Owner of Economic Interest in LLC Lacks Standing to Sue for Accounting and Breach of Fiduciary Duty

What is the difference between an ownership interest and an economic interest in a limited liability company? The Illinois First District Appellate Court recently confronted this exact question and provided a useful guide for understanding the differences and most importantly the practical effects of each form of interest.

The case arose after the plaintiff, Mary Doherty, purchased the interest of Grayslake Investments LLC in Country Faire Conversion LLC, a real estate development company, at a UCC sale. Doherty was the wife of one of the members of Grayslake. The Private Bank and Trust Company owned the interest of Grayslake after the bank foreclosed on a loan to Grayslake. Following the plaintiff’s purchase, Country Faire sold its sole asset for a profit of more than $4 million.

After Country Faire’s manager refused to distribute any of the profits to Doherty, she filed suit seeking (i) a declaration that she was a member of Country Faire, (ii) a right to inspect Country Faire’s books, (iii) a 25% distribution of the profits of the sale because Grayslake had made a 25% capital contribution to Country Faire, (iv) an accounting, and (v) a finding that Country Faire’s manager had breached his fiduciary duty to her as a member of Country Faire.

The case proceeded to summary judgment where the trial court entered a pair of summary judgment orders. The first order concluded that Doherty owned an economic interest in Country Faire’s profits and losses and not a membership interest because Private Bank had not followed the necessary procedures to become a member of Country Faire and Doherty had only purchased the bank’s interest, meaning she took whatever interest the bank had and nothing more. The second summary judgment order held that Doherty did not have a right to inspect Country Faire’s books and could not sustain a claim for an accounting or breach of fiduciary duty because she was not a member of Country Faire.

After a bench trial, the trial court found that Doherty, as holder of an economic interest, was entitled to a 13.75% interest in the proceeds of the sale or $600,477.42, after deducting Country Faire’s attorney’s fees and costs. Doherty appealed each of the trial court’s findings. On appeal, the First District Appellate Court affirmed the trial court’s findings.

The Court examined the nature of the interest purchased by Doherty at the UCC sale. Doherty purchased the interest owned by the bank. After reviewing the loan documents which were secured by Grayslake’s interest in Country Faire and the applicable provisions of the Illinois Limited Liability Company Act, 805 ILCS 180/1 et seq., the Court determined that the bank never became a member of Country Faire and as a result only owned an economic interest in Grayslake’s share of Country Faire’s profits. As the Court explained, Section 30-10 of the Illinois LLC Act permits the owner of an economic or distributional interest in an LLC to become a member in accordance with the requirements of the LLC’s operating agreement or with the unanimous consent of the LLC’s other members. Country Faire’s amended operating agreement mirrored the Illinois LLC Act in that it required unanimous consent of the members to make the owner of an economic interest a member of the LLC. The bank did not seek unanimous consent of Country Faire’s members to be made a member. Consequently, Doherty’s purchase of the bank’s interest did not render her a member.

This finding doomed the plaintiff’s remaining claims. As the Court explained, Section 30-5 of the Illinois LLC Act provides that owning a distributional interest does not entitle the owner to exercise the rights of a member. These rights, under Section 15-10 of the Illinois LLC Act, include the right to sustain claims against the LLC and its manager(s). Because Doherty was only the owner of an economic interest, she lacked standing to assert claims for an accounting, breach of fiduciary duty, and to inspect Country Faire’s books and records.

The Court’s full opinion is available online here.

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