North Carolina Business Litigation Report

Fourth Circuit Rules On Determining The "Principal Place Of Business" Of A Limited Liability Company Under The Class Action Fairness Act

Diversity is determined differently for corporations and limited liability companies. Corporations are citizens of the states in which they are incorporated and the state where they have their principal place of business, but an LLC is a citizen of each state in which its members reside.  See, e.g., General Technology Applications, Inc. v. Exro Ltda, 388 F.3d 114 (4th Cir. 2004).

But when the Class Action Fairness Act is involved, things are different. Last Friday, the Fourth Circuit ruled in Ferrell v. Express Check Advance of SC LLC that a limited liability company is an "unincorporated association" for CAFA purposes, and that the determination of the "principal place of business" of an LLC should be determined using the same test applied to a corporation. In other words, the citizenship of the members of an LLC isn't necessarily determinative of diversity in a CAFA case, and it wasn't in Express Check.

Background 

The LLC defendant conducted its operations in South Carolina, but its sole member was a corporation incorporated in Missouri with a principal place of business in Kansas. It had been sued by a Plaintiff who was an individual resident of South Carolina.

The Defendant, relying on the Missouri and Kansas citizenship of its sole member, removed the case to federal court based on diversity jurisdiction, and the Plaintiff moved for a remand.

If CAFA hadn't been at issue, the general rule for determining the citizenship of an "unincorporated association" would have applied. That rule looks to the citizenship of each member of the entity, so an LLC would be a citizen of each state in which its members resided. There would have been diversity under that test because the Defendant was either a Missouri entity or a Kansas entity. 

An LLC Is An Unincorporated Association Under The Class Action Fairness Act 

But under CAFA, Congress changed the traditional rule, and said that an "unincorporated association" should be treated like a corporation, and deemed a citizen of the State "under whose laws it is organized" and also where it has its principal place of business. 28 U.S.C. Sec. 1332(d)(1).

Express Check, concerned that its principal place of business might be found to be diversity-defeating South Carolina, sought to get out from under the CAFA rule. It said that an LLC wasn't intended by Congress to be included in the definition of an "unincorporated association." The Fourth Circuit cut through that argument quickly, calling it "linguistic," and held that an LLC's "citizenship for purposes of CAFA is that of the State under whose laws it is organized and the State where it has its principal place of business."

The decision sweeps beyond LLCs, as Judge Niemeyer ruled that the term "unincorporated association," under CAFA, "refers to all non-corporate business entities."

The Court then turned to the issue of where the LLC had its principal place of business.

The Principal Place Of Business For An LLC Is Determined In The Same Way As It Is For A Corporation

Judge Niemeyer said that the Fourth CIrcuit would apply the same tests used by the Court to determine the citizenship of a corporation, which are the "nerve center" test and the "place of operations" test.

Under the nerve center test, the principal place of business is "where the corporation's officers direct, control, and coordinate its activities." Here, that would have been Kansas. Under the place of operations test, the principal place of business is "where the bulk of corporate activity takes place." In the case of Express Check, that would have been South Carolina.

Which test applies depends on the nature of the business. If a corporation (and an LLC under CAFA) has multiple centers of manufacturing, purchasing, or sales, the place of operations test is used to determine its principal place of business. When a company is engaged primarily in the ownership and management of investment assets, like debt or equities, the Fourth Circuit applies the nerve center test.

The Court ruled that the place of operations test applied because all of the LLC's business was conducted in South Carolina, and all of its employees, except for four of its officers, resided in that State. The Fourth Circuit therefore determined that there was no diversity between the LLC and the South Carolina plaintiff, and affirmed the remand. 

Looking Ahead To The Supreme Court

The Fourth Circuit's "nerve center" and "place of operations" analysis may not continue to be the law when determining the principal place of business of a corporation.

The Supreme Court is considering how to determine the principal place of business of a corporation in another CAFA case, Hertz Corp. v. Friend.  That case was argued in November 2009.

Why hasn't the Supreme Court ever resolved before the issue of how to determine a corporation's principal place of business?  The answer is that it generally comes up on a motion to remand following removal, and there is very limited appellate review of those decisions.  CAFA, which was enacted only five years ago, permits that appellate review.

 

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Mack Sperling
Brooks Pierce, LLP
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