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NCAS REALTY MANAGEMENT CORP v. NATIONAL CORPORATION FOR HOUSING PARTNERSHIPS | FindLaw
NCAS REALTY MANAGEMENT CORP v. NATIONAL CORPORATION FOR HOUSING PARTNERSHIPS
NCAS REALTY MANAGEMENT CORP., Plaintiff-Appellee, v. The NATIONAL CORPORATION FOR HOUSING PARTNERSHIPS and The National Housing Partnership, Defendants-Appellants.
Docket No. 97-7326.
Before: WINTER, Chief Judge, CARDAMONE, Circuit Judge, and POLLACK*, District Judge. Rodney F. Page, Washington, DC (David N. Wynn, Mark P. Monack, Arent Fox Kintner Plotkin & Kahn, New York City and Washington, DC, of counsel, on brief), for Defendants-Appellants. Stephen E. Powers, New York City (Warshaw Burstein Cohen Schlesinger & Kuh, LLP, New York City, of counsel), for Plaintiff-Appellee.
A partner, as a fiduciary, is held to higher standards than those of the marketplace. “Not honesty alone, but the punctilio of an honor the most sensitive, is then the standard of behavior.” Meinhard v. Salmon, 249 N.Y. 458, 464, 164 N.E. 545 (1928) (Cardozo, C.J.). Because opportunities to profit fall especially into the path of a managing partner, a heavier duty is imposed on plaintiff who acted here not simply as a co-general partner with defendants, but also as the local manager of the partnership projects. Plaintiff failed to honor the rule obtaining between partners-that of undivided loyalty. Accordingly, we reverse the judgment appealed from, and remand this case to the district court with directions that it grant defendants the relief they seek.
Although neither party disputes the magistrate judge's findings of fact, we review those facts to give the reader an understanding of the nature of the relationship between plaintiff and defendants. Plaintiff NCAS Realty Management Corp. (NCAS) is a New York corporation that develops housing for low- to moderate-income families under the federal “Section 8” housing program. Defendants are the National Housing Partnership, a Washington, D.C. partnership organized pursuant to 42 U.S.C. § 3931 et seq. for the purpose of encouraging maximum participation by private investors in programs providing low- to moderate-income housing, and the National Corporation for Housing Partnerships, another Washington, D.C. corporation and the sole general partner of the National Housing Partnership (collectively the National Partnership or defendants).
A. Partnership Books and Records
On August 24, 1994 Deloitte reported that in its opinion, plaintiff had calculated its management fee in violation of HUD regulations, used identity-of-interest firms without authorization, and neglected to include in the records all HUD-required financial statements and schedules. The National Partnership thereafter named Deloitte as the new auditor for both housing projects, asserting authority to do so under § 5.08(b) in each partnership agreement. It notified plaintiff of this change by letter dated October 28, 1994. The magistrate judge found that plaintiff made no timely objection pursuant to the terms of the partnership agreements.
B. Use of Identity-of-Interest Companies
Defendants on March 2, 1995, acting pursuant to § 3.03 of the Academy agreement and § 3.09 of the Buckingham agreement, wrote NCAS and gave notice that they were withdrawing their consent for the use of “affiliated persons” (also referred to as identity-of-interest companies) to provide contract services to the partnerships. An “affiliated person,” as defined under the agreements, is one who is a partner, related to a partner, or controls, is controlled by, or under common control with a partner.
The magistrate judge found that plaintiff, as the managing partner, had contracted with the following “affiliated persons”: Alpha Plumbing and Heating Corporation; Durable Painting Corporation; Noral Security Systems, Inc.; Paramount Boiler and Sewer Services, Inc.; and NCAS Realty Management (plaintiff negotiated with itself as the managing agent and was paid a management fee to operate the housing developments under the partnership agreements). Although the partnership agreements provided that the partnerships could contract with such entities only if both general partners gave their approval, plaintiff admits it took no steps to comply with these terms after it received defendants' March 2 letter, saying that its failure to act was pursuant to advice of counsel.
C. Auditors' Findings
When Goldenberg issued its final 1994 year-end report, it opined that plaintiff was responsible for “material instances of noncompliance” with HUD regulations. While a number of findings were made, four are relevant to the issues on this appeal.
1) Academy overpaid Noral Security Systems for hours of work that were never performed. For the years 1991, 1993, and 1994, the amount totalled $265,724.
2) Academy funds were used to pay the interest that had accumulated on Noral Security System's sales tax deficiency, in the amount of $26,045.
3) Academy paid improper bonuses to employees of Noral Security Systems, NCAS (as management agent), and other non-partnership employees.
4) NCAS improperly calculated its management fee.
5) NCAS deposited partnership funds in its payroll account.
6) NCAS passed to the partnership properties the payroll tax penalties that it owed.
7) NCAS used partnership property funds to pay for professional services for which it was liable.
8) NCAS used partnership property funds to pay for civil penalties that it had incurred.
D. Prior Legal Proceedings
I Applicable Law
As this case was heard in federal court pursuant to diversity jurisdiction, and New York is the forum state, we look to New York choice of law rules to interpret the partnership agreements. See Wm. Passalacqua Builders, Inc. v. Resnick Developers S., Inc., 933 F.2d 131, 137 (2d Cir.1991). Neither side contests the district court's decision which, after applying New York's “interest analysis” test set forth in Passalacqua Builders, concluded that New York substantive law governs the resolution of the issues.
II Defendants' Right to an Accounting
Although the district court's findings of fact are not in dispute, the application of those facts to draw conclusions of law is subject to de novo review. See FDIC v. Providence College, 115 F.3d 136, 140 (2d Cir.1997). Whether a general partner is entitled to an accounting is a conclusion of law involving the application of two New York statutes. The district court did not refer to this relevant statutory authority, but instead summarily decided that because plaintiff neither materially breached the partnership agreement nor breached its fiduciary duty, no accounting was necessary. Reviewing the issue ourselves, we come to the opposite conclusion.
B. New York Partnership Law
Under Article 8 of New York Partnership Law, which governs limited partnerships, a general partner of a limited partnership “shall have all the rights and powers and be subject to all the restrictions and liabilities of a partner in a partnership without limited partners.” N.Y. Partnership Law § 98(1) (McKinney 1988). The National Partnership defendants, therefore, are entitled to an accounting as provided for general partnerships under New York law. That law provides four circumstances where a partner has a right to an accounting of partnership affairs. One circumstance is simply “[a]s provided by section forty-three,” N.Y. Partnership Law § 44(3) (McKinney 1988), which in pertinent part states
N.Y. Partnership Law § 43(1) (McKinney 1988).
Defendants seek an accounting in their amended counterclaim for breach of fiduciary duty within the meaning of § 3.02(b) of the Academy and Buckingham partnership agreements. Section 3.02(b) requires the general partners to “exercise their responsibilities in a fiduciary capacity.” Since the just-cited § 43 is entitled “Partner accountable as a fiduciary,” it plainly applies in this case and would be an appropriate starting point for determining whether the National Partnership is entitled to an accounting.
C. Application of New York Partnership Law § 43
Defendants seek an accounting based on plaintiff's dealings with its identity-of-interest companies. To establish breach of fiduciary duty under Partnership Law § 43, defendants must show that NCAS benefitted from the dealings in question and lacked the consent to enter into such dealings. Accordingly, defendants allege that plaintiff: (1) made contracts with identity-of-interest companies that were not “reasonably competitive”; (2) caused the partnerships to contract with identity-of-interest companies and pay for goods and services not provided by such companies; (3) engaged in miscellaneous instances of misconduct; and (4) did not receive the requisite approval for these transactions, which is in violation of § 3.03 of the Academy agreement and § 3.09 of the Buckingham agreement. We first address allegations (1), (2), and (3) in turn, which set forth how NCAS benefitted from its transactions with its “affiliated persons.” We defer analysis of allegation (4) for a moment, including it in our discussion of whether NCAS acted without the National Partnership's consent.
1. Plaintiff's Benefit from Use of Partnership Property
Defendants assert three alternative theories by which NCAS benefitted from contracting with identity-of-interest companies. Allegation (1) charges plaintiff with agreeing to less than reasonably competitive rates on behalf of the partnerships. The district court ruled that defendants did not establish this claim by a preponderance of the evidence. In reaching this conclusion, the trial court pointed to several examples where plaintiff had engaged in competitive bidding before awarding a contract to one of its own companies. Although the court's ruling runs contrary to the conclusions reached by Deloitte in its 1995 report-which the trial court accepted in its findings of fact-whether we agree with the resolution of this particular issue is irrelevant due to the magistrate's own findings of fact concerning the second and third allegations.
Each of these findings illustrates that plaintiff benefitted financially at the expense of the partnerships. As defined in both partnership agreements, an identity-of-interest company is intimately related to at least one of the general partners-in this case, the plaintiff. As proof of this intimate relationship, one of the shareholders and officers of NCAS testified during cross-examination that he is an owner, officer and employee of both Noral Security Systems and Durable Painting. He also is the sole owner of Alpha Plumbing and Heating. All of these companies operate their businesses out of the same office as NCAS. Such a close relationship between the identity-of-interest companies at issue and plaintiff strongly supports the conclusion that the payments just listed benefitted NCAS.
Defendants' proof on allegations (2) and (3) therefore established the first part of their fiduciary duty claim, namely that plaintiff enjoyed a benefit from “transaction[s] connected with the ․ conduct ․ of the partnership or from any use ․ of its property.” N.Y. Partnership Law § 43(1). Such conduct constitutes a breach of fiduciary duty, however, only if plaintiff acted without the consent of the National Partnership. See id. Discussion now passes to allegation (4), that plaintiff's conduct breached those sections of the partnership agreements requiring defendants' consent for contracts with identity-of-interest companies.
2. Plaintiff's Breach of the Consent Provisions
Section 3.03 of the Academy agreement states that “any transaction by the Partnership with Affiliated Persons shall be subject to [defendants'] and the Local General Partner's approval.” Section 3.09 of the Buckingham agreement includes substantially similar language. As noted earlier, on March 2, 1995 National Partnership wrote plaintiff that it was withdrawing its consent to use “affiliated persons” for contract services, and specifically withdrew consent for contracts with Noral Security Systems, Durable Painting, and Alpha Plumbing and Heating. Plaintiff admits it ignored this letter and instead continued to contract with these companies. Hence, transactions subsequent to the date of the letter not only quite plainly benefitted NCAS and its identity-of-interest companies, but also were done without defendants' consent. In breaching the partnership agreements, plaintiff thereby violated its fiduciary duty to defendants, as that duty is defined in § 43 of the New York Partnership Law.
With respect to transactions pre-dating the March 2 letter, plaintiff raises two defenses as to why those transactions should not form the basis for granting defendants an accounting. First, it insists that because defendants approved all prior contracts with identity-of-interest companies, they thereby approved all practices related to those contracts. It cites Gutwirth v. Carewell Trading Corp., 12 A.D.2d 920, 920, 211 N.Y.S.2d 732 (1st Dept.1961), for this proposition. In that case, the court denied an accounting to a partner because “there was no diversion of funds on the part of defendants, and ․ plaintiff had full knowledge of and consented to all of the acts of which he now complains.” Yet Gutwirth is distinguishable from the case at hand.
[T]he level of detail in the financial statements and budgets prepared by the partnerships did not enable defendant ․ to evaluate whether the partnerships properly accounted for items such as its management fee, bonuses, and charitable contributions, whether excess payments had been made, and whether services being obtained for the partnerships were competitively bid.
Without having either actual or constructive knowledge of the entire scope of plaintiff's use of partnership funds involving identity-of-interest companies-or any means by which to discover it-defendants' approval of past contracts cannot now be considered the equivalent of “full knowledge” as that phrase is used in Gutwirth.
The second defense plaintiff raises is that the remedy of an accounting is unavailable to defendants because the equitable doctrine of “unclean hands” applies. This argument is frivolous. New York courts have held that one partner's misconduct does not automatically deprive him of the right to an accounting. See Dwyer v. Nicholson, 109 A.D.2d 862, 863, 487 N.Y.S.2d 56 (2d Dept.1985) (“[A]llegations of [a partner's] unclean hands will not relieve [the other partners] of their duty to account.”); Bell v. Herzog, 39 A.D.2d 813, 814, 332 N.Y.S.2d 501 (3d Dept.1972) (“[T]he misconduct of a partner does not necessarily deprive him of his right to demand an accounting.”). Moreover, the district court found that the National Partnership engaged in no misconduct, hence the unclean hands doctrine had no application here.
Looking simply at the trial court's findings of facts reveals that plaintiff violated its fiduciary duty under Partnership Law § 43. As a consequence, defendants are entitled to an accounting with respect to all transactions, contracts and dealings, regardless of when entered into, between Academy and Buckingham, plaintiff, and any identity-of-interest companies.
III Defendants' Request to Remove Plaintiff As Local General Partner
One means by which National Partnership has the authority to remove NCAS as local general partner is via the terms of the partnership agreements. Since the facts are not in dispute, our review is limited to the magistrate judge's legal interpretation of those agreements. The construction of the text of an agreement is reviewed de novo. See Bellefonte Reinsurance Co. v. Aetna Cas. & Sur. Co., 903 F.2d 910, 912 (2d Cir.1990).
The trial court withheld authorization to remove NCAS as local general partner because it found plaintiff's misconduct was neither a “material breach” of the partnership agreements nor a breach of fiduciary duty as that duty is defined in those agreements. We reach a different conclusion, believing that NCAS's actions are grounds for its removal under the terms of the partnership agreements.
B. Terms of the Agreements as Controlling Authority
Under New York law, “[t]he rights and obligations of the partners as between themselves arise from, and are fixed by, their agreement.” Corr v. Hoffman, 256 N.Y. 254, 272, 176 N.E. 383 (1931). When a partnership agreement contains clear and unambiguous terms, New York courts enforce the plain meaning of those terms, without resorting to extrinsic aids of interpretation, see CCG Assocs. I v. Riverside Assocs., 157 A.D.2d 435, 440, 556 N.Y.S.2d 859 (1st Dept.1990), or rewriting those terms. See Curtin v. Glazier, 94 A.D.2d 434, 438, 464 N.Y.S.2d 899 (4th Dept.1983) (noting that a complete expression of the parties' intention set forth in writing may not be rewritten); CCG Assocs. I, 157 A.D.2d at 440, 556 N.Y.S.2d 859. Further, when a partnership agreement expressly provides terms for removal, the partners' purposes should not be frustrated, absent evidence of overreaching or some other violation of public policy. See Gelder Med. Group v. Webber, 41 N.Y.2d 680, 684, 394 N.Y.S.2d 867, 363 N.E.2d 573 (1977). The parties have no quarrel with the policy underlying the agreements, the terms of which the district court found “clear and unambiguous,” in conformance with state law, and which it further stated would be enforced according to their “plain meaning.”
Defendants' third and fourth counterclaims, which seek removal of NCAS as local general partner, fault plaintiff for committing a “material breach within the meaning of Section 8.08 of the Partnership Agreements.” (emphasis added). Section 8.08 is virtually identical in both agreements and reads, in pertinent part
(i) violation of or failure to comply with a material provision of the Purchase Agreement, this Amended and Restated Limited Partnership Agreement ․, the Regulatory Agreement or any law or regulation applicable to the Project.
(emphasis added). Clearly then, if plaintiff is in noncompliance with a “material provision” of the partnership agreements, or any applicable law or regulation, this section empowers defendants to demand plaintiff's removal as local general partner.
C. Plaintiff's Breach of a “Material Provision”
Turning first to defendants' fourth counterclaim, the National Partnership alleges that NCAS acted in violation of § 3.03 of the Academy agreement and § 3.09 of the Buckingham agreement by contracting with its identity-of-interest companies after defendants withdrew their consent in their March 2, 1995 letter. As noted earlier, those sections of the agreements require defendants' approval over all contracts involving “affiliated persons.” The magistrate judge found plaintiff had violated these sections when it maintained those contracts after defendants' consent was rescinded. Even NCAS admits its continued employment of these companies after receiving the letter, pursuant to advice of counsel. Yet nothing in the language of the agreements permits a partner to act unilaterally in the event of litigation or upon advice of counsel. And, under New York law, a court may not read into the unambiguous language of § 8.08 any additional requirements. Having established that plaintiff is in breach of its agreements with defendants, the question then becomes whether this breach is of a “material provision” within those agreements.
Nothing in the agreements defines what constitutes a “material provision.” Considering however that the language requiring defendants' approval for contracts involving identity-of-interest companies is enumerated within the relevant sections-the only ones in the agreements to address business relations with “affiliated persons”-we hold that approval of contracts is a material provision. Accordingly, plaintiff's actions in continuing to deal with identity-of-interest companies violated a material provision of the partnership agreements. Thus, the National Partnership has the right to remove NCAS as local general partner.
The trial court's discussion took a different path from ours because it focused on the phrase “material breach” in a different context than that used in defendants' counterclaims. It required the breach itself to be material, instead of enquiring whether the breach was of a material provision. Yet, as quoted earlier, § 8.08 of the partnership agreements clearly states that any violation of a material provision is grounds for removal. New York law requires courts to enforce such an unambiguous term as written.
We are also not persuaded to follow the magistrate judge's analysis because it relied upon cases involving contracts negotiated at arm's-length, not partnership agreements. See Lanvin Inc. v. Colonia, Inc., 739 F.Supp. 182, 195 (S.D.N.Y.1990) (involving licensing agreement to sell perfumes); Miller v. Benjamin, 142 N.Y. 613, 617, 37 N.E. 631 (1894) (involving contract to sell slit steel). New York case law makes it evident that partners are held to a higher standard in their dealings with one another than parties involved in an ordinary garden-variety contract. As Chief Judge Cardozo announced
Meinhard, 249 N.Y. at 463-64, 164 N.E. 545. We find no authority that would permit the application of “material breach” contract principles to the express terms of NCAS's and the National Partnership's limited partnership agreements and thereby overcome application of the Meinhard standard in the instant case.