Tennessee courts have long held that the majority shareholder of a corporation owes a fiduciary duty to minority shareholders and that partners owe one another fiduciary duties. In contrast, LLCs are a relatively recent creation of the General Assembly (Tennessee's LLC Act was passed in 1994), and there is thus no settled body of case law regarding the scope of fiduciary duties owed by LLC members to one another.

Of course, many business lawyers would argue that there is no real need for judicial explanation (or expansion) of duties that have been clearly defined in Tennessee's LLC Act. Tenn. Code Ann. §48-240-102(a) describes the fiduciary duty of the members of a member-managed LLC as follows:

(a) FIDUCIARY DUTY OF MEMBERS OF MEMBER-MANAGED LLC. Except as provided in the articles or operating agreement, every member of a member-managed LLC must account to the LLC for any benefit, and hold as trustee for it any profits derived by the member without the consent of the other members from any transaction connected with the formation, conduct, or liquidation of the LLC or from any use by the member of its property including, but not limited to, confidential or proprietary information of the LLC or other matters entrusted to the member as a result of such person's status as a member.

Note that these obligations — to "account to the LLC for … and hold as a trustee for [the LLC]"certain profits and benefits — run not to other members, but instead to the LLC.

That at least was the holding of the Tennessee Court of Appeals in McGee v. Best.1 In McGee, an LLC terminated an employee who was also a one-third member of the LLC.2 In connection with that termination, the LLC elected to repurchase the erstwhile employee's membership interest pursuant to a repurchase option in the LLC's operating agreement.3 The terminated employee/member sued, alleging, inter alia, breach of fiduciary duty by the majority members of the LLC.4 The McGee court upheld the trial court's finding that there is no fiduciary duty between or among members of an LLC, stating that Tenn. Code Ann. § 48-240-102 "defines the fiduciary duty of members of a member-managed LLC as one owing to the LLC, not to individual members.”5

However, in the recently decided case of Anderson v. Wilder,6 the Court of Appeals did an about-face on the issue of whether LLC members owe one another a fiduciary duty. Similar to the McGee case, in Anderson the minority members of an LLC were expelled and their membership interests repurchased pursuant to the express provisions of the LLC's operating agreement.7 In Anderson, however, the majority members then went one step further and promptly resold the membership interests at a tidy profit.8 The majority members thus took advantage of the operating agreement's expulsion provision to capture all the profits of the sale for themselves. The expelled minority members then sued the majority members, alleging breach of fiduciary duty as well as making other allegations.9 The trial court awarded summary judgment in favor of the defendants, apparently rejecting the plaintiffs' breach of fiduciary duty claim on the basis that the majority members' course of conduct was expressly permitted by the LLC's operating agreement.

In a departure from McGee, the Court of Appeals in Anderson reversed the trial court, holding as follows:

[W]e are of the opinion that finding [that] a majority shareholder [sic] of an LLC stands in a fiduciary relationship to the minority, similar to the Supreme Court's teaching in [Nelson v. Martin, 958 S.W.2d 643 (Tenn. 1997)] regarding a corporation, is warranted in this case. Such a holding does not conflict with the statute, and is in keeping with the statutory requirement that each LLC member discharge all of his or her duties in good faith.10

It is instructive to analyze the Anderson Court's reasoning in reaching this result.

First, the Anderson Court distinguishes McGee, stating that it was "in essence an employment dispute and did not involve an allegation of oppression by a majority shareholder group.”11 However, the Anderson Court's attempts to distinguish McGee as merely an employment termination case seem tenuous. Although the plaintiff in McGee was terminated as an employee before being terminated as a member, that employment termination was followed by the forced repurchase of his one-third membership interest in the LLC. Further, the McGee court explicitly addressed the fiduciary duty issue in the context of the relationship between LLC members rather than the relationship between employer and employee.

In reaching its decision, the Anderson Court also analogizes LLCs to corporations and partnerships, noting that both a majority corporate shareholder and a general partner owe fiduciary duties to other owners.12 The court quotes approvingly from the plaintiffs' brief regarding the corporation analogy:

[T]he fiduciary duty of the majority shareholders to the minority is a matter of common law. The Tennessee Business Corporation Act at [Tenn. Code Ann. § 48-11-101] et seq. mentions nothing about any fiduciary duty owed by majority shareholders to minority shareholders. Accordingly, why should the majority members of a member-managed limited liability company not owe the same fiduciary duty to the minority? They should. There is no reason to distinguish the two forms of business enterprise.13

Of course, as the quoted language indicates, the Tennessee Business Corporation Act is silent on the issue of a majority shareholder's fiduciary duty, leaving it to the courts to define the parameters of any such duty. In contrast, in §48-240-102(a) of the Tennessee LLC Act, quoted above, the legislature has expressly defined the scope of a member's fiduciary duty.

The Anderson Court focuses in particular on the fiduciary duties owed by general partners to each other, since under the Tennessee LLC act, member-managed LLCs are closely akin to general partnerships in a number of respects. Citing Lightfoot v. Hardaway14 as authority for the proposition that partners of a general partnership owe one another a fiduciary duty and "an obligation of the utmost good faith and integrity,"the Anderson Court reasons that since general partners owe each other such a fiduciary duty, and since the members of a member-managed LLC share much in common with general partners, then why shouldn't LLC members also have a partner-like fiduciary duty to one another?

Note, however, that Lightfoot was decided in 1988 under the Uniform Partnership Act (UPA). In 2001, the General Assembly passed the Revised Uniform Partnership Act (RUPA). Section 61-1-404 of the RUPA purports to describe all fiduciary duties owed by a partner and thus presumably trumps prior common law formulations of partners' fiduciary duties to each other set forth in cases like Lightfoot. Section 61-1-404 provides that the only fiduciary duties a partner owes are a duty of loyalty and a duty of care, which include the following obligations:

(b) A partner's duty of loyalty to the partnership and the other partners is limited to the following:

(1) To account to the partnership and hold as trustee for it any property, profit, or benefit derived by the partner in the conduct and winding up of the partnership business or derived from a use by the partner of partnership property, including the appropriation of a partnership opportunity;

(2) To refrain from dealing with the partnership in the conduct or winding up of the partnership business as or on behalf of a party having an interest adverse to the partnership; and

(3) To refrain from competing with the partnership in the conduct of the partnership business before the dissolution of the partnership.

(c) A partner's duty of care to the partnership and the other partners in the conduct and winding up of the partnership business is limited to refraining from engaging in grossly negligent or reckless conduct, intentional misconduct, or a knowing violation of law.

Accordingly, the only fiduciary duties that a partner owes under the RUPA run in favor of the partnership, not the other partners.15 Thus, in making the analogy to general partnership law — at least under the RUPA — the Anderson court arguably undercuts its holding that the members of a member-managed LLC should owe one another a common law fiduciary duty. (Although the Anderson Court quotes §61-1-404 from the RUPA, it seemingly ignores the fact that this section limits partners' fiduciary duties to statutory duties that run in favor of the partnership, not the other partners.)

Ultimately the Anderson Court's holding seems to rest on a three-pronged analysis:

Owners (or at least majority owners) of other closely held entities owe each other a fiduciary duty, and there is no reason LLC members should be treated any differently.

Nothing in the Tennessee LLC Act (specifically, in Tenn. Code Ann. §48-240-102) directly prohibits or restricts the existence of additional common law fiduciary duties on the part of LLC members.

Finding that the members of an LLC owe fiduciary duties to one another is consistent with the duty of each LLC member to act in good faith under Tenn. Code Ann. §48-240-102(b).

As discussed above, the first proposition is highly questionable with respect to partnerships governed by the RUPA. The second proposition is also debatable since Tenn. Code Ann. §48-240-102 includes what appears to be a clear and comprehensive statutory articulation of a member's fiduciary duty as one running in favor of the LLC (and certainly this was the holding of McGee). Although the third proposition seems reasonable, it may point to a more statutorily defensible basis for deciding cases like Anderson _— i.e., relying on a member's clear statutory duty to act in good faith rather than on questionable judicial expansions of the scope of a member's fiduciary duty.

For example, why couldn't the court in Anderson simply have found that the defendants acted in bad faith by making manipulative use of a contract provision in order to obtain an unbargained-for economic benefit from the plaintiff, breaching the good faith obligation imposed by Tenn. Code Ann. §48-240-102(b)(1)? Under this approach, the analogy to the RUPA would provide solid support for the court's reasoning since the RUPA also obligates partners to act in good faith — an obligation that is separate and distinct from partners' fiduciary duties as discussed above. The commentary to RUPA points out that "good faith"may be best understood as excluding many different kinds of bad faith. Extended to LLCs under Tenn. Code Ann. §48-240-102(b), this "good faith”/"absence of bad faith"obligation should provide an adequate basis for courts to decide cases like Anderson without the necessity of crafting common law fiduciary duties.16

Notes

1. 106 S.W.3d 48 (Tenn. Ct. App. 2002).

2. Id. at 54.

3. Id. at 55.

4. Id.

5. Id. at 64.

6. No. E2003-00460-COA-R3-CV, 2003 Tenn. App. LEXIS 819 (Tenn. Ct. App. Nov. 21, 2003).

7. Id. at *1-*2.

8. Id. at *2.

9. Id.

10. Id. at * 17.

11. Anderson, 2003 Tenn. App. LEXIS 819, at *16.

12. Id. at *11-*15.

13. Id. at *9.

14. 751 S.W.2d 844 (Tenn. Ct. App. 1988)

15. This is clear in the case of the duty of loyalty and arguably is at least implicit in the duty of care. Note that the duty of care applies to the "conduct and winding up of the partnership business"and not to the partners' conduct vis-à-vis one another.

16. For an excellent discussion of this topic, see Paula J. Dalley, "The Law of Partner Expulsions: Fiduciary Duties and Good Faith,"21 Cardozo L. Rev. 181 (1999).

Richard Spore is an attorney with the Memphis office of Bass, Berry & Sims PLC, where his practice focuses on commercial real estate, bank lending, business planning and corporate law. He recently authored a new edition of Business Organizations in Tennessee. Spore has been actively involved in developing business law legislation and has served on the TBA's LLC and State Tax Task Forces. He chaired the committee that prepared Tennessee's current partnership act and currently chairs a TBA-appointed committee to update Tennessee's existing LLC act. Spore received his law degree from the University of Virginia Law School and a master's in business administration in finance from Christian Brothers University.