Idaho Real Estate & Development Law Update: Lack of Corporate Formalities Will Not Destroy the Limited Liability Protection Afforded by an LLC

by Stoel Rives LLP
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In the case of Wandering Trails v. Big Bite Excavation released June 18, 2014, the Idaho Supreme Court clarified the requirements for piercing the veil of a limited liability company or LLC and thereby imposing liability on its members for the LLC’s contractual obligations. The LLC is probably the most common form of entity used to hold real estate. The Court made clear that a lack of “corporate formalities” will not be fatal to the limited liability characteristics of an LLC. The Court also implied that a greater degree of formalities is still required for corporations.

The language below is the Court’s unless otherwise noted in brackets:

This Court’s opinions have been unclear regarding whether veil-piercing claims present a question for the jury or whether they are equitable issues to be tried by the court.

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To clarify, we hold that issues of alter ego and veil-piercing claims are equitable questions . . . . In these cases, the trial court is responsible for determining factual issues that exist with respect to this equitable remedy and for fashioning the equitable remedy.

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Pursuant to Idaho law, a limited liability company is a legal entity “distinct from its members.” I.C. § 30-6-104(1). Members of an LLC are not liable for the misconduct of the company unless it is proven that the company is the alter ego of the member. I.C. § 30-6-304(1); Sirius LC v. Erickson, 150 Idaho 80, 85, 244 P.3d 224, 229 (2010). This is the equivalent of piercing the corporate veil for a limited liability company. Id. Piercing the corporate veil imposes personal liability on otherwise protected corporate officers, directors, and shareholders for a company’s wrongful acts allowing the finder of fact to ignore the corporate form. VFP VC v. Dakota Co., 141 Idaho 326, 335, 109 P.3d 714, 723 (2005).

 

To prove that a company is the alter ego of a member of the company, a claimant must demonstrate “(1) a unity of interest and ownership to a degree that the separate personalities of the [company] and individual no longer exist and (2) if the acts are treated as acts of the [company] an inequitable result would follow.”

Id.; Vanderford Co. v. Knudson, 144 Idaho 547, 556–57, 165 P.3d 261, 270–71 (2007).

Under the theory of piercing the corporate veil, factors to consider include the level of control that the shareholder exercises over the corporation, the lack of corporate formalities, the failure to operate corporations separately, keeping separate books, and the decision-making process of the entity. See Surety Life Ins. Co. v. Rose Chapel Mortuary, Inc., 95 Idaho 599, 602, 514 P.2d 594, 597 (1973). However, Idaho’s limited liability act specifically provides that “[t]he failure of a limited liability company to observe any particular formalities relating to the exercise of its powers or management of its activities is not a ground for imposing liability on the members or managers for the debts, obligations or other liabilities of the company.” I.C. § 30-6-304(2). The question, therefore, becomes whether there is sufficient evidence “such that there was no distinction between the personalities of” [the members of the LLC and the LLC]. Hutchinson v. Anderson, 130 Idaho 936, 940, 950 P.2d 1275, 1279 (Ct. App. 1997). The validity of this Court’s holdings in Surety Life are questionable when applied to an LLC formed under Idaho’s Limited Liability Company Act, I.C. §§ 30-6-101 et seq.

The Plaintiffs did not raise a genuine issue of material fact evidencing unity of interest among the [members] and [the LLC]. First, the Plaintiffs argue that there is a unity of interest because the only members of [the LLC] are [a husband and wife] and [they] exercise full control over [the LLC]. It is true that this is a relevant inquiry for piercing the corporate veil; however, that is not a relevant inquiry for demonstrating that . . . a limited liability company is the alter ego of [its members]. Such an analysis would be contrary to an express Idaho statute that permits individual LLCs and member-managed LLCs. See I.C. § 30-6-304. Additionally, an Idaho statute expressly states that LLCs are entities “distinct from its members.” I.C. § 30-6-104(1). The Plaintiffs’ argument, if accepted, would effectively eviscerate the legislative intent that member-managed and individual LLCs are separate legal entities.

The Plaintiffs argue that [the LLC] did not follow adequate formalities because [the LLC’s] bank account was not formal enough, decisions regarding how it was to fulfill its obligations . . . were not made by resolution, and [the LLC] was capitalized by capital calls. These factors do not demonstrate a unity of interest among the [members] and [the LLC]. Idaho law provides that the lack of such corporate formalities shall not be fatal to the status of a limited liability company. I.C. § 30-6-304(2). Thus, there is no requirement that [the LLC] make its business decisions by resolution or that it be capitalized in a manner other than capital calls.

On the other hand, the evidence before the district court did in fact demonstrate a distinction between the personalities of the [members] and [the LLC]. Though the [members] were included on the name of [the LLC’s] bank account, the account included the name of [the LLC], the account had checks in only [the LLC’s] name, there is no evidence that the [members] deposited any of their own money into the account other than to meet capital obligations, and there is no evidence the [members] used the money [in the LLC’s account] to pay their own obligations. Additionally, the [members] clearly asserted separate personalities when they informed the Plaintiff that they wanted the [subject] agreement to be between the Plaintiff and [the LLC]—not the [members] as individuals.

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Additionally, [the Plaintiff] could have protected itself from contracting with what it asserts is a sham entity. [The Plaintiff] was aware that it was interacting with an entity that possessed characteristics of limited liability. To protect its interests, it could have requested the financials of [the LLC]. It could have sought personal guarantees from the [the members of the LLC] . . . . It could have requested a contract with [another entity owned by the members]. The Plaintiffs could have contracted around these various contingencies. They did not.

 

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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