structure and respect the internal liability shield? Would a non-series state even allow a series of an LLC formed under the laws of another state to register to transact business in the non-series state?.jpg)
The law of series LLCs is an infant, still a little unsteady on its feet. But at one time LLCs were new and LLC law was the infant. There were many articles back then pointing out the uncertainties and risks of using LLCs when they were first adopted by Wyoming in 1977 and later by other states. Many conservative lawyers recommended against using LLCs in the early years of their authorization by the various states, but eventually all the states authorized LLCs. Today LLC law is more mature and LLCs are the most popular entity form for new businesses. History predicts that the question for series LLCs is not whether they will become routinely used, but when.
