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Wisconsin Supreme Court Opens the Door to More Lawsuits by LLC Members

On April 2, 2019, the Wisconsin Supreme Court made it a lot easier for members of a limited liability company to sue each other. Because LLCs are often the preferred organizational structure of banks’ customers, this case might be interesting to your bank.

 The Court issued a decision in a closely-followed appeal involving the rights of members of a Wisconsin limited liability company (“LLC”) to sue LLC managers or other members, in the matter of Daniel Marx, et al. v. Richard L. Morris, et al. 2019 WI 34. 

Significantly, the Court held that the members of an LLC can sue other members of the LLC, as well as the LLC’s managers, based on harm to the members or the LLC, itself, without having to sue on behalf of the LLC itself. Prior to this decision, because corporate derivative actions are not mentioned in the Wisconsin statutes for LLCs, Wisconsin law was unclear whether members can sue individually (unlike corporations) or whether they have to sue through the LLC (the path required of corporation shareholders). 

The underlying case involves an LLC named North Star Sand LLC and its six members, who were all LLCs themselves. Each of the member LLCs were owned by six different individuals. Two of the individuals (who were not actually members of North Star) and the LLCs that they owned (the individuals and their LLCs are the named plaintiffs) alleged that another individual named Richard Morris (who also was not actually a member of North Star) and his single-member LLC engaged in improper self-dealing in a transaction in which assets of North Star were sold to a separate entity partially owned by Morris. The plaintiffs brought suit against Morris and his LLC alleging violation of Wisconsin LLC statutes, common law claims, and breach of contract claims relating to the alleged improper self-dealing. The Wisconsin Supreme Court allowed the lawsuit by the plaintiffs to continue.

In addition to confirming LLC members’ individual standing to sue other members or managers for alleged harm to members or the LLC, the Court also concluded that members may also sue other members and managers under certain common law duties—including relating to LLC member fiduciary duties—unless the members’ ability to sue under common law theories is expressly limited by the governing operating agreement entered into among the LLC members.

Such fiduciary duty disputes are, unfortunately, not uncommon among LLC members, and generally do not surface until long after the LLC has been formed and the governing operating agreement has been established.  The moral of the story is that if your customers are involved in an LLC that has more than one member, the LLC operating agreement should be carefully drafted in order to ensure that the members’ intentions with respect to their duties to each other and the LLC are clearly laid out.  Otherwise, expect a lot more litigation involving LLCs. While banks can’t require their customers to have provisions like these in their customers’ operating agreements, it’s good to remind your customers that disputes develop so it’s for everyone’s benefit that expectations of the parties are clearly discussed and memorialized in operating agreements before problems develop.  Banks should also just simply be aware that this case will generally drive more litigation and may, unfortunately, lead to banks being pulled into such litigation.

DISCLAIMER: The information provided is for general informational purposes only. This post is not updated to account for changes in the law and should not be considered tax or legal advice. This article is not intended to create an attorney-client relationship. You should consult with legal and/or financial advisors for legal and tax advice tailored to your specific circumstances.

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