Wilmington North Carolina Business Law and Litigation Attorney Blog

Converting a North Carolina Corporation to An LLC

Many clients have sought to convert their closely held corporations to LLC's lately, and with good reason.  Very few small business owners actually do anything with their corporations that couldn't also be done under an LLC.  And let's face it:  very few closely held corporations do an adequate job of keeping up with corporate formalities.  In the event of a lawsuit, this can result in "veil piercing" which, as we have discussed here previously, is much harder to do to an LLC. 

So for this reason alone -- simpler management, fewer formalities, and less risk of a court overlooking the corporate entity to reach the assets of business owners -- many clients are choosing wisely to convert to an LLC.

While this seems like just a simple bit of paperwork (you can download Articles of Conversion from the secretary of state's website, after all) there can be a few catches.  There are also other methods for accomplishing the same result, without using the state conversion form.  A careful review of the tax implications involved should be undertaken prior to making a final decision on conversion.  For one, the conversion could trigger a taxable gain.  For another, there could be an effect on employment tax wage bases.  These effects could, of course, be quite sizable, and result in the need for additional planning, or foregoing conversion altogether. 

NC Business Court Hailed as a Model For the Nation

In North Carolina, the ability to assign cases involving complex questions of business law can be designated to be heard by the Business Court, rather than the general courts.  The Business Court uses specialized judges, with extensive knowledge of business law, like the Uniform Commercial Code, the LLC Act, and the North Carolina Business Corporations Act.

Over at the North Carolina Business Litigation Report, Mack Sperling points us to an article in Directorship Magazine's annual Guide to State Ligitation.  In that article, North Carolina's Business Court is hailed as a model for the rest of the nation.

It's no surprise.  Our out-of-state clients are often thrilled when I tell them their complex business cases can be heard by a specialized court, with specialized judges.  That is usually not an option available to them in their home states, so in many cases, litigants will opt to forego "home field advantage" and instead allow their cases to proceed here. 

Judgment Enforcement: An Overview

Many companies, individuals, and attorneys have found, to their dismay, that they've gone through the entire litigation process and won their case, only to find that they are unable to collect any money from the losing party. 

Judgment Enforcement is a term that specifically applies to the process of collecting that money.

Once a judgment is entered, there is still no guarantee that the judgment debtor (as the losing party is called) will pay the winning party (called the judgment creditor). In fact, in most instances, some degree of post-judgment enforcement will become necessary to ensure that the judgment creditor receives payment.   In North Carolina, the process begins by filing a Writ of Execution, once the time for filing an appeal has passed.  The county sheriff then serves the writ on the judgment debtor and attempts to locate and seize assets with which to pay the judgment. 

More often than not, if a Writ has to be filed, the judgment debtor will not have assets readily available for seizure.  If, as usual, the sheriff returns without locating enough assets, more advanced judgment enforcement techniques must be employed.  I will discuss these techniques in more detail in future posts.

Enforcing Judgments In North Carolina - Wage Garnishment

Enforcing (i.e. - collecting) unpaid judgments in North Carolina is much more difficult than in many other states.  Much like Florida -- North Carolina is something of a "debtor's haven."   Among the biggest hurdles is that, aside from judgments ordering child support awards, taxes, student loans, and payment for ambulance services, wage garnishment is not available to judgment creditors.   

There is one narrow avenue for more typical judgment creditors to obtain wage garnishments, however.  The NC Department of Labor has taken the position that if a creditor obtains a lawful garnishment order against the debtor's employer in another state, and the debtor works for the same company in North Carolina, our state courts will permit the garnishment on the same company here.

While for some companies (e.g. privately owned Wal Mart) the applicability of this rule would be obvious, what is not clear is whether franchises from a larger corporate chain such as McDonald's would also be included in this ruling, as many are held by smaller companies.   Creditors - even judgment creditors - can easily run afoul of the maze of debt collection rules, both federal as well as North Carolina's much stricter laws, and find themselves on the hook  for large fines and personal liability for failing to understand the  many laws that apply to them.   

Forming a New Business in North Carolina: Additional Resources

In my last post, I listed some resources for starting a new business in Wilmington, North Carolina.  Each of those were local to the area.  The additional resources below can help you start a business statewide.

Business ServiCenter.  Sponsored by the North Carolina Department of Commerce.  The ServiCenter provides assistance with business plans, hiring, expansion, development, marketing, operations, and logistics for most types of businesses.  Additionally, the ServiCenter offers specific advice for companies involved in manufacturing, workforce training, exporting, and government contracts.

Contact:    North Carolina Department of Commerce
                    Business ServiCenter
                    4310 Mail Service Center
                    Raleigh, NC 27699-4310
                    919-715-2864
                    Toll-Free:  1-800-228-8443
                    Fax:  919-715-2855
                    http://www.nccommerce.com/servicenter

SBA - United States Small Business Administration

Contact:        SBA
                        North Carolina District Office
                        6302 Fairview Road
                        Charlotte, NC 28210-2227
                        704-344-6563

The SBA’s Small Business Guide for North Carolina can be found at:

http://www.reni.net/guides/pdf/english/northcarolina.pdf

Starting a Business in Wilmington, NC: Some Resources

If you are starting a business in North Carolina, particularly in the Wilmington area, here are some resources to help you get started.  Note that even if you are not around Wilmington, many of these services have offices in your area.  If you have any questions or would like a list of similar services in your area, please contact us. 

Small Business Technology Development Center.  Assists new businesses with planning, operation, human resources, marketing, government contracts, and other aspects of business.

Contact:    SBTDC
                5051 New Center Drive
                Wilmington, NC 28403-3297
                910-962-3744
                http://www.sbtdc.org

Wilmington SCORE.  Provides free business counseling and mentoring.  Holds seminars on topics such as accounting, business planning, and marketing.

Contact:  Wilmington SCORE
                    4010 Oleander Drive, Suite 6
                    Wilmington, NC 28403
                    910-452-5395
                    http://www.wilmingtonscore.org

Cape Fear Community College - Small Business Center.  Provides classes and counseling for small businesses.  Also offers a library of resources for new and small businesses, including books, pamphlets, videos and software.

Contact:        CFCC Small Business Center
                    419 North Third Street
                    Wilmington, NC 28401
                    E-mail:  sbc@cfcc.edu
                    910-362-7216

 

Unfair Commercial Practices in the U.K. - Stealth Marketing Illegal

At seomoz.org, attorney Sarah Bird has posted a summary of the portions of a new U.K. law against stealth marketing - the practice of manufacturing an imaginary groundswell of support for a product in an effort to raise brand awareness and facilitate "buy-in" from the target market.  The U.K. law implements portions of an E.U. directive 2005/29/EC, prohibiting Unfair Commercial Practices.

Examples of the newly prohibited practices include:  paid reviews or "advertorials" in magazines that fail to disclose the commercial relationship between the magazine and the advertiser; paid blog comment seeding; fake blogs (like the kinds used to promote new movies); and fake comments praising books on amazon.com.

While here in the U.S. we have laws against false advertising, for the most part these laws are only designed to protect competitors, not consumers.  Consumers have recourse to warranty law in regard to false claims, but so far have no recourse against viral marketers who somehow quietly influence them to purchase a particular product.  Two things about this stand out:  (1) It is not immediately clear what the harm of this is, odd though it may seem to us older folks, and (2) how little consideration is given to the protection of speech in Europe.  While here in the U.S., commercial speech is not entitled to the same level of protection as non-commercial speech, we are nevertheless far removed from having the power to enact this sort of sweeping legislation.

For the record, neither seomoz nor anyone affiliated with the company paid me to link to their article.

Final note:  if you are a North Carolina company doing business in Europe, or targeting customers there, European courts may be able to exercise jurisdiction and subject to you being sued in their courts.  Accordingly, a full review of this new law should be undertaken to assess its applicability to your overseas marketing.

Foreign Corporations and the Certificate of Authority in North Carolina

If you are a foreign / out-of-state corporation and need to file suit in North Carolina, you will first need to file a Certificate of Authority with the Secretary of State, and as of the date of this post, that will cost you $250.00.   

This is a prerequisite; if you do not have a Certificate of Authority on file in North Carolina prior to filing suit, your case will be thrown out of court.  You can click the following link to get a Certificate of Authority form.  You will have to scroll down to Form B-09.  Instructions are included on page three of that form. 

Piercing the "Corporate" Veil of LLCs in North Carolina - Part 4

In the previous post, I promised a discussion of motions for sanctions pursuant to Rule 11 of the North Carolina Rules of Civil Procedure, in cases where LLC members are named as individual defendants in contract, fraud and Chapter 75 cases.

In North Carolina, the rule is straightforward:  an individual LLC member cannot be sued, except "by reason of his own acts or conduct."  See N.C.G.S. s 57C-3-30(a).  This section does not, however, establish an alter ego or veil piercing creteria.  It is intended to allow plaintiffs to recover for torts committed by LLC members, not, as some might have it, to establish member liability in actions against the LLC.

Clarifying this purpose, subsection (b) provides:  "A member of a limited liability company is not a proper party to proceedings by or against a limited liability company, except where the object of the proceeding is to enforce a member's right against or liability to the limited liability company."

This subsection should clarify any doubt a litigant might have about what subsection (a) allows. 

In Page v. Roscoe LLC, 128 N.C. App. 678, 497 S.E.2d 422 (1998) the plaintiff learned this lesson the hard way.  Plaintiffs sought to enjoin the defendant LLC from constructing a gas storage facility they deemed a nuisance.  LLC member Dale Bone was also named as a defendant.  No actions by Bone were alleged that were not also alleged to have been undertaken by the LLC.   Accordingly, the court held that naming Bone was a violation of Rule 11, on the theory that the complaint, in naming him, was not well grounded in law.

In so holding, the Court of Appeals agreed with the trial court, that "no acts by Bone, individually, were properly alleged. Therefore, under the above statute [N.C.G.S. s57C-3-30(b)], it was improper to name an individual member of a limited liability company as a party defendant without any evidence to support it.  As such, the naming of Bone as an individual defendant was not well-grounded in law and therefore a violation of Rule 11." 

The decision provides little guidance to a plaintiff hoping to pierce the corporate veil of an LLC.  There is no explanation about what would need to be alleged to state a complaint If anything, it provides broad grounds to support Rule 11 motions whenever an individual LLC member is named in the same complaint as the LLC.

Piercing the LLC Veil in North Carolina - Part 3

As I touched on in previous posts, in North Carolina, the factors to consider in determining whether to pierce the corporate veil include: (1) inadequate capitalization; (2) non-compliance with corporate formalities; (3) complete domination and control of the corporation so that it has no independent identity; and (4) excessive fragmentation of a single enterprise into separate corporations. See Ridgway, 329 S.E.2d at 330-31 (citing generally, Robinson, North Carolina Corporation Law §§ 2-12, 9-7 to -10 (3d ed. 1983)).

Yesterday in Part 2 of this series, I looked at the second factor - non-compliance with formalities.  Today I will look at the first factor above, inadequate capitalization.

One common misconception surrounding this factor is the timing of its applicability.  Litigants frequently assume that when a bill is unpaid, that this fact, standing alone, establishes inadequate capitalization, regardless of how old the business entity may be.

But in fact, inadequate capitalization only applies to the initial capitalization of the corporation; a new corporation must have sufficient capital with which to pay for operating costs that it can reasonably expect to incur.  Over time, however, creditors have the opportunity to examine the creditworthiness of the corporation, and in extending credit, have the option of requiring a guarantor.  For these reasons, courts are not especially prone to give great weight to this factor in most contract cases, particularly when those contracts were formed well after the corporation has been in business for some length of time. 

Moreover, by itself, this factor is extremely unlikely to support a veil-piercing claim.  An additional showing of an intent to use the corporate entity to defraud creditors would almost certainly be required.

In the LLC context, it is quite tempting to seek to apply the same rationale. Although there do not appear to be any published North Carolina cases specifically addressing this issue under the LLC Act, there is no reason why the policy of protecting creditors from fraud would be any less important - or treated differently - in situations involving LLC creditors. 

For attorneys defending LLCs in contract, fraud and/or Chapter 75 cases in North Carolina, it is important to be aware that plaintiffs will attempt to allege these factors in order to reach the assets of the individual members of the LLC, and that courts could well be persuaded to overlook the LLC's protection in cases where undercapitalization is alleged.  This is why a motion to dismiss should be filed, and the court made aware that there is no precedent for applying these factors to pierce an LLC.  Even if the motion is unsuccessful, the rationale behind it can be re-employed when your opponent is seeking to draft a jury instruction at trial.  The judge might not have granted your motion, but may be unwilling to instruct a jury on a doctrine whose applicabilty to an LLC has not been clearly established. 

Absent specific facts alleging fraud by a member, a motion to dismiss as to the LLC members should be filed, along with a motion for sanctions under Rule 11. 

In the next installment in this series, I will go into further detail about Rule 11 and how it applies to contract, fraud and Chapter 75 suits involving individual LLC members.