The common train of thought when litigating as an out-of-state defendant is that it is best to be venued in federal court so as to eliminate any advantage an in-state plaintiff might have with a local jury. Typically, foreign companies will seek to remove state court actions filed by local plaintiffs to federal court under 28 U.S.C. § 1332 on the basis that there is diversity of citizenship between the parties–i.e., the parties on opposite sides of the lawsuit are citizens of different states. But what happens when a local stakeholder sues a limited liability company (LLC) in which he or she has an interest that neither was formed nor operates in the forum?
While at first glance there would appear to be diversity of citizenship between the parties, the unique character of LLCs necessitates further analysis. Unlike corporations, which are considered citizens of the state where they are incorporated and the state where they maintain their principal place of business, LLCs, and other unincorporated entities, are considered citizens of every state where their members reside. Thus, when an LLC member names the company itself as one of several defendants in a lawsuit, there may not be grounds for removal because “diversity jurisdiction in a suit by or against [an unincorporated] entity depends on the citizenship of all the members.” Carden v. Arkoma Assocs., 494 U.S. 185, 195 (1990) (internal quotation mark omitted). The plaintiff member’s residence would supply the state of citizenship for both him/herself and the company.
At present, the U.S. Supreme Court has not weighed in on the analysis to be applied when an LLC member and the company are on opposite sides of a lawsuit and diversity jurisdiction is challenged. District courts, however, have applied a “nominal defendant” test when evaluating whether complete diversity exists. That is, a court will decide whether the LLC’s presence impacts the jurisdictional analysis by examining whether the company is essential to the lawsuit. Under this test, the company’s citizenship will be evaluated if the plaintiff member has an independent cause of action against the company. If, on the other hand, the member is really asserting claims against the LLC’s other interest holders and the company was named in the lawsuit purely for the purpose of affecting any remedy granted to the plaintiff member, the company’s presence does not factor into the citizenship analysis. See, e.g., S. Lavon Evans, Jr. Drilling Venture, LLC v. Laredo Energy Holdings, LLC, No. 2:11-CV-12, 2011 WL 1104150 (S.D. Miss. Mar. 23, 2011); J2 Enterprises, LLC v. Fields, No. CIV-14-781, 2014 WL 4957300 (W.D. Okla. Oct. 3, 2014); Kroupa v. Garbus, 583 F. Supp. 2d 949 (N.D. Ill. 2008).
Rather than risk ending up locked in an unfavorable state court due to the absence of federal jurisdiction, LLCs can, to a certain degree, preempt the issue by including broad forum selection clauses in their operating agreements. Thus, by contract, an LLC can control where its members file lawsuits relating to company operations. Li v. loanDepot.com, LLC, No. CV 2019-0026-JTL, 2019 WL 1792307 (Del. Ch. Apr. 24, 2019); KTV Media Int’l, Inc. v. Galaxy Grp., LA LLC, 812 F. Supp. 2d 377 (S.D.N.Y. 2011); Marth v. Innomark Commc’ns LLC, No. CV 16-8136, 2017 WL 3081684 (C.D. Cal. Apr. 19, 2017). And even though the forum selection clause itself will not create diversity jurisdiction to provide an avenue into federal court (which depends on the citizenship of the company’s members), the company can use the clause to select a favorable or neutral state for resolving company disputes—for example, the state under whose laws the LLC was formed.
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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.
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