Recently, the Appellate Division of New York, revived a lawsuit over the fiduciary duty owed by members of a limited liability company (“LLC”) to one another in a real estate deal. Fiduciary duty means the duty of trust that one person owes another. In that case, there was an agreement between the members of the LLC that they did not have a fiduciary relationship. However, the Court held that the agreement failed to preclude the claims for the breach of fiduciary duty owed by the members to one another. Pappas v. Tzolis, 2011 WL 4089439, 1, 1 (N.Y. A.D. 2011).
In that case, Plaintiffs, Steve Pappas and Constantine Ifantopoulos and Defendant, Steve Tzolis, were partners in Vrahos, a limited liability company. Vrahos was specifically created to enter into a long-term lease of a building in lower Manhattan. The lease required the payment of a security deposit and personal guarantees from Tzolis and plaintiff Steve Pappas. The operating agreement specified that Tzolis would furnish the security deposit for the lease. It also stated that Tzolis would have the right to sublease the building as consideration for furnishing the security deposit. But, this right to sublease was conditioned on Tzolis making certain additional payments to Vrahos.
Tzolis exercised his right to sublease the building, but failed to make additional payments to Vrahos. A few months later, Tzolis offered to buy out his partner’s shares in Vrahos. Tzolis was to pay $1 million to Mr. Pappas and $500,000 to Mr. Ifantopoulos. At the time the parties executed the assignment agreement, they also signed a handwritten closing certificate. One of the terms of the closing certificate stated: “[E]ach of the undersigned Sellers agrees that Steve Tzolis has no fiduciary duty to the undersigned Sellers in connection with such assignments.” Id at 1. Shortly after the assignments to Tzolis became effective, he assigned the lease to a third party for $17.5 million.
The plaintiffs were outraged. They alleged that Tzolis had started the negotiations for the assignment of the lease months before he offered to buy their shares, and that Tzolis had a duty to inform them and share the profits from the deal. The plaintiffs filed a complaint with causes of action for breach of contract, fraud, breach of fiduciary duty, misappropriation of business opportunity, breach of the implied covenant of good faith and fair dealing and a derivative claim filed on behalf of Vrahos.
Tzolis moved to dismiss the complaint based on the terms of the closing certificate executed by the parties. The lower court granted Tzolis’ motion, finding that the plaintiffs had no cause of action because the contract “eliminates the fiduciary relationship that would, otherwise, be owed by the members to each other and to the LLC.” Id at 3.
The Appellate Division disagreed with the lower court’s ruling. It held that “[A] fiduciary cannot by contract relieve itself of the fiduciary obligation of full disclosure by withholding the very information the beneficiary needs in order to make a reasoned judgment whether to agree to the proposed contract.” Id. at 5. It also held that the plaintiffs and the defendant were fiduciaries in matters relating to Vrahos until the closing of the buy-out transaction. Therefore, up until that moment, Tzolis had a fiduciary duty to disclose to his partners, the negotiations related to the assignment of the Vrahos lease.
© 2012 Nissenbaum Law Group, LLC