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Commingling Funds – Why you should NEVER do it

Commingling Funds Why you should NEVER do it

    By Ted Sutton, Esq.

Ryan was always ambitious and hard working. As a teen, he would regularly work on house flips with his dad. But when Ryan turned 18, he decided to start his own house flipping business.


After listening to his dad’s advice, Ryan formed an LLC for his house flipping business. A service helped him form an LLC with the Secretary of State, provide a registered agent address, and draft an operating agreement for his business. Once he began flipping houses, Ryan held himself out as the manager of the LLC.


But he skipped the step of forming a separate bank account. His dad never used one, so he didn’t feel the need to set one up. Any business funds were deposited and paid out from Ryan’s personal bank account. This was the same account Ryan used to pay his rent and other personal expenses.


After Ryan had been flipping homes for one year, one of his home buyers tripped and fell on a broken staircase. The buyer then filed suit against the LLC. After a lengthy trial, the court found that the LLC was liable for the buyer’s injuries. But because the LLC did not have a separate bank account, the buyer was able to reach Ryan’s personal bank account.


Because Ryan commingled business and personal funds, he was personally on the hook. He could not use the corporate veil to shield himself from personal liability.


What is Commingling Funds?


When you form a business, you can NEVER commingle funds. But what exactly does it mean to commingle funds?


A person commingles funds when they mix business and personal funds into a single bank account. But if you do this as a business owner, you can run into a lot of trouble.


When someone sues your business, a plaintiff may try to pierce the corporate veil to hold you personally liable. The corporate veil itself symbolizes that you are keeping your business property separate from your personal property.


But if you follow the list of corporate formalities, you can stop someone from piercing the corporate veil. The list varies by state, but it may include the following:


    1. Properly formed under the Secretary of State
    2. Maintaining separate bank accounts
    3. Maintaining separate records
    4. Having an operating agreement or bylaws
    5. Having bank accounts that are adequately capitalized
    6. Holding company out as a separate business
    7. Holding yourself out as manager of that business
    8. Conducting regular meetings
    9. Having minutes of those meetings
    10. Following other rules and regulations
    11. Legal entity separate from its owners
    12. No commingling of funds
    13. No personal obligations from business bank account
    14. No evidence of fraud or injustice
    15. Maintain annual filings, annual report, fees, good standing
    16. Having a registered agent
    17. Paying taxes for corporation
    18. Filing separate tax returns
    19. Making proper distributions
    20. Selling interests with proper approval
    21. Issuance of stock or membership certificates


If you follow most of these formalities, there will be a sufficient separation between you and your business. If this separation exists, you will not be held personally liable. But if there is no separation, then you are individually on the hook for any judgment entered against you. For more information on the corporate formalities, please check out my dad’s most recent book, Veil Not Fail.


In many states, the first formality that courts look at in veil piercing cases is whether the business owner commingled personal and business assets. You do not want this to work against you. If you don’t follow this first formality, it is very easy for the court to pierce the veil. But if you form a separate bank account that keeps your business assets separate from your personal ones, the veil will be much more difficult to pierce.


After you get an EIN number from the IRS, opening a business bank account at the beginning is very easy. In fact, many banks have low minimum balance requirements for business bank accounts. Having this separate account will protect you in the long run because it may shield you from personal liability.


Is it commingling or not?


It is also worth mentioning what constitutes commingling funds and what does not. Knowing these differences will help you properly operate your business.


One thing that does not constitute commingling is having bank statements mailed to your personal residence or a P.O. Box. This is especially true if your business is a passive holding company. If your business does not have a physical address, your personal residence may be the only address where banks can send bank statements. Another thing that does not constitute commingling is using your business bank account for all business income and expenses.


However, there are some things that do constitute commingling. Clearly, one of them is using one bank account for both business and personal expenses. Another is using your business bank account for any personal expenses, and vice versa. But if you keep these things separate, you will not be commingling funds.


Is Commingling
Is Not Commingling
- Using one bank account for business and personal expenses
- Sending bank statements to your - personal residence
- Loaning business funds to business owners for personal expenses
- Sending bank statements to a P.O. Box
- Using business funds to cover personal obligations
- Depositing business income into your business bank account
- Using personal funds to cover business obligations
- Paying business expenses from your business bank account
- Paying personal expenses from your personal bank account



Had Ryan set up a separate business bank account at the start, he would have stopped the buyer from piercing the corporate veil. After all, he followed many of the other corporate formalities. But because he didn’t have a business bank account, he was personally liable to the buyer.


Do not make the same mistake Ryan made. Have two separate bank accounts and use them as such.

Has The Time Come For Cyber Bounty Hunters?

The Colonial Pipeline shutdown last week raised troubling questions. How vulnerable is our own infrastructure to  cyber attacks? Should cyber pirates be paid, as they were by the Colonial Pipeline authorities?

Most importantly: What can we do to prevent such attacks?

Incentives usually work.

I wrote about this in Chapter 13 of my newest book, Scam-Proof Your Assets: Guarding Against Widespread Deception

A bounty hunter is someone who captures criminals for a “bounty,” a payment for providing a public service.

In the Old West, local sheriffs were sometimes unable to track down outlaws alone. They couldn’t do that and protect their town at the same time. So they put up wanted posters offering rewards for an outlaw’s capture, Dead or Alive. Bounty hunters responded, and tracked down the outlaws for the reward. For example, the reward for the capture of Jesse James was $5,000, an enormous amount of money at that time, equal to over $112,000 in today’s dollars.

Although the term “bounty hunter” evokes images of vigilantes in the Old West, the term “bounty hunter” was not in use in this context in the 1800s. Rather, the term relating to “one who tracks down and captures outlaws” arose around the 1950s in pulp fiction and Hollywood westerns. In 1954, Elmore Leonard published The Bounty Hunters. In the same year, The Bounty Hunter, a 1954 western film was released by Warner Brothers. The movie, starring Randolph Scott, was the first film to feature a bounty hunter as its hero. Have Gun-Will Travel was an American Western series that was broadcast by CBS on both television and radio from 1957 through 1963. The TV series featured Richard Boone as Paladin, a gentleman gunfighter who typically charged $1,000 per job and traveled around the Old West working as a mercenary for hire. Similarly, Wanted Dead or Alive was a CBS bounty hunting Western airing from 1958 through 1961. Recently, Leonardo DiCaprio played Rick Dalton, the fictional TV star of Bounty Law in Quentin Tarantino’s Once Upon a Time…in Hollywood.

In modern times, bounty hunters generally are known as bail enforcement agents, and they mostly carry out arrests of criminal defendants who have skipped bail and failed to appear at their trials. In some states there is no formal training for bail enforcement agents, and they are unlicensed. In other states, there are varying standards of training and licensing. The state of Nevada has very strict statutory and administrative requirements for bail enforcement agents. The risks can be great.

Local law enforcement agencies also offer rewards in high-profile cases. Funding sometimes comes from outside private donors who provide money to help solve specific crimes. As well, some cities and towns have set up Crime Stopper programs for anonymous tips.

Incentives also work in the field of cyber security. Governments and private companies offer “bug bounty” programs where monies are paid to ‘white hat hackers’ to identify weaknesses within a security or computer system.

A white hat hacker, or ethical hacker, is a good guy. They operate with the system owner’s permission to conduct penetration testing, vulnerability assessments and the like. Black hat hackers also harken back to TV Westerns, where the bad guy was easily identifiable by the black hat he wore. Black hatters are motivated by financial gain, anger at the system, the thrill of cybercrime, among other reasons. As we have learned throughout this book, the black hats wreak havoc in every corner of society.

Since not everything in life is just black and white there are also grey hat hackers. As an example of their work, they will search for system vulnerabilities without an owner’s permission. If they find an issue, they will ask the owner for a fee to fix it. If the owner won’t pay, they sometimes post the vulnerability for the web to see. While not black hat pernicious in their intent their hat is grey since they didn’t have the owner’s permission to begin with.


White hat hackers can be well compensated. In recent years the Department of Defense has paid out over $500,000 annually to white hatters for uncovering thousands of vulnerabilities under the Hack the Army, Hack the Air Force and Hack the Marine Corps programs. The Department of Homeland Security has established a bug bounty program to minimize internet security problems within their own systems.

Private companies also fund their own bug bounty programs. Apple offers a maximum payout of $1.5 million. In 2019, Google paid out $6.5 million to 461 researchers for their vulnerability assessments.

HackerOne is a founding member of Internet Bug Bounty (IBB), a bug bounty program designed for core internet infrastructure projects. IBB was started by hackers and security providers who were interested in making the internet safer. IBB partners with the global hacker community in order to discover security issues for its customers before these issues can be exploited by cyber criminals.

HackerOne claims to be the number one hacker-powered bug bounty platform in the country. They have launched more federal programs, including Hack the Pentagon, than any other service.

If bounty programs work for tech savvy hackers, why not for sophisticated hunters? Incentives work. The government could certainly expand existing bounty programs to bring in cyber criminals. To be certain there are legal issues to be worked out, but when compared to the lawlessness and impunity with which internet crime is committed, the legal issues seem small.

In fact, the U.S. Constitution allows for bounty hunters. Article 1, Section 8 gives Congress the power in Clause 11 to grant Letters of Marque and Reprisal. At the founding many sovereign nations issued such letters, which allowed private parties (or “privateers”) to engage in hostile, for profit acts against state enemies. In many cases, the state and the privateer shared the spoils. The most successful team was Sir Francis Drake, who scored lucrative hits on Spanish shipping, and Queen Elizabeth, who both feigned innocence to other monarchs and gladly took her cut of all the gold and silver. The difference between piracy, a hanging offense, and privateering (or benefitting from private ships of war) was having “letters of marque” sanctioning the bounty.

Article 1, Section 8, Clause 11 is often referred to as the War Powers Clause. It vests in Congress the power to declare war and grant letters of marque and reprisal. So Congress would have to approve the bounties.

But in a new world of extraterritorial threats, including terrorism and cyber havoc, the Constitution clearly allows a mechanism for the country to defend itself using sanctioned private actors. Letters of marque against a broad profile of hostile individuals, organizations and cyber bad actors would save the nation trillions in fighting undeclared wars and occupying countries that don’t want to be occupied. Letters of marque would target bad actors wherever they are found, offering great tactical flexibility. The U.S. has plenty of trained individuals to perform the work, privately defending the country and its citizens for a just reward.

Some commentators are adamantly against the idea of cyber bounty hunters. They note that active hacking, or going on the offense, is illegal under the Computer Fraud and Abuse Act. Even if someone in the private sector has been hit by a black hatter, opposing commentators claim there is no legal authority to hack back. As well, they ask who decides what is ethical, just and legally binding? A cyber bounty hunter with a financial incentive to find and accuse could destroy lives of innocents.

These commentators also argue that the government is already engaged in their own shadow form of bounty hunting. A majority of the personnel at the CIA’s National Clandestine Service are independents. They claim that 80% of the National Security Agency’s budget goes to paying private contractors. Are they privateers?

Governments will not warmly embrace digital vigilantism as they are already engaged in their own covert cyber criminality. A notable example of this, never confirmed, is the American and Israeli use of the Stuxnet computer worm to damage Iran’s nuclear program in 2010. While limiting an angry nation’s access to atomic capabilities seems worthwhile, it was also technically a violation of international law.

China’s military plans do not involve confronting the U.S. military directly. Instead, in what they call ‘systems destruction warfare,’ they will undermine American operations. At this point, no one will be arguing about technical violations of international law.

Christian Brose is the author of The Kill Chain: Defending America in the Future of High-Tech Warfare. In the May 23, 2020 edition of the Wall Street Journal, Mr. Brose wrote:

We must…redefine our objectives. If China continues to grow in wealth, technology and power, it will become a peer competitor to the U.S. Recovering our global military primacy is no longer a practical goal. We must instead pursue a more limited and achievable goal: denying military dominance to China. The U.S. military will have to focus less on projecting power and controlling territory than on preventing China (and other competitors) from projecting power themselves and committing acts of aggression beyond their borders. We must create defense without dominance.

This will require us to think differently about modernizing the U.S. military. The goal cannot be to accumulate more and better versions of traditional platforms in expensive pursuit of a 355-ship Navy or a 386-squadron Air Force. We must focus instead on developing networks of systems that enable U.S. commanders to understand the battle- space, make decisions and act – the process that our military calls “the kill chain” – and to do so better, faster and more dynamically than our adversaries. This battle network, not platforms alone, creates real military advantage.

Similarly, the Wall Street Journal reported in their June 2, 2020 edition:

The International Committee of the Red Cross in a letter last week signed by international political and business leaders called for governments to take “immediate and decisive action” to punish cyber attackers.

“There are more and more cyberattacks…on the healthcare sector and unless there are really strong measures taken, they will continue,” said Cordula Droege, chief legal officer at ICRC. “What we’re seeing at the moment are still indications of how devastating it could be.”

The next war or triggered economic collapse will involve taking out critical infrastructure, as well as military capabilities. The electric grid, telecommunications, healthcare, transportation, finance, water and waste water treatment, among other key resources are targets that will be attacked and must be defended. Having a corps of certified and licensed defenders may provide a crucial edge toward military advantage. They may also provide an immediate advantage to every American now suffering from the financial and emotional onslaught of scams.

The scamster in some small country who believes they are free to disrupt and ruin the lives of millions without consequence must see that other cyber criminals are being caught in the act, extradited to the United States, prosecuted and sent to jail for a very long time. When boastful American scamsters learn their friends not only dislike their criminality but like being paid for a tip off or learn that lesser confederates are now more likely to turn on them, a positive disrupting factor is introduced. These criminals must know that the new sheriff is willing to pay millions to trained, sophisticated hunters to bring order and justice to the Wild West of the internet. When criminals have to think twice about their criminality, when they witness other bad actors going to jail, crime does go down.

But the question remains: How can a government act against cyber bad actors when they also engage in cyber bad acts?

Other questions will arise. What if a cyber bounty hunter tries to collect on a government? And what if a government, in failing to pay, turns a white hat to black hat perdition? (Hopefully that last one is just an action adventure movie). To be certain, the issues will be complicated. But they pale in comparison to the billions in losses and social risks of not addressing widespread deception. Failing to act now only allows the monster to grow. Citizens will accept the cognitive dissonance that protecting the country with cyber criminality is different than protecting citizens from cyber criminality. Helping individuals to scam proof their assets is not inconsistent with collectively scam proofing the country. You can do both at the same time.

So either governments admit (as sheriffs in the Wild West did) that they can’t do the job and let the bounty hunters in. Or they step it up and actively protect their citizens from cyber criminality. Whatever course the people’s representatives choose it must be acted upon immediately. The threat to our country is great. The damage being inflicted upon millions of innocent Americans every day hollows out our core.

Cyber bounty hunters (either in house or contracted) will be utilized by all government in the future. Their citizens will demand it. The only question is what will come first: The real thing, or the TV show?

Scam-Proof Your Assets: Guarding Against Widespread Deception

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Bylaws and Operating Agreements


A corporation must have bylaws. Bylaws are the road mapby which the corporation operates. Bylaws set forth how annual and special meetings are called and held, and how officers and directors are elected or removed. Bylaws provide a framework. A lack of bylaws creates uncertainty in which only the arguing lawyers win.

For good reason, all states require corporations to have bylaws. Corporate Direct provides this important corporate document as part of its incorporation package.

Limited Liability Companies

An Operating Agreement is a key foundational document for your Limited Liability Company. It sets out the rights and restrictions for each owner and provides an operational road map for how to govern your LLC.

Why on earth wouldn’t you have one?

Because there are promoters who want to sell you the cheapest possible package – a bundle of forms that technically set you up as an LLC but leaves you open to a piercing the veil of limited liability claim which, by court order, can lead to your personal liability for everything.

These promoters don’t care about protecting you into the future. They care about getting a few hundred dollars from you today and moving on to the next victim.

How can they get away with this? They assert a single statute without thinking through the larger consequences. Most of these promoters are not lawyers, and therefore in dealing with only one aspect of a statute they fail to appreciate the bigger legal picture.

Many states sought flexibility in setting up their LLC statutes. In doing so they allowed for the Operating Agreement to be optional. The members (owners) could prepare one if they wanted to do so. If they decided not to, then the State’s default rules would apply.

Of course, when you ask the promoters what the default rules are you will either get a blank rabbit in-the-headlights look or a glib, totally nonsensical answer.

The default rules do matter. As filmmaker Louis Mayer once stated, “Oral contracts aren’t worth the paper they’re written on.” Why set yourself up for a bitter battle that is so easily avoided with a written Operating Agreement?

 Many states allow for oral understandings to serve as an Operating Agreement. Can you see the danger in this? Do you know people who conveniently forget important facts? This may be why the state of New York requires a written Operating Agreement.

But for the other states, let’s consider an arrangement where three friends form an LLC. Their oral and unwritten deal is that they will split the profits three ways. One can hope that everyone will live up to the deal.

But what if the oral understanding provides that a departing member will be entitled to earn payouts over a six year period? Or provides for other arrangements performed over one year in length?

A recent Delaware case dealt with this exact issue. The holding is as you would expect: Oral understandings are much better enforced if they are instead written and signed by all parties.

The heart of the matter is the Statute of Frauds – an old English rule which sensibly holds that contracts for real estate transactions and agreements that are to be performed over one year must be in writing.

The point being that those old English judges (and today’s modern judges) don’t want people coming into their courtrooms and arguing there was an oral deal to sell real estate or an oral understanding for a multi-year payout. From a judge’s standpoint, it is very difficult to sort out a “he said/she said” argument. You’d better get your important agreements in writing or you won’t get far in court.

In the Delaware case, the claimed oral understanding was a six year payout for a departing member. The court relied on the rule of the Statute of Frauds, contracts to be performed over one year in length must be in writing, to deny the plaintiff their request for relief.

The lesson is, you should make sure your Operating Agreement is in writing. Then you must make certain that everyone signs it. A written and executed document can easily be reviewed by a court. Or, better yet, you won’t have to go to court because your written agreement will be clear to all.

Another very practical matter is that Banks and Lenders expect to see an Operating Agreement. When you borrow money, the lender is going to want to certify that you are real and properly established. In an area where you want to put your best foot forward, create a good first impression, you want to confidently hand over that Operating Agreement to your lender.

Imagine instead telling the lender that your state statute does not require an Operating Agreement. The lender politely states that may be true but lender policy requires one. You firmly state that the promoter who set up your entity swore you didn’t need one. You argue that you don’t need an attorney and you don’t need an Operating Agreement.

You can see where this is going. Banks and Lenders have their own default rules. Either you do it the right way and have an Operating Agreement or, by default, you don’t get the loan. Is it worth saving a few hundred dollars to be technically right and then lose your financing? Ask yourself – Is it your intent to operate in the real world?

Then, by failing to follow the corporate (or LLC) formalities, a creditor can claim that your entity is a sham and therefore not entitled to protection and may seek to pierce the corporate veil. If the claim is successful (and they are successful almost half the time) all of your personal assets are exposed to satisfy a judgment. It is not a good position to be in. And you will find yourself in it very quickly if you don’t have an Operating Agreement.
Judges can be prickly and juries can be fickle. You can argue that a state does not require an Operating Agreement all you want. To most people, running a business without some sort of agreement or roadmap means you are not a real business. Courts can overrule statutes. And when your veil is pierced for that reason, it means all of your assets are at risk. Are you starting to understand the issues and see the bigger picture?

It is interesting to note that one of the major sources of this idea, that no Operating Agreement is necessary in the U.S., comes from Australia. Many Aussies are now investing in U.S. real estate, which is great. Our doors are open. The Australians are being told they need an LLC to protect their investment real estate and themselves in litigious America. But the promoters are counseling them to file the initial Articles of Organization and that’s it. No Operating Agreement or other supporting paperwork is required, these poor Aussies are told.

It is bad enough to have American non-lawyers counsel the unsuspecting on legal issues. Now we have Australian non-lawyers counseling folks on American law. Has globalization blinded some to the continuing existence of unique legal systems and the need for local counsel?

Any Australian who walks into a U.S. court and testifies that a non U.S. attorney Down Under advised them how to set up their incomplete, bare bones U.S. entity is going to lose. Hands down, you’re done. A good American attorney will have a field day with those facts.

On the other hand, the Australian (or other foreign national) who follows not only the letter, but the spirit of the law, and who runs their business and investments as a business in conformance with American standards, will receive the respect and fairness of both Judge and jury. Doing it right without cutting corners means a lot in this context.

One last point must be made: Some states actually do require a written Operating Agreement. It is a wise position that, over time, other states will also follow this position.

So, do it right at the start. Ensure you have prepared an Operating Agreement for your LLC.

It may be well to note, if you form an entity with Corporate Direct, the appropriate written Operating Agreement is included in your formation fee so everybody in your company will be on the same page from the start. If you are ready to form your company, schedule a free 15-minute consultation with an Incorporating Specialist today!

Why Manager Managed Instead Of Member Managed?

One of the biggest questions we’re asked when clients are forming an LLC is: Should we be manager managed or member managed?

The LLC allows for great flexibility. You can be managed by all the members, which is actually the case in most common business settings. The owners (or members) come together and agree on what is next. But such member managed informality, while suitable for on-the-go entrepreneurs and investors, is not always best from a legal stand point.

By contrast, a manager managed LLC is one in which one or more persons are appointed in the Operating Agreement to serve as management under specific guidelines. The manager(s) may be members or they can be non-owners brought in from the outside to administer operations. But the LLC’s members (either one, all or some) can always be appointed as managers of the LLC. A manager managed LLC, which may managed by the members, is our first choice. We prefer this strategy for three reasons.

First, piercing the veil of protection (whereby someone is owed money by a broke LLC and wants to personally collect from the monied owners) is much easier with a member managed LLC. A standard reason courts allow veils to be pierced is because there is no separation between ownership and management. With a member managed LLC, the owners run the show typically without much formality. The members are the managers without any clear separation between ownership and administration. When the lines are so blurred the courts will pierce the veil of protection and hold the members personally liable for claims against the LLC. This is not the protection you were hoping for when you set up your LLC.

With a manager managed LLC the lines of authority much clearer. The members elect the manager(s) and the managers (whether an owner or not) must adhere to the management requirements of the Operating Agreement. Management is distinctly separate from ownership, which is what courts in a piercing case like to see. Minutes of manager meetings can further highlight the separation, whereby the members have their elected managers guide the LLC and keep a record of such decisions. Courts appreciate such formality.

A second reason for choosing the manager managed has to do with apparently authority. In a member managed LLC who has the authority to sign a contract? Does every member get to sign anything and everything? Do you want every member to have such a power?

Apparent authority is the ability of a member to act on behalf of the LLC, even though such powers haven’t been formally granted. If a third party learns that an LLC is member managed (which can be easily seen on each secretary of state’s website) and deals with a member who has the apparent authority to act, the third party is protected if the member’s signature did not bind the LLC. Apparent authority means that if a third party could reasonably believe that a member had the ability to bind the LLC then the contract is binding.

For example, XYZ, LLC is a member managed. One member, Bob, wants to lease space at the mall. Bob doesn’t have the authority to sign a lease but the landlord, learning that the LLC is a member managed and that Bob is a member, reasonably assumes Bob does have the authority to sign a lease. Apparent authority protects innocent third parties such that the LLC (even though the other members didn’t agree) can be held liable for the lease. Now assume that XYZ, LLC is a manager managed. The landlord doesn’t have it so easy. They must insure that they are dealing with the correct manager, one who has been granted authority to sign a lease on behalf of the LLC. A manager managed LLC limits the people with authority to just specific managers. A prudent landlord may want to see the manager managed Operating Agreement to make doubly sure they are dealing with the manager with the specific and express authority to sign on behalf of the LLC.

As is clear, a manager managed LLC will help reign in those members you don’t want to imply one iota of authority towards.

Finally, in many states where members are not listed on state websites, a manager managed LLC does not imply LLC ownership. A manager may be an owner or not. Some of our clients prefer the vagueness of a manager managed LLC whereby ownership is not certain.

All in all, when all the factors are considered, manager managed is the superior way for operating an LLC.

California: Pay To Play

California continues to fight for its $800 minimum franchise tax. If you live outside the state but passively own real or personal property worth over $50,000 inside California you are doing business in the state. Sayeth California’s Franchise Tax Board: Please pay the $800 or we’ll sue.

In The Matter of the Appeal of Aroyo Investments I, LLC, OTA Case No. 19074982 (July 7, 2020), that’s what happened.

The Facts in Aroyo

Aroyo Investment I, LLC (“Aroyo”) appealed an action by the Franchise Tax Board (“FTB”) denying its claim for refund of the annual $800 limited liability company (“LLC”) tax for the 2016 tax year. The issue was whether Aroyo was doing business in California and, therefore, subject to the $800 LLC tax. Aroyo was a foreign LLC formed in Delaware and based in New York, and it was an LLC that was classified as a partnership for both federal and California income tax purposes. Aroyo was not registered to do business with the California Secretary of State but did acquire a minority, non-managing membership interest in a California parcel owned by 1155 Island Avenue, LLC (“Island”). Island was a board-managed LLC formed in Delaware, and it was also classified as a partnership for both federal and California income tax purposes. Island conducted business in California within the meaning of R&TC section 23101 during 2016.

Island’s LLC agreement provided that the purpose of Island was to, among other things, own, operate, lease, finance, sell, and manage a facility on property that it had acquired from the Thomas Jefferson School of Law in San Diego, California (the “Property”). According to San Diego County real property tax assessment records, Island was the Property’s owner of record. These records indicated the total assessed value of the Property (both land and improvements) was $64,239,943. Aroyo owned a direct profit, loss, and capital interest in Island, consisting of a beginning and ending year percentage of 0.7830849. Aroyo’s membership interest in Island was its sole connection with California.
Initially, Aroyo timely filed a California LLC return (Form 565) and paid the $800 LLC tax. But then, Aroyo then filed an amended return, seeking a refund of the $800 on the basis that it was a limited partner of Island and was not doing business in California. They owned less than 1% of the property and had no active say in its management.
Of course, the FTB denied the claim, asserting that “[n]onregistered foreign LLCs [such as Aroyo] that are members of an LLC doing business in California [such as Island] are considered to be doing business in California.” Aroyo appealed the FTB ruling to the California Office of Tax Appeals (the “OTA”), noted that Aroyo bore the burden of proving entitlement to its refund claim.

The Decision in Aroyo

The OTA ultimately found that Aroyo had not met its burden of proof. They noted that R&TC section 17941(a) provided that an LLC “doing business” in California, as defined in R&TC section23101, must pay the annual $800 LLC tax, and that, under R&TC section 23101(b), a taxpayer is considered to be doing business in California if it satisfies certain bright-line nexus:

“(b) For taxable years beginning on or after January 1,2011, a taxpayer is doing business in this state for a taxable year if any of the following conditions has been satisfied:

“(3) The real property and tangible personal property of the taxpayer in this state exceed the lesser of fifty thousand dollars ($50,000) or 25 percent of the taxpayer’s total real property and tangible personal property. The value of real and tangible personal property and the determination of whether property is in this state shall be determined using the rules contained in Sections 25129 to 25131, inclusive, and the regulations thereunder, as modified by regulation under Section 25137.”

In determining whether Aroyo had exceeded the California property threshold amount, the OTA was required to take into account Aroyo’s pro rata share of California property owned by pass-through entities in which Aroyo held an interest, pursuant to R&TC 23101(d), which provided:

“(d) The sales, property, and payroll of the taxpayer include the taxpayer’s pro rataor distributive share of pass-through entities. For purposes of this subdivision, ‘pass-through entities’ means a partnership….”

The FTB contended that Aroyo’s distributive share of Island’s Property, situated in California, exceeded $50,000, therefore, Aroyo was doing business in California and subject to the $800 LLC tax. Although the OTA noted that the evidence in the record was somewhat limited, that evidence, together with the reasonable inferences that might be derived therefrom, were sufficient to support FTB’s determination.

We previously wrote about Swart Enterprises v. FTB, which held that an out of state entity was not doing business in California. So what did the state do in response? They changed the law.

R&TC section 23101 has been amended to add new quantitative “doing business” tests. If any of these tests are met, then the taxpayer is deemed to be “doing business” in California. In Aroyo Investments, the OTA found that the Island property was worth $61,500,000; that the value of Aroyo’s share in the Island property under R&T sections 23101(b) and (d) was $481,000, which was significantly more than the $50,000 threshold; and that, therefore, Aroyo was “doing business” in California and subject to the payment of California’s Minimum Franchise Tax of $800.

In California you must pay to play.

Corporate Transparency Act Update

Are you aware of the new filing nearly EVERY Corporation and LLC must file beginning in 2022?

The Corporate Transparency Act (“CTA”) passed by the Senate and House now requires annual reporting of an entity’s beneficial owners to the U.S. Treasury’s Financial Crimes Enforcement Network (“FinCEN”) database. The new law defines a beneficial owner as any individual who directly or indirectly (i.e., through a second entity) exercises substantial control and holds at least 25% interest in an entity.

A few exceptions to the filing requirement do exist. Publicly traded companies subject to SEC requirements don’t have to file. Neither do Companies with more than 20 full time U.S. employees and over $5 million in gross sales. Presumably the IRS knows enough about such companies anyhow.

The rest of the country, small S-Corp operators, investors owning real estate LLCs and everyone else not excepted, a huge number of many millions entities, will have a new annual filing requirement.

The final regulations for this consequential increase in reporting have not yet been released. (We will let you know as soon as they are).

But the penalties for not filing are known. And they are serious.

An individual who doesn’t report can face civil penalties of up to $500 per day. Providing false information or willfully failing to report can result in criminal fines up to $10,000 and/or imprisonment for up to two years.

What information must be reported to the FinCEN database? So far it is known that the following information for each beneficial owner must be reported:

  • Full name
  • Date of Birth
  • Current residential or business address; and
  • A unique government issued ID number, such as a passport or driver’s license

Are you concerned about the privacy of this information? After all the public hacks of tax payer records (in which no one is even held accountable) your concerns are prudent. The law states that the FinCEN database shall be subject to limited access, but open to federal agencies (e.g., the FBI), state and local law enforcement agencies with a warrant, and foreign law enforcement agencies (e.g., Interpol).

Here at Corporate Direct we are concerned about helping our clients meet this requirement. The penalties, as mentioned, are significant for not doing so. Of course, you can handle this filing on your own. But many of our clients prefer our assistance (such as with annual state fillings and minute preparations to avoid a piercing of the veil), so they can do what they do best – manage their business and investments. In the coming months (as we learn the new regulations) we will provide you with information on how Corporate Direct can assist to meet the CTA’s annual filing requirements.

Courts Limit Pension Payouts

Is Your Retirement Safe?

Are you certain of your pension? Can you count on Social Security to pay you in the future?

A recent case allowed the State of Rhode Island to unilaterally – and retroactively – reduce public employees’ pension benefits.

The case, Cranston Firefighters vs. Gina Raimondo, governor of Rhode Island, was decided by the U.S. Court of Appeals for the First Circuit on January 22, 2018.

The unions claimed they had a binding contract. They had put in their time. The state claimed they faced ‘fiscal peril’. There was no way to pay. The lower court decided the state was not obligated to pay out as ‘promised.’

The public employees claimed: “But we had a deal!” They appealed to a higher court.

The Appeals Court responded:

“A claim that a state statute creates a contract that binds future legislatures confronts a tropical-force headwind in the form of the ‘unmistakability doctrine’.” Parker, 123 F. 3d at 5. This doctrine precludes finding that a statute creates a binding contract absent a clear and unequivocal expression of intent by the legislature to so bind itself. Nat’l R.R. Passenger Corp. vs. Atchison, Topeka & Santa Fe Ry. Co., 470 U.S. 451, 465-66 (1985). The doctrine recognizes that “the principal function of a legislature is not to make contracts, but to make laws that establish the policy of the state.” Id. At 466. It also serves “the dual purposes of limiting contractual incursions on a State’s sovereign powers and of avoiding difficult constitutional questions about the extent of state authority to limit the subsequent exercise of legislative power.” United States v. Winstar Corp. 518 U.S. 839, 875 (1996) (plurality opinion).

Never once has our court found that state or federal legislation clearly and unequivocally expressed a legislative intent to create private contractual rights enforceable as such against the state.”

In other words, the court ruled that the primary function of those who pass laws is not to create contracts and comply with them, but to legislate.

How does this case affect you?

Are you counting on Social Security?

The Social Security Board of Trustees has stated that their trust funds will “become depleted and unable to pay scheduled benefits in full on a timely basis in 2034.”

In 16 years, Social Security will not be able to pay out all that they’ve promised.

And now we have a federal case saying they won’t have to do so. More such cases will likely follow. The courts can’t print money. But they can limit what is paid out. They can limit previous government promises made to anyone.

The real issue in all of this is: are you prepared for the coming pension crisis?

Case Study: How Does Reverse Veil Piercing Occur?

An Evolving Way To Attack Assets

reverse veil piercing

Piercing the corporate veil. It sounds painful, and it is. A judgment is entered against a corporation with no assets. To collect the court allows the judgment creditor (the winner in the case) to pierce through the corporation and reach the personal assets of the shareholder.

A new twist on this method of collection has appeared. It is called reverse piercing of the corporate veil. It is reversed because instead of a judgment against a corporation there is a judgment against an individual. The individual has no assets, but their entity does. So in this case the court allows the judgment creditor to go past the individual and gain access to assets of their corporation or LLC. Graphically, the difference is:

diagram of reverse veil piercing

California has joined the list of states allowing for reverse piercing. The following goes through the Curci case in question. If you don’t have time to read the entire case write up, please know that asset protection is a constantly evolving area of law. If the following case write up interests you, you will find further information on this subject and more in my book Veil Not Fail: Protecting Your Personal Assets From Business Attacks (RDA Press, 2022).

Veil not Fail Buy on Amazon


What is the potential impact on outside reverse veil piercing of the recent California Court of Appeal, Fourth District, decision in Curci Investments, LLC v. Baldwin, 14 Cal.App.5th 214, 221 Cal.Rptr.3d 847 (Cal.App., Aug, 10, 2017)

Applicable Law

In Curci Investments, LLC v. Baldwin, 14 Cal.App.5th 214, 221 Cal.Rptr.3d 847 (Cal.App., Aug, 10, 2017), the California Court of Appeal, Fourth District, concluded that a judgment creditor was not per se precluded from outside reverse piercing the corporate veil to add a Delaware limited liability company (LLC), and that the California statute providing for charging order levying distributions from an LLC to a debtor member did not preclude application of outside reverse veil piercing to allow a judgment creditor to add an LLC as a judgment debtor on a judgment against the holder of an LLC interest.

The Facts of Curci

In January 2004, James P. Baldwin (“Baldwin”), a prominent real estate developer, formed JPB Investments, LLC (“JPBI”), a Delaware limited liability company, for the exclusive purpose of holding and investing Baldwin and his wife’s cash balances. Over the course of his lifetime, Baldwin had formed and held interests in hundreds of corporations, partnerships, and LLCs. JPBI had two members: (1) Baldwin with a 99 percent member interest; and (2) his wife with a one percent member interest. Baldwin was a manager and the chief executive officer (“CEO”) of the company. In these roles, and given his member interest, Baldwin determined when, if at all, JPBI made monetary distributions to its members, i.e., Baldwin and his wife. Two years after forming JPBI, Baldwin, individually, borrowed $5.5 million from Curci’s predecessor in interest. The loan was memorialized in a promissory note executed by Baldwin and the managing member of Curci’s predecessor (the “Curci note”). In the Curci note, Baldwin agreed to pay back the principal amount of the loan, with interest, by January 2009. Curci was assigned the lender’s interest in the Curci note shortly after it was executed. One month after executing the Curci note, Baldwin settled eight family trusts to provide for his grandchildren during and after their college years (the “family trusts”). Baldwin’s children were the designated trustees. (At least one of his sons, however, was unaware of the family trusts despite his signature on the trust documents.) Not long after the family trusts were settled, JPBI loaned a total of approximately $42.6 million (the “family notes”) to three general partnerships (the “family partnerships”) formed by Baldwin for estate planning purposes. Because the partners of the family partnerships were various combinations of the family trusts, certain of Baldwin’s children signed the family notes in their capacity as trustees. Baldwin signed the family notes in his capacity as manager of JPBI. Each family note indicated the principal amount of the loan was to be repaid by July, 2015. Although all the family notes were in favor of JPBI, Baldwin and his wife listed them as “Notes Receivable” on their personal financial statements.

When the Curci note came due in January, 2009, Baldwin had not made any payments. Curci filed a lawsuit against him to recover the amount owed. Not long thereafter, the parties entered into a court-approved stipulation establishing a payment schedule for Baldwin to avoid entry of judgment. About a year later, the trial court approved an amended stipulation that modified the payment schedule due to Baldwin’s continued failure to make the agreed upon payments. Baldwin ultimately failed to make the agreed upon payments, so Curci sought entry of judgment against him. In October, 2012, the trial court entered judgment in favor of Curci and against Baldwin in the amount of approximately $7.2 million, including prejudgment interest and attorney’s fees and costs. In the year after entry of judgment, Curci propounded extensive post-judgment discovery requests aimed at understanding the nature, extent, and location of Baldwin’s personal assets. Baldwin did not timely respond to the discovery, and Curci filed a motion to compel. Though the motion was moot by the time it was heard, the trial court awarded sanctions against Baldwin.

As of February, 2014, no payments had been made on the family notes. Baldwin, as manager of JPBI, and for reasons unexplained, chose to execute amendments to the family notes to extend their terms by five years, to July, 2020. No consideration was provided in exchange for the extensions. A few days later, Baldwin responded to a discovery request made by Curci one year earlier. Among the documents he produced were the family notes, including the five-year payment extensions. Based on Baldwin’s discovery responses, and Baldwin’s failure to pay any of the judgment, Curci filed a motion seeking charging orders against 36 business entities in which Baldwin had an interest. Among those entities was JPBI. The trial court granted Curci’s motion in August, 2014. From and after that date, any monetary distributions made by JPBI to Baldwin, in his capacity as a member, were ordered to be paid to Curci instead. Curci received no money as a result of the charging order.

Although Baldwin caused JPBI to distribute approximately $178 million to him and his wife, as members, between 2006 and 2012, not a single distribution had been made since the October, 2012, entry of judgment on the Curci note.

This is a key factor. When that much money has been previously distributed, courts will ask why Curci can’t be paid. As well, there had been no payments made by the family partnerships to JPBI on the family notes. In June, 2015, Curci filed a motion to add JPBI as a judgment debtor pursuant to California Code of Civil Procedure, Section 187. Curci based its motion on the outside reverse veil piercing doctrine. Curci argued that JPBI was Baldwin’s alter ego, that Baldwin was using JPBI to avoid paying the judgment, and that an unjust result would occur unless JPBI’s assets could be used to satisfy Baldwin’s personal debt. Baldwin did not initially oppose the motion. The trial court issued a tentative ruling denying Curci’s motion, based upon the earlier California Court of Appeal, Fourth District, decision in Postal Instant Press, Inc. v. Kaswa Corp., 162 Cal.App.4th 1510, 77 Cal.Rptr. 3d 96 (Cal.App., Aug. 27, 2008). Following additional briefing from the parties on that issue, and a hearing, the trial court adopted its tentative ruling as its final decision. Because it believed outside reverse veil piercing was not viable in California, it did not make any factual findings related to Curci’s arguments thereunder. Curci timely appealed.

The Decision in Curci

Curci sought to add JPBI as a judgment debtor on the $7.2 million judgment it had against Baldwin personally. Curci asserted that Baldwin held virtually all of the interest in JPBI and controlled its actions, and that Baldwin appeared to be using JPBI as a personal bank account. Curci argued that, under these circumstances, it would be in the interest of justice to disregard the separate nature of JPBI and allow Curci to access JPBI’s assets to satisfy the judgment against Baldwin. Citing Postal Instant Press, Inc., supra, the trial court denied Curci’s motion based on its belief the relief sought by Curci, commonly known as outside reverse veil piercing, was not available in California. On appeal, Curci asserted that Postal Instant Press was distinguishable, and urged the California Court of Appeal to conclude that outside reverse veil piercing was available in California and appropriate in this case. The California Court of Appeal agreed with Curci, that Postal Instant Press was distinguishable, and concluded that outside reverse veil piercing was possible under these circumstances. Therefore, the California Court of Appeal reversed and remanded the case to the trial court to make a factual determination as to whether JPBI’s veil should be pierced.

The Rationale in Curci

In Curci, the California Court of Appeal noted that the question presented was whether outside reverse piercing of the corporate veil could be applied under the circumstances of this case, giving Curci the ability to reach JPBI’s assets by adding it as a judgment debtor. Curci contended that the facts of this case justified making such a remedy available, and argued that neither the decision in Postal Instant Press, nor state statutory law, precluded such a result. Baldwin disagreed, asserting that Postal Instant Press established a broad and all-encompassing rule of no reverse piercing in California; and, alternatively, that California Corporations Code, Section 17705.03, provided the sole remedy available to Curci with respect to JPBI. The Court agreed with Curci, and found that remand was appropriate, in order to allow the court to make the factual determination of whether the facts in this case justified piercing JPBI’s veil.

A. CCP 187.

In Curci, the Court initially noted that, pursuant to Code of Civil Procedure, Section 187, a trial court has jurisdiction to modify a judgment to add additional judgment debtors, and that granting or denying a motion to add a judgment debtor lies within the discretion of the trial court.

B. Veil Piercing and the Alter Ego Doctrine

In Curci, with respect to traditional veil piercing, the Court noted that, ordinarily a corporation is considered a separate legal entity, distinct from its stockholders, officers, and directors, with separate and distinct liabilities and obligations; and that the same was true of an LLC and its members and managers. The Court pointed out that legal separation may be disregarded by the courts when a corporation or LLC is used by one or more individuals: (1) to perpetrate a fraud; (2) to circumvent a statute; or (3) to accomplish some other wrongful or inequitable purpose. The Court observed that in those situations, the corporation’s or LLC’s actions will be deemed to be those of the persons or organizations actually controlling the corporation, in most instances the equitable owners; and that the alter ego doctrine prevents individuals or other corporations from misusing the corporate laws by the device of a sham corporate entity formed for the purpose of committing fraud or other misdeeds. The Court stressed that, as an equitable doctrine, its essence is that justice be done. The Court stated that, before the alter ego doctrine will be invoked in California, two conditions generally must be met: (1) first, there must be such a unity of interest and ownership between the corporation and its equitable owner that the separate personalities of the corporation and the shareholder do not in reality exist; and (2) there must be an inequitable result if the acts in question are treated as those of the corporation alone. The Court observed that, while courts have developed a list of factors that may be analyzed in making these determinations, there is no litmus test to determine when the corporate veil will be pierced; rather the result will depend on the circumstances of each particular case.

C. Outside Reverse Veil Piercing

In Curci, the Court noted that outside reverse veil piercing is similar to traditional veil piercing in that when the ends of justice so require, a court will disregard the separation between an individual and a business entity; however, the Court emphasized that the two serve unique purposes and are used in different contexts. Rather than seeking to hold an individual responsible for the acts of an entity, outside reverse veil piercing seeks to satisfy the debt of an individual through the assets of an entity of which the individual is an insider. The Court observed that outside reverse veil piercing arises when the request for piercing comes from a third party outside the targeted business entity; and that as outside reverse piercing has evolved, a growing majority of courts across the country have adopted it as a potential equitable remedy.

D. Postal Instant Press

In Curci, the Court noted that another panel had addressed outside reverse veil piercing in Postal Instant Press, supra. In that case, Postal Instant Press (“PIP”) obtained an $80,000 judgment against an individual, then sought to amend the judgment to add as a judgment debtor a corporation in which the debtor formerly held shares. The PIP court reversed the trial court’s order amending the judgment, based on the conclusion that a third party creditor may not pierce the corporate veil to reach corporate assets to satisfy a shareholder’s personal liability. In reaching its conclusion, the PIP court echoed concerns expressed by non-California courts about making outside reverse veil piercing available with respect to corporations. Among those concerns were: (1) allowing judgment creditors to bypass standard judgment collection procedures; (2) harming innocent shareholders and corporate creditors; and (3) using an equitable remedy in situations where legal theories or legal remedies are available. In Curci, the Court stated that PIP did not preclude application of outside reverse veil piercing of LLCs for several reasons: (1) Curci sought to disregard the separate status of an LLC, not a corporation, and the court’s decision in PIP was expressly limited to corporations; (2) the nature of LLCs did not present the concerns identified in PIP, because Baldwin, the judgment debtor, held a 99 percent interest in JPBI and his wife held the remaining one percent interest, but she was liable for the debt owed to Curci under California community property law, and there simply was no “innocent” member of JPBI that could be affected by reverse piercing; and (3) a creditor does not have the same options against a member of an LLC as it has against a shareholder of a corporation. The Court reasoned that, under California law, when the debtor is a shareholder, the creditor may step straight into the shoes of the debtor, and may acquire the shares and, thereafter, have whatever rights the shareholder had in the corporation, including the right to dividends, to vote, and to sell the shares; whereas, in stark contrast, if the debtor is a member of an LLC, the creditor may only obtain a charging order against distributions made to the member. Thus, the debtor remains a member of the LLC with all the same rights to manage and control the LLC, including, in Baldwin’s case, the right to decide when distributions to members are made, if ever.

In Curci, Baldwin asserted that Corporations Code, Section 17705.03, preempted the Court from making reverse piercing available with respect to an LLC, because it provides the sole remedy creditors have against a debtor who has a member interest in an LLC. However, the Court disagreed, and pointed out that Section 17705.03 was not as all-encompassing as Baldwin suggested, and that it more narrowly provided a charging order levying distributions from the LLC to the debtor member is the exclusive remedy by which a judgment creditor may satisfy the judgment from the judgment debtor’s transferable interest. The Court reasoned that, because outside reverse veil piercing was a means of reaching the LLC’s assets, and not the debtor’s transferable interest in the LLC, Section 17705.03 did not preclude outside reverse veil piercing. The Court noted that its rationale was underscored by the drafters’ comments to the Revised Uniform Limited Liability Company Act, from which Section 17705.03 was adopted without substantive change; and that those comments state the charging provisions are not intended to prevent a court from effecting a “reverse pierce” where appropriate.

Application of the Rationale in Curci to the Facts of Curci

In Curci, the Court noted that the case before it presented a situation where outside reverse veil piercing might well be appropriate, because Curci had been attempting to collect on a judgment for nearly half a decade, frustrated by Baldwin’s non-responsiveness and claimed lack of knowledge concerning his own personal assets and the web of business entities in which he had an interest. The Court pointed out that, although the formation of JPBI predated the underlying judgment, its purpose had always remained the same–to serve as a vehicle for holding and investing Baldwin’s money; and that, with Baldwin’s possession of near complete interest in JPBI, and his roles as CEO and managing member, Baldwin effectively had complete control over what JPBI did and did not do, including whether to make any disbursements to its members, i.e., to Baldwin and his wife. The Court observed that, since the time judgment was entered in Curci’s favor, Baldwin had used that power to extend the payback date on loans made to ultimately benefit his grandchildren (loans on which not a single cent had been repaid), and to cease making distributions to JPBI’s members, i.e., himself and his wife, despite having made $178 million in such distributions in the six years leading up to the judgment.

For all of these reasons, the Court concluded that outside reverse veil piercing might well be available in this case; however, the Court expressed no opinion as to whether JPBI’s veil should actually be pierced. Instead, the Court remanded the matter for the trial court to engage in the required fact-driven analysis in the first instance. The Court stated that, as with traditional veil piercing, there is no precise litmus test; rather, the key was whether the ends of justice required disregarding the separate nature of JPBI under the circumstances. In making that determination, the trial court should, at minimum, evaluate the same factors as are employed in a traditional veil piercing case, as well as whether Curci had any plain, speedy, and adequate remedy at law.

Brief Discussion

The following observations may be noted with respect to Curci:

1. To date, it does not appear that Baldwin has filed an appeal with the California Supreme Court; after all, the case was remanded to the trial court for further evaluation.

2. The decision in Curci applies only to LLCs, and it does not apply to corporations. Conversely, the court’s decision in PIP was expressly limited to corporations, and it did not preclude application of outside reverse veil piercing to LLCs.

3. In Curci, the California Court of Appeal did not even mention the internal affairs doctrine, even though JPBI was a Delaware LLC. This is just more evidence that courts in general, and California courts in particular, apply local law to determine judgment enforcement issues.

4. In Curci, the Court recognized that JPBI was, in effect, a single-member LLC with no non-debtor members. The Court could have rested its decision upon the alternate ground that JPBI was akin to a predominantly single-member LLC, and that limiting judgment creditors of members of predominantly single-member LLCs to a charging order would run afoul of the California Corporations Code relating to LLCs by creating in essence an exempt personal piggy bank.

5. Outside reverse veil piercing always is easier, where, as here, the judgment debtor rather clearly was attempting to conceal assets from his judgment creditor. In Curci, the facts were fairly extreme.

6. In Curci, the Court concluded that, although a charging order was the exclusive remedy for reaching a judgment debtor’s “transferrable assets,” it was not the exclusive remedy for reaching an LLC’s assets. In reaching this conclusion, the Court relied in part upon the Revised Uniform Limited Liability Company Act, which included comments that the charging provisions “were not intended to prevent a court from effecting reverse veil piercing where appropriate.”

7. The Curci decision makes it easier for a creditor to reach an individual LLC member’s assets when they use a predominantly single-member LLC to avoid paying a judgment.

8. In Curci, it is arguable that Baldwin blatantly misused the LLC, acted arbitrarily and capriciously, and that he got precisely what he deserved in the end.

9. In Curci, the Court instructed the trial court on remand that, in making its determination as to whether outside reverse veil piercing was appropriate with respect to JPBI, the trial court should, at a minimum, evaluate the same factors as are employed in a traditional veil piercing case, including presumably such factors as: (a) commingling of funds and other assets of the two entities; (b) the holding out by one entity that it is liable for the debts of the other; (c) identical equitable ownership in the two entities; (d) use of the same offices and employees; (e) use of one entity as a mere shell or conduit for the affairs of the other; (f) inadequate capitalization; (g) disregard of corporate formalities; (h) lack of segregation of corporate records; and (i) identical directors and officers. However, it should be noted that California Corporations Code, Section 17703.04(b), explicitly provides that “the failure to hold meetings of members or managers or the failure to observe formalities pertaining to the calling or conduct of meetings shall not be considered a factor tending to establish that a member or the members have alter ego or personal liability for any debt, obligation, or liability of the limited liability company where the articles of organization or operating agreement do not expressly require the holding of meetings of members or managers.” (Emphasis added.)


On the one hand, the decision in Curci highlights the fact that asset protection is never a sure thing. It is, as previously noted, an evolving area of the law.

On the other hand, members of a predominantly single-member LLC, who are using the LLC as their personal piggy bank, cannot reasonably expect for the LLC to be respected, when they deliberately are using the LLC to take advantage of their judgment debtor. As we have said before, bad facts make bad law. Still, Nevada and Wyoming continue to protect single member LLCs. In traditional cases absent the extreme facts of the Curci case they will serve you well. But again, the law does evolve and it is important to stay updated on it.

Win, lose, or draw, it should be anticipated that the decision by the trial court on remand in Curci will once again be appealed to the California Court of Appeal and then to the California Supreme Court. We will keep you informed.

Mom’s Mistake is No Excuse – You Need a Professional Registered Agent

Mom’s Mistake Is No Excuse!

Do you have your registered agent service properly in place?

A recent Ohio case illustrated the significant pitfalls of lax procedures.

Your registered agent’s job is to accept service process, meaning notice of a lawsuit. If you don’t receive that notice the persons suing you can get a default judgment – meaning, since you didn’t respond to the charge in time, they win by default. You’ve just lost a case you had no idea was even brought against you!

The new case is John W. Judge Co. v. USA Freight, L.L.C, 2018-Ohio-2658 (Ohio App., July 6, 2018). The facts are that Judge alleged USA Freight owed them $4,405.05. They served their complaint by certified mail upon the registered agent and service was accepted by the mother of USA Freight’s owner. The mother didn’t speak much English, didn’t know the U.S. legal system and didn’t give the lawsuit papers to anyone.

By not responding to the lawsuit USA Freight had a default judgment entered against them. This is when they first learn of Mom’s mistake. They immediately tried to vacate (set aside) the judgment on the basis of “excusable neglect.”

But the Court concluded that when a company is required by law to maintain a statutory agent for service of process, and when certified mail service is successful at the statutory agent’s address that is on record with the Ohio Secretary of State, then the subsequent mishandling of the served documents by the person who signed for and received the documents at the statutory agent’s listed address did not amount to “excusable neglect.”

A full discussion of the case follows. Know that the lesson here is that you want a professional resident agent service to accept important notices for you. Excuses for not responding – even an excuse involving dear ol’ Mom – will not pass muster in the courts.

The Facts of Judge

Judge filed a complaint against USA Freight for money damages arising from alleged unpaid engineering services in the amount of $4,405.05. Judge requested that the complaint and summons be served upon USA Freight via certified mail at the address of USA Freight’s registered statutory agent, Mukhabbat Vasfieva. The trial court received the certified mail receipt, showing that the complaint and summons had been delivered and signed for by “Mukhabbat Koch” on March 24, 2016. USA Freight failed to file a response to Judge’s complaint; accordingly, Judge moved the trial court to enter a default judgment in its favor. The trial court granted Judge’s motion and entered a default judgment against USA Freight for the amount requested plus interest and costs.

After obtaining a certificate of judgment, Judge obtained a writ of execution ordering the court bailiff to levy on the goods and chattels owned by USA Freight.

Three weeks after the writ of execution was filed, USA Freight filed a Rule 60(B) motion to vacate the default judgment on grounds that it never received the complaint and summons, and was otherwise unaware of who signed for the certified mail service. USA Freight attached a supporting affidavit from Baris Koch, who averred that he was the General Manager of USA Freight and that his father was the owner. Koch also averred that he did not receive notice of Judge’s complaint until the court’s bailiff contacted him regarding the writ of execution. Koch further averred that he spoke with the members and employees of USA Freight to ascertain if anyone affiliated with the company had signed for service of the complaint and that he was unaware of anyone who had. Lastly, Koch averred that USA Freight had meritorious defenses to Judge’s lawsuit, which included a claim that USA Freight had paid Judge in full for its services and that any unpaid amounts were owed by Garrett Day, LLC, and/or Mike Heitz. In addition to the affidavit, USA Freight attached several invoices from Judge and copies of checks that USA Freight made payable to Judge. USA Freight also attached a written description and map of the property on which Judge provided its engineering services, indication that Garrett Day, LLC owned part of the property on which Judge’s services were rendered.

Judge filed a response opposing the motion to vacate on grounds that USA Freight failed to establish the necessary elements for such relief under Rule 60(B). The trial court then held an evidentiary hearing on the motion to vacate. At the hearing, the parties submitted no additional evidence, but simply gave oral arguments.

During that time, USA Freight explained that the certified mail receipt was signed by the mother of USA Freight’s owner. USA Freight explained that the owner’s mother was not part of the company or involved in its day-to-day operations, but that she happened to be present when the complaint was served and did not provide it to any of the members of the family who were involved in the business. USA Freight further explained that the owner’s mother understood and spoke very little English, and had very little knowledge of the legal system. USA Freight therefore claimed it was entitled to relief under Rule 60 (B)(1) for excusable neglect.

At the close of the hearing, the trial court invited the parties to submit post-hearing memoranda in support of their position. After receiving the parties’ memoranda, the trial court issued a decision and entry granting USA Freight’s motion to vacate. In granting the motion, the trial court found “excusable neglect,” noting that USA Freight’s conduct was not willful and that it did not exhibit a disregard for the judicial system. The trial court further found that USA Freight had demonstrated that it had a meritorious defense to Judge’s claim for money damages. Judge appealed from the trial court’s decision granting USA Freight’s motion to vacate.

The Decision in Judge

On appeal, Judge argues that the trial court erred in granting USA Freight’s motion to vacate the default judgment under Rule 60(B), because USA Freight failed to establish that it was entitled to relief under Rule 60(B). More specifically, Judge claimed that USA Freight failed to establish that it did not respond to Judge’s complaint due to excusable neglect.

After reviewing the necessary requirements for USA Freight to obtain relief from a final judgment under Rule 60(B), the Ohio Court of Appeals noted that, because Judge did not dispute the existence of a meritorious defense or that USA Freight filed its motion to vacate within a reasonable time, the only issue before the Court was whether it was an abuse of discretion for the trial court to conclude that USA Freight was entitled to relief under Rule 60(B)(1) on grounds of “excusable neglect.” The Court noted that, in considering whether neglect is excusable under Rule 60(B)(1), a court must consider all the surrounding facts and circumstances. The Court pointed out that the phrase, “excusable neglect” in Rule 60(B)(1) is an elusive concept which has been difficult to define and to apply.

The Court observed that the Ohio Supreme Court had determined that neglect is inexcusable when the movant’s inaction revealed a complete disregard for the judicial system and the right of the appellee. The Court also observed that the Ohio Supreme Court had held that “excusable neglect” in the context of a Rule 60(B)(1) motion generally means the failure to take the proper steps at the proper time, not in consequence of the part’s own carelessness, inattention, or willful disregard of the processes of the court, but in consequence of some unavoidable or unexpected hindrance or accident, or reliance on the care and vigilance of his counsel or no promises made by the adverse party. The Court explained that courts generally find “excusable neglect” in those instances where there are unusual or special circumstances that justify the neglect of a party or the party’s attorney. That said, the Court cautioned that the concept of “excusable neglect” must be construed in keeping with the proposition that Rule 60(B)(1) is a remedial rule to be liberally construed, while bearing in mind that Rule 60(B) constitutes an attempt to strike a proper balance between the conflicting principles that litigation must be brought to an end and justice should be done.

After discussing the conflicting principles that must be borne in mind in ruling upon a Rule 60(B) motion, the Court pointed out that the supporting affidavit signed by USA Freight’s General Manager, Baris Koch, averred that he first learned of Judge’s lawsuit against USA Freight when he trial court’s bailiff notified him that a writ of execution had been filed against the company. The Court noted that the record indicated that the bailiff was ordered to levy execution against USA Freight, and that USA Freight filed its motion to vacate approximately three weeks later. The Court further noted that Koch has averred in his affidavit that he was unaware of any member or employee of USA Freight who had signed for or received service of the complaint; and that, as of the date he signed the affidavit, Koch claimed he did not know who signed for the complaint; and that it was not until the hearing on the motion to vacate that USA Freight explained, through counsel, that service of the complaint and summons was signed for by the mother of the owner of USA Freight. USA Freight explained that the owner’s mother had no role within the company and that she happened to be present when the complaint was delivered by certified mail. USA Freight further explained that the owner’s mother understood and spoke very little English, and that she did not provide the complaint to any of the family member who were involved in USA Freight’s business operations. Although no testimony or affidavits were submitted to verify this information, the trial court found USA Freight’s explanation credible and that it constituted “excusable neglect” under Rule 60(B)(1).

Judge argued that the trial court’s decision was an abuse of discretion because USA Freight failed to provide any evidence establishing that the person who received and signed for the complaint was the non-English speaking mother of USA Freight’s owner. The Court noted that the owner’s mother did not appear at the hearing; that her name was never disclosed on the record; and that USA Freight also never disclosed what the owner’s mother did with the complaint after she received it. In an effort to establish that the person who signed for the complaint was not the owner’s mother, Judge provided the trial court with two prior certified mail receipts with signatures that matched the signature on the receipt at issue. Judge pointed out that one of the prior receipts indicated that the signatory was an “Agent” of USA Freight.

Judge further argued that it was USA Freight’s responsibility to maintain a valid statutory agent who is designated to receive service of process at the agent’s listed address; that it was indeed neglectful for USA Freight to use an address where certified mail could be received and mishandled by a non-English-speaking individual who was not affiliated with USA Freight’s business; and that such conduct did not constitute “excusable neglect.” In support of this claim, Judge cited the following three unpublished decision, providing that insufficient or negligent internal procedures in an organization may not comprise “excusable neglect” and that, therefore, may not support vacation of a default judgment: (1) Middleton v. Luna’s Resturant & Deli, L.L.C., 201-Ohio-4388, 2011 WL 3847184 (Ohio App., Aug. 29, 2011) (unpublished decision); (2) LaKing Trucking, Inc. v. Coastal Tank Lines, Inc., 1984 WL 6241 (Ohio App., Feb. 9, 1984) (unpublished decision) (summons received in a corporate mail room but lost before being brought to the attention of the proper office does not rise to excusable neglect); and (3) Miller v. Sybert, 1975 WL 7351 (July 25. 1985) (unpublished decision)(ordinary mail delivered to defendant when mail is accessible to other persons and where it was never picked up by defendant’s friends while he was out of the state does not constitute “excusable neglect”). The Ohio Court of Appeals noted that the above-cited three unpublished decisions were in accord with the following two decisions: (1) Andrew Bihl Sons, Inc. v. Trembly, 67 Ohio App.3d 664, 667, 588 N.E2d 172 (Ohio App. 1990) (ignoring mail for more than three months due to illness and failing to delegate a competent agent to handle business affairs does not constitute “excusable neglect”); and (2) Meyer v. GMAC mtge., 2007-Ohio-5009, 2007 WL 2773653 (Ohio App., Sept. 25, 2007) (unpublished decision) (employee’s failure to forward the complaint to the appropriate corporate department does not constitute “excusable neglect”).

Finally, Judge argued that the mother’s ignorance of the legal process did not amount to “excusable neglect.”

The Rationale of Judge

Having reviewed the record, the Ohio Court of Appeals found that Judge had presented strong arguments in support of its position that the trial court had abused its discretion in finding “excusable neglect,” especially with regard to USA Freight’s responsibility to maintain a valid statutory agent. The Court cited the Ohio Revised Code for the proposition that “[e]ach limited liability company [such as USA Freight] shall maintain continuously in this state an agent for service of process on the company.” See, R.C. 1705.06(A). The Court pointed out that a limited liability company is required to provide the Ohio Secretary of State with a written appointment of its statutory agent that sets forth the name of the agent and the agent’s address in this state. See, R.C. 1705.06(B)(1)(a), (C); and that the Ohio Secretary of State then kept a record of the statutory agent’s name and address. See, R.C. 1705.06(C). The Court noted that Rule 4.2(g) of the Ohio Rules of Civil Procedure provided that, to serve a limited liability company, a plaintiff may direct service of process to “ the agent authorized by appointment or by law to receive service of process”’ that [c]ertified mail service upon such an agent is effective upon delivery, if evidenced by a signed return receipt”; and that Rule 4.1 (A)(1)(a) provided that “[s]ervice is valid if ‘any person’ at the address signs for the certified mail, whether or not the recipient is the defendant’s agent.”

Applying these principles to the facts and circumstances of Judge, the Ohio Court of Appeals noted that Judge had served its complaint on USA Freight’s statutory agent via certified mail at the address on record with the Ohio Secretary of State and that the certified mail was received at the address of USA Freight’s statutory agent and signed for by the mother of the owner of USA Freight. Under these circumstances, the Court concluded that service of the complaint, because the mother of USA Freight’s owner mishandled the complaint, this type of scenario had not been found to constitute “excusable neglect.”

In support of its conclusion, the Court cited the following decision of the United States District Court for the Northern District of Ohio: Chicago Sweetners, Inc. v. Kantner Group, Inc., 2009 WL 1707927 (N.D. Ohio, June 17, 2009) (unpublished decision) (finding no “excusable neglect” where a defendant company was properly served with a complaint via certified mail to its statutory agent’s address, the certified mail was received and signed for by an administrative assistant of the defendant company, who was also the mother of the defendant company’s president, and the mother thereafter mishandled the complaint so that the defendant company never received the notice of it).

In reaching its decision, the Ohio Court of Appeals agree with Judge, that insufficient or negligent internal procedures in an organization may not compromise excusable neglect and that, therefore, they may not support the vacation of a default judgment,” citing, Middleton, supra, and Denittis v. Aaron Costr., Inc., 2012-Ohio-6213, 2012 WL 6738472 (Ohio App., Dec. 31, 2012) (unpublished decision). In so agreeing, the Court stressed that USA Freight was, by law, responsible for maintaining a valid statutory agent that was calculated to receive service of process at the agent’s listed address; that USA Freight has chosen a statutory agent address where it was possible for a non-English-speaking person who was unaffiliated with the company to receive important documentation that was served at the address; and that, due to USA Freight’s negligence in choosing its statutory agent and/or failure to implement internal procedures to ensure that documentation served at the statutory agent’s address was directed to the appropriate person, the complaint at issue was mishandled by the owner’s mother.

The Court emphasized that “excusable neglect” does not result from the party’s own carelessness, inattention, or willful disregard of the processes of the court, but in consequence of some unavoidable or unexpected hindrance or accident; and that, had USA Freight chosen a better statutory agent, or had better procedures in place for receiving service of process at the statutory agent’s address, then the mishandling of the complaint would likely have been avoided.

Accordingly, the Ohio Court of Appeals concluded that the circumstances in Judge did not constitute an unavoidable or unexpected hindrance or accident. In addition, the Court pointed out that, while abuse of discretion was an extremely high standard of review that required the Court to find the trial court’s “excusable neglect” decision unreasonable, the Court, nevertheless, had reached that conclusion. The Court reiterated that the trial court’s decision was unreasonable, because the mishandling of the complaint was the result of USA Freight’s own negligence, and stated that, a company should be adequately prepared to receive service of process at the statutory agent’s address.

Although the Court recognized that Rule 60(B) motions are to be liberally construed in favor of the movant, the Court, nevertheless, found that USA Freight’s negligence in choosing its statutory agent and its procedures for receiving service of process was in willful disregard of the processes of the Court. Therefore, the Court narrowly held that, when a company is required by law to maintain a statutory agent to receive service of process, and when there is successful service of process via certified mail at the statutory agent’s address that is on record with the Ohio Secretary of State, the subsequent mishandling of served documents by the person who signed for and received the documents at the statutory agent’s listed address does not amount to “excusable neglect.”


The Ohio Court of Appeals decision in Judge should serve as a warning to companies and LLCs to check their statutory agent procedures in order to ensure that documents served at their statutory agent’s address are directed to the appropriate person(s); otherwise, they may by subject to enforceable default judgments against them in lawsuits of which they were entirely unaware.

Don’t let this happen to you!

What’s new in 2021?

Let’s start with the good…

California Raises their Homestead Exemption

The homestead exemption is an excellent creditor protection strategy for personal residences.

It all started in Texas when they were an independent republic from 1836 to 1846 and in need of settlers. Texas passed a law whereby creditors could not reach the equity of your homestead (your farm, ranch or dwelling). It worked like a charm and other U.S. states followed suit,

While the homestead amounts in Texas as well as Florida, Kansas, and Oklahoma are unlimited, other states have their own dollar limit. In Arizona, for example, the amount of equity you can protect is $150,000. So, if your home is worth $500,000 and you have a first deed of trust securing your mortgage of $350,000 there is $150,000 in equity exposed. By filing the homestead exemption form with the county recorder’s office (a process that may vary state to state) you have set aside the $150,000 in equity for your benefit as against a later creditor.

California’s homestead has been kept at a low and confusing amount for many years. A single home owner could protect $50,000 while an elderly married couple could protect $175,000 in equity. But those dollar amounts didn’t reflect the high cost of California real estate. A $50,000 homestead in some high rent areas may not protect a backyard Tuff Shed. So California, after years of inaction, did the right thing. They raised the homestead amount and indexed it for inflation.

The new homestead has a baseline amount of $300,000 but can go as high as $600,000 in counties with expensive real estate. Assume a couple is burdened by credit cards and car loan debt but they’ve built up equity in their home. Before, with the lowered homestead amount, they could lose their home to foreclosure. Now with the $600,000 in protection (and rising every year with inflation) the couple could go through a Chapter 13 bankruptcy and keep their home.

Homesteads offer significant protections to homeowners. It is good to see California recognize that.

And we’ll end with the not so good…

Congress and Corporate Transparency: A New Burden for Small Businesses

The Federal government wants to know who owns your business. In December, 2020 Congress passed the Corporate Transparency Act (CTA). Before this bill companies did not have an obligation to report their true owners to the feds. As long as the company paid their taxes there wasn’t an issue.

But within the federal bureaucracy and law enforcement circles there are people who just need to know more. Arguing that shareholder anonymity allowed bad people to engage in financial crimes, including – sound the alarms – money laundering and terrorist financing, the CTA passed both houses. Instead of requiring the states, which govern corporate formation, to collect such information, beneficial ownership data on every corporation and LLC must now be reported every year to the U.S. Department of Treasury’s Financial Crimes Enforcement Network (FinCEN).

Opponents argued that such information could be easily gained and misused. Proponents countered with hubris, stating that all the sensitive data would be stored on private networks away from public scrutiny. Their assurances of confidentiality occurred the same week as the identification of the massive Solar Winds hack, the Pearl Harbor of cyber-attacks, in which the Russians gained God access to thousands of federal websites and networks.

But never mind that. Law enforcement’s desire to know who owns every corporation, LLC, LP and other state-chartered entity is clearly written into the legislation. FinCEN must keep the names and addresses confidential (servers willing) except when:

  1. Federal Agencies involved law enforcement, intelligence and national security want it;
  2. State and local agencies involved in criminal or civil investigations after obtaining a court order want it;
  3. Foreign intelligence agencies want it; and
  4. Other federal regulatory agencies including the IRS want it.

As such this confidential information can be expected to be used by both governments and dark web hackers. By 2023, every business entity at the time of its formation and on an annual basis thereafter must report its beneficial owners’:

  1. Full legal name;
  2. Date of birth;
  3. Current residential or business street address; and
  4. Unique identifying number from a U.S. passport, state drivers license or similar state issued ID.

The complete disclosure requirements, including the meaning of ‘beneficial owner’, will be further fleshed out by future regulations.

Corporate Direct will keep you informed of these new rules and will attempt to assist you with filing your FinCEN report. Failing to properly file will carry penalties of up to $10,000.00 and two years in prison. So while not welcoming this new reporting burden, we will work with you to stay on the safe side of it.