January 2014 Archives

Michelle Philo Appointed as Orange County Bar Association Young Lawyers Division Social Committee Chair

Congratulations to Michelle Philo, Kring & Chung, Associate, has been appointed to serve as the 2014 Social Committee Chair for the Orange County Bar Association Young Lawyers Division (OCBA YLD). The Social Committee Chair is responsible for chairing a committee of young lawyers, overseeing the development of networking opportunities, and providing opportunities for young lawyers to engage in the legal community. Events in the past have included happy hour mixers, karaoke, destination events such as Del Mar races, co-hosted events with local affiliate bar associations, and the annual holiday party. Philo is honored to serve in this capacity as she believes the connections made as young lawyers can greatly assist in the development of a young attorney's networking events for the 2014 year. 

Managing partner, Kenneth W. Chung and partner Laura Hess selected as 2014 Super Lawyers

Congratulations to Managing Partner, Kenneth W. Chung, and Partner, Laura Hess, for being selected for inclusion in the 2014 Southern California Super Lawyers list. Super Lawyers is a rating service of outstanding lawyers from various practice areas who have attained a high-degree of peer recognition and professional achievement.

The selection process is multi-phased and includes independent research, peer nominations and peer evaluations. Each candidate is evaluated on 12 indicators of peer recognition and professional achievement. Selections are made on an annual, state-by-state basis with no more than 5% of the attorneys in California being selected as Super Lawyers.

LLC Operating Agreements Should be Reviewed in Light of the New LLC Law.

By: Kenneth W. Chung

Effective January 1, 2014, the California Revised Uniform Limited Liability Act became the new law governing limited liability companies in California. This new law replaced the prior law known as the Beverly-Killea Act which was enacted in 1994. The new law applies to (i) all domestic LLCs existing on or after January 1, 2014; (ii) all foreign LLCs registered with the California Secretary of State prior to, on or after January 1, 2014; and (iii) all actions taken by managers of members of an LLC on or after January 1, 2014.

Employment Law Update: New Laws in 2014

By: Allyson K. Thompson

The California Legislature was busy this year regarding employment law. Several new employment related requirements were enacted that went into effect on January 1, 2014, unless otherwise specified. Some of the more substantive changes deal with workers compensation, wage and hour, and expansions in regards to leaves of absence, among others. While not entirely exhaustive, the following is a brief survey of some of the new employment laws enacted. If you are interested in reading the actual legislation, bill numbers are referenced. You can access the bills at http://www.leginfo.ca.gov/index.html.

Court of Appeals Ruling Weakens Protection Afforded to Small Business Owners

By: Paul T. McBride

How many small California businesses operate along these lines?

Wayne and Linda, husband and wife, form a limited partnership, Airborne Turbine LP, to operate an airplane leasing business. Wayne and Linda are the limited partners. They form a corporation, Airborne Turbine, Inc., to act as the general partner of Airborne Turbine LP. Wayne and Linda are the sole shareholders and directors of Airborne Turbine, Inc. They are the sole employees of Airborne Turbine LP. They take "draws" from Airborne Turbine LP as needed to pay their personal bills, as the entity is their sole source of income. They hold one pro forma partnership meeting per year.

Another Good Reason to Analyze your Business Automobile Policies and Insurance

By: Kyle D. Kring

You are an employer and your employee is driving home from work when he or she accidentally hits another vehicle, injuring a third party. Do you think your business is legally responsible for the third party's injuries?

The Letter of The Law: January 2014

IN THIS ISSUE:

Employment Law Update: New Laws in 2014

EMPLOYMENT: Another Good Reason to Analyze your Business Automobile Policies and Insurance

CORPORATE LAW: LLC Operating Agreements Should be Reviewed in Light of the New LLC Law

CORPORATE LAW: Court of Appeals Ruling Weakens Protection Afforded to Small Business Owners

Employment Law Update: New Laws in 2014

By: Allyson K. Thompson

The California Legislature was busy this year regarding employment law. Several new employment related requirements were enacted that went into effect on January 1, 2014, unless otherwise specified. Some of the more substantive changes deal with workers compensation, wage and hour, and expansions in regards to leaves of absence, among others. While not entirely exhaustive, the following is a brief survey of some of the new employment laws enacted. If you are interested in reading the actual legislation, bill numbers are referenced. You can access the bills at http://www.leginfo.ca.gov/index.html.

Workers Compensation

SB 146 - Among other things, this bill allows an employer, pharmacy benefits manager, insurer, or third-party claims administrator to request a copy of the prescription during a review of any records of prescription drugs dispensed by a pharmacy. It also provides that any entity submitting a pharmacy bill for payment, on or after January 1, 2013, and denied payment for not including a copy of the prescription from the treating physician, shall have until March 31, 2014 to resubmit those bills for payment.

AB 1309 - Limits access to the California workers' compensation system for professional athletes employed by out-of-state teams. The bill provides that professional athletes who are employed by out of state teams may access the California workers' compensation system if: a) the athlete played at least two years for a California team, or b) played more than 20% of his or her career for a California team.

Background Checks

The question of when an employer can conduct a background check of prospective and current employees is a hot button issue. The State of California takes employee privacy seriously. Thus, this area is heavily regulated.

SB 530 - This bill provides that a potential employer may not ask for, seek, or utilize as a factor in determining any condition of employment, information about a conviction that has been judicially dismissed or ordered sealed.

The bill clarifies that an employer is not prohibited from asking an applicant about a criminal conviction or seeking from any source information regarding a criminal conviction of, or entry into a pretrial diversion, or similar program by the applicant, if because of any state or federal law any of the following apply:

  1. The employer is required by law to obtain information regarding a conviction of an applicant;
  2. The applicant will be required to possess or use a firearm in the course of his/her employment;
  3. An individual who has been convicted of a crime is prohibited by law from holding the position sought by the applicant, regardless of whether that conviction has been expunged, judicially ordered sealed, statutorily eradicated, or judicially dismissed following probation; or
  4. The employer is prohibited by law from hiring an applicant who has been convicted of a crime.

AB 218 - This bill requires that state and local agencies determine a job applicant's minimum qualifications before obtaining and considering information regarding the applicant's conviction history on an employment application.

More specifically, commencing July 1, 2014, this bill prohibits a state or local agency from asking an applicant for employment to disclose, orally or in writing, information concerning the conviction history of the applicant until the agency has determined that he or she meets the minimum employment qualifications, as stated in any notice issued for the position.

Discrimination & Retaliation

California has gone further than almost any other state in the nation to define protected categories for purposes of protection against discrimination and retaliation. California laws heavily favor employee rights and strongly penalize discrimination and retaliation in the workplace. Some of the new laws enacted demonstrate this strong public policy.

AB 556 - The amendment to existing laws adds "military and veteran status" to the list of categories protected from employment discrimination under the Fair Employment Housing Act. Military service was previously a protected category, but now veteran status has been included in the terminology of the category. The bill defines "military and veteran status" to mean a member or veteran of the United States Armed Forces, United States Armed Forces Reserve, the United States National Guard, and the California National Guard.

SB 292 - Clarifies that, with respect to an employment-related sexual harassment claim made under the Fair Employment and Housing Act (FEHA), sexually harassing conduct need not be motivated by sexual desire. This significantly lessens the burden of proof on an employee to prove sexual harassment.

Previously, for a plaintiff to prove a hostile work environment due to harassment based on sex, the United States Supreme Court in Oncale v. Sundowner Offshore Services, Inc. (1998) 523 U.S. 75, 80-81 established three primary evidentiary routes, as follows: (1) sexual intent or desire on the part of the defendant toward the plaintiff; (2) general hostility by the defendant toward a particular sex, of which the plaintiff is a member; or (3) comparative evidence about how the alleged harasser treated members of both sexes in a mixed-sex workplace. Although Oncale was a Title VII sexual harassment case, "California courts frequently seek guidance from Title VII decisions when interpreting the FEHA and its prohibitions against sexual harassment, "because FEHA and Title VII "share the common goal of preventing discrimination in the workplace." Lyle v. Warner Brothers Television Productions (2006) 38 Cal.4th 264, 278.

According to bill analysis, this new law was in direct response to the confusion created by Kelley v. Conco Companies (2011) 196 Cal.App.4th 191, which questioned a plaintiff's evidentiary requirement for a hostile work environment sexual harassment claim. The Court held in Kelley that a plaintiff in a same-sex harassment case must prove that the harasser harbored a sexual desire for the plaintiff in order to survive summary judgment. This decision directly contradicted Singleton v. United States Gypsum Co. (2006) 140 Cal.App.4th 1547, and ignored key provisions of the leading U.S. Supreme Court decision on same-gender sexual harassment, in Oncale.

This bill overturns the decision in Kelley, and clarifies that sexual harassment under FEHA does not require proof of sexual desire towards the plaintiff.

SB 496 - There has been confusion in the past as to whether an employee who makes a whistleblower claim must actually make a report to a governmental agency, as opposed to merely informing someone at the company about potentially illegal activity. This bill expands on whistleblower protections to protect employees who disclose, or may disclose, information regarding alleged violations "to persons of authority over the employee or another employee who has the authority to investigate, discover or correct the violation."

Wage & Hour

Most of the new employment laws for 2014 fall under this category. Wage and hour issues have been a hot bed of litigation for the past five years, with claims continuing to increase.

AB 10 - Increases the minimum wage in California to $9.00 per hour effective July 1, 2014 and to $10.00 per hour effective January 1, 2016.

AB 241 - This bill provides for increased protections for domestic workers, such as live-in maids and nannies. This bill enacts the "Domestic Worker Bill of Rights." "Domestic workers" or "household workers" are generally comprised of housekeepers, nannies and caregivers of children and others who work in private households to care for the health, safety and well-being of those under their care. The new law provides that a domestic work employee who is a personal attendant shall not be employed more than nine hours in any workday, or more than 45 hours in any workweek unless the employee receives one and one-half times the employee's regular rate of pay for all hours worked in excess of those amounts.

SB 435 - This bill covers employees that are entitled to "recovery periods" taken to prevent heat illness. This will affect farm workers and construction workers, amongst other specified trades. Specifically, this bill:

  1. Provides that, in addition to meal and rest periods, an employer shall not require any employee to work during any "recovery period" mandated by any applicable statute, regulation, standard or order of OSHSB or Cal/OSHA.
  2. Provides that an existing provision of law that requires an employer to pay an employee one additional hour of pay at the employee's regular rate of compensation for each work day that a meal or rest period is not provided also applies to work days that a "recovery period" is not provided.

If you are an employer required to provide "recovery periods," you should be taking steps to ensure that your employees are documenting when they are taking their recovery periods to avoid against lawsuits claiming a violation of this new law.

Immigration Issues

Among the new laws in this area, new protections address retaliation against immigrant workers who complain about unfair wages or working conditions.

AB 60 - This bill was designed to address issues regarding undocumented workers' ability to obtain a driver's license. This bill will, by January 1, 2015, require the DMV to issue a driver's license for the sole purpose of operating a motor vehicle, and cannot be used for identification or federal purposes. As a result, the provisions in this bill would allow persons unable to provide satisfactory proof of legal presence to apply for a driver's license, while not jeopardizing the state's efforts to reach Real ID compliance.

The license will bear a notation stating that the card is not acceptable for federal purposes, such as verifying eligibility for employment. That means that a prospective employee cannot use this card as an acceptable document for purposes of the Form I-9.

AB 263 - This bill provides that it shall be unlawful for an employer or any other person or entity to engage in unfair immigration-related practices against any person for the purpose of, or with the intent of, retaliating against any person for exercising any right protected under the Labor Code including complaining about wages or unfair employment practices. This is a penalty based law, authorizing penalties against employers who engage in unfair immigration-related practices, including a private right of action, which allows for attorneys' fees if the employee prevails. This bill adds a civil penalty of up to $10,000 per employee per violation of Labor Code section 98.6.

SB 390 - This bill provides that it is illegal for an employer to willfully fail to remit withholdings from an employee's wages pursuant to local, state or federal law to the proper agency. It also provides that if an employer fails to remit $500 or more in wage withholdings, the employer's violation is a misdemeanor and shall be punishable by imprisonment in a county jail for a period of not more than one year, by a fine of not more than $1,000, or both.

SB 462 - As previously indicated, the laws in California heavily favor employees. This new law further supports this policy. Existing law, Labor Code section 218.5, provides an award of attorneys' fees and costs to the prevailing party in an action brought for nonpayment of wages (other than minimum wage and overtime) fringe benefits, or health and welfare or pension fund contributions. This bill would add to this provision that a non-employee prevailing party (presumably the employer) could only be awarded attorneys' fees and costs if the court finds that the employee brought the court action in bad faith.

According to the legislative analysis for this bill, the sponsor of this bill, the California Employment Lawyers Association (CELA) argued that the two-way fee-shifting provision in Labor Code section 218.5 had a chilling effect on contractual wage claims. Although these claims may be relatively small, CELA asserts that the attorneys' fees racked up by employers as the case goes up and down the court system repel plaintiffs (and attorneys) from bringing these types of claims, which are typically filed with other claims such as for overtime, breach of contract, and breach of fiduciary duty.

SB 666 - This new law permits the state to suspend or revoke an employer's business license if the employer reports or threatens to report the immigration status of an employee because the employee complained about employment issues. It is important to note that the bill does not subject employers to suspension or revocation of their business license for requiring a worker to verify eligibility to work. Similarly, AB 524 was enacted to make it a crime to threaten to report the immigration status of an individual or his or her family members.

Prevailing Wages

It should be noted that there were a handful of laws enacted that affect prevailing wages. These bills include: AB 1336, SB 7, SB 54, SB 377 and SB 776. The most notable change to these premium wage laws is espoused in SB 54, which requires payment of prevailing wages in a privately funded refinery construction project.

Leaves & Benefits

Changes in leave laws may require employers to update their Employee Handbook, at a minimum by way of addendum, so that employees are informed of the right to take certain leaves of absence.

AB 11 - This bill requires an employer employing 50 or more employees to allow an employee who performs duty as a reserve peace officer or emergency rescue personnel to take temporary leaves of absence, for up to 14 days in a calendar year, to engage in fire, law enforcement, or emergency rescue training. The law previously only applied to volunteer firefighters and civil air patrol.

SB 288 - This bill expands on previous crime victim leave rights, and provides that an employer may not discharge or in any manner discriminate or retaliate against an employee who is a victim. This applies to taking time off from work for the following specified crimes: felony child abuse likely to produce great bodily harm or a death; assault resulting in the death of a child under eight years of age; felony domestic violence; felony physical abuse of an elder or dependent adult; felony stalking; solicitation for murder; a serious felony, such as kidnapping, rape, or assault; hit and run causing death or injury; and felony driving under the influence causing injury.

SB 400 - This bill enacts various employment protections for employees who are victims of domestic violence, sexual assault, or stalking.

Specifically, this bill extends specified existing protections for victims of domestic violence and sexual assault to also include victims of stalking. The bill prohibits an employer from discharging, discriminating or retaliating against an employee because of the employee's known status as a victim of domestic violence, sexual assault, or stalking, if the victim provides notice to the employer of the status, or if the employer has actual knowledge of the status. The bill also requires an employer to provide reasonable accommodations for a victim of domestic violence, sexual assault, or stalking who requests an accommodation while at work, including potentially implementing safety measures.

SB 770 - This bill broadens the definition of family within the Paid Family Leave (PFL) program to allow workers to receive partial wage replacement benefits while taking care of seriously ill siblings, grandparents, grandchildren, and parents-in-law. This legislation does not take effect until July 1, 2014.

Health Insurance

Another big area expected to see a bevy of changes is health insurance in the workplace. While no state laws were codified regarding health care, changes should be anticipated in light of the enactment of Obamacare, or formally the Affordable Care Act (ACA), which was signed into law on March 23, 2010, and upheld by the Supreme Court on June 28, 2012.

Stay tuned to the Kring & Chung Newsletter as we will be providing updates regarding employers' requirements pursuant to the ACA.

Another Good Reason to Analyze your Business Automobile Policies and Insurance

By: Kyle D. Kring

You are an employer and your employee is driving home from work when he or she accidentally hits another vehicle, injuring a third party. Do you think your business is legally responsible for the third party's injuries?

Traditionally, an employer would not be liable for the third party's injuries, based on the longstanding "Coming and Going" Rule. This provides that employers are generally not liable for accidents when an employee is coming to, or going home from work. This is because employees are said to be outside the course and scope of employment during their daily commute. Or to put it another way, the act of coming and going to work is for the benefit of the employee, and not the employer. However, a recent ruling by the California Court of Appeals significantly expanded the circumstances in which an employer may be liable for an employee's off-duty automobile accidents.

In Moradi v. Marsh USA, Inc. (2013) 219 Cal. App. 4th 886, the California Court of Appeal ruled that, because an employer required an employee to use her personal vehicle for work-related trips during work hours, the employee was acting within the scope of her employment when she got into an accident which took place while running personal errands on her way home after work. The court found the employee's use of her personal vehicle an "incidental benefit" to the employer. In this case, Judy Bamburger was an insurance salesperson for Marsh USA. As a salesperson, she regularly used her personal vehicle for business. Bamburger left work for the day, intending to stop for frozen yogurt and then go to a yoga studio to attend a yoga class. While Bamburger was running her personal errands, she struck the plaintiff, Moradi, who was driving a motorcycle. Moradi sued Bamburger and Bamburger's employer, Marsh USA, attempting to hold Marsh USA liable for his injuries. Initially, the trial court granted Marsh USA's motion for summary judgment, finding that Bamburger was not acting within the scope of her employment at the time of the accident. The Court of Appeal reversed, holding that Marsh USA could be liable under the respondent superior doctrine.

As stated above, generally an employer is not liable for an employee's actions during the employee's daily commute to and from work in a personal vehicle - a doctrine known as the "Coming-and-Going" Rule. If, however, an employer requires an employee to use his or her personal vehicle for work, the employer can be liable for injuries caused by the employee during her commute to and from work, as well as foreseeable detours during her commute. In this case, Bamburger was required to use her personal vehicle to develop business and visit customers, and frequently gave rides to co-workers to work-related seminars or events. Marsh USA initially provided Bamburger and its other salespeople with company cars, but had switched to a policy requiring salespeople to use their personal vehicles to engage in sales and business development. This placed Bamburger's commute in the long-established "required vehicle exception" to the coming-and-going rule.

Where the Moradi court expanded employer liability was in its analysis of what was "foreseeable" conduct by the employee, Bamburger. Previously, courts said employees with required personal vehicles were still acting in the scope of their employment when they ran brief (foreseeable) errands during their commute, such as stopping at a grocery store to purchase a drink. In this case, however, the Court of Appeal concluded that although Bamberger was running multiple different personal errands, including a yoga workout, her detours were not "so unusual or startling that it would seem unfair to include the loss resulting from it among other costs of [Marsh's] business." Therefore, Marsh USA could be liable.

In light of the Moradi decision, employers should examine whether their business policies might be exposing their business to liability for the automobile accidents involving their employees outside of work. Employers should analyze their written and implicit business policies to ensure that they are not creating a "required vehicle exception" by requiring or allowing employees to use their own personal vehicles during the workday for work related activities. If employees do use their personal vehicles for work duties, "employers" should ensure that the "employee" is covered under the employer's general liability insurance policy. It may also be advisable under certain circumstances to prohibit certain employees from running work related errands with their own personal vehicles, especially if the company has a vehicle that can be used to run the errands.

LLC Operating Agreements Should be Reviewed in Light of the New LLC Law

By: Kenneth W. Chung

Effective January 1, 2014, the California Revised Uniform Limited Liability Act became the new law governing limited liability companies in California. This new law replaced the prior law known as the Beverly-Killea Act which was enacted in 1994. The new law applies to (i) all domestic LLCs existing on or after January 1, 2014; (ii) all foreign LLCs registered with the California Secretary of State prior to, on or after January 1, 2014; and (iii) all actions taken by managers of members of an LLC on or after January 1, 2014.

The prior LLC law generally provided LLC members much flexibility in drafting their operating agreement. The prior law only had a limited number of provisions that were required and the rest were subject to default rules which applied only if the operating agreement did not provide a contrary provision. Therefore, an important consideration in drafting an operating agreement was to make sure to override or address any default rules that the LLC members did not wish to be applicable to their LLC. The new LLC law generally expands the number of such default rules. The following reflects some of the more noteworthy default rules and changes presented in the new law. Existing operating agreements should be reviewed to determine whether the new default rules are consistent with the members' intent, and if they are not, then the operating agreement should be specifically revised to reflect such intent.

Manager-Managed LLC: An LLC will now be deemed member-managed unless the LLC (1) has filed Articles of Organization stating that the LLC is manager-managed; and (2) has a written operating agreement establishing management by a manager. If the LLC does not comply with both of these requirements, then it will be at risk of being deemed a member-managed LLC.

Management Authority: The consent of all members of an LLC will now be required to do any of the following: (1) sell, lease, exchange, or otherwise dispose of all, or substantially all, of the LLC's property, with or without the goodwill; (2) approve a merger or conversion; (3) undertake any other act outside the ordinary course of the LLC's activities; or (4) amend the operating agreement. The operating agreement may be drafted to specify different consent standards. If the operating agreement does not clearly specify a different consent standard, then a member holding a minority ownership interest may now effectively veto certain significant actions of the LLC.

Events Forcing the "Dissociation" of a Member: Certain events will now automatically result in the "dissociation" of a member, changing the member's status to that of a "transferee." These events include: (1) the death of a member who is an individual; (2) for a member-managed LLC, the appointment of a guardian or conservator for an individual who is a member, or a judicial order declaring a member incapable of performing his/her duties as a member, or the initiation of a bankruptcy by a member; and/or (3) for any LLC member that is a trust, the trust's membership interest in the LLC is distributed. If an existing LLC does not wish to have any these events result in the dissociation of a member, the operating agreement should be modified accordingly.

Non-Economic Members: A member may now have voting rights, or other non-economic rights, without requiring that member to make a contribution to the LLC. One effect of this new default rule is that a full LLC member may transfer his economic interest in the LLC while maintaining his voting rights and status as a member. This is different from prior law which equated LLC membership with the holding of the economic rights associated with it.

Transfers of Membership Interests: An amendment to the operating agreement after a person becomes a "transferee" is now effective against that transferee. This new rule clearly gives LLC members the ability to amend their operating agreement to eliminate, reduce, or change the obligations owed to transferees. To reduce the risk of disputes with transferees, an existing LLC should consider modifying the operating agreement to clearly state that the obligations owed to transferees cannot be modified without the consent of the transferee, or at least a majority vote of then-existing LLC members.

Indemnification: An LLC must now indemnify members of a member-managed LLC and managers of a manager-managed LLC, so long as the member or manager has complied with its duties under the law. This is in contrast to the default rule under the prior law that provided that an operating agreement may, but is not required to, provide for the indemnification of any person acting on behalf of the LLC. If the LLC does not want indemnification to be mandatory under these circumstances, the operating agreement should be modified to override this new default rule.

Reimbursements: An LLC is now required to reimburse members of a member-managed LLC, and managers of a manager-managed LLC, for payments made by them while acting on behalf of the LLC. If the LLC does not want to maintain a mandatory reimbursement obligation, or if it desires the completion of specified conditions before the member or manager is eligible for reimbursement, the operating agreement should clearly override this new default rule.

Death of a Sole Member: If the sole member in an LLC dies, his/her heirs may be admitted as substitute members, thus allowing the LLC to remain in existence. Under the prior law, if the sole member of an LLC dies, leaving no remaining LLC members, the LLC is automatically dissolved.

Member Consent Assumed: A member in an LLC will now be assumed to have agreed to the terms of an operating agreement even if that member did not physically sign the operating agreement.

Scope of Fiduciary Duties: The prior law did not specifically identify the fiduciaries duties owed by managers or members. The new law provides that the manager or member(s) in control of the LLC owe a "duty of loyalty" and a "duty of care" to the non-controlling member(s). The duty of loyalty under the new law is limited to specified activities, and the duty of care is limited to refraining from grossly negligent or reckless conduct, intentional misconduct, or a knowing violation of law. In addition, all LLC members owe a "duty of good faith and fair dealing" to each other. The new law limits the extent to which the members of an LLC can modify the managers' or managing members' fiduciary duties. The duty of care, the duty of loyalty, and the contractual duty of good faith and fair dealing may not be eliminated, but they may be modified. In addition, the duty of care may not be "unreasonably reduced."

Under the new law, significant changes have been made to the law governing LLCs in California. The discussion above summarizes only some of the changes established by the new law. The operating agreement should be reviewed with corporate counsel to ensure that the intent of the members are not superseded by a new default rule, and to minimize disputes that may arise from provisions or standards that are vague and subject to alternative interpretations. The corporate attorneys at Kring & Chung, LLP are experienced and adept in the formation and maintenance of legal entities including LLCs and corporations. Please contact Kenneth Chung or one of our corporate attorneys to schedule the review of your operating agreement.

Court of Appeals Ruling Weakens Protection Afforded to Small Business Owners

By: Paul T. McBride

How many small California businesses operate along these lines?

Wayne and Linda, husband and wife, form a limited partnership, Airborne Turbine LP, to operate an airplane leasing business. Wayne and Linda are the limited partners. They form a corporation, Airborne Turbine, Inc., to act as the general partner of Airborne Turbine LP. Wayne and Linda are the sole shareholders and directors of Airborne Turbine, Inc. They are the sole employees of Airborne Turbine LP. They take "draws" from Airborne Turbine LP as needed to pay their personal bills, as the entity is their sole source of income. They hold one pro forma partnership meeting per year.

Many small businesses in California operate along the lines described above, either as limited partnerships or limited liability companies. The owners make their living from the organization while enjoying the shield against personal liability afforded under California law to limited partners ( Corporations Code Section 15903.03(a)) and to members of a limited liability companies ( Corporations Code Section 17703.04). Indeed, it is this shield against personal liability which is the chief attraction of the limited partnership and limited liability company organization forms.

A recent California Court of Appeals ruling substantially weakens the shield against personal liability afforded to limited partners and, by logical extension, to members of limited liability companies. The case is Relentless Air Racing LLC v. Airborne Turbine LP, appearing in the January 3, 2014 edition of the Daily Appellate Report, 2013 WL 6858475. In this case, the Court of Appeals holds that merely paying personal debts from the assets of a limited partnership may be sufficient to lose the shield against personal liability afforded to limited partners.

Relentless Air Racing LLC obtained a judgment of $175,000 against Airborne Turbine LP. Unable to collect the judgment from the limited partnership, it filed a post-judgment motion to have the two limited partners named as judgment debtors. The two limited partners were Wayne and Linda, the couple described above in our introduction. At a post-judgment hearing, Linda testified that the limited partnership was their sole source of income, that they took draws from limited partnership funds as needed to pay their personal obligations, and that they held one pro forma meeting per year.

At the trial level, the judge applied the three-pronged test enunciated in Greenspan v. ADT LLC (2010) 191 Cal.App.4th 486 to determine when a judgment against a limited liability company may be enforced against the personal assets of a member of the limited liability company. That test is: 1) the parties to be added as judgment debtors had control of the underlying litigation and were virtually represented at trial; 2) there is such a unity of interest and ownership that the separate personalities of the entities and the owners no longer exist; and 3) an inequitable result will follow if the acts are treated as those of the entity alone.

Applying this test, the trial judge found that the first two factors were easily satisfied, given that Wayne and Linda were the sole employees of the limited partnership and the sole shareholders of the general partner, and that they took money out of the limited partnership as needed to pay their daily living expenses. However, he ruled that the third factor, an inequitable result, was not satisfied because there was no evidence that Wayne and Linda diverted funds or assets from the limited partnership for the purpose of shielding them from a judgment in favor of the plaintiff. Accordingly, the trial judge denied the motion to have Wayne and Linda added as judgment debtors on the judgment in favor of Relentless Air Racing LLC.

On appeal, the Court of Appeals for the Second Appellate District overturned the trial judge's ruling and entered an order adding Wayne and Linda as co-judgment debtors. In the opinion of the appellate court, whether Wayne and Linda took assets out of the partnership for the purpose of shielding them from creditors was irrelevant. The mere fact that they used partnership assets to pay personal debts, combined with the fact that the partnership had no assets with which to satisfy the judgment, was sufficient to constitute an "inequitable result," in the appellate court's decision.

We expect the Court's decision to be challenged on appeal

In summary, this recent Court of Appeals decision highlights the need for careful planning in business organization formation and conduct. In order to avoid or minimize the risk of having your LLC or limited partnership personal liability shield disregarded, thereby exposing your personal assets, obtaining an annual review and maintenance of your entity documents is recommended. Kring & Chung LLP offers a full range of legal counseling and services related to entity formation and business transactions.

News and Events:

Managing Partner, Kenneth W. Chung And Partner Laura Hess Selected As 2014 Super Lawyers

Congratulations to Managing Partner, Kenneth W. Chung, and Partner, Laura Hess, for being selected for inclusion in the 2014 Southern California Super Lawyers list. Super Lawyers is a rating service of outstanding lawyers from various practice areas who have attained a high-degree of peer recognition and professional achievement.

The selection process is multi-phased and includes independent research, peer nominations and peer evaluations. Each candidate is evaluated on 12 indicators of peer recognition and professional achievement. Selections are made on an annual, state-by-state basis with no more than 5% of the attorneys in California being selected as Super Lawyers.

Upcoming Score Seminar - Common Legal Questions For Start-Up Businesses

On January 16, 2014 at 6:00 PM, Michelle Philo will be presenting a seminar regarding questions new business owners may have as to the formalities required to get their business off the ground. This seminar assists the small business owner in determining the best legal structure for their business. In addition, the seminar addresses the common types of contracts small business owners encounter and provides attendees with tips for entering contracts. Finally, the seminar will also touch on protecting the intellectual property of a small business. There is no cost for this seminar. The seminar will take place at the  Fullerton Public Library located at 353 W. Commonwealth Avenue, Fullerton.

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Fax: 949-261-8800
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Los Angeles Office
3435 Wilshire Blvd., Suite 2700
Los Angeles, CA 90010

Phone: 949-345-1621
Phone: 213-232-1633
Map & Directions

Temecula Office
41955 Fourth St., Suite 315
Temecula, CA 92590

Phone: 949-345-1621
Phone: 951-331-4520
Fax: 951-257-0450
Map & Directions

Sacramento Office
2620 J Street #1
Sacramento, CA 95816

Phone: 949-345-1621
Phone: 916-266-9000
Fax: 916-266-9001
Map & Directions

San Diego Office
11682 El Camino Real, Suite 100
San Diego, CA 92130

Phone: 949-345-1621
Phone: 858-436-0268
Fax: 858-436-0279
Map & Directions

Las Vegas Office
1050 Indigo Dr., Suite 200
Las Vegas, NV 89145

Phone: 949-345-1621
Phone: 702-260-9500
Fax: 702-260-9434
Map & Directions