The judgment is the easy part — collecting from an LLC poses problems

Listen to this article

By Kallie Cox

Plaintiff attorneys across all civil practices are facing a common problem in the Carolinas and nationwide. Collecting judgments from Limited Liability Companies (LLCs) is a time intensive, difficult process that leaves attorneys and their clients frustrated.

Attorneys say that winning a case can be the easy part when dealing with these companies. Collecting the judgments is a long, painstaking process riddled with bureaucratic red tape and hurdles for lawyers to navigate.

In most states, LLCs are easy and cost-effective to set up. The business structure shields its owners from personal liability in the event of litigation, meaning that their personal assets are not connected to the business’s debts.

Kathleen Schin McLeroy, an attorney with Carlton Fields in Tampa, Florida, is an expert in judgment collections. She spoke on an American Bar Association panel on the topic and said she has a few main takeaways for attorneys struggling in this area.

“First, judgment enforcement is sort of a long game and not a short game. (…) You may spend a number of years researching and collecting information over time before you actually find assets that can be applied to the judgment,” McLeroy said. “And I say that because the fact that you obtained a judgment and that the person or entity against whom you got the judgment didn’t consensually pay you, means that there’s work ahead in order to get it done and sometimes you’re operating without a lot of information about where assets might be. You’ve got to develop that information and then determine effective ways to capture the assets.”

The second thing attorneys should keep in mind is to use their judgment with respect to the money they spend on researching and investigating while trying to obtain the judgment.

“There’s no guarantee you can collect and so sometimes you need to be somewhat measured by how much additional money you spend in researching, both in attorney’s time and in actual out of pocket costs in trying to determine next steps, because judgments are good for a number of years,” McLeroy said. “For instance, I practice in Florida, and judgments in Florida are good for 20 years, so sometimes it makes sense to wait some time, particularly if the entity has gone through difficulties financially, to wait for them to recover before you can find assets.”

Attorneys need to be realistic about what might be available to collect, she added. Arguing that it would not make sense to spend more money in costs than one could ever hope to recover if they non-consensually captured assets.

Natalie Shkolnik, a partner in Wilk Auslander’s New York office, spoke on the ABA panel alongside McLeroy. Her firm started a judgment enforcement practice in 2004, pioneering legal decisions in the area.

Shkolnik said the hardest judgments to collect are those against individuals instead of companies.

“Because it’s easier for an individual to disappear,” she said.

In North Carolina, LLCs are required to file an annual report with the state, but in South Carolina, LLCs are not obligated to do the same. This can make assets difficult to track year over year, creating another barrier to judgment collection.

North Carolina Lawyers Weekly spoke with national experts and local attorneys on how they are navigating the muddy water created by LLCs when collecting judgments.

The problem with LLCs

Gregory Leyh, who owns his practice in Kansas City, Missouri, knows first-hand about the difficulties of collecting judgments from an LLC.

Leyh led a class-action lawsuit on behalf of the tenants of Ruskin Place apartments in Kansas City and won a $62 million judgment for uninhabitable living conditions, emotional damages and punitive damages. But this judgment was never paid.

KM-T.E.H. Realty 8 LLC was one of the defendants in the original suit, as was Michael Fein, a manager and a member of the company. Months before the judgment was rendered, the company sold its assets and stripped the LLC of its value and Fein fled the country.

Despite the setback, Leyh and his law partners Nicholas Leyh and Andrea Knernschield refused to give up and registered the judgment in New York, Pennsylvania, Oklahoma and Indiana, all states which they believed KM-T.E.H. Realty or its related entities held property. Tracking these entities, their owners and insurers was difficult, and at one point, the group had 24 separate LLCs.

“We litigated in New York for a while, litigated in Pennsylvania, and we had $15,000 from a bank in New York. But that’s it,” Leyh said. “So, we then sued some associated LLC companies that were associated with (KM-T.E.H), and we got maybe another couple of $100,000 in settlements from them. We then filed an equitable garnishment claim seeking insurance company funds to partially satisfy this judgment, by which I mean (KM-T.E.H.) was insured and we finally got the information we needed to identify the insurance companies.”

Leyh said they identified six defendants in the equitable garnishment claim. Of these, three insurance companies — Colony Insurance Company, Starstone Specialty Insurance Company and Liberty Insurance Underwriters — are part of this $2.75 million settlement

Recently, Leyh also settled with additional insurance companies. In November, a judge granted final approval on his settlement with Allied World, which he says was one of the last of five insurance companies to settle. This amount was $1,675,000. The judge also entered an order permitting him to begin distributing funds from another settlement that settled for $1,450,000.

“We had one round of settlement checks that went out in the rough amount of $20,405. They were all distributed to the class. The second round from Hallmark is $10,006 for each class member,” he said.

But these settlements aren’t the end of the road, Leyh said. It’s just where they are in the process now.

“We are continuing to explore the identity of insurance companies that may have insured the two judgment debtors against whom we got the original 2020, judgment KM-T.E.H and Michael Fein,” he said. “So, there may be additional insurance companies that we are in the process of attempting to identify.”

While this class action is unique, Leyh said the LLC structure is designed to protect individuals and shield them from judgment collections.

“What the LLC structure permits is a lot of very bad behavior by the LLC. And with a little bit of planning, they can eliminate their assets, get rid of their assets, transfer their wealth, dump property and therefore the ability to collect a judgment, holding them accountable for the very bad behavior is difficult, sometimes impossible.” Leyh said.

North Carolina

Andy Tarr, co-chair of Robinson Bradshaw’s Bankruptcy & Creditors’ Rights practice in Charlotte, said closely held LLCs and those in financial distress are typically more difficult to collect from than larger companies.

“Where you have one or two — or a small number of members — with a lot of control over the LLC (…)  without broad shareholder or independent board oversight, there is more ability to kind of move assets out of the LLC and into other entities,” Tarr said. “That makes it very difficult and expensive to collect, because you really have to be persistent to kind of continue following the trail to get to the place where there’s actually assets that are available for satisfying the judgment.”

One of the first steps an attorney can take in North Carolina when collecting a judgment is sending the sheriff to execute a writ of execution to locate any assets that can be sold or used as payment for the judgment.

“If that writ of execution is returned unsatisfied, then North Carolina allows you — and most states allow this — the use of what’s called ‘supplemental proceedings,’ which is effectively post-judgment discovery, so that you can determine where the assets are,” Tarr said. “And so that would be one of the first things that a judgment collection attorney would want to do is to exercise the rights under the supplemental proceedings laws that would allow them to serve interrogatories about assets, to request documents about assets and also to potentially require a hearing before the clerk that would allow you to depose a representative of the judgment debtor about their assets.”

A problem attorneys can run into during the supplemental proceedings is the company being defunct or based out of state and therefore not having a representative available for a deposition or oral examination before the clerk.

If someone is available to speak on the company’s assets, Tarr said attorneys should also ask about the assets transfer history in case any were recently transferred before the judgment could be collected.

“If you find out that a company, an LLC, has been transferring assets to other entities or other people after the judgment, or even before the judgment has been entered, you may be able to try to recover from those other entities under a fraudulent conveyance theory that would allow you to sue other parties who have been part of this scheme and are a transferee of the judgment debtors’ assets.”

But, in North Carolina, there’s a catch.

“In North Carolina, you can do that discovery to determine if there have been potential fraudulent conveyances of assets by judgment debtors,” Tarr said. “But the problem is, you can’t bring the litigation to recover those assets or the value of those assets in the supplemental proceedings, you have to start a whole new legal action against those entities.”

During the time it takes to complete this litigation, the debtor may have again transferred or lost those assets, he added.

South Carolina

Bill Sloan of the Sloan Law Firm in Summerville said the first step attorneys should take as soon as they receive a judgment is searching the public record in the county in which the judgment was granted to see if there are any assets locally the sheriff can seize and sell.

“If that does not work out, then you can schedule what’s called a debtor’s exam,” Sloan said. “You can force the members of the LLC to come to court and testify under oath (…) basically they have to prove that they can’t pay the judgment.”

If an attorney is unsure of how to go about this process, there are good debt collection attorneys in the state who can help, Sloan added.

However, if an LLC is not adequately funded through its own assets or insurance, there are steps an attorney can take before the judgment is rendered in the context of the lawsuit, Sloan said. This is called piercing the corporate veil and removes individual liability protection.

“That’s something that’s handled during the course of the lawsuit as well with the discovery and then also possibly in the debtor exam, to show that that LLC is inadequately funded, either with assets or with insurance,” he said. “And you then you seek to get that corporate veil pierced and go after the persons who are the members of that LLC individually.”

To prove an LLC is inadequately funded; attorneys wait until after the 30-day period the company has to appeal the judgment, and then they can perform an in-depth search of the company’s assets. This search includes sending a sheriff out to execute a search of the company’s non-exempt properties to determine if there are any reclaimable assets.

“Then if the sheriff comes back, nulla bona — which is Latin and Pig Latin for ‘they ain’t got nothing’ — you send what’s called a subpoena duces tecum to the defendant member of the LLC and say, ‘Hey you have to come to court with multiyear tax returns, bank statements, a list of assets and a profit loss statement,’” Sloan said.

If the company does have assets that can be used to pay the judgment, the judge can compel the company to sell them to pay the debt. Sometimes this can still be a dead end, which is why a thorough asset search before a collection.

Before a judgment, attorneys can ask the court to freeze the LLC’s assets, so they can’t move money from one account to another during the lawsuit.

“You can file a pre-judgment motion, sometimes lawyers even file that ex parte and serve the order along with the summons and complaints. It’s a claim and delivery,” Sloan said.

While collecting judgments from an LLC can be difficult, it mostly requires a different approach because of the added layer of secrecy when locating assets, he said.

“In one way, South Carolina is not a good state to put judgments on because you can’t garnish wages,” Sloan said. “But in a way, it is good because you have that debtor exam and that judge can make the members of that LLC fork over all their records, all their contributions to that LLC.”

The solution for attorneys

The investigation process must start before an attorney attempts to collect a judgment, Shkolnik said.

“If the LLC doesn’t have assets, then a lot of times, people give up and are not sure what to do,” she said. “So, what you need to do in those cases is you need to come up with a strategy on how you could potentially get to the members of the LLC assuming they have assets.”

One of the steps Shkolnik and her team have taken in the past is piercing the veil where you as a creditor ask the court to disregard the LLC’s legal identity and hold the members personally liable.

“There’s a bunch of factors that the courts take into consideration in determining whether to pierce the veil, and it’s going to vary from state to state. But generally, they look at whether the LLC is undercapitalized, whether the members were commingling funds between the company and their own funds, whether the corporate formalities were ignored — so the LLC, for example, doesn’t have records (or) doesn’t have operating agreements —  (and) certainly if the LLC was used to commit a fraud or some other form of injustice,” she said. “If you have those factors, then you can try to pierce the corporate veil and get to the assets of the members.”

Similar to the actions Leyh took in his case, McLeroy advises attorneys to record the judgment, make it a public record and place a lien on the assets of an LLC anywhere they may be held including other states and overseas.

“Then the next step is to determine whether or not you want to take formal discovery or not, from the judgment debt or entity basically serving them interrogatories,” she said. “Sometimes you would do that, sometimes you would choose not to and instead, potentially hire (an) investigator (or) search the public records to locate assets, bank accounts or real property that might belong to the judgment debtor that you can seize or attach to help collect the judgment.”

One of the most common mistakes attorneys make when trying to collect from an LLC is not thinking about the long game and submitting their discovery too soon.

“Sometimes that tips them off and by the time you get the answers back from them, they’ve, for instance, closed all the bank accounts that they’ve told you about,” McLeroy said. “So sometimes it’s not strategic to send a discovery, because it basically puts the judgment debtor on notice (about) what you’re going to do next.”

The second most common mistake is to be too eager to collect a judgment and to take every step at once, spending more client funds in what may be a fruitless effort, she said.

Sloan said one of the biggest mistakes attorneys make when collecting their judgment is failing to conduct an asset search before going to court or not acting quickly enough on something such as discovery or asset seizure.

Pivoting to ethics, attorneys have to be both diligent and competent, Sloan said.

“He has to know what he’s doing and (have the) diligence to move fast when he has the opportunity to get something filed quicker,” Sloan said. “Get these debtor exams scheduled before the members of the LLC can move those assets or move that money.”

Sloan said the best piece of advice he can give attorneys regarding judgment collection actually comes from Benjamin Franklin.

“An ounce of prevention is better than a pound of cure.”