Written by Sarah Barton, JD
A fiduciary duty is defined as “a duty to act with the highest degree of honesty and loyalty toward another person and in the best interests of the other person (such as the duty that one partner owes to another).”The law governing a limited liability company (LLC) is similar to that governing a corporation or partnership—the LLC’s older siblings in the family of business entities—in imposing fiduciary duties; however, for LLCs, fiduciary duties may be modified by contract to the extent permitted under state law.
This article addresses who owes fiduciary duties in LLCs and to whom they are owed, describes the duties owed, and outlines when they are owed.
WHO OWES—AND WHO IS OWED—FIDUCIARY DUTIES IN AN LLC?
Fiduciary duties are generally owed by individuals who exercise some degree of control or authority in the LLC’s operation or have a relationship of trust and confidence with the LLC. Depending on the circumstances and applicable state law, this includes LLC members or managers. The LLC itself, a fictional legal entity that can act only through its members, likely does not owe fiduciary duties. Fiduciary duties may be imposed on managers or members by statute, common law, or the terms of an operating agreement.
LLC statute. Many state statutes, including those in states that have adopted the Revised Uniform Limited Liability Company Act (RULLCA), provide that when an LLC is manager-managed, the managers—regardless of whether or not they are also members—typically owe the fiduciary duties of loyalty and care to the LLC and its members. However, state law varies with respect to whether LLC members who are not managers owe fiduciary duties. Section 409 of the RULLCA provides that a member has no duty to the LLC or to any of the other members simply by reason of being a member. Nevertheless, section 409 also states that a member of a member-managed LLC owes the duties of loyalty and care to the other members and to the LLC. The comment to section 409 further suggests that even if an LLC is manager-managed rather than member-managed, a member who owns a controlling interest or indirectly controls the LLC’s activities may owe fiduciary duties.
Common law. A few states have declined to impose fiduciary duties based on common law because they view the language of their LLC statute as dispositive regarding the LLC. In other states, in addition to a statutory fiduciary duty, or even in the absence of an LLC statute that addresses the issue, a member or manager may owe fiduciary duties to the LLC established in common law. For example, in Evergreen West Business Center v. Emmert, the Oregon Court of Appeals held that an LLC member in a manager-managed LLC, who had agreed to work with a bank on behalf of the LLC to try to postpone the bank’s foreclosure on real property owned by the LLC, owed fiduciary duties to the LLC under common law because he had entered into a relationship of confidence with the LLC, which required him to act in good faith and with due regard to the LLC’s interests. Instead of working to postpone the foreclosure, the member, without providing notice to the LLC or its other members, purchased the note and trust deed to the property from the bank, allowed the foreclosure to proceed, and purchased the property for himself at the foreclosure sale. The court held that the language of the applicable LLC statute did not preclude the member from establishing a fiduciary relationship in ways other than those described in the statute.
Accordingly, the court ruled that there was sufficient evidence for the jury’s conclusion that the member had breached a fiduciary duty owed to the LLC arising out of his relationship of confidence with the LLC.
Members or managers may also owe fiduciary duties to the LLC if a court determines that they were acting as the agents of the LLC, even if the LLC statute does not address fiduciary duties. Under the common law of agency, an agent who acts on behalf of and subject to the control of another person who has consented to that action (the principal) is a fiduciary regarding the matters within the scope of the agency. LLC managers may often act as agents of the LLC. But even in a manager-managed LLC, members who are not managers but who have been delegated authority by the managers or the operating agreement can be deemed to be agents who owe fiduciary duties to the LLC or other members.
Provisions of the LLC operating agreement. Further, the LLC operating agreement may include provisions imposing fiduciary duties beyond those explicitly mentioned in the LLC statute or explicitly imposing them if the LLC statute does not address fiduciary duties. For example, in Allison v. Eriksson, the court found that where the parties had expanded the fiduciary duties owed by the LLC members and managers by including provisions in the LLC agreement prohibiting the dilution of a member’s interest or amendment of the operating agreement without the members’ consent and the removal of members from the management of the company, a merger resulting in those actions being taken against a minority member constituted a violation of the duty of the utmost good faith and loyalty. Instead of restricting fiduciary duties as permitted by the LLC statute, the operating agreement’s provisions had been expanded to create a fiduciary duty to prevent the outcome that had in fact occurred as a result of the merger: the freeze-out of the minority member. No “magic words” such as fiduciary duties are necessary for a fiduciary duty to be imposed by the parties’ operating agreement if it includes language evidencing the members’ intention to incorporate a particular fiduciary duty. . .
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