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A New Jersey LLC Is Really a General Partner

Membership in a New Jersey LLC - Limited Liability Company

On November 13, 2020, the Superior Court Appellate Division affirmed (per curiam) the November 15, 2018, judgment of the trial court in Steven BATITSAS, and Diane Sarahwati, Plaintiffs-Respondents, v. PARK POINT INVESTORS, LLC, Defendant-Appellant, (New Jersey Appellate Division, November 13, 2020) holding that the defendant LLC was liable to plaintiffs for the amounts in excess of debt realized from the sale of two rental properties. Plaintiffs owned two properties, purchased in 2007 with borrowed funds secured by mortgages. They defaulted on the mortgage loans in 2010. Foreclosure proceedings ensued.

A realtor friend introduced plaintiffs to a real estate investor, who proposed that plaintiffs enter into a deal where the investor would advance enough money ($1.4 million) to acquire the properties and forestall foreclosure. The investor formed the defendant New Jersey LLC as, in the Court’s words, “a single purpose entity.” Plaintiffs, pursuant to an agreement, would manage the properties, pay the defendant LLC $9,500 per month as interest, and market and sell the properties within one year of the date title was acquired. Any amount realized above the $1.4 million would go to plaintiffs. If the properties were not sold for enough to pay the $1.4 million, the defendant would own the properties, collect the rent from tenants, and have the right to sell the properties itself; plaintiffs would receive nothing.

Batitsas v. Park Point Investors, LLC

The Court’s opinion focuses on the relationship between the plaintiffs on one hand and the LLC on the other. Defendant acquired the notes and mortgages, then foreclosed on the properties, one in January 2015 (where the sheriff’s deed was recorded in March), and the other in March 2015 (where the sheriff’s deed was recorded in May). One property sold within five months netting over $1.1 million; the other did not sell until July 2016. The second property sold for a net in excess of $660,000, so in the aggregate, the defendant realized over $1.7 million. Defendant asserted that the one year selling period under the agreement ended at the end of January 2016, one year after the first foreclosure. Therefore, the defendant kept the entire net proceeds. The Court notes that the defendant and its principal had reason to know that the listing price for the second property was too high. Plaintiff sued for the excess of over $1.4 million.

The trial court’s judgment that the plaintiff was due that excess (less the amount that the defendant had had to expend as a security deposit) was upheld by the Appellate Division. The Court found that the parties had formed a joint venture, citing well-established New Jersey precedent, particularly Wittner v. Metzger, 72 N.J. Super 438 (App. Div., 1962). Also under established New Jersey law, Silverstein v. Last, 156 N.J. Super 145 (App. Div., 1978), parties to a joint venture (which is really just a particular form of general partnership) owe each other fiduciary duties and may be held liable for any breach of them. Interestingly the Court did not cite to the New Jersey version of the Revised Uniform Partnership Act, New Jersey Statutes Annotated 42: 1A – et seq. Section 1A – 24 covers fiduciary duties, and by its express terms could be seen as making the Court’s determinations somewhat less certain, although under the facts of the case it is probable that even close scrutiny of the text of Section 24 would reach the same conclusion.

A New Jersey LLC Is Really a General Partner

The Court also found a basis for holding the defendant liable as having breached the implied covenant of good faith and fair dealing, which the Court states are part of every contract. That covenant forbids, in the Court’s words, arbitrarily or capriciously exercising discretionary authority under a contract. The Court cites as controlling authority the decision of the New Jersey Supreme Court in The Sons of Thunder, Inc. v. Borden, Inc., 148 N.J. 396 (1997). Such a finding, under the case law, requires a related finding of bad intent. Here the Court finds several of the defendant’s acts and omissions (the construing of the one year period, the failure to advise lowering the listing price, an unwillingness to grant an extension when the great majority of the $1.4 had been paid, etc.) as sufficient to impute a bad intent to the defendant.

What the Court does not discuss is the possible application of Section 1A – 24 d, which expressly permits a general partner to favor some general partner(s) over others. On balance, however, the holding of the Court is probably sustainable, even considering Section 24 d. What is unfortunate is the absence of a discussion of these issues. If nothing else, the Batitsas decision stands firmly as evidence of the consequences of two fundamental errors: one, not having a more complete and careful agreement between the parties; and, two, not fully appreciating the result stemming from “architectural” choices in doing deals.

If you have any questions about this post or any other related business law matters, please feel free to contact me at pdhutcheon@norris-law.com.