Johnson et al v. King
Filing
6
MEMORANDUM OPINION and ORDER that the Appellants' appeal is DENIED and the Bankruptcy Court's order granting summary judgment to Appellee is AFFIRMED. Signed by District Judge Michael S Nachmanoff on 08/09/2023. (dvanm)
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UNITED STATES DISTRICT COURT
FOR THE EASTERN DISTRICT OF VIRGINIA
Alexandria Division
DONALD F. KING, Trustee,
Plaintiff-Appellee,
v.
Case No. 1:22-cv-01037 (MSN/LRV)
MARY ELLA JOHNSON, et al.,
Defendants-Appellants.
MEMORANDUM ORDER AND OPINION
This matter comes before the Court on appeal from the United States Bankruptcy Court for
the Eastern District of Virginia’s order granting summary judgment in a bankruptcy action. Having
reviewed the record and the parties’ briefing, the Court will affirm the bankruptcy court’s decision
for reasons that follow.
I.
BACKGROUND
Legacy Wealth, LLC is a Virginia limited liability company formed in 2015. See Dkt No.
5-1 at 561–62 (“Appx.”). 1 Jerome and Michele Johnson (the “Debtors”) each shared ownership
interests in Legacy Wealth with their two adult children, Gabrielle and Emeri (the “Appellants”;
together with the Debtors, the “Johnson Family”). Id. at 170. Jerome and Michele owned 52% and
24% of Legacy’s membership interests. Id. at 562. Gabrielle and Emeri each owned 12%. Id.
Jerome Johnson served as both Legacy’s Registered Agent and its Managing Member. Id. at 160.
Legacy Wealth’s sole asset was a home located at 8815 Colemans Lake Road, Ford, Virginia
23850 (the “Property”). Id. at 562.
1
Because it is slightly more inclusive, the Court will refer to Appellee’s appendix throughout this Order.
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In October 2016, the Johnson Family executed a Consent to Action by Members Without
a Meeting on behalf of Legacy Wealth (the “2016 Consent”). Id. at 562. The 2016 Consent stated
that:
By signing this document, the undersigned, who are all the members of Legacy
Wealth Properties, LLC, a limited liability company (the “Company”), consent to
the taking on the following action without a meeting in accordance with the terms
of the Operating Agreement of the Company:
RESOLVED, that due to financial hardships and the inability to pay Mary Ella
Johnson for [the Property] as agreed upon at the time of the formation of Legacy
Wealth Properties, 100% (one hundred percent) of the property is signed back
over to Mary Ella Johnson. All four Members relinquish any and all rights to the
said property to Mary Ella Johnson.
Appx. at 535 (emphasis removed).
However, at the time of the 2016 Consent, no other document was executed and no formal
deed recorded. Id. at 562. Both parties agree the 2016 Consent also lacked any monetary
consideration (though Appellants argue now that the need to stop payments because of financial
hardship constituted valuable consideration on behalf of Legacy Wealth). See Dkt. No. 4 at 24.
Three years later, in July 2019, the Debtors jointly filed a voluntary bankruptcy petition
under Chapter 7 of the Bankruptcy Code. Appx. at 563. Appellee was then appointed as the trustee
for the Debtors’ bankruptcy estate. Id. In March 2021, Appellee (acting as trustee) proposed a plan
to dissolve Legacy Wealth, sell the Property, and divert the proceeds toward paying off Debtors’
outstanding debt. Appx. at 563–64. And, in July 2021, Appellee initiated an adversary proceeding
in the bankruptcy court to recover the Property. Id. at 564. Days later, Debtor Jerome Johnson
again attempted to transfer the Property from Legacy Wealth to Mary Ella Johnson—this time,
through a gift deed for the nominal consideration of $1.00 (the “2021 Gift Deeds”). Id.
During the adversary proceedings, Appellee argued that, as trustee of Debtors’ bankruptcy
estate, he assumed the Debtors’ combined 76% membership interests in Legacy Wealth when they
filed their bankruptcy petition; and, because the company’s Operating Agreement required only
2
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52% of the membership to approve a decision to dissolve, he could unilaterally initiate the winding
up of Legacy Wealth. Appx. 288–93. Over the Johnsons’ objections, Bankruptcy Judge Kenney
approved Appellee’s plan and ordered Legacy Wealth to be wound up and dissolved. Appx. at
570–571. 2
The issues before the Court on appeal are: (1) whether the Debtor’s non-economic rights
to manage Legacy Wealth became a part of their bankruptcy estate such that Appellee, as trustee
of that estate, could step into the Debtors’ shoes and wind up the company; (2) whether,
notwithstanding Appellee’s authority to manage Legacy Wealth, the Property was validly
transferred through either the 2016 Consent or the 2021 Gift Deeds.
II.
STANDARD OF REVIEW
On appeal from an order granting summary judgment, the Court reviews the bankruptcy
court’s findings of fact for clear error and its conclusions of law de novo. Terry v. Meredith (In re
Meredith), 527 F.3d 372, 375 (4th Cir. 2008) (citations omitted). Thus—because Appellants do
not dispute the underlying facts and challenge only the legal conclusions reached below, see Appx.
at 591—the Court reviews the bankruptcy court’s order de novo.
III.
DISCUSSION
Appellants contend that the bankruptcy court erred in three ways. First, Appellants assert
that the bankruptcy court erred as a matter of law in determining the scope of the Trustee’s control
of the Debtors’ membership interests. Id. at 8. To that end, Appellants assert that Appellee had
only the rights of an assignee of the Debtors’ membership interests, which would not allow the
Trustee to initiate the winding up process. Id. at 13. Second, Appellants argue that the 2016
Consent legitimately transferred Debtors’ membership interests to Appellant Mary Ella Johnson.
2
Given the pendency of this appeal, Legacy Wealth has not yet been wound up.
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Appellants’ Br. at 22. Third, Appellants argue that the July 2021 Gift Deeds were effective. Id. at
23. For the reasons stated below, the Court rejects each of Appellants’ contentions and will affirm
the bankruptcy court’s decision in full.
A.
The Scope of the Bankruptcy Estate
In his opinion granting summary judgment, Judge Kenney concluded that Appellee, as the
trustee of their bankruptcy estate, assumed all the Debtors’ interests in Legacy Wealth LLC—
both economic and non-economic. Appx. at 570–71. This Court agrees.
As the bankruptcy court recognized, Virginia law and the federal Bankruptcy Code conflict
on how membership rights in a limited liability company are affected by a voluntary bankruptcy
filing. Under Virginia law, members of a limited liability company are dissociated upon the filing
of a bankruptcy petition; and, upon dissociation, the member loses all non-economic rights (i.e.,
the rights related to managing the company), but keeps their economic rights (i.e., the rights to
share in the profits, losses, and distributions of the company). Va. Code Ann. §§ 13.1-1040.1(6)(a),
13.1-1040.2(A). Under federal bankruptcy law, however, upon filing a petition for bankruptcy, all
of a debtor’s interests in a limited liability company become the property of the bankruptcy estate
and are therefore subject to the control of the trustee of that estate. 11 U.S.C. § 541(c)(1). The
Bankruptcy Code is also clear that it preempts any “non[-]bankruptcy law” that may provide
otherwise. Id. As such, to determine whether to apply state or federal law in this case, the
bankruptcy court was first required to decide whether § 13.1-1040 is a “non[-]bankruptcy law”
that conflicted with the Bankruptcy Code. After a review of the applicable law, this Court agrees
with Judge Kenney that it is.
Just as Judge Kenney concluded, this Court finds that Va. Code Ann. § 13.1-1040.1(6)(a)
is a “non-bankruptcy law” that affects a forfeiture, modification, or termination of a debtor-
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member’s non-economic interest in a limited liability company both by converting the debtormember to an assignee and by stripping them of everything but their economic rights merely
because the debtor-member filed bankruptcy. See In re Virginia Broadband, LLC, 498 B.R. 90, 95
(Bankr. W.D. Va. 2013). 3 Thus, pursuant to § 501(c)(1), the state law is preempted and the federal
standard applies.
All of the Debtors’ membership rights—both economic and non-economic—became the
property of the bankruptcy estate and Appellee (as the trustee of that estate) was free to exercise
those rights as he saw fit.
B.
Appellants’ Counterarguments
Fighting that conclusion, Appellants make several arguments to the contrary. None are
persuasive. First, Appellants argue that, under Butner v. United States, 440 U.S. 48 (1979),
Virginia law should be applied. Dkt. No. 4 at 14–16. However, the Court made clear in that case
that state law was to apply “[u]nless some federal interest requires a different result.” Butner, 440
U.S. at 55. Here, as Judge Kenney suggested, there is a federal interest in allowing the trustee to
broadly assume the Debtors’ rights as not to deprive creditors of a meaningful opportunity to be
made whole. See Appx. at 572.
3
Just as Judge Kenney recognized in his opinion, this Court recognizes that other judges to be faced with this
question have reached a different conclusion. However, the Court finds that the rationales used in those cases were
either lacking or unpersuasive.
For example, in Garrison-Ashburn (on which Appellants principally rely), Bankruptcy Judge Mayer agreed
that “all the rights and privileges [the debtor] had immediately prior to filing became property of the bankruptcy
estate.” 253 B.R. 700, 708 (Bankr. E.D. Va 2000) (emphasis added) (concluding that “[the debtor’s] interests in [the
company], both his membership interest and his non-economic rights and privileges as a member, became property of
the bankruptcy estate”). However, without explanation, Judge Mayer nonetheless concluded that, by stepping into the
debtors’ shoes, the trustee also assumed the “duties and obligations” that attached after the debtor filed for bankruptcy
and was dissociated from the limited liability company at issue, i.e., the inability to exercise non-economic rights. Id.
at 709 (“[T]he estate received the entire interest of the debtor . . . including its burdens and restrictions. The economic
interest, that is the membership interest, remains in the estate and is available for the benefit of creditors.”). This Court
sees no way to reconcile that conclusion.
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Second, Appellants argue that, even if the trustee could step in and wind up the company,
the Property had already been transferred through the 2016 Consent. Dkt. No. 4 at 26–27.
However, as Judge Kenney noted, that instrument did not effectuate an immediate transfer of the
Property from Legacy Wealth to Mary Ella Johnson. Instead, it memorialized the members’
“consent to the taking of the following action [i.e., transferring the Property to Mary Ella Johnson]
without a meeting of the members.” Appx. at 535. No formal deed was prepared to effectuate that
transfer until 2021—more than a year after the Debtors’ filed for bankruptcy. Id. at 562. Thus, at
best, the 2016 Consent was an authorization to one day transfer title, but because that transfer was
never completed, the company retained possession of the Property. Cf. Lim v. Choi, 501 S.E.2d
141, 144 (Va. 1998) (finding that an instrument should not be construed as a deed under Virgnia
law because it lacked “apt words of conveyance” evidencing a present intent to immediately
convey the property at issue). 4
And third, Appellants argue that, if not transferred in 2016, the Property was transferred
through the 2021 Gift Deeds. Dkt. No. 4 at 27–28. Once again, the Court disagrees. The attempt
to effectuate the transfer of the Property to Mary Ella Johnson through the 2021 Gift Deeds came
a year after Debtors filed for bankruptcy and six days after the Trustee filed an Adversary
Proceeding in the bankruptcy court to recover the Property. However, because the Debtors had
already petitioned for bankruptcy, their interests in Legacy Wealth (including their right to manage
the company, see supra pp. 4–5) were the property of the bankruptcy estate and under the control
of the Trustee. And—because, at the time he attempted to ratify the 2021 Gift Deeds, Debtor
Jerome Johnson had no interest in Legacy Wealth and because, under Virginia law, actions taken
Appellants also challenge Judge Kenney’s alternative conclusion that, even if the Property was validly
transferred, that transfer was voidable as a fraudulent conveyance. Dkt. No. 4 at 22–23. However, because the Court
agrees that the Property was never transferred, it need not address the challenges to the bankruptcy court’s secondary
holding.
4
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without proper authority are “null and void,”—the 2021 Gift Deeds were “without legal effect” as
they “exceeded the scope of authority conferred by the operating agreement.” In re Kang, 664 F.
App’x 336, 340 (4th Cir. 2016).
*
*
*
Accordingly, it is hereby
ORDERED that Appellants’ appeal is DENIED and the Bankruptcy Court’s order
granting summary judgment to Appellee is AFFIRMED.
The Clerk is directed to close this action.
SO ORDERED.
/s/
Hon. Michael S. Nachmanoff
United States District Judge
Alexandria, Virginia
August 9, 2023
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