Source: https://www.nybusinessdivorce.com/2011/06/articles/buyout/case-illustrates-how-not-to-plan-for-the-death-of-a-shareholder-in-a-professional-corporation/
Timestamp: 2019-04-22 02:19:26+00:00

Document:
The P.C., as in professional service corporation, has been called a “strange creature.” The strangeness stems mainly from the statutory restrictions on the voluntary or involuntary transfer of ownership in a P.C. to persons who are not licensed members of one of the regulated professions permitted to utilize the P.C. business form under Title 8 of the Education Law, including lawyers, doctors, dentists, accountants and miscellaneous others.
In New York, P.C.s are governed by the same general provisions of the Business Corporation Law (BCL) applicable to all for-profit business corporations, including Articles 10 and 11 of the BCL governing voluntary and judicial dissolution. The P.C. ownership transfer restrictions, along with other provisions specific to the formation, operation, limited liability and disposition of P.C.s, are collected in Article 15 of the BCL. The somewhat obscure interplay between the general dissolution provisions in BCL Articles 10 and 11 and the P.C. ownership transfer restrictions in Article 15 can create havoc for the professional in a multi-member P.C. who fails to appreciate those provisions or, worse yet, fails to enter into a shareholders’ agreement that protects the professional’s financial interests under various exit scenarios including death.
It’s hard to imagine a more painful illustration of such havoc than the case decided last week by a Brooklyn appellate court involving a P.C. dental practice in which the majority shareholder died without a shareholders’ agreement, called Matter of Bernfeld (Michael Bernfeld, D.D.S. and Yakov Kurilenko, D.D.S., P.C.), 2011 NY Slip Op 05071 (2d Dept June 7, 2011). The deceased dentist’s widow, who had found a buyer for the practice’s assets for over a half million dollars, now stands to walk away empty handed as a result of the statutory default provisions that prevent her both from seeking judicial dissolution and from resisting the surviving shareholder’s right to have the P.C. purchase her late husband’s interest possibly at negative book value.
The Facts: Michael Bernfeld and Yakov Kurilenko had a dental practice known as Howard Beach Dental Associates in Brooklyn, New York. The practice, organized as a P.C., was owned 75% by Bernfeld and 25% by Kurilenko. Bernfeld and Kurilenko had no shareholders’ agreement. Bernfeld died in September 2009 at the age of 64. The P.C. had significant bank debt. The practice’s website lists four other associate dentists. Bernfeld’s wife, as executor, hired a business broker and secured an offer from dentist Fred Cohen to purchase the P.C.’s assets for $530,000. On February 16, 2010, Mrs. Bernfeld held a shareholder meeting at which she voted to dissolve the P.C., approve the sale of the P.C. to Cohen, and to appoint Cohen as business manager of the P.C. Kurilenko objected to the proposed sale. A week after the meeting, Mrs. Bernfeld petitioned under BCL Section 1103 for judicial dissolution of the P.C. In April 2010, Kurilenko sent Mrs. Bernfeld a written demand to purchase her shares for $0 based on an appraisal he obtained valuing the company’s book value at negative $159,000 with no value assigned for goodwill.
What is Section 1103? BCL Section 1103 authorizes a shareholder petition for judicial dissolution of a close corporation “[i]f the shareholders . . . adopt a resolution stating that they find that its assets are not sufficient to discharge its liabilities, or that they deem a dissolution to be beneficial to the shareholders . . ..” Under subsection (c), such a resolution “may be adopted at a meeting of the shareholders by vote of a majority of the votes of all outstanding shares entitled to vote thereon.” This type of judicial dissolution proceeding is extremely rare, the reason being that the same majority required to authorize it can and almost always will opt for a non-judicial, voluntary dissolution.
No shareholder of a professional service corporation may sell or transfer his shares in such corporation except to another individual who is eligible to have shares issued to him by such corporation or except in trust to another individual who would be eligible to receive shares if he were employed by the corporation. Nothing herein contained shall be construed to prohibit the transfer of shares by operation of law or by court decree. No transferee of shares by operation of law or court decree may vote the shares for any purpose whatsoever except with respect to corporate action under [BCL § 909] and [BCL § 1001]. . . (italics added).
. . . Business Corporation Law § 1511 enumerates the specific matters upon which a nonprofessional shareholder in a professional corporation who owns shares by operation of law may vote. Although voluntary dissolution under Business Corporation Law § 1001 is one of those matters, a vote in favor of a shareholder’s petition for judicial dissolution pursuant to Business Corporation Law § 1103 is not. Thus, Business Corporation Law § 1511, standing alone, statutorily bars the petitioner from obtaining a judicial dissolution of the P.C. pursuant to Business Corporation Law § 1103.
What About Fromcheck? It’s not as if Mrs. Bernfeld had no support whatsoever for her position. She argued, with enough justification to merit extended discussion in the appellate court’s opinion, that under the Second Department’s 1998 ruling in Matter of Fromcheck (Brentwood Pain & Medical Services, P.C.), 254 AD2d 485, Section 1103 should be construed in favor of her standing to seek judicial dissolution. In Fromcheck the court dismissed a judicial dissolution petition under BCL Section 1104-a alleging shareholder oppression because the petitioner did not own shares in the subject P.C. Section 1104-a authorizes a dissolution petition brought by a minimum 20% shareholder “entitled to vote in an election of directors.” Fromcheck implied that if BCL Sections 909 and 1001 related to the election of directors, then a petition under Section 1104-a may have been permitted. Mrs. Bernfeld therefore argued that a nonprofessional transferee may seek judicial dissolution under Section 1103 because that section, unlike Section 1104-a, does not have the limiting language, “entitled to vote in an election of directors.” The court disagreed, stating that Section 1511 “clearly proscribes the types of corporate action upon which a nonprofessional shareholder, such as the petitioner, may vote.” The court further notes that the distinctive limiting language in Section 1103 (judicial dissolution resolution may be adopted by a vote of “a majority of the votes of all outstanding shares entitled to vote thereon“) is consistent with the strict limitations on voting rights under Section 1511.
a nonjudicial dissolution pursuant to Business Corporation Law § 1001 does not require a court’s permission, the Supreme Court correctly determined that dissolution pursuant to Business Corporation Law § 1001 does not require court action and, therefore, there was no need to address the impact, if any, of the resolution dated February 16, 2010.
A professional service corporation shall purchase or redeem the shares of a shareholder in case of his death or disqualification pursuant to the provisions of section 1509, within six months after the appointment of the executor or administrator or other legal representative of the estate of such deceased shareholder . . . at the book value of such shares as of the end of the month immediately preceding the death or disqualification of the shareholder as determined from the books and records of the corporation in accordance with its regular method of accounting.
Importantly, the statute also expressly authorizes the shareholders to modify the redemption period or pricing method by provision in the P.C.’s certificate of incorporation, by-laws or, as is more often the case in practice, in the shareholders’ agreement.
Moreover, it remains unresolved whether the P.C.’s right to purchase the petitioner’s shares pursuant to Business Corporation Law § 1510 can be nullified by dissolution. Once dissolved, a corporation continues to “function for the purpose of winding up the affairs of the corporation in the same manner as if the dissolution had not taken place” (Business Corporation Law § 1006[a]). Arguably, in this post-dissolution state, the P.C. could still act under Business Corporation Law § 1510.
Lastly, we note that the entire controversy relating to the valuation of the petitioner’s shares could have been obviated had the decedent and Kurilenko crafted a certificate of incorporation, shareholder agreement, or other provision providing for a method of valuation of the P.C., other than by the book value, in accord with the P.C.’s regular method of accounting (see Business Corporation Law § 1510).
Update February 11, 2012: Sometime around or shortly after the trial court dismissed Mrs. Bernfeld’s dissolution petition in May 2010, she filed a separate derivative action against Kurilenko claiming that he owed the corporation a loan balance of not less than $300,000, and to compel him to return the corporation’s books and records to its accountant. In November 2010, the trial court denied a motion by Kurilenko to dismiss the action based on his assertion that Mrs. Bernfeld lacked standing to sue. Late last month, the Appellate Division, Second Department, affirmed the trial court’s ruling, holding that BCL §1510 does not deprive her of standing, and that Kurilenko’s standing argument “is more properly raised in an action to compel purchase or redemption.” You can read the decision here.
Update June 26, 2015: The fallout continues from Mrs. Bernfeld’s failed dissolution proceeding, in the form of a legal malpractice suit she filed earlier this year against the lawyers who brought the dissolution case on her behalf. The malpractice suit came to light in a decision issued earlier this month by Nassau County Commercial Division Justice Stephen A. Bucaria (read here) denying the law firm’s motion to remove a related fee proceeding from the Surrogate’s Court and consolidate it with the malpractice suit.

References: § 909
 § 1001
 § 1511
 § 1001
 § 1103
 § 1511
 § 1103
 § 1001
 § 1001
 § 1510
 § 1006
 § 1510
 § 1510
 §1510