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Commercial Division Holds Corporate Directors May Be Individually Liable When Informally Dissolved Company Forgoes Notice to Creditors

In Morse v. LoveLive TV US, Inc., a recent decision by Justice Robert R. Reed of the New York County Commercial Division, the Court denied a defendant’s motion to dismiss, holding that where it is impossible or futile to obtain a judgment against a defunct corporation that has defaulted on debts by “informal dissolution,” creditors can maintain an action directly against the directors of that company.[1]

Background on Informal Dissolution and the Notice Provision of the New York Business Corporation Law

When a company decides to wind down its business, its options range from a dissolution under state law to a public bankruptcy filing in federal court.  A dissolution typically involves a company transferring all its assets, laying off its employees, and shutting down its business operations, without completing a formal end to the corporate existence.[2]

New York Business Corporation Law (“BCL”) § 1007 sets forth the procedure for a dissolved corporation to publish notice of its dissolution to creditors and claimants.  Section 1007 (a) of the BCL provides in part:

At any time after dissolution, the corporation may give a notice requiring all creditors and claimants, including any with unliquidated or contingent claims and any with whom the corporation has unfulfilled contracts, to present their claims in writing and in detail at a specified place and by a specified day . . . .

Upon issuance of notice under Section 1007(a), if a creditor or claimant fails to make a timely claim, then such a claim may be “forever barred as against the corporation, its assets, directors, officers and shareholders.”[3]  Under the plain text of the statute, dissolved companies are not required to provide notice to creditors.[4]  However, as the Morse decision shows, there are potential ramifications for a company’s directors if the company forgoes notice to its creditors.

Factual Background of Morse

In Morse, the plaintiff, attorney Elisabeth Morse (“Morse”), was hired as a Senior Vice President of Business Affairs and Strategic Development for LoveLive TV US (“LoveLive US”), a now-defunct producer of audio-visual content.[5]  Morse’s written employment agreement provided that, at the end of 2016, if she met certain performance targets and her employment was not renewed, she would be entitled to a monetary bonus.[6]

In late 2016, Morse was informed that due to LoveLive US’s financial difficulties, her employment would not be renewed for 2017.[7]  Soon thereafter, LoveLive US dissolved, albeit informally.  LoveLive US ceased doing business and disbursed cash assets to select employees, leaving the company without any assets to pay creditors, including Morse.[8]

Procedural History

Morse filed an initial complaint, seeking payment of the monetary bonus per her employment agreement.[9] Morse sought to pierce the corporate veil and hold both LoveLive TV Limited (“LoveLive UK”), the parent company of LoveLive US, and Richard Cohen (“Cohen”), the chief executive officer and sole director of LoveLive US, liable for the contractual obligations of LoveLive US.  The defendants moved to dismiss Morse’s complaint, arguing that (1) Morse failed to state a claim because she did not satisfy that employment targets referenced in her employment agreement were met prior to suing and (2) the Court lacked personal jurisdiction over the defendants.[10]

In August 2019, the Court granted the defendants’ motion to dismiss with respect to LoveLive UK, finding that Morse had failed to demonstrate the necessary elements for piercing the corporate veil as against it.[11]  The Court also later dismissed the claims asserted against Cohen and LoveLive US without prejudice because the initial Complaint failed to allege that the company had transferred assets without appropriate notice to creditors and failed to allege with specificity that Morse had met the targets set forth in her employment agreement that would trigger the need for a monetary bonus.[12]

Thereafter, Morse filed an Amended Complaint containing two causes of action against Cohen and LoveLive US.  The first cause of action was for breach of the written employment agreement and, the second, for corporate director liability under BCL § 1006.[13] Defendants moved to dismiss Morse’s amended complaint on three grounds: (1) lack of personal jurisdiction based upon the alleged untimely filing of the amended complaint and supplemental summons; (2) lack of jurisdiction over Cohen as the amended Complaint does not allege that assets were transferred to Cohen during LoveLive’s informal dissolution; and (3) plaintiff’s failure to state a breach of contract claim.[14]

Justice Reed’s Opinion

The Commercial Division denied defendants’ motion to dismiss and rejected their argument that Morse’s BCL § 1006 claim fails to state a claim for relief against Cohen because the Amended Complaint failed to allege that LoveLive US transferred anything to any Shareholder or Director, including Cohen.  The Court relied on Darcy v. Brooklyn & NY Ferry Co., 196 N.Y. 99, 89 N.E. 461 (1909), to support its determination that LoveLive US and Cohen “mischaracterize[d] the facts that must be pled to sufficiently allege a BCL § 1006 claim.”[15]

In Darcy, directors of a corporation transferred all its assets to a purchasing corporation which agreed to pay the selling corporation’s debts, but no notice of such proposed transfer was given to the selling corporation’s creditors.  The Court of Appeals held that directors of corporations are liable to creditors, reasoning that “[t]he liability of the directors is predicated not on the ground that their action in making the transfer was fraudulent, but upon the proposition that it is a violation of duty on the part of the directors of a corporation to divest it of all its property without affording a reasonable opportunity to its creditors to present and enforce their claims before the transfer shall become effective.”[16]

Justice Reed explained that the Darcy opinion “doesn’t say anything about transferring assets to the directors.”[17]  Instead, Justice Reed explained that “when you dissolve the corporation without giving notice to the creditor . . . then you as director have a responsibility for overseeing the corporation [and] have failed in your obligation as a director.”[18]  Thus, Morse’s BCL § 1006 claim could move forward.

In essence, the Commercial Division’s decision in Morse serves as a warning to the corporate directors of companies contemplating the dissolution process: they should strongly follow the applicable jurisdiction’s dissolution law to avoid personal liability.

By Christopher Wilds and Muhammad U. Faridi

[1] Morse v. LoveLive TV US, Inc., 69 Misc. 3d 1224(A), 135 N.Y.S.3d 629 (N.Y. Sup. Ct. 2020).

[2] See Parent v. Amity Autoworld, Ltd., 15 Misc. 3d 633, 640, 832 N.Y.S.2d 775, 780 (Dist. Ct. Suffolk Cnty. 2007) (noting that New York law allows for corporations to informally dissolve by transferring all its assets without giving notice to creditors).

[3] N.Y. Bus. Corp. Law § 1007(b).

[4] Amity Autoworld, Ltd., 832 N.Y.S.2d at 780 (“The court notes that the use of the language ‘may give notice’ to creditors in section 1007 is permissive in nature.”).

[5] Morse, 69 Misc. 3d 1224(A), 135 N.Y.S.3d 629 at 1* (N.Y. Sup. Ct. 2020).

[6] Id.

[7] Id. at 2*

[8] See id.

[9] Id. at 3*

[10] See idIn opposition to the motion dismiss, Morse clarified that her cause of action against Cohen was “dependent not on [a] veil piercing doctrine, but on the informal dissolution of LoveLive US” pursuant to BCL § 1006 (b).

[11] Id.

[12] Id. at 4-5*

[13] Under New York law, “[t]he dissolution of a corporation shall not affect any remedy available to or against such corporation, its directors, officers or shareholders for any right or claim existing or any liability incurred before such dissolution, except as provided in sections 1007 (Notice to creditors; filing or barring claims) or 1008 (Jurisdiction of supreme court to supervise dissolution and liquidation).”  N.Y. Bus. Corp. Law § 1006(b).

[14] Morse, 69 Misc. 3d 1224(A), 135 N.Y.S.3d 629 at 5*

[15] Id. at 7*

[16] Darcy, 196 N.Y. at 102, 89 N.E. at 461.

[17] Morse, 69 Misc. 3d 1224(A), 135 N.Y.S.3d 629 at 7*

[18] See also Matter of Hartley, 479 B.R. 635, 640-641 (S.D.N.Y 2012) (under New York law, where it is impossible or futile to obtain a judgment against a defunct corporation that has defaulted on debts by “informal dissolution,” creditors can maintain an action directly against the directors or shareholders); Amity Autoworld, Ltd., 15 Misc 3d at 640 (“the cost of an informal dissolution is that directors cannot shield themselves against corporate creditor liability. Directors who undertake to divest a corporation of all its property without taking the proceedings for a voluntary dissolution do so at their peril”).