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Court Imposes Personal Liability on The Managing Member of An LLC Under the Responsible Corporate Officer Doctrine

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  • Posted on: Jan 3 2020

As discussed in previous Blog posts, business owners and entrepreneurs wishing to insulate themselves from personal liability for the acts taken in the name of their business can generally do so by forming a corporation (e.g., C-Corp. or an S-Corp.) or limited liability company (“LLC”). Such protection, however, is not absolute; there are exceptions to the rule. For instance, a creditor or other third party can “pierce the corporate veil” – i.e., go behind the corporate form to hold an officer, director, or shareholder liable when he/she fails to follow corporate formalities, comingles corporate funds with personal funds, or perpetrates a fraud or other wrongdoing on a third party. TNS Holdings v. MKI Sec. Corp., 92 N.Y.2d 335, 340 (1998) (the corporate veil may be pierced to impose liability for corporate wrongs upon persons who have “misused the corporate form for [their] personal ends.”); Matter of Morris v. New York State Dept. of Taxation & Fin., 82 N.Y.2d 135, 142 (1993) (the corporate veil may be pierced where the owners have “abused the privilege of doing business in the corporate form” by “perpetrat[ing] a wrong or injustice . . . such that a court in equity will intervene.”).

Additionally, an officer, director, member or shareholder can be sued individually when the corporation is accused of committing a tort in which the individual personally participated. Hamlet at Willow Cr. Dev. Co., LLC v. Northeast Land Dev. Corp., 64 A.D.3d 85, 116 (2d Dept. 2009) (“A corporate officer may be liable for torts committed by or for the benefit of the corporation if the officer participated in their commission.”). Notably, tort liability applies regardless of whether the third party can pierce the corporate veil.

There are three general categories of torts: intentional; negligent; and strict liability. Intentional torts are wrongs that the defendant knew or should have known would result through his/her actions or omissions (such as fraud). Negligent torts occur when the defendant’s actions were taken without reasonable care. Strict liability torts focus on whether a particular result or harm manifested from the actions taken by the defendant.

In the business context, there are numerous types of torts, including, but not limited to, fraudulent misrepresentation, misappropriation, conversion, interference with contractual or business relations, breach of fiduciary duty, negligence, and defamation.

In addition to the foregoing, an officer, director, member or shareholder can be sued individually under the responsible corporate officer doctrine (a/k/a the “Park doctrine,” referring to the 1975 case decided by the U.S. Supreme Court in which the doctrine was articulated) – that is, when the corporation is accused of violating laws that implicate public health and safety. United States v. Park, 421 U.S. 658, 672 (1975). The doctrine permits the imposition of liability against corporate officers for the violations of law that implicate the health and safety of the public when they are in a “position of authority” and fail to prevent or remedy the situation.

In New York, the doctrine has been applied to violations of, inter alia, state environmental laws. See, e.g., Matter of Carney’s Rest., Inc. v. State of New York, 89 A.D.3d 1250, 1253-1254 (3d Dept. 2011); Lake George Park Commn. v. Salvador, 72 A.D.3d 1245, 1247-1248 (3d Dept. 2010); State of New York v. Markowitz, 273 A.D.2d 637, 641 (3d Dept. 2000); Matter of Jackson’s Marina v. Jorling, 193 A.D.2d 863, 866 (3d Dept. 1993). In Matter of Carney’s Restaurant, for example, the Appellate Division, Third Department upheld a finding of personal liability against the sole officer and shareholders of a corporate entity for violations of the State Pollutant Discharge Elimination System (“SPDES”) involving a restaurant’s sewage disposal system. 89 A.D.3d at 1253-1254. The court held that liability should be imposed because the individual owner knew about the system failures and, despite repeated requests by the New York State Department of Environmental Conservation (“DEC”), failed to take timely steps to remedy the situation. Id.

In State of New York v. C & J Enters., LLC, 2020 N.Y. Slip Op. 00024 (3d Dept. Jan. 2, 2020) (here), the Appellate Division, Third Department affirmed the judgment of the Supreme Court, holding the managing member of an LLC liable for DEC violations under the responsible corporate officer doctrine.

State of New York v. C and J Enterprises, LLC

Background

From 1996 until 2015, defendant, C and J Enterprises, LLC (“C & J”), owned and operated Deerfield Estates Mobile Home Park (the “Park”) in Fulton County, New York. C & J had two members, defendant, James P. Burr (“Burr”) and Charles A. Glessing (“Glessing”), each of whom had an equal ownership interest in the company. C & J’s operating agreement named Burr as the company’s managing member.

In June 1998, Burr applied for and subsequently obtained an SPDES permit from DEC, a plaintiff in the action, to operate a sewage treatment system at the Park, which included approximately 43 residential sites. The permit expired on January 1, 2004 and was never renewed by DEC.

After DEC investigated and discerned numerous sewage surface discharges in violation of the SPDES permit and ECL 17-0803, DEC and C & J entered into an order on consent in October 2003, which was signed by Glessing. The order imposed a civil penalty and required C & J to correct the wastewater treatment system. An order on consent modification between DEC and C & J was executed in November 2003 by Burr. By December 2003, C & J installed an interim sand filter system, but problems persisted.

In early October 2008, C & J and DEC entered into a second order on consent that superseded the 2003 order. Burr signed the second order as C & J’s “managing agent.” The order included a schedule of compliance requiring C & J to complete a new wastewater treatment system by April 1, 2009. The order further specified that, effective October 7, 2008, if the interim system failed to meet the required interim discharge limits, C & J was required to “immediately cease all discharges from the wastewater treatment and collection system” and utilize a “hold and haul” system, by which the wastewater would have to be trucked off site. Notably, the order included a schedule of stipulated per diem penalties in the event that C & J failed “to strictly and timely comply with any provision of th[e] [o]rder.” The stipulated penalties were to be imposed on a graduated schedule, starting at $100 a day for 10 days, increasing to $250 a day for the next 20 days and thereafter imposed at a rate of $1,000 a day.

The violations continued and defendants did not complete construction of a new sewage treatment system until June 2010. In particular, by notice dated November 6, 2008, DEC informed defendants that a site inspection revealed surface discharges in violation of the 2008 order. As a result, DEC directed defendants to operate “a ‘hold and haul’ system until further notice.” Defendants failed to do so, only utilizing the required “hold and haul” system during a brief period in June 2009.

Plaintiffs commenced the action in April 2010, asserting that defendants failed to comply with the 2008 consent order and seeking stipulated penalties as against defendants on a joint and several basis. Issue was joined and, in 2015, the Park was sold. A year later, Glessing passed away.

Thereafter, Supreme Court granted plaintiffs’ motion for partial summary judgment, finding, as relevant to the appeal, that both Burr and C & J were jointly and severally liable for violations of the 2008 consent order, and imposed a stipulated penalty as calculated pursuant to the order. For the delay in completing the system, the court imposed a penalty measured from the April 1, 2009 completion deadline to the commencement of the action on April 23, 2010. For the failure to implement a “hold and haul” system, the penalty was measured from the November 6, 2008 notice date through the commencement of the action. Together, a total penalty of $858,650 was imposed. Defendants appealed.

The Third Department’s Decision

The Court affirmed.

The Court held that, under the responsible corporate officer doctrine, it was proper to impose personal liability on Burr for the violations of the 2008 order – an order that Burr signed on C & J’s behalf. The Court explained that imposition of liability on Burr was appropriate because he knew about the violations and, despite the requirements of the consent order, Burr failed to implement any of the options available to the company under the consent order:

There can be little dispute that Burr was well aware of the ongoing sewage violations at the park, and, as managing member, he held a position of authority to address the problem. In particular, the 2008 consent order, which Burr signed on C & J’s behalf, expressly provided for stipulated penalties in the event that C & J “fail[ed] to strictly and timely comply.” The order further specified that it was binding on C & J and its officers. In the event that C & J was unable to meet the requirements of the order, the governing schedule directed C & J to surrender its SPDES permit and operate only a “hold and haul” system. Upon doing so, C & J was required to “immediately notify, in writing, the [park’s] tenants and [plaintiff Department of Health] of its intention to close [the park].” By its terms, the consent order outlined the various options available to Burr — timely remediate the system, convert to a “hold and haul” system or close the park. Although Burr maintains that he lacked the financial means to timely implement the first two options, closure of the park remained an available, acknowledged option.

Slip Op. at *1

The Court also held that the penalty, though substantial, was not unreasonable. The Court explained that “it is particularly egregious that defendants disregarded DEC’s November 6, 2008 directive to immediately implement a “hold and haul” system to alleviate ongoing surface sewer discharge.” Id. “Given the extended history of violations and the many opportunities that DEC accorded defendants to remedy the violations,” the Court said that “the penalty imposed” did not “constitute[] an abuse of discretion. Id. (citing Matter of Carney’s Rest., 89 A.D.3d at 1254-1255).

Takeaway

Under Park and its progeny, corporate officers can be criminally prosecuted for their company’s violation of federal law, such as the Federal Food, Drug and Cosmetic Act, without showing intent, negligence, knowledge of the violation or participation in the violation of law. To impose liability, the government need only prove that the officer held a position of authority in the corporation, had the ability to prevent the violation and failed to prevent or remedy it. A conviction under the doctrine can result in imprisonment, criminal fines and/or restitution.

C & J Enterprises shows that the doctrine can be, and has been, applied in the state law context.

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