Maybe We Are Getting Closer To A Decision in North Carolina On Whether LegalZoom Is Engaged In The Unauthorized Practice Of Law

Legalzoom may be a step closer to overcoming the NC State Bar's assertion that its online legal document service constitutes the unauthorized practice of law (UPL), following yesterday's ruling in LegalZoom, Inc. v. North Carolina State Bar, 2014 NCBC 9.  Or it may be only a few questions away from a ruling that would impact its ability to conduct business in North Carolina, depending on how you read the decision.

If you need some background on LegalZoom, you probably don't own a television or you haven't read my two previous posts on this long simmering dispute, from January 2012 and August 2012.  The company is constantly advertising its legal document generation service which it says on its website "strive(s) to be the best legal document service on the web."  It prepares incorporation papers, wills, trademark applications, and divorce documents and other things for its customers, who want a "do it yourself" approach to law.   LegalZoom has been battling with the NC State Bar in the Business Court since 2010 over whether its service constitutes the UPL.

Yesterday, Judge Gale denied the State Bar's motion for judgment on the pleadings, ruling that he needed a "more developed record" to make a decision, in 2014 NCBC 9.  Op. 50.

Exceptions To The Unauthorized Practice Of Law and Judge Gale's Questions

The definition of the "practice of law" is contained in G.S. §84-2.1.  LegalZoom argues that it falls within recognized exceptions to states' prohibitions on the UPL.  One is known as the “self-help” or the “self-representation” exception, which means "that one can legally undertake activities in his own interests that would be UPL if undertaken for another, or to “practice law” to represent oneself." Op. 58.

The NC Supreme Court weighed in on the "self-help" exception fifty years ago, in State v. Pledger, 257 N.C. 634, 127 S.E.2d 337 (1962), in which it held that a non-lawyer employee of a company in the business of constructing and selling of homes did not engage in the UPL by preparing deeds of trust for homes that his employer sold.  The Court said that:

[a] person, firm or corporation having a primary interest, not merely an incidental interest, in a transaction, may prepare legal documents necessary to the furtherance and completion of the transaction without violating [the law].” Id. at 637, 127 S.E.2d at 339.

Op. ¶61.  Since LegalZoom doesn't have a "primary interest" in its customers' business, it wasn't able to successfully avail itself of the "self-help" exception.

The second exception, relied on more heavily by LegalZoom has been referred to as a “scrivener’s exception,” which essentially means "that unlicensed individuals may record information that another provides without engaging in UPL as long as they do not also provide advice or express legal judgments." Id.

Judge Gale had a number of questions whether the operation of LegalZoom's online software fit within the scrivener's exception.  Those questions could not be answered on the existing record.  He posed the following:

if a customer makes one choice presented to him by the [LegalZoom] software, are there portions of the template that are then never shown to the customer? If so, what is the reasoning behind and the legal significance of the software’s determination not to present that portion of the form?  [Does the premise of the Pledger decision] require that only the unlicensed individual make choices in drafting a legal document, and that the choice or risk of an incorrect choice about which portions of a form to include must belong exclusively to the individual? Is there then a legally significant difference between how one engaging in self-representation uses a form book versus LegalZoom’s interactive . . . software? A form book presents the customer with the entire form, often accompanied by opinions or directions on how to use the form, but any choice and its implications are solely the customer’s. Does the LegalZoom software effectively make choices for its customer? Do responses depend in any part on the effects of statements embodied in the software, either those that promote the program or those that disclaim legal advice being given?

Op. ¶66.  Although the Judge was careful to say that these were not the "controlling or only relevant questions,"  Op.¶67, they certainly provide a road map for future resolution of the case via a motion for summary judgment.  

LegalZoom's Prepaid Legal Services Plan

There's another aspect to the case, which involves Legaloom's prepaid legal services plans. The State Bar, which is responsible for registering such plans, refused to register LegalZoom's plans.  The online vendor said this refusal violated the equal protection clauses of the U.S. and North Carolina Constitutions.

Judge Gale dismissed that claim, because LegalZoom had not exhausted its remedies by failing to request a hearing before the State Bar.  The Administrative Procedure Act, to which the State Bar is subject, requires a final agency decision before judicial review is allowed. 

LegalZoom had taken the position that requesting a hearing was only optional, and that a hearing would have been futile.  Judge Gale observed that both arguments were foreclosed by NC appellate decisions.  Op.  46, 47.
 

LegalZoom's Claim that it has been Defamed by the NC State Bar was Dismissed

LegalZoom had made a claim against the State Bar that the Bar's statements that it was engaging in the UPL were "false and untrue" and that those statements disparaged its product.

Judge Gale found those statements to be barred by the doctrine of sovereign immunity.

 

 

NC Business Court Puts Teeth In Protective Order

I've never thought much about the consequences of the violation of a Protective Order.  In fact, before last week's Business Court ruling in Out of the Box Developers, LLC v. Logicbit Corp., 2014 NCBC 7, no North Carolina case had "squarely addressed whether Rule 37 permits sanctions for violations of Rule 26(c) protective orders." Op. 5.

But now we know that a North Carolina court can issue sanctions for a violation of a protective order because Judge Gale ruled so in the Out of the Box decision.  If you are surprised that this was uncharted territory for a North Carolina court, you probably should be.  Judge Gale cited nearly a dozen federal district court decisions, dating back more than ten years,  reaching the same conclusion.  Op. 5 & n.2.  Though he cited none from a North Carolina federal court.  Perhaps there weren't any.

So what had the Defendants done that warranted sanctions?  One of the Defendants had posted on the internet a document subject to the protective order that had been produced to it.  The document hadn't been designated as "confidential," but "it bore a Bates stamp and was clearly a document produced in discovery covered by the Protective Order's restriction that it not be used for business or competitive purpose or any other purpose unrelated to the litigation of [the] case."  Op. 19.

The sanctions imposed were the striking of the Defendants' counterclaims as well as their affirmative defenses.

The discovery process in the Out of the Box case has not been smooth.  The Defendants were previously sanctioned for $38,000 for failing to comply with production orders from the Court; and the Court also issued an interesting ruling last year about subpoenas directed to non-parties.

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NC Court Of Appeals: Foreclosures and Immutability

Can a law passed by a Legislature be called "immutable?"  (that means it's ageless, not ever subject to change).

The Court of Appeals used that word this week in Heaton-Sides v. State Employees Credit Union to describe a statute dealing with foreclosures. 

The case dealt with the rights of a person to her personal property after a foreclosure.  A homeowner has ten days following a foreclosure to retrieve personal property left in her home, based on a combined reading of G.S. §45-21.29(1) and §42-25.9(g).

The Court of Appeals rejected the Defendant's argument that Heaton-Sides had waived the ten day period by not taking it up on its invitation that she notify it of her intention to reclaim her property.

Chief Judge Martin ruled that the ten day period could not be waived, holding that:

In contract law there are generally two types of rules: default rules and immutable rules. Default rules are rules that “parties can contract around by prior agreement.” Ian Ayres & Robert Gertner, Filling Gaps in Incomplete Contracts: An Economic Theory of Default Rules, 99 Yale L.J. 87, 87 (1989).  Immutable rules, by comparison, are those rules that “parties cannot change by contractual agreement.”  Id. While these terms usually refer to the Uniform Commercial Code, they demonstrate the principle that some rules may be avoided by contract while others may not.

Op. 7.

When a law is subject to revocation or amendment by the Legislature, can it really be said to be immutable?  That's a pretty strong word.  That the sun rises in the east and sets in the west is immutable.  Nobody can change that.  Unless you live on Venus.

 

 

 

 

Collecting On Judgments Against A Member's LLC Interest

A lawyer has limited remedies to collect on a judgment from a defendant who is unwilling to pay.  If the defendant holds stock in a corporation, you can execute on the shares, take possession of them, and sell them. N.C. Gen. Stat. §1-324.3.  But if that ownership interest is in an LLC, a "charging order" is your only recourse (per G.S. §57D-5-03(d)).

If you don't know what a charging order is, it is a court order against an owner of an LLC interest which gives a creditor the right to receive any distributions that the owner of the interest would have received until the judgment is paid.

The Old LLC Act

Former Section 57C-5-03 of the General Statutes (which was repealed and replaced in January 2014 by the new North Carolina Limited Liability Act in Chapter 57D) said that:

On application to a court of competent jurisdiction by any judgment creditor of a member, the court may charge the membership interest of the member with payment of the unsatisfied amount of the judgment with interest.

But what exactly did the holder of the charging order receive under the Old LLC Act, and what did the LLC owner lose upon the issuance of a charging order?  Last week, the NC Court of Appeals wrestled with the question whether a charging order operates as an assignment of an LLC interest, in First Bank v. S&R Grandview, LLC.

First Bank had obtained a charging order against Donald Rhine, a member of S&R Grandview, an LLC.  The charging order said that the Plaintiff "shall hereafter have the rights of an assignee" of Mr. Rhine's interest of the LLC, and that Mr. Rhine then had no remaining membership interest in the LLC.  The charging order said that his membership right would "lie fallow" until the judgment against him was satisfied.

Mr. Rhine appealed, arguing that the charging order did not operate to assign his LLC interest.  First Bank rejoined that the effect of  the charging order under Section 57C-5-03 was that Mr. Rhine was no longer a member of the LLC to which the order applied.

There was some plausibility to First Bank's argument.  Section 57C-5-03 said that "[t]o the extent so charged, the judgment creditor has . . . the rights of an assignee of the membership interest." And Section 57C-5-02 said that "a member ceases to be a member upon assignment of all of his membership interest."

A Charging Order Does Not Work An Assignment Of An LLC Interest

The Court of Appeals disagreed with First Bank's position, holding that "[n]owhere in these provisions does the General Assembly mandate an assignment of membership interests from a debtor to a judgment creditor through a charging order." Op. 8.  It added that "[h]ad the General Assembly intended a charging order to assign all membership interests and terminate a debtor’s membership in an LLC, as plaintiff contends, it could have easily included language to that effect." Op. 8-9.

The changes in the LLC Act through Chapter 57D bolstered the Court's conclusion.  The new provision dealing with charging orders states that "this Chapter does not deprive any interest owner of a right."  N.C. Gen. Stat. §57D-5-03(c).  I'm not sure whether statutory interpretation lets a court look at the subsequent actions of a Legislature to determine what the Legislature meant the first time around.

But anyway, why did this Defendant care whether his LLC interest was assigned and whether he had lost his membership rights?  Remember that an LLC member has an ownership interest that includes both an economic interest and a right to participate in the management of the LLC.  N.C. Gen. Stat. §57D-1-03(25).

A charging order can affect only the economic interest.  The charging order in First Bank went too far.  It took away Mr. Rhine's management rights.

What happens if those with management rights in the LLC decide to defer distributions from the LLC because of a dislike for the judgment creditor?  That's undoubtedly a risk, and it will probably be the subject of a yet to be decided court decision.

Why Should You Care About The Old LLC Act?

The NC General Assembly repealed the Old LLC Act, in Chapter 57C and replaced it with the New LLC Act through Chapter 57D.  That change became effective three months ago, on January 1, 2014.

Do you need to worry about the repealed Act?

Maybe.  In the "Savings Provisions" in the New Act, the General Assembly said that "[a]ny proceeding commenced before January 1, 2014, may be completed in accordance with the law then in effect."  N.C. Gen. Stat.  §57D-11-03(d)

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The "Bright Star" Fades: The NC Business Court On Letters Of Credit

I've resolved this year to blog about every numbered decision of the Business Court, as opposed to past years, where my lack of enthusiasm about the more boring decisions has left me writing about less than 100% of the Court's decisions.

My resolve was tested with Judge Murphy's decision last week in Speedway Motorsports Int'l , Ltd. v. Bronwen Energy Trading, Ltd., 2014 NCBC 5, but I have bitten the bullet and I have laboriously produced this post.

What's the new Speedway decision about?  A complicated international dispute over oil contracts, letters of credit, a guarantee of letters of credit, and claims for fraud, conversion, negligent misrepresentation, and unfair and deceptive practices.

You might remember the Bronwen case.  It's been pending in the Business Court since 2008 and has been up and back from the Court of Appeals over that 5+ years.  I wrote about the Court of Appeals decision affirming  the Business Court in 2011 (and reversing it in another decision issued at the same time).  In the affirming decision, the COA held that the "one bright star" in letter of credit transactions was that "every letter of credit involves separate and distinct contracts."

The effect of that ruling was that the COA affirmed the dismissal of claims against Defendant BNP-Suisse, which had issued a demand guarantee to BNP-France on a letter of credit issued by France.  The Suisse guarantee was secured by $12 million which Plaintiff had on deposit with Suisse.  When Plaintiff sued over the draw on its letter of credit with Suisse, France argued that the case was governed by a choice of forum provision in the Suisse guarantee calling for resolution in Switzerland.

The COA held that Plaintiff, which was not a party to the guarantee given by Suisse in connection with the letter of credit transaction,  was barred by the "independence rule"  from availing itself of the choice of forum provision because the contracts surrounding a letter of credit transaction must be "separate and distinct."

So in last week's ruling, France sought to push the COA ruling in support of a new motion for judgment on the pleadings.  France argued that Plaintiff couldn't make any claims at all against it based on its draw on the guarantee because the guarantee was "separate and distinct" from the obligations between Suisse and the Plaintiff.

That seems to fit with the independence principle, doesn't it?  Not the way Judge Murphy saw it. France might have prevailed if the claims against it were based in contract.  But they were tort-based claims, for fraud, negligent misrepresentation, conversion, unfair and deceptive practices, and for an accounting.

Judge Murphy therefore denied the Rule 12(c) claim, holding that:

The Court of Appeals’ description of the “independence principle” was grounded in principles of contract. See Speedway I, 209 N.C. App. at 564, 706 S.E.2d at 263; see also Speedway II, 209 N.C. App. at 485, 707 S.E.2d at 392. Specifically, the Court of Appeals was concerned with maintaining the separateness of the multiple contracts that are characteristic of letter of credit transactions. See id. However, nothing in the Speedway opinions shields a defendant from purely tort-based claims like those alleged by Plaintiff. See id. Furthermore, France cites no authority that forecloses non-contract, purely tort-based claims by application of the independence principle. The import of the independence principle is that France is not bound by and cannot seek the benefits of the contracts that Plaintiff made with others.

Op. 28 (emphasis added).