Limited liability companies (LLCs) enjoy unique hybrid status as a “relatively new form of doing business that is created and defined by state law.”[1] Though the LLC is “not formally characterized”[2] as either a partnership or a corporation, but as a hybrid entity, problems occur when precedent addresses partnerships or corporations, but not LLCs directly. When the law fails to address LLCs specifically, judges and commentators analyze the law and determine whether an LLC should be grouped as a corporation or a partnership for a specific purpose. For example, bankruptcy laws do not refer specifically to LLCs, yet LLCs can still be debtors or creditors.[3] Generally speaking, “LLCs have been treated as corporations almost by default for bankruptcy purposes.”[4] However, placing LLCs into default corporate categories may not always effectively serve the goals of an LLC. In particular, this article addresses a current interpretive problem existing in the characterization of single-member LLCs for the purpose of determining whether the LLC may appear before a court without counsel.
While default corporate categorizations may work for LLCs in bankruptcy proceedings, the imposition of corporate treatment on LLCs for other purposes may not adequately serve the goals of certain types of LLCs. For one, it may not be practicable to require all LLCs to be treated as corporate-like entities for the purpose of court representation. The general rule for corporate representation is that corporations, as “artificial entities, may only appear in court through an attorney.”[5] Thus, any non-lawyer representing the corporation engages in “the unauthorized practice of law.”[6] Courts have included LLCs within the group of artificial entities who may not be represented by a non-lawyer.[7] The policy behind this requirement is that:
[T]he conduct of litigation by a nonlawyer creates unusual burdens not only for the party he represents but as well for his adversaries and the court. The lay litigant frequently brings pleadings that are awkwardly drafted . . . In addition to lacking the professional skills of a lawyer, the lay litigant lacks many of the attorney's ethical responsibilities, e.g., to avoid litigating unfounded or vexatious claims.[8]
From the court’s perspective, the nonlawyer lacks the skills, knowledge, and style needed to aptly appear before the court. This seems to be sending a message to businesses that if they want to organize as a limited liability company, they will be held to some of the same rules of business as corporations, including the requirement of appearing in court through professional counsel.
However, is this really positive precedent for LLCs? Larger hybrid entities, such as those organized as an LLC subsidiary under a parent corporation may not be affected by pro se rules, as any legal matters could be handled by the parents’ counsel. Yet consider smaller, single-member LLCs that are not part of a larger corporate family. In Collier v. Cobalt, LLC, a defendant lay person presented the court with a motion to appear on behalf of the co-defendant LLC, partly because the LLC could not afford an attorney.[9] The defendant was the sole “employee, owner, and shareholder” of the LLC [10], and so presumably his self-representation would not adversely affect anyone’s interest but his own. Nonetheless, the court denied the defendant LLC’s motion for pro se representation.[11] Following the reasoning laid out by a bankruptcy court in In re ICLNDS Notes Acquisition, LLC, the Cobalt, LLCcourt did not seem to care whether the LLC was characterized as a partnership, corporation, or hybrid entity and held firm to the premise that “it may only appear in court through counsel.”[12] The irony in the ruling, however, is that the court recognized “the apparent harshness of this rule in a situation such as that alleged here, i.e., where a legal entity consisting of a sole employee and shareholder is unable to afford counsel” but did nothing to shape its holding as to fit the realities of the case.[13]
From one perspective, the court seems to be punishing the single-member, closely-held LLC for establishing itself as a legal entity. Cobalt, LLC likely established itself under LLC form to enjoy limited liability and protect its sole owner from personal liability. Yet due to lack of funds, the LLC was unable to defend itself in court, putting its sole owner in a likewise uncomfortable position. Though the sole owner could be protected by limited liability, he could not protect the business itself if he could not afford the cost of legal counsel. In this case, the sole owner did not have sufficient funds for his own representation either, yet he was allowed to remain in court pro se on his own behalf.[14] From this point of view the sole owner may have been better off not establishing the LLC form, because at least then he would be able to represent his business in a court of law. Yet, without the organizational establishment, the sole owner would be exposed to the personal liability that he sought to protect against in the first place.
As the current message stands, courts are sending a clear message to LLCs that if they want to enjoy the benefits of the organizational form, they need to have sufficient funds on hand in case of legal controversies. Another way to deal with this issue may be to carve out an exception for closely-held single-member LLCs to allow for pro se representation. This would not be incongruent with current precedent; rather, it would remove from the category of corporations and other “artificial entities” single-member LLCs, which could be considered “individuals” who would be allowed self-representation. Although it still would be in the best of the interest of the single-member LLC to seek more experienced, legal counsel in the event of a dispute, a carve out would enable closely-held businesses to retain both limited liability and the ability to appear in court if they could not afford legal counsel. In any event, the impracticable result suggested by Cobalt, LLC demonstrates why grouping LLCs with corporations or partnerships for specific legal purposes may not always result in sensible outcomes.
[1] In re ICLNDS Notes Acquisition, LLC, 259 B.R. 289, 292 (Bankr. N.D. Ohio 2001).
[2] Id.
[4] Nicholas Karambelas, LIMITED LIABILITY COMPANIES: LAW, PRACTICE AND FORMS § 17:3 (2006).
[5] In re ICLNDS Notes Acquisition, LLC at 293.
[6] Id.
[7] In re Interiors of Yesterday, LLC, 284 B.R. 19, 23 (Bankr. D. Conn. 2002).
[8] Id. at 24.
[9] Collier v. Cobalt LLC, 2002 WL 726640 at *1 (E.D. La. 2002).
[10] Id.
[11] Id. at *2.
[12] Id. at *1.
[13] Id. at *2.
[14] Id.