The Fiduciary Duties of Members of a LLC

Leslie M. Gieger

Author: Leslie M. Gieger

POST DATE: 11.15.17
Ccha  Business Services

In practice, I have found that about 90% of the entities my clients wish to form are now formed as limited liability companies pursuant to the Indiana Business Flexibility Act. In light of the simplicity of the structure with the limited liability protection for members, there are now very few reasons to turn to corporations or partnerships.

An LLC is a hybrid legal structure that provides the limited liability features of a corporation and the tax efficiencies and operational flexibility of a partnership. Members of a LLC are allowed to decide for themselves how to split the profits of the corporation, based upon capital invested and the amount of time and labor a member puts into the business. Members can also actively participate in the company without subjecting themselves to personal liability for such participation (in most circumstances).

However, the limited liability protections offered to members of a LLC are not to be limitations on the liabilities of members when it comes to their fiduciary duties to the LLC and to each other. Fiduciary obligations of members of a LLC are derived from the Indiana Business Flexibility Act and common law. Upon the initial adoption of the Business Flexibility Act in 1993, there was concern with the limited liability company form because of the lack of case law available. However, over the past couple decades, there has been a general acceptance that members of a limited liability company are (for the most part) subject to the same common law fiduciary duties as those imposed on partnership and closely held corporations.

In a case of first impression, the Indiana Court of Appeals held “In line with the district court's opinion in Credentials Plus, we now hold that common law fiduciary duties, similar to the ones imposed on partnerships and closely-held corporations, are applicable to Indiana LLCs.” Purcell v. S. Hills Invs., LLC, 847 N.E.2d 991, 997 (Ind. Ct. App. 2006). In its analysis, the Court of Appeals relied upon the United States District Court for the Northern District of Indiana precedent in Credentials Plus, LLC v. Calderone, 230 F.Supp.2d 890 (N.D. Ind. 2002). In Credentials Plus, the LLC brought a number of claims against a former member, Calderone. The LLC sued Calderone for breach of fiduciary duty to the company, along with some other federal causes of action. The Court compared LLCs to both partnerships and closely held corporations, concluding that “Indiana LLCs, being similar to Indiana partnerships and corporations impose a common law fiduciary duty on their officers and members in the absence of contrary provisions in LLC operating agreements.” Id. at 899. The Indiana Supreme Court took up the issue in G&N Aircraft, Inc. v. Boehm, 743 N.E. 2d 227, 227 (Ind. 2001) stating that "[t]he fiduciary must deal fairly, honestly, and openly with his corporation and fellow stockholders. He must not be distracted from the performance of his official duties by personal interests." Id. at 240 (citing Hartung v. Architects Hartung/Odle/Burke, Inc., 157 Ind. App. 546, 301 N.E.2d 240, 243 (1973)).

Unlike in a corporation, members of a LLC can limit their duties to the company and to each other, or eliminate them entirely. The Business Flexibility Act provides for a variety of ways to do so. Pursuant to I.C. 23-18-4-2, unless otherwise provided in a written operating agreement, a member or manager is not liable for damages to the limited liability company or to the members of the limited liability company for any action taken or failure to act on behalf of the limited liability company, unless the act or omission constitutes willful misconduct or recklessness. Further, I.C. 23-18-4-4(a)(1) states that a written operating agreement may modify, increase, decrease, limit, or eliminate the duties (including fiduciary duties or the liability of a member or manager for breach of the duties set forth in I.C. 23-18-4-2. This makes it clear that members not only agree to waive or restrict fiduciary obligations, but they also can agree to be held to higher standards and add additional duties to the other members and the company within an Operating Agreement.

Additionally, I.C. 23-18-4-4-(c) states that unless otherwise provided in a written operating agreement, a member of a limited liability company in which the articles of organization provide for a manager or managers and who is not a manager, has no duties to the limited liability company or to the other members solely by reason of acting in the capacity as a member. In other words, if a member is not actively participating in the affairs of the company, the member has no duty to either the company or the other members (subject to provision otherwise in the operating agreement).

In sum, it is important to remember that the limited liability company form provides some limited liability protections to its members, but does not completely relieve the members from fiduciary duties to the limited liability company and the other members.

If you are interested in obtaining further information about a limited liability company or other business entity, contact CCHA. For more information about Leslie, visit her profile.