“Thank You!”–Mahalo v. First Citizens Bank and Trust Co.: Georgia Court of Appeals Gives Us The Good, The Bad, and The Ugly…

Forbes has just published a new article written by our colleague and nationally reknowned asset protection guru, Jay Adkisson wherein Jay analyzes the Georgia Court of Appeals new decision Mahalo Investments III, LLC v. First Citizens Bank and Trust Co. (Feb 19, 2015). Mahalo had two members: Epstein and Kelly. The two members lost a $3 million judgment to the creditor, First Citizens Bank (“FCB”). FCB then followed the well-known Georgia statute to obtain a charging order, OCGA 14-11-504(c). That’s where Mahalo takes off into a new, but not unforeseen (at least as to Jay) direction .

The Good

Mahalo reaffirms the robustness of the Georgia LLC Act in that it point-blank states that creditors do not get to take over management of a LLC merely by virtue of obtaining a charging order. Creditors are limited to the status of an assignee insofar as the members’ interests in distributions to be paid by the LLC. As for the LLC, it’s “business as usual.” For the debtor member(s), the creditor stands in their shoes for any distributions made by the LLC, and the latter is to make such distributions to the creditor, not the debtor-member. Otherwise, the LLC is faced with making two distributions, one mistakenly to the debtor-member and the other will be compelled to the creditor holding the charging order. Then, the LLC is left to recoup the wrongfully paid distribution from the debtor-member. Of course, the aggrieved creditor could go after either. But, the easiest target is the LLC who basically would be in contempt of court for failing to obey the court-issued charging order.

The Bad

Mahalo breakes the silence that previously existed in the area of  whether a creditor must file separate lawsuits to obtain charging orders on other LLCs of which the debtor is a member. You see, Epstein and Kelly held member interests in other LLCs who weren’t named parties defendant in the Cobb County State Court suit instituted by FCB; FCB sued only Epstein, Kelly, and Mahalo Investments III, LLC. The Court of Appeals upheld the State Court’s issuance of charging orders against the other LLCs despite FCB having not named them in the original suit, nor having brought “collateral” actions against the other entities. The Court of Appeals interpreted OCGA 14-11-504(c) to mean only that the creditor must bring a “proceeding” in the sense of an Application for Charging Order in the State Court. Here, FCB had brought a “proceeding” in the form of its Application for Charging Order in State Court. Ergo, the Court of Appeals held that FCB had complied with 504(c)’s requirement merely by filing its Application for a charging order. The charging order applies to the debtor-member, not the LLC. So, the creditor obtains an assignee interest in any interest held by the debtor-member in any LLC of which the debtor may hold a member interest, regardless of whether the creditor has named that LLC in the action. Once again: the creditor need NOT institute separate proceedings for the charging order to reach each company/entity interest held by the debtor-member.

The Ugly

Debtor-appellants also argued that the Georgia State Court was not “a court of competent jurisdiction” because the Georgia State Court did not have personal jurisdiction over the LLCs whose interests were charged. Citing Bank of America BAC -1.71%, N.A. v. Freed, 983 N.E.2d 509, 520–521 (Ill.App.Ct.2012), the Georgia Court of Appeals reasoned that the only jurisdiction required was that over the debtor-member. Extending its logic from the preceding argument, Mahalo holds that so long as the State Court held proper jurisdiction over the debtor-member, the charging order reaches any other LLC member-interest the debtor holds, regardless of whether that entity is a Georgia LLC or even transacts business in Georgia. Reiterating the good news that the charging order gives a creditor NO management rights in the LLC, the Court of Appeals held “that under Georgia’s limited liability company act, it is only necessary for a court to have jurisdiction over the judgment debtor to have the authority to enter charging orders against the judgment debtor’s interest.”

If you think I’m being repetitive now, it’s for good reason. As Jay has been preaching for years now, the asset protection industry has marketed the concept of LLCs formed in other jurisdictions with more favorable debtor statutes concerning creditor remedies as having an advantage over other states. Mahalo now clearly establishes precedent that creditors will be deterred only by the extent of the court’s personal jurisdiction over defendant debtor-members and the domiciliary jurisdiction’s charging order statutes, and NOT those of the entity’s domicile jurisdiction. Stated another way, those Wyoming, Nevada, Alaska, Arizona, Delaware and other jurisdictions lawyers have marketed as having better charging orders than Georgia are of no value so long as the creditor may sue the debtor-member here in Georgia. Undoubtedly, creditors will use this precedent across the nation to circumvent those other states’ statutes previously thought to be more advantageous to debtors.

Jay Adkisson has written a well-thought out analysis in these areas. It’s worth a read and you can find it here. The full case may be read at:  Mahalo Investments III, LLC v. First Citizens Bank andTrust Co., Inc., 2015 WL 687922, ___ S.E.2d _____ (Ga.App., Feb. 19, 2015). Full opinion at  http://goo.gl/sFbjRf

Moving Forward

Just to leave you with a positive feeling: Georgia’s freedom of contract principle remains alive and well in its LLC Act. The well-drafted LLC Operating Agreement will save more skin and provide better bang for the buck in the long run than an attempt at and “end-around” play using another jurisdiction’s LLC statutes to try to avoid creditors. Probably at least as many problems arise between members than between creditors and LLC members. The well-crafted LLC Operating Agreement may provide a better playbook to avoid bad business decisions being made in the first place and thus avoid the creditor problem before it leads to the company and its members being sued in state court. If drafted and executed properly, it may well prevent the members from remaining in the lawsuit and losing a judgment to the creditor in the first place.

Need to have your Operating Agreement reviewed or updated? Thinking of forming a new LLC? The formation documents with the Secretary of State’s Office is only the beginning. Remember: the pain of low quality is remembered long after the pleasure of low price has been forgotten. Give us a call at 404-602-0040, you’ll love doing business with WR Nichols Law!