The following is a discussion that I have posted previously. In this post I have added additional citations and discussions about good faith and fair dealing and fiduciary duties.
In a member-managed LLC, each member owes a duty of loyalty and a duty of care to the LLC and to the other members. See, e.g., California Corporations Code §17704.09, Although §17704.09(e) suggests that those duties are limited, and in fact states that a member does not violate 17704.09 “merely because the member’s conduct furthers the member’s own interest,” subsection (e) should be read cautiously and should not be read to allow the member to otherwise ignore or breach the responsibilities that are specified in §17704.09.
In a manager-managed LLC, each manager owes a duty of loyalty and a duty of care to the LLC and to the members. Members who are not managers do not owe the duty of loyalty or the duty of care.
Note however that you also must read (and understand) the operating agreement to determine if any of these duties are expanded; to determine if any of these duties are reduced or purportedly eliminated (they cannot be eliminated); and, in a member-managed LLC, to determine if any of these duties are shifted from one member to one or more other members.
Issues, questions and disputes about legal responsibilities/duties and rights pursuant to these duties usually don’t arise or usually are relatively uncomplicated while the LLC members and managers are dealing with each other honestly, openly, and fully, as in most businesses and situations. In my practice I handle situations and represent clients where legal responsibilities and rights and the actions and inactions of the people who are involved are seriously at issue. And you can see from the wording and definitions in these materials that there can be significant uncertainty and vagueness about exactly what the responsibilities and rights are and can be in different situations.
Duty of Loyalty. The duty of loyalty is limited to the following unless the operating agreement provides otherwise (again, you must read and understand the operating agreement):
Account and Accounting. An LLC member in a member-managed LLC, or a manager in a manger-managed LLC must account to the LLC and hold as a trustee any property, profit, or benefit, that the member or manager, respectively, derives in the conduct of the LLC or in the winding up of the LLC’s activities, or from the use of the LLC’s property including but not limited to the appropriation of an LLC opportunity. Also take note whether a specific member or a specific manager is tasked with the function of accounting for the LLC.
Adverse Interest. Each member (in a member-managed LLC) and each manager (in a manager-managed LLC) must not deal with the LLC, or on behalf of a person with respect to the LLC, as an interest adverse to the LLC.
Competing with the LLC. Each member (in a member-managed LLC) and each manager (in a manager-managed LLC) must not compete with the LLC in the conduct of the LLC or in the winding up of the LLC’s activities.
Duty of Care. The duty of care in the conduct of the LLC or in the winding up of the LLC’s activities is limited to not committing gross negligence or reckless conduct, intentional misconduct, or a knowing violation of law. However, you must read and understand the operating agreement as it is permissible for the agreement to expand the standard of culpability to ordinary or simple negligence.
Duty of Good Faith and Fair Dealing. In both a member-managed and in a manager-managed LLC, members and managers have a duty of good faith and fair dealing to the LLC and to the other members – for example, to not obtain an advantage or benefit by any misrepresentation or concealment or other means. And this is true whether the duties arise under the California Revised Uniform Limited Liability Company Act (CRULLCA) or the LLC’s operating agreement. A duty of good faith and fair dealing is a duty of care; however, you can also see that it is a duty of care that is separate from the culpability standards.
In relevant part, California Corporations Code §17704.09(d) states as follows: “(d) A member shall discharge the duties to a limited liability company and the other members under this title or under the operating agreement and exercise any rights consistent with the obligation of good faith and fair dealing.” The questions then arise, in the context of an LLC what does it mean to “exercise any rights consistent with the obligation of good faith and fair dealing,” and, in a related sense, what does it mean at law when a manager or a member is considered to be a fiduciary with fiduciary duties? In that regard, Feresi v. The Livery, LLC (2014) 232 Cal. App. 4th 419, states as follows (note: Hartley is the president and managing member of the LLC):
“Hartley’s Duties as a Fiduciary.
The manager of an LLC has a fiduciary duty and owes to the members of the LLC the same duties of loyalty and good faith as a partner owes to the partnership and its partners. (§ 3307; Corp. Code, former § 17153, repealed by Stats. 2012, now § 17704.09.) Thus, Hartley is obligated to act with the utmost loyalty and in the highest good faith when dealing with any member of the LLC, including Feresi. He may not obtain any advantage over Feresi (or any other member of the LLC) by even the slightest misrepresentation or concealment. (Enea v. Superior Court (2005) 132 Cal.App.4th 1559, 1564, 34 Cal.Rptr.3d 513; Yeomans v. Lysfjord (1958) 162 Cal.App.2d 357, 361–362, 327 P.2d 957.)
The animating principle of a fiduciary’s duties to his charges is unfaltering loyalty and honesty. “Many forms of conduct permissible in a *426 workaday world for those acting at arm’s length, are forbidden to those bound by fiduciary ties. A trustee is held to something stricter than the morals of the market place. Not honesty alone, but the punctilio of an honor the most sensitive, is then the standard of behavior. As to this there has developed a tradition that is unbending and inveterate. Uncompromising rigidity has been the attitude of courts of equity when petitioned to undermine the rule of undivided loyalty by the ‘disintegrating erosion’ of particular exceptions [citation]. Only thus has the level of conduct for fiduciaries been kept at a level higher than that trodden by the crowd.” (Meinhard v. Salmon (1928) 249 N.Y. 458, 464, 164 N.E. 545.)
Hartley Breached the Duty of Good Faith and Fair Dealing He Owed to Feresi.
Substantial evidence supports the trial court’s conclusion that Hartley breached his fiduciary duty to Feresi by destroying the value of her security interest in Mesa’s ownership share in the LLC to advance his own.”
As you can see, the duty of good faith and fair dealing and fiduciary duties are quite demanding, but, frankly, those duties are situationally and factually dependent such that the conduct that they require and the conduct that they prohibit really depend on the facts of the particular situation, and ultimately as the situation might be viewed after the fact by a trier of fact (i.e., by a jury, or a judge or an arbitrator). It is definite, however, that the fiduciary duty and the duty of good faith and fair dealing should be taken seriously, in addition to the other duties that are stated in §17704.09, and in the operating agreement, and in other applicable and relevant statues, cases, and authorities.
Best to you. David Tate, Esq.
Remember, every case and situation is different. It is important to obtain and evaluate all of the evidence that is available, and to apply that evidence to the applicable standards and laws. You do need to consult with an attorney and other professionals about your particular situation. This post is not a solicitation for legal or other services inside of or outside of California, and, of course, this post only is a summary of information that changes from time to time, and does not apply to any particular situation or to your specific situation. So . . . you cannot rely on this post for your situation or as legal or other professional advice or representation.
Thank you for reading this post. I ask that you also pass it along to other people who would be interested as it is through collaboration that great things and success occur more quickly. And please also subscribe to this blog and my other blog (see below), and connect with me on LinkedIn and Twitter.
Best to you, David Tate, Esq. (and inactive California CPA) – practicing in California only
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