Forfeiture of Interest in Action
Last week, we discussed capital contribution in the context of Moses Land Grow LLC v. Brickstone Holdings LLC. This week, as promised, we will discuss the Brickstone remedy for a failure to contribute capital.
As you will recall, Fladseth and Moses Land Grow LLC (MLG) agreed to form Brickstone Holdings LLC (BH) to purchase and develop a property in Seattle. In their LLC agreement, each member agreed to make capital contributions to fund the purchase. MLG fulfilled its obligation to contribute capital. Fladseth, on the other hand, used a variety of loans secured by the assets of BH to fund his capital contribution, which did not satisfy his obligation to contribute capital.
The LLC agreement provided a remedy for “member’s failure to make their initial capital contribution within ten days from the effective date” of the LLC agreement. The LLC agreement provided for “the defaulting member’s interest termination,” otherwise known as a forfeiture of interest.
Fladseth’s Forfeiture of Interest
In my previous post, I elaborated upon possible remedies for failure to contribute capital, including forfeiture of interest. Applying our prior discussion to Brickstone, forfeiture of interest was the resultant remedy outlined in the operating agreement. While this may be considered a drastic remedy, the fear of forfeiting some (or all) of a defaulting member’s interest is intended to be the “encouragement” a member needs to plan for contribution. Unfortunately for Fladseth, this “encouragement” may have pushed him to find funding outside the confines of the operating agreement, resulting in his failed contribution. This mistake led to a complete forfeiture of his interest. Had MLG allowed Fladseth to remain a member notwithstanding his failed capital contribution, it may have been fatal to the venture.
A Remaining Question
In light of our discussion above, this case remains a bit of a head scratcher when considering the damages awarded to MLG. The court took the $900,000 sale price and subtracted the $104,188.33 closing costs, leaving $795,811.67 of net sales proceeds. The court awarded MLG 50% of those proceeds, or $397,905.83. It is unclear, however, why MLG was entitled to only 50% of that amount. If Fladseth’s interest were terminated, why wouldn’t 100% of the proceeds go to MLG? This may be a question for another day.