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Bikoff v. Garcia

BER-C-317-09 (N.J. Super. Ch. Div. 2011) (Unpublished)

LIMITED LIABILITY COMPANIES; DISSOLUTION — When members of a limited liability company treat monies they advanced to the company as loans, rather than as capital contributions, a court can find it inequitable to treat the loans as capital contributions at the time of dissolution and it doesn’t matter if there were no promissory notes or repayment terms.

Two doctors agreed to purchase a property to construct medical offices for their practices and for an ambulatory surgical center. They formed two limited liability companies, one to own the real property, and the other to operate the surgical center. They secured a bank loan to finance the construction and then guaranteed repayment. One of the doctors was suspended from the practice of medicine and failed to pay his required contributions. The other doctor sued, requesting an order requiring the entities redeem the defaulting doctor’s membership interests at 50% of their value, as determined at trial. The defaulting doctor moved to dissolve the entities and asked to be awarded 50% of the distributions resulting from those dissolutions.

The Court granted partial summary judgment, ordering that the entities redeem the defaulting doctor’s membership interests at 50% of their value, and another lower court determined the value at trial. The Court reviewed the expert opinions as to the value of the ambulatory surgical center. A review of its financial statements and income tax returns showed that it had an approximate value of negative $675,000. It noted that, due to severe losses, the surgical center was being sold, but because of the extensive liabilities being paid off or assumed by the buyer, the surgical center had no equity and its value was negligible.

With respect to the real property, the Court agreed that it was appropriate to use a melded sales/income approach to determine the value of the real property, as opposed to the cost approach suggested by the defaulting doctor. The defaulting doctor emphasized using a cost approach which would have almost doubled the valuation offered by the other doctor. However, the Court noted that the problem with using a cost approach in this case was that the property was a unique, specialty property. In addition, it was difficult to estimate replacement costs.

Having determined the proper method to value the properties, the Court needed to determine whether any monies advanced by the doctors to the entities represented loans or represented capital contributions. The doctors’ accountant testified that the monies were treated as loans for tax purposes, so that if the doctors were in position to get their money back, they could be repaid tax free. In addition, if the businesses operated as a loss, they would be treated as ordinary, and not capital, losses. The Court noted that the doctors treated the monies advanced as loans to the entities even though there were no promissory notes or repayment terms. Therefore, it would be inequitable to now treat them as capital contributions rather than as debt.

In the end, the Court found the surgical center had no value, and that the real property had approximately $843,000 of equity. Having found earlier that both entities were failing and that both doctors had outstanding loans greater than the available equity in both entities, the Court awarded the defaulting doctor 50% of the remaining equity in the property as compensation for redeeming his interests in both entities.

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