Turn It Over – Judgment Creditors Can Require Transfer of Membership Interests in Delaware LLCs | ZFZ Postcard Cases

245 Park Member v. HNA Group International, No. 23-842-CV (2d Cir. Apr. 8, 2024)

Enforcement of judgments against intangible assets like membership interests in US LLCs can be difficult for creditors. Often, all they get is a limited charging order that gives them the right to distributions – which might not be effective in many cases.

However, the recent judgment from the Second Circuit Court of Appeals in New York in 245 Park Member v. HNA Group International, No. 23-842-CV (2d Cir. Apr. 8, 2024) may make enforcement easier against interests in Delaware and other LLCs easier, confirming that they can be turned over directly to the creditor.

What Happened

Following a dispute under a guaranty, 245 Park obtained an arbitral award against HNA International and confirmed that award in New York. It then sought to enforce the resulting New York court judgment against the membership interest that HNA International had in its fully-owned subsidiary, a Delaware LLC called HNA North America. These interests were worth the fight: HNA North America indirectly owned a New York conference centre and a Chicago office tower.

To execute its unpaid judgment, 245 Park applied to the federal court in the Southern District of New York, demanding that HNA International turn over its entire membership interest in HNA North America.

Typically, creditors who execute judgments against membership interests in US LLCs are limited to getting so-called “charging orders” or “charging liens”. They allow the creditor to receive distributions but do not make them a full member of the LLC. Most importantly, a charging lien does not allow the creditor to sell that membership interest. This limitation of charging liens becomes most acute when the LLC does not make any distributions but, for instance, merely holds title to valuable real estate.

In this case though, the district court ordered that HNA International transfer its full membership interest directly to 245 Park – without any charging liens and without going through a sheriff sale (a public sale run by a bailiff / enforcement officer). HNA International appealed to the Second Circuit, a federal court of appeals sitting in New York.

 

The Decision

On appeal, HNA International first argued that Delaware law – and not New York law – determines whether membership interests in a Delaware LLC count as “property” that can be transferred and assigned to a creditor. HNA contended that in Delaware, turnover of membership interests is prohibited (one of the reasons why it is such an attractive jurisdiction for creating LLCs).

The court of appeals quickly dismissed this argument. New York enforcement and execution procedures applied in this case, because HNA International had consented in the guaranty to the jurisdiction of New York courts in respect of enforcement. What counts as “property” for enforcement purposes therefore fell to be decided under New York state law. In turn, a series of older New York cases held that memberships in out-of-state LLCs are transferrable “property”.

HNA next argued that the court should have granted 245 Park a charging lien over the membership interest and not order a direct turnover of that interest (i.e. without going through a sheriff sale).

The Second Circuit disagreed. It held that for execution purposes in New York, interests in LLCs are clearly transferrable, so they could in principle be turned over to the creditor. Courts in New York have discretion whether to order a direct turnover of an LLC interest to the creditor (without a sheriff sale) or issue only a charging lien.

On the evidence here, HNA International tried to obstruct 245 Park’s efforts to collect on the judgment, by trying to sell away the Chicago office tower for no consideration to its Chinese affiliate and attempting to dispose of the New York conference centre without proper notice to 245 Park as creditor. The Second Circuit agreed that a direct turnover was therefore appropriate.

 

Impact

245 Park v. HNA International confirms at the federal appellate level in New York that membership interests in LLCs (including out-of-state companies in Delaware) can in some cases be transferred directly to the creditor. This can allow creditors to proceed without applying for a charging lien (which can be ineffective if the LLC makes no distributions) and without going through the sheriff sale.

By confirming that district courts have broad discretion to order this direct turnover, the Second Circuit has undoubtedly made enforcement more straightforward. This remedy may be most effective where the creditor is going after valuable real estate or other assets held by a US LLC and the debtors are trying to frustrate enforcement.

Importantly, the Second Circuit has not ruled that direct turnover is automatically available to a creditors who enforces against a debtor with an interest in an LLC. The creditor would still need to persuade the court that direct turnover is more appropriate than a charging order (e.g. by showing that the LLC was used to obstruct enforcement). In many cases, the court can still decide that a charging lien is the sole remedy.

Also, debtors can still dispute whether New York or other state’s enforcement procedures apply in the first place. If there is no jurisdiction in New York or other state which allows direct turnover, the creditor may only get a charging lien in a more pro-debtor state.  Consulting counsel to assess jurisdiction over the debtor is therefore always important, as it may prove key to whether the turnover remedy is available.

In 245 Park v HNA International, the creditor avoided this fight, as the debtor had consented to New York jurisdiction for enforcement in the underlying guaranty. But many agreements are silent on enforcement jurisdiction – it will then be for the creditor to show that a favourable US state like New York is the right place to enforce.

 

For more information about this topic, please reach out to Philip Vagin