LIMITED LIABILITY COMPANIES;CORPORATE VEIL: Where the sole owner of a limited liability corporate subsidiary controls all the decisions of that subsidiary, the subsidiary will be viewed as the alter ego of the parent by that test alone.
Cognex Corp. v. VCode Holdings, Inc., Slip Copy, 2006 WL 3043129 (D. Minn., Oct. 24, 2006), at * 10-11,
A Minnesota Federal District Court here addressed the issue of application of the alter ego theory to Illinois LLCs. VCode was a single-member Illinois LLC with no employees of its own. Acacia Acquisitions ("Acquisitions") was a corporation and the single member. In turn, Acquisitions was wholly owned by Acacia Research Corporation ("Research"). The court held that VCode was the alter ego of Research, and the actions of VCode could be imputed to Research. The court permitted the plaintiff to proceed with its action for declaratory judgment against Research in connection with a patent dispute.
In its analysis, the court determined that Acquisitions and Research had nearly identical officers performing similar functions. The court also found that because no natural persons were part of VCode, all operational decisions on behalf of the LLC were in fact made by Acquisitions. The court noted that press releases and consolidated tax returns indicated that Research acted on behalf of VCode. The court further noted that Acquisitions was a holding corporation wholly owned by Research and had no assets other than its stakes in various subsidiaries, and that the officers of Acquisitions and Research were virtually identical.
Interestingly, the Minnesota District Court cites no other Illinois case on the application of alter-ego theory to Illinois LLCs. The court stated:
like most states, Illinois law will impute the actions of a subsidiary to a parent where the subsidiary is an alter ego of the parent. The parent must exercise such control over the subsidiary that the two entities are indistinguishable. The actions of the subsidiary will then be imputed to the parent where necessary to prevent fraud or injustice [citation omitted].
The parties to the case suggested that the court adopt a multiple-factor alter-ego test first (in connection with parent-subsidiary liability) adopted by the Tenth Circuit in Taylor v. Standard Gas & Elec. Co., 96 F.2d 693, 704-05 (10th Cir. 1938). But the court stated that "[t]his test is infrequently employed by Illinois courts, and there is little inclination that its use is currently favored." The court further noted that "[a]t the time that the test was developed, the law of business organizations had yet to recognize statutory limited liability companies," and "the underlying focus is whether the parent exercises such control that the parent and subsidiary are indistinguishable."
Comment 1: Acquisitions was a simple holding company, and conducted no business. Applying alter ego principles to that corporation seems appropriate. But Vcode did have a business. And it was incorporated to carry out that business. And the law of Illinois permitted the incorporation of single owner businesses. One would assume that, in a business with a single owner, that owner would have significant control over the affairs of the business. What is the meaning of the decision to permit incorporation of single owner businesses if not to permit business owners to enjoy the benefits of limited liability with respect to the affairs of that business, even though they in fact control the businesses decisions?
Although this case involves a corporate parent and a non-real estate business, the proliferation of single owner limited liability companies nationwide for purposes of ownership of real estate assets suggests that many real estate investors are relying upon LLCs to protect them from liability. Are they wrong? Are their attornies, who take the money for forming these LLCs, wrong? Should the attornies be advising greater separation in activity between LLC and owner? Exactly what sort of separation is appropriate?
Comment 2: Note that there were many other factors in this case that the court may have relied upon to conclude alter ego existed. For instance, apparently the subsidiary had no employees, and actions on behalf of the subsidiary were undertaken by employees and officers of the parent. But the court elected to look solely at the question of control over decision making. It is this single-mindedness that provokes the Editor to report this case, as it strikes the editor that the same control over decision making exists with respect to many small LLCs.
Comment 3: This case follows hard on the heels of a recent Ohio case, State ex rel Petro v. Mercomp, Inc., 853 N.E. 2d 1193 (Ohio App. 6/1/06) appeal denied 855 N.E.2d 1258 (the DIRT DD for 8/24/06), an Ohio court held that the control by an individual who was the single owner/manager of an LLC rendered that individual personally liable for environmental fines levied against the LLC for decisions made in the course of the LLCs business.
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