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Pitfalls of Single Members LLCs in Florida – Fraudulent Transfers Affecting Judgment Creditors

June 7, 2016

Disclaimer:  This article does not constitute an advertisement or legal advice and does not create an attorney/client relationship. The comments herein should not be relied upon by anyone who reads them.

When a judgment creditor obtains a judgment against an individual who is the sole member of a non-party limited liability company (“LLC”), the judgment creditor may seek a charging order, which is a court-supervised alternative for the process of execution on a judgment by the sheriff. A charging order is a lien that attaches to the judgment debtor’s or his assignee’s right to receive any distribution that the judgment debtor would have otherwise been entitled to receive to the extent of the judgment plus interest. Notably, while a charging order is the sole and exclusive remedy provided under Florida law to judgment creditors seeking to satisfy their judgments against an individual’s membership interest in a non-single member LLC or partnership, a creditor may seek a charging order and an order foreclosing the debtor’s right, title, and interest in the debtor’s solely owned LLC.

Under Section 605.0503(4), Florida Statutes:

In the case of a limited liability company that has only one member, if a judgment creditor of a member or member’s transferee establishes to the satisfaction of a court of competent jurisdiction that distributions under a charging order will not satisfy the judgment within a reasonable time, a charging order is not the sole and exclusive remedy by which the judgment creditor may satisfy the judgment . . . and upon such showing, the court may order the sale of that interest in the limited liability company pursuant to a foreclosure sale. A judgment creditor may make a showing to the court that distributions under a charging order will not satisfy the judgment within a reasonable time at any time after the entry of the judgment and may do so at the same time that the judgment creditor applies for the entry of a charging order.” The purchaser at the court-ordered foreclosure sale obtains the member’s entire limited liability company interest, not merely the rights of a transferee. The person whose limited liability company interest is sold pursuant to a foreclosure sale or is the subject of a foreclosed charging order ceases to be a member of the LLC.

But what remedy is afforded the judgment creditor where a judgment debtor transfers his interest in his solely owned LLC to another person or entity or otherwise converts his single member LLC into a multi-member LLC in order to avoid the judgment? Florida’s Uniform Fraudulent Transfer Act (“UFTA”), codified in Sections 726.101–201, Florida Statutes Sections, provides creditors with various forms of relief to avoid a debtor’s fraudulent transfer of assets or funds. For instance, if the creditor can show that the transfer of the debtor’s assets or funds was made with the intent to hinder, delay, or defraud, then the creditor may avoid the debtor’s transfer.

In determining whether to set aside the transfer as fraudulent, Florida courts consider a number of factors, often referred to as “badges of fraud”. These “badges of fraud” include, for example, (1) whether the transfer or obligation was to an insider; (2) whether the debtor retained possession or control of the property transferred after the transfer; (3) whether the transfer or obligation was disclosed or concealed; (4) whether before the transfer was made or obligation was incurred, the debtor had been sued or threatened with suit; (5) whether the transfer was of substantially all of the debtor’s assets; (6) whether the debtor absconded; (7) whether the debtor removed or concealed assets; (8) whether the value of the consideration received by the debtor was reasonably equivalent to the value of the assets transferred or the amount of the obligation incurred; (9) whether the debtor was insolvent or became insolvent shortly after the transfer was made or the obligation incurred; (10) whether the transfer occurred shortly before or shortly after a substantial debt was incurred; and (11) whether the debtor transferred the essential assets of the business to a lienor who transferred the assets to an insider of debtor. This list is non-exhaustive, and courts are free to consider any other relevant factors, based on the totality of the circumstances, in determining whether the debtor engaged in actual fraud.

The UFTA further provides for the avoidance of a debtor’s transfer where the transfer is constructively fraudulent. To establish a prima facie case for avoidance based upon constructive fraud, the creditor must demonstrate that the debtor did not receive reasonable value for the transfer and either (1) the debtor was engaged or was about to engage in a business or transaction for which the debtor’s remaining assets were unreasonably small in relation; (2) the debtor intended to, believed, or reasonably should have believed that he would incur debt beyond his ability to pay the debt as it became due; or (3) the debtor was insolvent at the time of the transfer.1

Accordingly, while blanket discovery into a defendant’s net worth/solvency may not be permitted until after the entry of the final judgment (unless relevant to the issues raised by the parties’ pleadings), plaintiffs should be aware of the possibility that the defendant may try to effectuate a fraudulent transfer during the pendency of litigation in order to avoid paying a judgment down the road. If the debtor has been engaged in a pattern and practice of fraud through misuse of the corporate form, and if such fraud forms the basis for the plaintiff’s action, then the plaintiff may be able to “reverse pierce” the corporate veil to state a claim against both the individual and the individual’s solely owned, operated, and/or controlled entities.

[1] See, e.g., Wells Fargo Bank, N.A. v. Barber, No. 6:14-CV-901-Orl-40KRS, 2015 WL 470589, at  *7 (M.D. Fla. Feb. 4, 2015) (holding creditors stated claims under FUFTA to avoid purportedly fraudulent transfers).