At the beginning of last year, I wrote a eulogy for the equitable accounting cause of action in business disputes: But What of the Equitable Accounting? The gist was that perhaps due to its potential potency, and certainly due in part to litigants’ frequent confusion of the accounting claim with a discovery demand, courts were increasingly enforcing various roadblocks to a claim for an accounting in the business context. The accounting claim—often a tacked-on, ancillary cause of action, pleaded in general terms and almost as a matter of course—was losing its power.
That eulogy apparently was premature. Since that post, we have seen a revival of the equitable accounting claim in business disputes. And several courts have outright rejected the various roadblocks that once limited the availability of the equitable accounting remedy. Don’t call it a comeback . . .
A recent decision from the Southern District of New York, Sigalit v Kahlon, 21-CV-08921 (SDNY Aug 30, 2023) cements the trend, and it provides a fine starting block for discussion of the current state of the equitable accounting claim in business disputes.
The Roadblocks: An Accounting Claim Must be Premised Upon a Breach of the Fiduciary’s Duty, Without an Adequate Remedy at Law
Not long ago, courts tempered the equitable accounting remedy with several roadblocks.
First, the First and Second Departments once held that “[t]he right to an accounting is premised upon the existence of a confidential or fiduciary relationship and a breach of the duty imposed by that relationship respecting property in which the party seeking the accounting has an interest” (Jacobs v Cartalemi, 156 AD3d 605, 608 [2d Dept 2017] [quoting Palazzo v Palazzo, 121 AD2d 261, 265 [1st Dept 1986]]). It was not enough to allege the existence of a fiduciary relationship; the proponent of the accounting needed to show that that the circumstances warranted the exercise.
Until recently, one need not look far to find plenty of New York cases, citing mostly Palazzo and Cartalemi, rejecting a “bare naked” claim for an accounting—i.e., without some corresponding allegation of wrongdoing by the fiduciary. For instance, one New York County Commercial Division Court held in 2016:
While Mercy alleges that it is a member of OceansBlue, Mercy fails to sufficiently allege a breach of fiduciary duty to establish a right to an accounting. I therefore dismiss Mercy’s claim for an accounting.”
(Mercy Abundance, LLC v Chapman, 2016 N.Y. Slip Op. 31190[U], 15 [New York County 2016]). Likewise, in 2022, a Brooklyn Commercial Division Justice dismissed an accounting claim based on the same grounds: failure to allege a predicate breach (see Chernomordik v Ocean Sand Dev., 2022 N.Y. Slip Op. 33846[U], 11 [Kings County 2022] [“Since no breach of duty exists the motion seeking to dismiss this [accounting] cause of action is granted.”]).
Second, courts also held that “[t]o be entitled to an equitable accounting, a claimant must demonstrate that he or she has no adequate remedy at law” (Unitel Telecard Distribution Corp. v Nunez, 90 AD 3d 568 [1st Dept 2011]). The adequate legal remedy requirement allowed courts to take a practical approach: where a breach of contract or breach of fiduciary duty claim would make the plaintiff whole and render an accounting superfluous, courts were likely to dismiss the accounting claim, allowing the plaintiff to pursue their legal claims (see, e.g., Chanos v Chanos, No. 655404/2020 [Sup Ct, New York County 2022] [dismissing accounting claim because “where resolution of the claims for breach of the LLC Agreement will adequately establish the amount allegedly owed to plaintiff, an accounting is completely unnecessary”]).
Sigalit v Kahlon
Last week, in Sigalit v Kahlon, 21-cv-08921 (SDNY Aug. 30, 2023) United States District Judge Analisa Torres granted the Plaintiff’s motion for summary judgment on an accounting claim. Her decision rejects the various roadblocks cited by defendant, cementing the trend toward allowing the accounting claim in the business context.
Background
Around 2004, plaintiff Yahuda Sigalit and her husband invested $350,000 in TJ Management Group, a New York limited liability company, in exchange for a fifty percent interest in the Company. Defendant Jossef Kahlon operated TJM, which purchased and sold penny stocks. Between 2004 and 2010, TJM made and distributed profits, netting—according to Kahlon—Plaintiff over $10,000,000. But in 2011, the Company and Kahlon became the target of an SEC investigation for the unregistered sale of securities. In 2012, the SEC filed a complaint against TJM and Kahlon, and in 2016, the United States District Court for the District of Texas granted summary judgment in favor of the SEC. Ultimately, Kahlon and TJM reached a post-judgment settlement requiring them to disgorge more than $2 million.
TJM also owned certain real property near downtown Dallas, Texas. The parties dispute what happened to that property. Plaintiff alleges that TJM loaned funds to a company, secured by three parcels of vacant Texas land. When the borrower defaulted, TJM took title to only one of those parcels; the others went to entities that Kahlon controlled. Additionally, Sigalit alleged that in April of 2016, her husband received a call from Kahlon’s partner in a venture named Project Verte, Inc. The caller advised him that Kahlon sold the Texas property from TJM to Project Verte for $10 million.
Kahlon, for his part, insisted that TJM did not sell its parcel to Project Verte; it still owned the only parcel to which it ever held title. Kahlon acknowledged that TJM received $10 million, but he alleged that the payment was for “brokering the land and not for selling the land.”
On November 1, 2021, Plaintiff commenced a one-count suit against Kahlon, seeking an accounting of TJM from 2004 through 2021.
Competing Motions for Summary Judgment
In January, Kahlon moved for summary judgment on Plaintiff’s sole claim for an accounting. In support of his motion, Kahlon cited many of the roadblocks that courts historically used to deny an accounting claim in the business context:
First, citing Cartalemi, Kahlon argued that Plaintiff’s accounting claim failed because the factual basis underlying the demand—Plaintiff’s contention that TJM sold the Texas property—was dead wrong. Thus, Plaintiff could not show “an asserted breach of a fiduciary relationship respecting property in which the party seeking the accounting has an interest.”
Second, Kahlon argued that Plaintiff could not show that she lacked an adequate remedy at law. Specifically, the Plaintiff never availed herself of her statutory right as a member of TJM to inspect its books and records. Thus, Plaintiff could not show that her inspection rights under LLC Law 1102 were inadequate to provide her with the information she seeks.
Plaintiff cross moved for summary judgment, arguing that her status as a member of TJM bestowed upon her an absolute right to an accounting, regardless of Kahlon’s breach and potentially available legal remedies.
Judge Torres Grants Plaintiff Summary Judgment
In a written decision dated August 30, Judge Torres granted Sigalit’s motion for summary judgment on her accounting claim. Kahlon could not defeat an accounting claim by insisting that the Texas property was never sold; “[w]hether the alleged sale of the Property occurred is irrelevant to Sigalit’s claim for an equitable accounting of ‘Kahon’s dealings with TJM and its property and earnings.’” The Court further held that “Sigalit does not, and need not, allege a breach of fiduciary duty to sustain an equitable accounting claim.”
As to Kahlon’s argument that Plaintiff has an adequate legal remedy in the form of a books and records demand, the Court held:
Not so. The right to inspect company books and records is separate and independent from the right to an equitable accounting, which ‘require[s] a person in possession of financial records to produce them, demonstrate how money was expended[,] and return pilfered funds in his or her possession.’”
Perhaps aware of litigants’ tendency to confuse the accounting claim with a books and records demand (see this post), Judge Torres gave a detailed and helpful explanation of exactly how the accounting will proceed:
An equitable accounting occurs in two steps. First, ‘upon a showing that an accounting is warranted, an interlocutory decree is issued requiring the fiduciary to make an accounting.’ Second, once the accounting is made, ‘a
hearing is held to establish the final amounts owed to the principal.'”
The More Recent Trend: The Right to an Accounting is Absolute
Sigalit follows on the heels of several recent First and Second Department cases rejecting the earlier roadblocks and endorsing the premise that a member of a closely held business has an absolute right to demand that those in control of the business account, regardless of adequate legal remedies or allegations of wrongdoing.
Only weeks after my eulogy, the First Department reversed a lower court’s denial of an accounting claim in the dispute over the famed Delmonico’s Restaurant, stating that “whenever there is a fiduciary relationship between the parties . . . there is an absolute right to an accounting notwithstanding the existence of an adequate remedy at law” (Grgurev v Licul, 203 AD3d 624 [1st Dept 2022], lv to appeal dismissed, 38 NY3d 1171 [2022]). The Second Department held the same in 2020, stating that “where there is a fiduciary relationship between the parties, there is an absolute right to an accounting notwithstanding the existence of an adequate remedy at law” (Zohar v LaRock, 185 AD3d 987, 991 [2d Dept 2020]).
Like the Court in Sigalit, the First Department also recently debunked the notion that a plaintiff needs to allege an underlying breach of fiduciary duty to obtain an accounting (Simon v Moskowitz, 193 AD3d 520 [1st Dept 2021] [“Moskowitz owed plaintiff a fiduciary duty and she was not required to demonstrate that he breached that duty in order to obtain an accounting.”]). The accounting reemerges as a valuable tool in the minority owner’s toolbox.
This trend means that we are more likely than ever to see accounting claims go the distance in business disputes. Counsel would be wise to brush up on the accounting claim and—as this post covers—the potentially severe consequences of a fiduciary’s inability to account.
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