California’s New LLC Act – Call Me Laocoon, But I Foresee A Mess!

by Allen Matkins
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On Friday, Governor Brown signed SB 323 (Vargas) into law. It was chaptered by the Secretary of State the same day.  Section 20 of the bill adds the California Revised Uniform Limited Liability Company Act (RULLCA) to the Corporations Code as a new Title 2.6.  The RULLCA will become operative on January 1, 2014 (See new Corporations Code Section 17713.13).  The existing Beverly-Killea Limited Liability Company Act found in Title 2.5 is repealed as of that same date unless a later enacted statute, that is enacted before that date, deletes or extends that date.

Out with old, in with the new, what could be wrong with that?  It turns out plenty.

At the most fundamental level, the repeal of the Beverly-Killea Act as to existing limited liability companies is unconstitutional.  The legislature in enacting the Beverly-Killea Act failed to include a savings clause.  Article 1, Section 10 of the United States Constitution forbids states from making any law impairing the obligation of contracts.  This fundamental limitation on state authority was most famously applied to state charters in Trustees of Dartmouth College v. Woodward, 17 U.S. (Wheaton) 518 (1819).

Yes, that is an old decision, but age does not controvert its fundamental correctness.   Yes, the constitutional question may seem to be an academic point, but it is likely to have significant practical ramifications.  I believe that the constitutional infirmity of the RULLCA will be raised just as soon as someone discovers that her rights are better under the Beverly-Killea Act than under the RULLCA. For an example of a twentieth century challenge, see Washington v. Alaska Airlines, Inc., 413 P.2d 352 (Wash. 1966).  If the challenge to RULLCA is successful, then look out for the ensuing chaos.

If a constitutional infirmity were not sufficient cause for concern, the RULLCA suffers from some more practical, but no less significant deficiencies.  New Section 17713.04(a) provides that (except as otherwise provided) the RULLCA will apply to all domestic LLCs existing on January 1, 2014 and to all actions taken by the managers or members of a limited liability company on or after that date. However, the next subdivision states that the RULLCA applies only to contracts entered into after that date and the prior law applies to contracts entered into before that date.  What happens if an operating agreement entered into before January 1, 2014 is amended after that date?  Will only the amendment be subject to the RULLCA or will the fact of the amendment drag the entire agreement into the new law?

The enactment of the RULLCA and the forced transition (if found constitutional) is going to impose significant burdens on LLCs formed under the Beverly-Killea Act.  Many lawyers will likely advise their clients to conform their operating agreements to the RULLCA. But what if the repeal of the Beverly-Killea Act is found unconstitutional? Many members or managers are likely to be unaware of the change and fail to conform to the new law.

 

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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