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When should a court dissolve an LLC? A case from a morbidly entertaining brother-in-law feud

A brother-in-law — a real piece of work, judging by the state supreme court’s opinion — started a real-estate business with three other family members. He was “a difficult partner,” as the trial court put it; even though the business was profitable, he sued to try to expel the other family members — and essentially had his head handed to him. The state supreme court’s opinion is interesting both for its entertainment value and for the court’s review of case law on a not-uncommon legal question. See Barkalow v. Clark, No. 19-1970 (Iowa May 14, 2021). Here are the facts of interest:

  1. Meet the family: Two brothers, the Clarks, were married to sisters; a third sister was married to an outsider, whom we’ll call Brother-in-Law, and who seems to be the main character in our little drama.
  2. Brother-in-Law was into real estate; he wanted to buy houses near the University of Iowa stadium, but he didn’t have the money. So Clark Brothers 1 and 2, plus a third brother, put up the money, and the four of them formed an LLC.
  3. All three Clark brothers loaned Brother-in-Law the money for him to buy into the LLC; this loan was done on an oral agreement without any kind of written promissory note. (Brother-in-Law never got around to repaying the Clark brothers for the money they’d loaned him until years later when things were getting seriously antagonistic.)
  4. Brother-in-Law and Clark Brothers 1 and 2 were active in the LLC’s business; Clark Brother 3 was more of a passive investor.
  5. Brother-in-Law took money out of the business for “management fees,” even though (the court trial found) everyone had orally agreed that they wouldn’t be paid for working in the business.
  6. As time went on, additional capital contributions were needed for the business. The three Clark brothers each put in extra money, but Brother-in-Law refused to do so, apparently preferring to use his funds for other business interests that he owned completely instead of just partially.
  7. Consequently, under the LLC operating agreement, the Clark brothers acquired extra ownership interests in the LLC, and as a result, Brother-in-Law’s interest was diluted down to 0.595% from his original 25%. The Clark brothers offered to buy out Brother-in-Law at undiscounted fair market value for his full 25% share. Brother-in-Law refused.
  8. Eventually the relationship between Clark Brothers 1 and 2 and Brother-in-Law soured to the point that — even though the LLC was profitable and making money — Brother-in-Law (who now owned just 0.595% of the company) filed a lawsuit against all three Clark brothers, seeking to expel them from the LLC and to dissolve it; only Clark Brothers 1 and 2 counterclaimed against Brother-in-Law, while Brother 3 tried to be a peacemaker.

After a five-day (!) bench trial, the trial judge ordered dissolution of the LLC and restoration of Brother-in-Law’s diluted capital position back to its original 25%; the judge did also order Brother-in-Law to repay more than $153K for wrongful conversion of LLC assets. (Brother 3, the peacemaker, had previously supported the 25% restoration; to me it sounds as though the trial judge was likewise trying to keep peace in the family.)

Brother-in-Law might have been OK with the trial’s outcome on balance, but he doubtless changed his mind after the appeal. The state supreme court noted (at 15):

[Brother-in-Law] contributed no money to [the LLC], not even the funds for his original capital position. He expected the Clark brothers to finance everything. He blocked efforts to obtain outside financing. He chose to pledge his own assets as collateral for an expansion of his personal real estate holdings, not for the use or benefit of the LLC in which he was only a 25% participant

Slip op. at 15. The supreme court:

  • affirmed the trial court’s order that Brother-in-Law repay $153K for wrongful conversion; and
  • reversed both the dissolution of the LLC and the restoration of Brother-in-Law’s 25% capital position; the court held that statutory requirement for judicial dissolution had not been met, because it was still reasonably practicable for the LLC to continue carrying on the business. (The supreme court’s opinion has a nice discussion of how previous courts had addressed this issue, with extensive citations from various jurisdictions; see slip op. at 18.)

So for his trouble, it seems that Brother-in-Law is now:

  • stuck with his diluted 0.595% share of the LLC;
  • also stuck with his brothers-in-law controlling the LLC, inasmuch as between them they own the remaining 99.405% of it; and
  • ordered to repay the LLC for the $153K that he took out of the business.

Karma, I guess — this could almost be an episode of one of those family-reality shows (I won’t mention any names), couldn’t it?

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