Court Opinion

ID: 3190228
Source: CourtListenerOpinion
Date Created: 2016-03-31 14:05:15.934894+00
Date Added: 2024-06-11T14:35:59.732277
License: Public Domain

RENDERED : AUGUST 26, 2010
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                         2009-SC-000007-DCI

 RACING INVESTMENT FUND 2000, LLC                                       APPELLANT

                    ON REVIEW FROM COURT OF APPEALS
 V.                     CASE NO . 2007-CA-002282-MR
                   FAYETTE CIRCUIT COURT NO . 02-CI-00769

 CLAY WARD AGENCY, INC .                                                 APPELLEE

              OPINION OF THE COURT BY JUSTICE ABRAMSON

                         REVERSING AND REMANDING

       Racing Investment Fund 2000, LLC is a limited liability company created

in August 2000, to purchase, train and race thoroughbred horses. In May,

2004, Racing Investment entered into an agreed judgment with its former

equine insurance firm, Clay Ward Agency, Inc., for past-due insurance

premiums. Shortly thereafter, Racing Investment partially paid the judgment

by tendering all of the remaining assets of the then-defunct limited liability

company. When Racing Investment failed to pay the remainder of the amount

owed, Clay Ward succeeded in having Racing Investment held in contempt of

court for its failure to pay the entire judgment amount . Specifically, the trial

court ruled that a provision in Racing Investment's Operating Agreement which

allowed the limited liability company's Manager to call for additional capital
 contributions, as needed, from all members on a pro rata basis for "operating,

 administrative or other business expenses" provided a means of satisfying the

 Clay Ward judgment . The trial court ordered that Racing Investment "act

 accordingly to satisfy the Judgment within a reasonable period of time" or face

 other sanctions . After the Court of Appeals affirmed, this Court granted

 discretionary review to consider whether the capital call provision can be

 invoked by a court to obtain funds from the limited liability company's

 members in order to satisfy a judgment against the limited liability company.

 Having concluded that KRS 275 .150 provides for immunity from personal

liability for a limited liability company's debts unless a member agrees

otherwise and, further, that members of Racing Investment did not, by signing

an operating agreement allowing for periodic capital calls from the Manager,

subject themselves to personal liability, we reverse .

                                RELEVANT FACTS

      As noted, Racing Investment was formed as a limited liability company in

August 2000 to engage in thoroughbred horse racing . The Operating

Agreement provided for fifty units to be sold for an initial capital contribution of

$100,000 per unit and allowed the Manager on an as-needed basis, subject to

some limitations, to call for additional capital from the members in order to pay

operating, administrative or other business expenses . The Manager of Racing

Investment was Gaines-Gentry Thoroughbreds, LLC, which, as it name

suggests, is a limited liability company in its own right.
       Games-Gentry was the manager of a number of thoroughbred racing

 limited liability companies which, for several years, purchased equine

 insurance coverage through Clay Ward . Games-Gentry eventually brought suit

 against Clay Ward for breach of contract, fraud and negligence claims arising

 out of the alleged mishandling of the insurance of a foal and a stallion, neither

 of which was owned by Racing Investment . During the course of Gainer-

 Gentry's dispute with Clay Ward, Racing Investment did not pay certain

 insurance premiums it owed for coverage of its horses. In the course of the

 Gainer-Gentry litigation, Clay Ward eventually moved for summary judgment

 on its counterclaims against Racing Investment for the unpaid insurance

premiums, a motion which Racing Investment did not oppose . After the matter

of the prejudgment interest was resolved between the parties, Clay Ward and

Racing Investment entered into an agreed judgment on May 27, 2004 for $69,

858 .96, of which $12,719 .28 was paid shortly thereafter .

      As referenced supra, Clay Ward succeeded in its efforts to have Racing

Investment held in contempt for failure to pay the outstanding balance of

$57,139 .68 as well as any post judgment interest . The trial court and the

Court of Appeals concluded that a provision in Racing Investment's Operating

Agreement which allows the Manager to make additional capital calls provided

a means for obtaining funds to satisfy the Clay Ward judgment, i.e., a capital

call should issue to each member of the LLC for his, her or its pro rata share of

the balance owed on the judgment . The trial court also concluded that Racing

Investment was in contempt of court for failing to have called for additional
 capital from its members, a position which the Court of Appeals affirmed as

 properly within the trial court's discretion . Having granted discretionary

 review, we turn first to Kentucky Revised Statutes (KRS) Chapter 275 and

 general principles governing limited liability companies, and then the specific

 provisions of the Operating Agreement.

                                      ANALYSIS
 In 1994, Kentucky joined a growing national trend by recognizing limited

liability companies (LLCs) through the adoption of the "Kentucky Limited

Liability Company Act" codified at KRS Chapter 275 . As early commentators

noted, the hallmark of this new form of business entity is its combination of

the income tax advantages of a partnership with the business advantages of a

corporation . Thomas Rutledge and Lady Booth, The Limited Liability Company

Act: Understanding Kentucky's New Organizational Option, 83 Ky. L.J . 1 (1994-

95) . The "centerpiece" of a limited liability company is its "provision for limited

liability of its members and managers in regard to the debts and obligations of

the LLC . . . ... Id. at 6 . See also Charles Fassler, Kentucky Limited Liability

Company § 1 .7 (2009) ("The most important feature of an LLC is its limited

liability protection . . . . It is this limited liability that makes an LLC such a

valuable entity .") One indicia of the strength of that limited liability protection

is the Internal Revenue Service's recognition that federal employment tax
liabilities incurred by an LLC cannot be collected from the LLC's members .

citing Rev . Rul. 2004-41, 2004-1 C.B . 845 . 1

       Kentucky codified the limited liability feature of a limited liability

company at KRS 275 .150 - "Immunity from personal liability":

                     Except as provided in subsection. (2) of this
                     section or as otherwise specifically set forth in
                     other sections in this chapter, no member,
                    manager, employee, or agent of a limited liability
                    company, including a professional limited
                    liability company, shall be personally liable by
                    reason of being a member, manager, employee,
                    or agent of the limited liability company, under a
                    judgment, decree, or order of a court, agency, or
                    tribunal of any type, or in any other manner, in
                    this or any other state, or on any other basis, for
                    a debt, obligation, or liability of the limited
                    liability company, whether arising in contract,
                    tort, or otherwise . The status of a person as a
                    member, manager, employee, or agent of a
                    limited liability company, including a
                    professional limited liability company, shall not
                    subject the person to personal liability for the
                    acts or omissions, including any negligence,
                    wrongful act, or actionable misconduct, of any
                    other member, manager, agent, or employee of
                    the limited liability company . .
                    Notwithstanding the provisions of subsection (1)
                    of this section, under a written operating
                    agreement or under another written agreement,
                    a member or manager may agree to be obligated.
                    personally for any of the debts, obligations, and
                    liabilities of the limited liability company.

      Notably, the statute contains a strong, detailed declaration of personal

immunity followed by recognition in subsection (2) that a member or members

  Kentucky has made exceptions, however, for state taxes owed by an LLC: there can
  be personal liability on the part of members for sales taxes, payroll taxes and other
  state taxes . See Fassler at § 1 .8 .
 may agree in writing to be personally liable for the LLC's debts, obligations and

 liabilities . As one national commentator has noted, "[s]ince most LLCs are

 created for the purpose of obtaining limited liability, few LLCs take advantage

 of the opportunity to allow their members to waive limited liability under the

 act." Steven C. Alberty, Limited Liability Companies : A. Planning and Drafting

 Guide § 3 .06(b)(2) (2003) .

       Following the filing of articles of organization, KRS 275 .020, the business

 of a limited liability company is typically conducted in accordance with an

 operating agreement, an agreement that has been analogized to a partnership

 agreement or even the articles of incorporation, by-laws and shareholders'

 agreement of a corporation . Fassler at § 1 .5 . KRS 275 .015(20) defines an

 "operating agreement" in relevant part as "any agreement, written or oral,

among all of the members, as to the conduct of the business and affairs of a

limited liability company ." If the members of a particular LLC do not adopt a

written operating agreement or adopt one which is silent on certain matters,

KRS Chapter 275 contains default provisions that will govern the conduct of

the entity's business and affairs.

One of the matters inevitably addressed in an operating agreement is the

capitalization of the LLC. Initial capital contributions are detailed as well as

any obligation for future capital infusion because "Ja]n LLC may need capital in

addition to that contributed at the time it is organized." Alberty at § 4 .02(b)(1) .

Consequently, the members' commitments, if any, to make future capital

contributions are also "typically set forth in the LLC's operating agreement ."
 Id. See also Fassler at § 5 .3 .

        In addition to the aforementioned principles of limited liability and

 capitalization, also relevant to the matter before us, given Racing Investment's

cessation of business, is KRS 275 .285 regarding dissolution of a limited

liability company . That statute provides that an LLC shall be dissolved and its

affairs wound up upon the happening of the first of a series of events . The one

particularly relevant here is subsection (1) which provides in pertinent part for

dissolution "upon the occurrence of events specified in the articles of

organization or a written operating agreement:" As for the effect of dissolution,

KRS 275.300 (2) provides:

              A dissolved limited liability company shall continue its
              existence but shall not carry on any business except
              that appropriate to wind up and liquidate its business
              and affairs, including:
              (a)   Collecting its assets ;
              (b)   Disposing of its properties that will not be
                    distributed in kind to its members ;
              (c)   Discharging or making provision for discharging
                    its liabilities;
              (d)   Distributing its remaining property among its
                    members according to their interests; and
              (e)   Doing every other act necessary to wind up and
                    liquidate its business and affairs .

Thus, dissolved limited liability companies continue their existence throughout

the process of winding up and liquidating the business.

       Before turning to Racing Investment's Operating Agreement and the

particular facts before us, we note that our standard of review as to

interpretation of the provisions of both KRS Chapter 275 and the Operating

Agreement is de novo. Cumberland Valley Contrs ., Inc. v. Bell County Coal
 Corp., 238 S .W .3d 644, 647 (Ky. 2007) ("interpretation and legal effect of

 contract" and statutory construction are matters of law, subject to de novo

review) . Accordingly, the legal conclusions of the trial court and Court of

Appeals, while carefully considered, are entitled to no deference . Id.

       Racing Investment first contends that upon tendering the last of its

assets to Clay Ward it dissolved pursuant to Section 11 .1 (a) of the Operating

Agreement. More specifically, sub-subsection (ii) of that agreement provides for

Racing Investment's dissolution "[u]pon the sale or other disposition of all, or

substantially all, of the assets of the Company . . . ." Under KRS 275.285(1)

quoted above, this occurrence, specifically identified in the Operating

Agreement, clearly triggered dissolution of Racing Investment. However, as

Clay Ward notes, KRS 275 .300(2) provides that a dissolved LLC remains in

existence to wind up and liquidate the business and that process includes

specifically "discharging or making provision for discharging its liabilities ."

Racing Investment counters with the fact that the limited liability company had

ceased business, wound up its affairs by distributing all of its assets and was

thus terminated pursuant to the following language, again in Section 1 l . l of

the Operating Agreement:

            Dissolution of the Company shall be effective upon the
            date on which the event giving rise to the dissolution
            occurs, but the Company shall not terminate until the
            assets of the Company shall have been distributed as
            provided in Section 11 .3 Notwithstanding dissolution
            of the Company, prior to the liquidation and
            termination of the Company, the business of the
            company and the affairs of the Members (including, but
              not limited to, the Investor Assignees), as such, shall
              continue to be governed by the Agreement.

(emphasis in original .) . While this termination argument appears to have some

merit, it is difficult from . the record before us to conclude definitively that

indeed Racing Investment has terminated its existence . Racing Investment

points to no evidence of record but relies on arguments of counsel regarding

the status of Racing Investment as an entity whose existence has factually and

legally terminated. With Racing Investment having failed to meet its burden . of

proof regarding the termination of the LLC, we turn to the larger question of

the effect of the periodic capital call provision .

      Section 4.3(a) of the Racing Investment Operating Agreement, entitled

"Additional Capital Contributions" provides:

             The Investor Members (including, but not limited to, any
             Investor Assignees) shall be obligated to contribute to
             the capital of the Company, on a prorata basis in
             accordance with their respective Percentage Interests,
             such amounts as may be reasonably deemed advisable
             by the Manager from time to time in order to pay
             operating, administrative, or other business expenses
             of the Company which have been incurred, or which
             the Manager reasonably anticipates will be incurred,
             by the Company . Except under unusual
             circumstances, such additional capital contributions
             ("Additional Capital Contributions") shall not be
             required more often than quarterly and shall be due
             and payable by each Investor Member (including, but
             not limited to, each Investor Assignee) within fifteen
             (15) days after such Investor Member receives written
             notice from the Company of the amount due (a
             "Quarterly Bill"), The Manager shall not be required to
             make any additional capital contributions.
 (emphasis in original.) . This is the provision relied upon by Clay Ward in

 contending that Racing Investment was in contempt of court for not having

 paid the agreed judgment in full. Under Clay Ward's interpretation, Racing

 Investment incurred a legitimate business expense for the equine insurance

 premiums prior to its dissolution and the members of the LLC, by agreeing to

 the periodic capital contribution provision, are subject to a "last call" to satisfy

 the outstanding balance on the judgment . In. accepting this construction, the

 trial court and Court of Appeals essentially concluded that, by agreeing to

 make periodic capital contributions pursuant to Section 4 .3(a), individual

members of Racing Investment are legally responsible for their pro rata share of

the entity's business debt. Indeed, under this theory, any outstanding debt

that remains unpaid by the LLC can be satisfied through application for a

court-ordered capital call . We reject this construction as contrary to the plain

terms of the Operating Agreement and the letter and spirit of the Kentucky

Limited Liability Company Act .

      As discussed above, an operating agreement providing for future capital

contributions by the LLC's members is neither "unique" as suggested by Clay

Ward nor "atypical" as described by the Court of Appeals . Many businesses

choosing the limited liability company form have circumstances that require

periodic capital infusion . See Alberty at § 4.02(b) ("Often, an LLC will need

financing in stages, and staggered contributions by members will be

anticipated at the time the LLC is organized. . . . Both anticipated and

unanticipated later capital contributions should be addressed in an LLC's
 organizational documents .") Section T3(a) is a. provision designed to assure

 members will contribute additional capital, as deemed necessary by the

 Manager, to advance Racing Investment's thoroughbred racing venture . While

 Clay Ward's insurance premiums were indeed a legitimate business expense for

 which the Manager could have made a capital call, that premise alone does not

 lead afortiori to the relief ordered by the trial court . Simply put, Section 4 .3(a)

is a not-uncommon, on-going capital infusion provision, not a debt-collection

mechanism by which a court can order a capital call and, by doing so, impose

personal liability on the LLC's members for the entity's outstanding debt. Clay

Ward insists that its quest to be paid is not about individual member liability,

but there is no other way to construe what occurs when a court orders a

capital call be made to pay for a particular LLC debt. From any viewpoint, the

shield of limited liability has been lifted and the LLC's members have been held

individually liable for its debt.

       KRS 275.150 emphatically rejects personal liability for an LLC's debt

unless the member or members, as the case may be, have agreed through the

operating agreement or another written agreement to assume personal liability.

Any such assumption of personal liability, which is contrary to the very

business advantage reflected in the name "limited liability company", must be

stated clearly in unequivocal language which leaves no room for doubt about

the parties' intent . Section 4 .3(a) of Racing Investment's Operating Agreement

does not begin to meet this standard . A provision designed to provide on-going

capital infusion as necessary, at the Manager's discretion, for the conduct of
 the entity's business affairs is simply not an agreement "to be obligated

 personally for any of the debts, obligations and liabilities of the limited liability

 company ." KRS 275 .150(2) . To reiterate, assumption of personal liability by a

 member of an LLC is so antithetical to the purpose of a limited liability

 company that any such assumption must be stated in unequivocal terms

 leaving no doubt that the member or members intended to forego a principal

 advantage of this form of business entity. On this score, Section 4 .3(a) simply

 does not qualify.

       As noted by both parties, the immediately following section of the

Operating Agreement, Section 4 .4, provides "[exxcept as otherwise specifically

provided in the [Kentucky Limited Liability Company] Act, no Member shall

have any personal liability for the obligations of the Company." This provision

underscores the fundamental premise of a limited liability company. However,

this provision continues by stating that, "except . . . . as to Additional Capital

Contributions . . . no Member shall be obligated to contribute additional funds

or loan money to the Company." While Clay Ward views this exception as

approval of its theory regarding a last capital call, the additional capital

contributions under Section 4 .3(a) are, again, those periodic capital

contributions which the Manager concludes are necessary to meet Racing

Investment's on-going expenses . Section 4 .3(a) is not a postjudgment

collection device by which any legitimate business debt of the LLC can be

transferred to individual members by a court-ordered capital call. A judgment

creditor of a limited liability company has available all legal means for
    collection as against the entity itself but no means of securing relief from the

    LLC's individual members absent the unequivocal assumption of personal

    liability provided for in KRS 275 .150(2) .2

          Having concluded that Section 4 .3 of the Operating Agreement does not

    allow the unpaid portion of the agreed judgment against Racing Investment to

    be satisfied through a court-ordered capital call, we reverse the opinion of the

 Court of Appeals . We also remand this matter to Fayette Circuit Court for

 additional proceedings, if any, consistent with this opinion .

          Minton, C.J . ; Cunningham, Schroder, Scott, and Venters, JJ ., concur.

Noble, J ., not sitting.

2     KRS 275.200(5) does contain an exception for a creditor of a limited liability
      company "who extends credit or otherwise acts in reliance on the obligation [of a
     member to contribute to the LLC] after the member executes a writing which
     reflects that obligation and before the compromise [of the obligation by the
     unanimous consent of all members] . . . ." A creditor who has so relied may "enforce
     the original obligation." Id. This provision has no application to a future capital
     contribution provision, such as the one before the Court, which is not for an
     amount certain but rather provides discretion to the manager of the LLC to call for
     capital from members, on an as-needed basis, to meet expenses .
     Nor is there before us any issue as to whether an LLC's limited liability veil may be
     pierced . See, e.g., Naples v. Keystone Bldg. & Development Corp ., 990 A .2d 326,
     339-342 (Conn. 2010) (addressing piercing of LLC veil but declining to do so on
     facts presented) .

                                             13
COUNSEL FOR APPELLANT:

Joe Francis Childers, Jr.
Richard A. Getty
Jessica K. Case
Getty 8s Childers, PLLC
1900 Lexington Financial Center
250 West Main Street
Lexington, KY 40507

COUNSEL FOR APPELLEE :

James Burke Cooper
Boehl, Stopher 8, Graves
444 West Second Street
Lexington, KY 40507

David T. Royse
Stoll Keenon Ogden PLLC
300 West Vine Street, Suite 2 100
Lexington, ICY 40507-1801