Banking and Finance Law Report

Ohio Supreme Court to Hear Oral Arguments Regarding Adequacy of "Website Notice" of Sheriff Sales

Brad Hughes — Thu, 17 May 2012 12:09:15 -0600

On May 23, the Ohio Supreme Court will hear oral arguments in an appeal by PHH Mortgage Corporation that concerns whether a sheriff’s website can provide constitutionally sufficient notice of the date, time, and location of a sheriff’s sale of foreclosed property. Real estate lenders of all sorts will be interested in the outcome which has important implications for foreclosure proceedings.

Nearly two decades ago, in Central Trust Co. v. Jensen, 67 Ohio St.3d 140 (1993), the Supreme Court held that notice by mail or other “equally reliable” means is a constitutional prerequisite to a proceeding that adversely affects a party’s property interests, when the interest holder’s address is known or easily ascertainable. The PHH Mortgage Corp. case tests that principle in the Internet age.

In PHH Mortgage, the mortgage company (“PHH”) filed a foreclosure action in April 2008, and the trial court’s final judgment in favor of the company was entered the following September. The property was then to be sold through the Clermont County Sheriff’s Office. On three occasions in 2009, the order of sale was withdrawn. On each of these occasions, PHH was notified by mail of the date and time for the sale. The trial court scheduled a fourth sale for April 2010. But PHH did not receive notice by mail of this sale, because at some point before then the sheriff’s office (due to budget constraints) had stopped sending notice by mail of upcoming sales, and began publishing the sale dates on its website. So, even though PHH intended to bid on the property at the sale, it did not receive notice by mail of the sale, and the property sold for an amount substantially less than the debt owed to PHH and far below what it intended to bid.

The Clermont County Court of Appeals determined that counsel for PHH was notified that he would need to check the sheriff’s website for future sale dates, and that “notice by website is, at the very least, equally reliable to notice by mail.” The court of appeals thus concluded that the requirements of due process and Central Trust had been satisfied and refused to set aside the sale.

PHH contends that the court of appeals’ decision effectively overturns Central Trust and approves a method of notice – what PHH calls “constructive notice by website” – that is more akin to notice by publication, rather than actual notice. PHH also notes that the General Assembly amended R.C. 2329.26 and .27 after Central Trust to require that written notice of the date, time, and place of an execution sale be given to parties in a foreclosure action.

The appeal has attracted the participation of several Legal Aid organizations across the State who have aligned themselves with PHH and contend that “constructive internet notice” is not “equally reliable” as actual written notice, given that many Ohioans in rural and low-income communities have limited access to the Internet. Stay tuned to this blog for updates on the decision in this appeal.

SEC Guidance for JOBS Act

Jack J. Gravelle — Fri, 27 Apr 2012 14:36:25 -0600

Bankers and financial institution executives should note that the Securities and Exchange Commission has released guidance and other information regarding the Jumpstart Our Business Startups Act of 2012, or JOBS Act, that became law a few weeks ago.

The JOBS makes significant changes to how banks and other businesses can raise capital. It does this by:

· Easing the IPO process and reporting requirements for emerging growth companies;

· Reducing general solicitation and general advertising restrictions for certain private placements;

· Creating a new $50 million small public offering exemption;

· Creating a “crowdfunding” private placement exemption; and

· Perhaps most importantly, for community banks and bank holding companies, increasing the number of shareholders a private company may have without having to publicly report under the Securities Exchange Act of 1934, including specific thresholds for banks and bank holding companies.

A summary of the JOBS Act is provided here.

The recent SEC guidance and other information is outlined below.

FAQs for Exchange Act Registration and Deregistration

On April 11, 2012, the SEC Division of Corporation Finance issued Frequently Asked Questions to provide guidance regarding Title V and Title VI of the JOBS Act. These titles provide for an increase in the number of holders of record that triggers periodic reporting requirements with the SEC under the Exchange Act. For banks and bank holding companies, the threshold number of record holders has been increased to 2,000 persons (increased from 500). Banks and bank holding companies can also now deregister and suspend Exchange Act reporting if the number of holders of record of a class of securities falls below 1,200 (increased from 300).

The FAQs provide information regarding how banks can terminate a not yet effective registration process, or alternatively deregister an effective registration, if the bank no longer meets the registration requirements as a result of the increase in the threshold of shareholders of record. The FAQs further clarify that an issuer may exclude from the holders of record calculation persons who received securities pursuant to an employee compensation plan in transactions exempted from registration requirements, even though the Commission has not yet revised the definition of “held of record” as required by the new law.

FAQs for Emerging Growth Companies

On April 16, 2012, the SEC Division of Corporation Finance issued Frequently Asked Questions to provide guidance under Title I of the JOBS Act. Title I provides scaled disclosure provisions for emerging growth companies, including, among other things, two years of audited financial statements in the Securities Act of 1933 registration statement for an initial public offering of common equity securities, the smaller reporting company version of Item 402 of Regulation S-K, and no requirement for Sarbanes-Oxley Act Section 404(b) auditor attestations of internal control over financial reporting. Title I also enables emerging growth companies to use test-the-waters communications with Qualified Institutional Buyers or “QIBs” and institutional accredited investors and liberalizes the use of research reports on emerging growth companies. The FAQs clarify how an issuer can qualify as an emerging growth company, applicable dates for qualification and registration, and various reporting and disclosure requirements.

FAQs for Confidential Submission Process for Emerging Growth Companies

On April 10, 2012, the Division of Corporation Finance issued Frequently Asked Questions to provide guidance regarding the confidential submission of registration statements for review pursuant to new Securities Act Section 6(e). Section 6(e) provides that an emerging growth company may confidentially submit to the Commission a draft registration statement for confidential, non-public review prior to public filing. The FAQs clarify which registration statements are eligible for submission, among other specific requirements.

Comments on JOBS Act Rulemaking

Finally, on April 11, 2012, the SEC requested public comments before proposing any rulemaking under the JOBS Act.

Links to the SEC issuances follow:

http://www.sec.gov/divisions/corpfin/guidance/cfjjobsactfaq-12g.htm

http://www.sec.gov/divisions/corpfin/guidance/cfjjobsactfaq-title-i-general.htm

http://www.sec.gov/divisions/corpfin/guidance/cfjumpstartfaq.htm

http://www.sec.gov/spotlight/jobsactcomments.shtml

NLRB Posting Rule Postponed Indefinitely

Mike Underwood — Mon, 23 Apr 2012 07:50:43 -0600

Bankers and other employers should note that the National Labor Relations Board (NLRB) has postponed indefinitely the effective date for its employee rights posting requirement. The posting rule, which was to have taken effect April 30, 2012, required all employers to post in the workplace a notice advising employees of their rights to engage in union organizing. The proposed posting rule has generated a great deal of controversy.

Lawsuits challenging the rule filed by the United States Chamber of Commerce, the National Manufacturer's Association, and other employer interest groups are pending in two federal courts. Initial decisions in the lower courts were inconsistent.

In March the federal District Court for the District of Columbia upheld the NLRB's right to impose the rule. Then, on April 13, a District Court in South Carolina ruled that the NLRB does not have the right to impose the posting requirement. The decision from the District Court for the District of Columbia has been appealed to the D.C. Circuit Court of Appeals and it is expected the NLRB will appeal the South Carolina District Court decision to the Fourth Circuit Court of Appeals. On April 16, the D.C. Circuit Court of Appeals issued an injunction barring the NLRB from enforcing its rule while the appeal in that Court is pending.

The NLRB has decided to delay enforcing its rule while the legal challenges are pending.

Employers have not seen the last of this issue, but it appears it will be at least a number of months before anything changes. The D.C. Court of Appeals has set a briefing schedule and will hear oral arguments in September. It is unclear as of now how long the possible appeal in the South Carolina case might take. It is even possible there will be conflicting decisions in the two Courts of Appeal and the dispute might end up before the United States Supreme Court.

Workers' Compensation Considerations When Purchasing a Company

Rebecca A. Kopp — Mon, 16 Apr 2012 07:10:32 -0600

When a purchase of a business takes place in Ohio, the purchaser often overlooks the fact that it will assume the sellers' workers' compensation claims experience either in part or in whole. The Bureau of Workers' Compensation ("BWC") has taken a fairly strict line in combining and transferring coverage to purchasers.

When a new owner wholly assumes the former employer's business, the BWC transfers all of the employer's claims experience to the purchaser. If the new owner purchases a portion of the business, only a part of the former employer's experience will be transferred. Even if the parties enter into asset purchase agreements, which demonstrate that the entities are not undergoing an acquisition or merger, the BWC frequently determines that the purchaser is a successor to the predecessor employer's risk. As a result, the Bureau of Workers' Compensation transfers any and all existing and future liabilities and/or credits of the predecessor employer. As a result, the purchaser may find themselves obtaining an undesirable claims experience. Further, should the predecessor business fail to report payroll, fail to pay its premiums and/or penalties, these liabilities are transferred to the successor. As a result, a purchaser may inherit significant workers' compensation costs.

The BWC transfers a predecessor's obligations regardless of whether the predecessor's transfer to the successor was voluntary, through an asset purchase agreement, or through an intermediary bank or receivership. This is contrary to the concept of successor liability arising out of other types of contracts.

Therefore, it is critical for purchasers to evaluate a predecessor business' workers' compensation rates as part of the due diligence in undertaking a purchase of another business in whole or in part.

Update to SMLCC Charging Order Blog Post

Amy Strang — Fri, 06 Apr 2012 07:06:41 -0600

Substitute House Bill 48, an amendment to Ohio's Limited Liability Company Act, discussed in our December 9, 2011 post, Charging Order Protections for Multi-Member and Single-Member LLCs (SMLLCs), has been passed by the Ohio General Assembly and signed into law by Governor Kasich. This act amends ORC 1705.19 to expressly provide that a charging order is the "sole and exclusive remedy" of a creditor seeking to satisfy judgment against the LLC membership interest of a debtor and to prohibit any creditor of a member of an LLC from having any right to obtain possession of, or to exercise legal or equitable remedies with respect to, the property of the LLC. It also specifically limits the rights of a judgment creditor who has obtained a charging order against a debtor's membership interests to those of an assignee of a membership interest, as laid out in ORC 1705.18. The amendment will become effective May 4, 2012.

The act contains no exception for SMLLCs and makes a charging order a judgment creditor's exclusive remedy to reach the membership interests of its debtor. Because of this, it is likely that Ohio courts will interpret the statute to provide SMLLCs with the same charging order protections as multi-member LLCs, leaving creditors unable to recover judgments by forcing the sale of their debtors' SMLLC assets and distributing proceeds.

Bankers should take necessary precautions to avoid relying on unreachable assets of the debtor's SMLLC as security for the credit they extend. In most cases, the straight-forward solution is prepare loan documentation reflecting the SMLLC as a borrower.

More information about other aspects of the amendment and its effects can be found in our February 10, 2012 post about Ohio Corporate Law Changes. The text of Sub. HB 48 is available online here.

JOBS Act Impact on Community Banks

Jack J. Gravelle — Tue, 27 Mar 2012 12:12:40 -0600

The U.S. House of Representatives, by a vote of 380 to 41, has passed the Jumpstart Our Business Startups Act, or JOBS Act [link to House Bill], in the form previously approved by the Senate last week [link to Senate Amendment]. The bill now goes to President Obama, who is expected to sign it into law. The JOBS Act could significantly impact community banks, among other businesses, regarding the categories summarized below.

SEC Registration

The JOBS Act increases the threshold for SEC registration from 500 shareholders of record to 2,000 shareholders of record for banks and bank holding companies. The increase allows some banks to raise capital by selling stock to new investors without having to register under Section 12(g) of the Securities Exchange Act of 1934.

The Exchange Act currently provides that even if a company has never made a public offering of stock, it must register its stock with the SEC if it has more than $10 million in assets and 500 shareholders of record. Once registered, the company must comply with the SEC’s costly periodic reporting requirements. Even the smallest banking organizations typically have more than $10 million in assets so the important requirement to avoid registration is to remain below 500 shareholders of record. As banks seek new investors, remaining below the threshold becomes difficult.

The JOBS Act also increases the threshold for SEC deregistration from 300 shareholders of record to 1,200 shareholders of record for banks and bank holding companies. As a result, community banks that are below 1,200 shareholders of record should consider deregistration or “going dark” in order to avoid the costs of continued SEC registration.

Crowdfunding

The JOBS Act creates a new securities registration exemption known as “crowdfunding” that banks (among other issuers) can rely on to sell up to $1 million worth of securities to non-accredited investors as long as no individual investor invests more than (a) $2,000 or 5% of the investor’s annual income in any 12-month period for investors with annual income or net worth less than $100,000; and (b) 10% of the investor’s annual income or net worth up to $100,000 in any 12-month period for investors with annual income or net worth in excess of $100,000. And, these “crowdfunders” do not count toward the 500 shareholders of record threshold that triggers Exchange Act registration under Section 12(g).

The securities may only be issued through a registered broker-dealer or “funding portal” over the internet that complies with additional requirements. The issuer has certain disclosure requirements during the offering process and following the offering.

Crowdfunding is not specific to community banks, but it could provide community banks a way to raise up to $1 million from the community they serve without being limited to accredited investors.

Emerging Growth Companies

The main focus of the JOBS Act creates a category of companies called “Emerging Growth Companies,” which will have decreased public company disclosure obligations similar to that of a smaller reporting company. The new category of registrant could include banks and bank holding companies. To be an Emerging Growth Company, a bank must be newly public with total gross annual revenues of less than $1 billion.

An Emerging Growth Company is not subject to a say-on-pay vote by its shareholders and is not required to pay its independent auditors to attest to the company’s internal controls and procedures (a requirement of Sarbanes-Oxley). An Emerging Growth Company is also afforded greater flexibility with respect to an IPO, including exemption from the restriction on analyst research prior to and immediately after IPOs, even if the analyst works for a bank that is underwriting the offering, and exemption from restrictions on communications to institutional investors ahead of public stock offering filings.

$50 Million Regulation A Offering

Finally, the JOBS Act permits securities offerings of up to $50 million in any 12-month period under a new exemption to be established by the SEC under Regulation A (the small public offering exemption). Currently, the existing exemption under Regulation A is capped at $5 million and is not available to reporting companies under the Exchange Act. The details of the exemption must be provided by the SEC, but presumably, consistent with Regulation A, public sales would be permitted and offering materials and audited financial statements would need to be filed with the SEC.

Health Care Facility Financing-CHOW Requirements Impact Deal Timing

Timothy Mitchell — Tue, 27 Mar 2012 06:38:28 -0600

Banks and other financial institutions need to understand how federal and state laws may impact closing a lending transaction in connection with a change of ownership ("CHOW") of a health care facility ("HCF"). Various laws implicated in a CHOW frequently include federal Medicare laws and state licensing, certificate of need, and Medicaid laws.

Under Medicare regulations, a CHOW is defined as any of the following: (a) in a partnership, the removal, addition or substitution of a partner, unless the partners expressly agree otherwise as permitted by state law; (b) in a sole proprietorship, the transfer of title to property to another party; (c) in a corporation, the merger of the corporation into another corporation, or the consolidation of two or more corporations, either of which results in the creation of a new corporation; or (d) a lease of all or part of the HCF. Commonly encountered CHOW transactions include asset sale and purchase transactions and lease transactions where the purchaser/lessee agrees to accept assignment of the current operator's Medicare provider agreement and number. (Note: It is possible for Medicare and Medicaid purposes for a purchaser/lessee to enroll as a new provider and not accept assignment of the Medicare and Medicaid provider agreements. However, that process will require substantially more time and will disrupt operations (and cash flow) of the HCF and is not, as a general rule, pursued by purchasers/lessees.) For Medicare purposes, a CHOW must be reported within 30 days of the effective date of the change. The Medicare administrative contractor will review the HCF's submission and make a recommendation for enrollment of the provider to the Centers for Medicare & Medicaid Services ("CMS"). If CMS approves the recommendation, it will issue a "tie-in" notice indicating the provider has been enrolled and may begin billing.

Certain issues may increase the time period for receiving the tie-in notice from CMS. First, to the extent the current operator of the HCF has any outstanding notice of non-compliance or deficiencies, the operator must submit a plan of correction acceptable to CMS before the CHOW will be processed (and the new operator must pursue that plan of correction to completion). Second, it is possible for CMS to require a compliance survey in connection with a CHOW. Either of these issues may considerably increase the timing of closing the CHOW and the lending transaction. In addition, CMS recently implemented new requirements for providers to validate their enrollment in the Medicare program. The screening requirements in connection with this validation requirement varies by provider type according to which class of providers have historically engaged in fraudulent and abusive practices. Satisfying these additional requirements may also involve additional effort and time.

If a CHOW exists under applicable Medicare regulations, it likely also implicates a change of ownership or operator for purposes of state licensing, certificate of need, and Medicaid laws. Generally, most state HCF licenses are not assignable. Consequently, a purchaser/lessee is typically required to submit an application for a license to operate the HCF to the state health department and that license must be approved prior to effecting the CHOW. Typically, the license approval requires 30-60 days. In addition, if the HCF is subject to state certificate of need laws, the underlying transaction might require a notice of intent, or it might be advisable to seek a determination of reviewability or, in rare cases, it might require a new certificate of need. A notice of intent or a request for reviewability determination will typically be 30-60 days, but a new certificate of need will significantly extend the timetable for closing the transaction. Finally, a CHOW for Medicare purposes is also a CHOW under applicable state Medicaid regulations. Similar to the Medicare process for a CHOW, the purchaser/lessee must apply for participation in the Medicaid program and generally accept assignment of the current operator's Medicaid provider agreement and number. Generally, an application and notice is required to be filed at least 45 days prior to the effective date of the CHOW. Similar to the Medicare process, any outstanding licensing deficiencies or Medicaid certification deficiencies will delay the closing of the transaction until plans of correction are accepted by applicable state agencies.

In most CHOW transactions involving a HCF, the purchaser/lessee and seller/lessor carefully coordinate all of the notices and filings required under applicable federal and state laws so that all necessary approvals and licenses will be issued and/or effective on the scheduled closing date. Generally, lenders do not have a direct role to play in obtaining such approvals or licenses. If all proceeds smoothly, lenders should expect that process to take 60-90 days. However, additional delays will be encountered if the existing operator or HCF has any outstanding deficiencies cited by federal or state regulatory agencies.

Health Care Financing: Security Interests in Deposit Accounts containing Medicare/Medicaid Receivables

Amy Strang — Tue, 20 Mar 2012 12:57:13 -0600

Lenders making secured loans to health care providers with Medicare and Medicaid receivables should be aware of limitations on their ability to perfect security interests in such borrowers' deposit accounts. Secured lenders may perfect security interests in their borrowers' accounts receivable (and identifiable cash proceeds therefrom) by filing UCC financing statements, but when proceeds of those accounts receivable are received by borrowers and deposited into borrowers' deposit accounts, security interests in the deposit accounts themselves can be perfected only by obtaining "control" over the deposit accounts pursuant to § 9-104(2) of the UCC. In order to perfect such security interests in deposit accounts, revolving credit facilities are, therefore, typically subject to deposit account control agreements. In a deposit account control agreement, the borrower, the secured lender and the depository bank agree that the depository bank will comply with instructions from the secured lender directing disposition of the funds in the deposit account, without further consent by the borrower. This arrangement enables the secured lender to obtain control over the deposit account, thereby perfecting its security interest in the deposit account pursuant to UCC §9-312(b).

Loans to health care providers who receive Medicare and Medicaid payments, however, pose special problems for secured lenders seeking to perfect their security interests in deposit accounts. Medicare/ Medicaid anti-assignment regulations provide that no payment to be made to a provider of services under Medicare may be made to any other person under assignment (42 U.S.C. 1395g(c)) and no payment for any care or service provided under Medicaid to an individual may be made to anyone under assignment other than such individual or the person or institution providing such care or service (42 U.S.C. 1396a (32)). According to the Centers for Medicare and Medicaid Services (CMS) Intermediary Manual §3488.2, payments due to a provider of services may be sent to a bank for deposit in the provider's account, but only if the check is in the name of the provider and the provider certifies that: (i) "the bank is neither providing financing to the provider nor acting on behalf of another party in connection with the provision of such financing," and (ii) "the provider has sole control of the account, and the bank is subject only to the provider's instructions regarding the account." This means that any instruction given by a borrower who is a health care provider to its depository bank to transfer funds from the borrower's deposit account, in which Medicare and Medicaid payments are deposited, to the account of its secured lender must be revocable by the borrower. Because the depository bank must be subject only to the borrower's instructions regarding the deposit account, it cannot also be subject to instructions from the secured lender, and an arrangement satisfying the Medicare/Medicaid anti-assignment regulations, therefore, cannot give a secured lender "control" of the provider's deposit account under UCC §9-104.

Many secured lenders find a partial solution to this perfection problem through the use of an arrangement commonly referred to as a "Double Lockbox." In a Double Lockbox arrangement, the health care provider borrower, secured lender, and depository bank enter into a revocable control agreement in which the borrower gives revocable instructions to the depository bank to transfer funds received in the borrower's Medicare/Medicaid deposit account to an account held by the secured lender on a daily basis. Because the borrower's instructions are revocable, a Double Lockbox arrangement is permissible under the Medicare/Medicaid anti-assignment regulations. Although it does not perfect the secured lender's security interest in the borrower's Medicare/Medicaid deposit account, the daily transfer of funds allows the secured lender to diligently monitor the deposit account and become aware if no funds are being swept, providing the best outcome available without violating the anti-assignment regulations.

Depository banks must be subject only to health care providers' instructions regarding deposit accounts containing Medicaid/Medicare receivables, so any deposit accounts of health care provider borrowers that contain only receivables from commercial insurers or other non-Medicare/Medicaid sources may be subject to traditional deposit account control agreements. If a borrower maintains such a non-Medicare/Medicaid deposit account, its revocable control agreement may provide that the depository bank transfer the funds received in the borrower's Medicare/Medicaid deposit account to its non-Medicare/Medicaid deposit account, which is subject to a control agreement perfecting the secured lender's security interest, rather than to an account held by the secured lender.

RECOUPMENT AND SETOFF ISSUES FOR HEALTH CARE LENDERS

Jack R. Pigman — Fri, 02 Mar 2012 08:30:26 -0600

Health care lenders and others evaluating or relying on the financial strength of a healthcare provider need to think about the potential recoupment and setoff of claims against Medicare/Medicaid receivables of the provider.

RECOUPMENT

Recoupment, which is the netting of two related claims which is the function of a single, unitary transaction between the parties, occurs in the normal course of business and is not stayed by the automatic stay in a bankruptcy proceeding. For example, if Party A sells 100 widgets to Party B, and Party B discovers that four of the widgets were not delivered, Party B will deduct (recoup) the invoice amount of each unit in making payment to Party A.

In dealing with Medicare/Medicaid recoupment issues in bankruptcy, two general approaches have been taken by the Circuit Courts of Appeal with respect to the netting of overpayments against accounts due to the provider.

In the Third Circuit, which includes Delaware, the Court has applied an integrated transaction test, which means generally that any recoupment of Medicare/Medicaid payments is viewed as yearly payments and therefore the government can only recoup overpayments against payments due for a single year. Most of the Circuit Courts have adopted a “logical relationship test” in which Medicare/Medicaid overpayments and any payments due are all part of the same transaction even if they are not in the same year or the services are not rendered to the same patients. States are also permitted to recoup amounts owed for hospital and bed taxes by withholding certain Medicare/Medicaid payments otherwise due. Some courts have gone so far as to provide that Medicaid recoupments can be made across service categories, such as nursing service overpayments being recouped from payments due for laboratory services.

SETOFF

Unlike recoupment, which occurs in the ordinary course of business, Section 362 of the Bankruptcy Code provides an automatic stay against any act to setoff. While the right of setoff is codified in Section 553 of the Bankruptcy Code, before a setoff may occur, relief from the automatic stay must be obtained from the Bankruptcy Court. Setoff, as opposed to recoupment, involves the mutuality of obligations owed between the parties rather than analysis of a single, unitary transaction between the parties. For example, if Party A borrows money from Party B bank, and Party A deposits funds with Party B in an account, there are two debtor/creditor relationships which are established. The bank (Party B) can setoff on the funds owed to Party A against the loan owed by Party A to Party B.

In the context of insolvency, whether inside or outside of bankruptcy, the Courts have generally treated claims of the United States as a single creditor and, therefore, the U.S. can setoff debts owed to a health care provider by one agency against claims that another agency has against the provider. Thus, for example, under the single creditor or unitary payment doctrine, the U.S. can offset taxes owed by a Medicare/Medicaid provider against payments due to the provider.

There appears to be a split of case law on whether the unitary setoff right of the government has priority over a security interest even if the secured creditor has provided the relevant federal or other governmental units with actual notice of the security interest held by the secured party.

DEBTOR-IN-POSSESSION FINANCING ORDERS

In Chapter 11 bankruptcy cases, debtor-in-possession lenders often will try to obtain an assignment of and a security interest in Medicare/Medicaid accounts, and thereby limiting or eliminating the recoupment or setoff rights of the government. Section 362(B)(28) of the Bankruptcy Code provides that the automatic bankruptcy stay does not preclude the Secretary of Health and Human Services from excluding a specific provider from participation in the Medicare program or any other federal health care program. Thus, if lenders try to “prime” or otherwise create rights with respect to Medicare/Medicaid receivables, ultimately the Secretary of Health and Human Services can exclude the debtor-in-possession from participation in Medicare or other federal health care programs and thereby negate any priming or other provisions in favor of DIP lenders in a Court order which are inconsistent with the rights of the government.

CONCLUSION

As in most ongoing, normal business relationships, there are routine adjustments made based upon over or under shipments, quality issues, mistakes in billing and various forms of credits and allowances. Lenders to Medicare/Medicaid providers need to be acutely aware of the recoupment rights under those programs. In addition, there is always the risk that the Medicare/Medicaid receivable could be offset by the U.S. government based upon the tax liability or other sums due and owing by the health care provider to the government. In the bankruptcy context, the rules may vary on recoupment depending upon the judicial circuit the bankruptcy case is pending in. There also exists the possibility that, under certain circumstances, states may recoup for obligations owing and certainly both the federal government and state governments have setoff rights which are expressly acknowledged both in and out of the bankruptcy context. Finally, orders entered in bankruptcy cases in favor of a debtor-in-possession lender to a health care provider which would result in an assignment of or security interest in the provider’s Medicare/Medicaid receivables can be overridden by the simple act of excluding the provider from participation in federal health care programs.

Ohio Corporate Law Changes

William Kelly — Fri, 10 Feb 2012 09:56:39 -0600

Recently-enacted legislation makes a number of important changes to the Ohio General Corporation Law and the Ohio Limited Liability Company Act that financial institutions and their executives should consider. The bill will become effective May 4, 2012.

Here are some key points:

Dissenting Shareholder Rights: The bill substantially changes our statutes, which have not been substantively amended since 1970, to make Ohio dissenting shareholder processes similar to those followed in other major commercial states, such as Delaware. The significant provisions are:

The bill clarifies and simplifies the process by which shareholders are notified of their right to dissent and exercise that right, and by allowing the corporation to require this process to be substantially completed prior to the shareholder vote, which simplifies and expedites the completion of transactions.
For corporations with shares listed on a stock exchange, it confirms Ohio Supreme Court precedent that the fair value of the corporation’s shares is the market price on the stock exchange where they trade.
Further, if a shareholder of such a company will receive other exchange traded shares in the transaction, the bill would dispense with the need for a court appraisal process.
For companies without exchange listed shares, the bill confirms (consistent with Ohio Supreme Court precedent) that fair value of the corporation’s shares is to be determined without the application of premiums or discounts for control or marketability.
Since most shareholders now hold their shares indirectly through brokers or other intermediaries, the bill would make it easier for them to exercise dissenter’s rights.

Corporate Dissolutions: Ohio’s current procedures for dissolving corporations are out of date, having not changed substantially since 1955, leaving us out of step with other major commercial states. Sub. House Bill 48 adopts changes to these procedures that will make them more efficient and less burdensome to implement. The significant changes are:

The bill creates a liquidation process that will expedite the determination and payment of creditor claims. If claims are not disputed, the liquidation and payment process can proceed without court involvement, although the right of creditors and shareholders to obtain court intervention is preserved.
It establishes time limits for the presentation of claims, providing certainty regarding the time period in which directors, officers and shareholders of the corporation face exposure to potential claims.
It clarifies the standards to be followed by directors in determining the existence and amount of claims, and providing for their payment.
It modernizes the process of notifying creditors and the public of the pending dissolution of a corporation by requiring the Secretary of State to list on its website the corporations that are being dissolved, while retaining for a five-year transition period the current requirement for publication of notice in a newspaper of general circulation.

Indemnification Provision. The bill contains a provision making make it clear that rights of corporate directors and officers to indemnification under the corporation’s articles of incorporation or regulations cannot be abrogated retroactively as to past acts by a later amendment of these provisions. Delaware recently adopted a statutory amendment to the same effect.

Limited Liability Company Amendments: The bill makes a number of changes to the LLC Act. The bill:

clarifies the provisions of ORC §1705.61, which was enacted in 2006, to insert language inadvertently omitted from this section in the legislative process;
make it express in the statute that a limited liability company is bound by its operating agreement;
confirms that the only remedy of a judgment creditor of a member with respect to his membership interest is to obtain a charging order (even for single member LLCs);
confirms the power of the operating agreement to vary statutory default rules, subject to certain non-waivable provisions (based on what is now in Chapter 1776 for partnerships);
defines the fiduciary duties of members and managers;
expressly allows members to agree to arbitration (based on comparable provisions of Chapter 1776 for partnerships); and
gives courts more guidance on when judicial dissolution would be appropriate (also based on Chapter 1776).

Estoppel in ERISA: Simple Mistakes Can Lead to Costly Litigation

Seth J. Hanft — Thu, 02 Feb 2012 10:58:20 -0600

Estoppel in ERISA: Simple Mistakes Can Lead to Costly Litigation

Plan administrators need to take steps to ensure that the information they provide to plan participants is accurate. Otherwise, plan participants may use this misinformation to bring an estoppel claim.

In civil litigation, defendants have long relied on equitable estoppel as an affirmative defense. The basic elements of an equitable estoppel defense are:

a definite misrepresentation of fact made to another person with the expectation that they will rely on it; and
reasonable and detrimental reliance on the misrepresentation

See, e.g., Heckler v. Community Health Servs. of Crawford County. The rationale behind this defense is that a party who unfairly misrepresents facts should not then be permitted to benefit by means of such misrepresentation.

What began as an affirmative defense has been transformed into a confusing and evolving cause of action in ERISA litigation. In a common fact scenario, a pension plan participant will claim that he received some misinformation regarding the amount of his benefit (e.g., an inflated benefit estimate). The participant will then claim that he detrimentally relied on the inaccurate estimate by, for example, terminating employment or failing to bargain for a more generous severance package.

Another common fact pattern involves a participant who is given misinformation regarding his eligibility or coverage for some medical benefit. The plan administrator might mistakenly inform the participant that a particular procedure is covered. Relying on this misinformation, the participant goes ahead with the procedure and is then told that the service is not covered under the health plan. The participant then brings an estoppel claim against the plan alleging that he detrimentally relied on the misinformation by going forward with the procedure and, therefore, the plan should pay for the service. See, e.g., Lutheran Medical Center of Omaha v. Contractors, Laborers, Teamsters & Engineers Health & Welfare Plan.

While the fact patterns are often similar, the circuit courts are all over the map in analyzing these claims. The circuits generally disagree over the following issues:

Whether estoppel applies to claims for pension as opposed to welfare benefits.
Whether the funding status of the plan is pertinent.
Whether this cause of action is based in promissory estoppel or equitable estoppel.
Whether the misrepresentation must be intentional, or whether a claim can also be brought based on mistaken misrepresentations.
Whether a participant can base an estoppel claim on an oral misrepresentation, or whether the misrepresentation must be in writing.
Whether estoppel can be used to modify the terms of an unambiguous plan document.

A comparison of the Sixth and Seventh Circuits’ illustrates these rifts. A plaintiff asserting an estoppel claim in the Sixth Circuit must show:

conduct or language amounting to a representation of material fact,
the party to be estopped knows the true facts,
the party to be estopped intends that the representation will be relied on or the party asserting the claim believes the party to be estopped so intends,
the party asserting the claim is unaware of the true facts, and
the party asserting estoppel reasonably or justifiably relies on the representation to his detriment.

See, e.g., Sprague v. General Motors Corp. Further, in the Sixth Circuit, a plaintiff cannot rely on estoppel to modify the terms of an unambiguous plan document.

In contrast, the Seventh Circuit requires a showing of the following elements:

a knowing misrepresentation,
made in writing,
with reasonable reliance on that misrepresentation by the party asserting the claim,
to his detriment, and
extraordinary circumstances.

See, e.g., Pearson v. Voith Paper Rolls, Inc.

The good news for plan administrators is that plaintiffs have not had great success in asserting these claims. Courts commonly reject these claims based on the plaintiff’s inability to prove that the alleged misrepresentation was knowing or intentional. This was part of the reason the Seventh Circuit rejected the plaintiff’s estoppel claim in the Pearson case noted above. Merely showing that a misrepresentation occurred is generally not sufficient. Plaintiffs must provide concrete evidence that the other party knew the information was inaccurate (e.g., that the other party had some incentive to present false information).

Further, where the claim is against the plan, claimants must show that someone acting on behalf of the plan—rather than on behalf the employer, which is a legally separate entity—had a motive for presenting the false information. So, even where a plaintiff proves that a misrepresentation is knowing or intentional, the claim may still fail if the party making the misrepresentation was acting on the employer’s behalf, rather than on the plan’s behalf (e.g., the party who made the misrepresentation was acting in the capacity of a human resources manager).

Even where there is a knowing misrepresentation, claimants face the additional hurdle of showing that they relied on the misrepresentation. Mere assertions that the plaintiff “would have done things differently” are often not sufficient. This is particularly true when the plaintiff possesses a document that contains accurate information regarding the benefits at issue. See, e.g., Weir v. Federal Asset Deposit Ass’n.

If participants successfully clear both the knowing misrepresentation hurdle and the reliance hurdle, they still must show some type of harm. For example, in the Pearson case, the plaintiff asserted that he would have negotiated a better severance package had he known that his pension estimate was mistakenly inflated. However, the plaintiff was unable to show that he had any realistic chance of negotiating a better severance package than the one he received. Accordingly, any harm was merely speculative.

Despite the inherent difficulties in establishing a cognizable cause of action and proving the elements of an estoppel claim, ERISA benefit plan participants are asserting these types of claims more frequently. And, while courts are reluctant to reform the terms of official plan documents based on false or misleading communications, the Supreme Court has opened the door for participants to assert estoppel claims. In CIGNA Corp. v. Amara, the U.S. Supreme Court observed that estoppel may be a viable alternative under these types of circumstances.

Even if the participant ultimately fails in proving the elements of estoppel, defending against such claims is costly and time-consuming. Accordingly, employers and plan administrators should take the following steps to protect themselves from these types of claims:

Make sure that those acting on behalf of the plan who communicate with plan participants (e.g., plan administrators) are fully informed as to the terms of the plans. This will help ensure that participants receive accurate information.
Make sure participant communications are accurate, especially summary plan descriptions and benefit estimates. To this end, plans should develop formal procedures for reviewing participant communications.

When changes occur to ERISA benefit plans, make sure these changes are communicated both to plan participants and to employees responsible for administering the plan. This will help ensure that participants do not continue to rely on outdated, inaccurate information.

Operating Subsidiaries - Protecting the Bank When Taking Title to Real Estate

Todd Brannon — Tue, 24 Jan 2012 14:36:50 -0600

With certain limitations, a bank may own real estate it acquires by foreclosure, conveyance in lieu of foreclosure, or other legal proceedings in satisfaction of a debt previously contracted. Ownership of such property can create potential liability for the bank in a number of ways, though most commonly from personal injuries which occur on the property (another possibility with the potential to be very costly is environmental liability). While insurance can mitigate much of this risk, it has its limitations and a bank has options to be further protected.

One way to mitigate the risk is for a bank to own such property in an operating subsidiary wholly owned by the bank. Ownership of the property in an operating subsidiary would help limit the liability exposure to the assets of the subsidiary and protect the bank itself. Thus, the bank's income and assets from other activities are insulated from the risks associated with property ownership. While common for large banks, many small banks do not have this level of protection in place, often because of the administrative burden associated with establishing a wholly owned subsidiary.

Under Ohio law, establishing an operating subsidiary requires a bank to submit a letter of notification to the superintendent of financial institutions in accordance with OAC 1301:1-3-10(B). The bank then must wait thirty (30) days for the superintendent to review the notification and, unless notified to the contrary, may establish the operating subsidiary for holding property. The operating subsidiary will be subject to the same laws and rules applicable to the bank.

With the large amount of property owned by banks in this current economic environment, many banks could face liability for personal injuries or other harms which occur related to the property. It may be in their best interest to act now and insulate the bank itself from those potential liabilities by establishing a wholly owned operating subsidiary, before it's too late.

Update - JNT Properties v. Keybank: Ambiguity in the Calculation of Interest

Amy Strang — Fri, 20 Jan 2012 15:16:05 -0600

On November 30, 2011, the Supreme Court of Ohio accepted KeyBank's appeal from the judgment in JNT Properties, LLC v. KeyBank, Nat'l Assoc., decided by the Eighth District Court of Appeals in Cuyahoga County, Ohio on June 30, 2011. As our July 2011 blog post, available here, explained, this case hinged on whether KeyBank's use of the "365/360 method" of interest calculation, resulting in an effective interest rate of 9.05% per annum, breached a promissory note pursuant to which JNT Properties had agreed to repay principal together with interest at the rate of 8.93% per annum. The Eighth District Court found that the "365/360 method" used in the case "cannot be read as clearly evidencing an intent of the parties to alter the ordinary meaning of the term 'per annum,' or as creating an 'annual interest rate' other than the stated rate of 8.93 percent." 2011-Ohio-3260, at ¶ 21 (internal quotations omitted). Concluding that genuine issues of material fact remained, the Eighth District Court reversed the trial court's grant of summary judgment in favor of KeyBank.

Since we last reported, KeyBank filed a Notice of Appeal of the case and Memorandum of Jurisdiction with the Supreme Court of Ohio on August 15, 2011. On the same date, the American Bankers Association and the Ohio Bankers League filed a Jurisdictional Memorandum of Amici Curae in support of KeyBank, arguing that the case is one of great public interest and could impact thousands of commercial loan transactions in Ohio. On November 30, 2011, in an entry by Chief Justice Maureen O'Connor, the Supreme Court of Ohio accepted the appeal.

The Supreme Court of Ohio's resolution of this case may prove to be significant, as the decision as it stands creates uncertainty and may possibly render unenforceable the "365/360 method" commonly used in loan documents. Lenders should seek professional guidance on crafting "365/360 method" interest calculation language to ensure they receive their expected yield and avoid costly and unnecessary litigation.

Disclosure Requirements for Consumer and Business Deposit Accounts, as recently republished by the Consumer Financial Protection Bureau

Amy Strang — Thu, 19 Jan 2012 15:38:22 -0600

A variety of federal laws and regulations require banks and financial institutions to make certain disclosures to holders of deposit accounts. Many of these disclosures are designed for consumer protection and accordingly, are only required to be made to those "consumer" deposit accountholders who hold deposit accounts primarily for personal, family, or household purposes.

Title X of the Dodd-Frank Wall Street Reform and Consumer Protection Act ("Dodd-Frank Act") transferred the rulemaking authority for some of these consumer regulations from other federal regulators to the Consumer Financial Protection Bureau ("CFPB") on July 21, 2011. To reflect this change in authority, the CFPB has republished certain previously existing regulations to Title 12, Chapter X of the Code of Federal Regulations ("C.F.R."), effective December 30, 2011. (It is unclear when the older versions of these regulations will be removed from the CFPB's predecessors' sections of the C.F.R.) This recent republication included regulations requiring financial institutions to provide account disclosures, thus providing an excellent opportunity to review the newly republished regulations and take note of how disclosures required to be made to consumer deposit accountholders differ from those required to be made to business deposit accountholders.

Disclosures Required for Consumer Deposit Accounts Only

Many federal regulations requiring financial institutions to make disclosures to holders of deposit accounts are designed for the protection of consumers, and therefore are not required to be made in the case of business deposit accounts. Regulation DD, implemented under the Truth in Savings Act of 1991, for example, only requires financial institutions to give account disclosures to "a consumer," defined as "a natural person who holds an account primarily for personal, family, or household purposes, or to whom such an account is offered," and specifically excluding "a natural person who holds an account for another in a professional capacity." (12 C.F.R. 1030.2(h)). Disclosures required under the Truth in Savings Act are designed to provide information that enables consumers to make informed decisions about accounts at depository institutions, such as descriptions of minimum balance requirements, rates of interest payable on and fees assessable against deposit accounts. Although financial institutions are not required by Regulation DD to provide these disclosures to customers holding business deposit accounts, they may wish to provide such information for other reasons, such as the disclosure to accountholders of general contractual terms. To reflect the new authority of the CFPB, the regulations implementing the Truth in Savings Act as it concerns banks, formerly found at 12 C.F.R. Part 230, have been republished to 12 C.F.R. Part 1030. The National Credit Union Administration, however, will retain authority over 12 C.F.R. Part 707, which will continue to implement the Truth in Savings Act as it concerns credit unions.

Regulations under the Gramm-Leach Bliley Act ("GLBA") are also designed to protect consumer accountholders. (15 U.S.C. 6801, et seq.). These regulations require financial institutions to disclose to consumers the manner in which nonpublic customer financial information held by the institution is disclosed, used and protected. As used in the GLBA, "consumer" means "an individual who obtains, from a financial institution, financial products or services which are to be used primarily for personal, family, or household purposes, and also means the legal representative of such an individual." (15 U.S.C. 6809). Pursuant to the Dodd-Frank Act, the CFPB now has authority over the regulations under the GLBA governing account disclosures, previously found at 12 C.F.R. Parts 216 (banks) and 716 (credit unions), and has republished them as a new Regulation P, at 12 C.F.R. Part 1016.

Although it is not one of the laws transferred to the authority of the CFPB by the Dodd-Frank Act, the Check 21 Act and the regulations implementing it include a consumer awareness element, requiring financial institutions to disclose to holders of consumer accounts the consumer re-credit rights that apply when a consumer in good faith believes that a substitute check was not properly charged to his or her account, as well as an explanation that a substitute check is the legal equivalent of an original check. (12 U.S.C. 5011, et seq.; 12 C.F.R. 229.57). These disclosures need only be made to holders of "consumer accounts," which, for the purpose of the Check 21 Act, means "any account used primarily for personal, family, or household purposes." (12 C.F.R. 229.2).

More Broadly Required Disclosures

In contrast to the disclosures described above, disclosures by financial institutions under the Electronic Fund Transfer Act and the Expedited Funds Availability Act may be required for business deposit accounts as well as those deposit accounts held for personal, family, or household purposes. (See 15 U.S.C. 1693; 12 U.S.C. 4001, et seq.).

Regulation E, implementing the Electronic Fund Transfer Act, requires financial institutions to make certain disclosures regarding the type of electronic fund transfers that consumer accountholders may make and any limitations on the frequency and dollar amount of transfers, as well as other related information. Although Regulation E only requires that disclosures be made to consumer accountholders, it defines a "consumer" much more broadly than do the regulations above, as "a natural person." (12 C.F.R. 205.2). This means that disclosures under Regulation E must be made to natural persons who hold accounts for professional or business purposes, as well as to those who hold accounts primarily for personal, family, or household purposes. Despite this broader applicability, Regulation E, formerly found at 12 C.F.R. Part 205, is among the regulations now under the authority of the CFPB, and has accordingly been republished to 12 C.F.R. Part 1005.

The Expedited Funds Availability Act is implemented by Regulation CC, pursuant to which a financial institution must make certain clear and conspicuous disclosures regarding the institution's policy as to when funds deposited in an account are available for withdrawal. The initial specific availability policy disclosure required under Regulation CC must be made to all customers, including business deposit accountholders, although some additional disclosures are required to be made only to holders of consumer accounts. Regulation CC was not among those regulations transferred to the authority of the CFPB and therefore was not republished; it can be found at 12 C.F.R. 229.1, et seq.

Charging Order Protection for Multi-Member and Single Member LLCs

Amy Strang — Fri, 09 Dec 2011 09:44:23 -0600

In the course of their business, bankers routinely encounter single member limited liability companies ("SMLLCs"), entities commonly used in real estate and small businesses. Despite the prevalence of SMLLCs, there is a fundamental legal uncertainty as to whether the assets of an SMLLC share the same level of protection from its member's creditors as is provided to the assets of a multi-member LLC through the charging order remedy.

Depending on state law, bankers may or may not be able to reach the assets of their debtors' SMLLCs through a charging order. Furthermore, changes to Ohio law have recently been discussed in the Ohio Legislature which attempt to remove any uncertainty and would prevent bankers and other creditors from reaching assets of a SMLLC through a charging order.

The following analysis discusses recent case law from around the country examining a judgment creditor's ability to reach the assets of an SMLLC in which its debtor holds the sole membership interest. The LLC charging order is a remedy through which a creditor who has won a judgment may reach its debtor's membership interest in an LLC. State LLC statutes generally require the unanimous consent of all members (other than the assigning member) in order for the assignee of an LLC membership interest, such as a creditor who has attached its debtor's membership interest, to participate "as a member" in the management of the LLC. To protect this approval right of the other members in a multi-member LLC, a charging order entitles a creditor only to the debtor's share of distributions and assets upon dissolution, and not to the right to participate in the management of the LLC. This prevents the judgment creditor from selling the LLC's assets and distributing the proceeds to itself.

Where the debtor's interest is in an SMLLC however, there are no other members to consent to the assignment of the debtor's management rights. In such circumstances, whether a charging order will provide the same level of asset protection to a SMLLC as it would to a multi-member LLC, and thus prevent a creditor from satisfying its judgment through the sale of the SMLLC's assets, depends upon the statutory framework of the state in which the LLC is organized.

Recent Case Law

The Kansas Revised Limited Liability Company Act ("KRLLCA") specifically provides that where the member of an SMLLC assigns its interest, "the assignee shall have the right to participate in the management of the business and affairs of the limited liability company as a member." (Kan. Stat. Ann. § 17-76, 112(f)). In October 2011, a court interpreting this provision held that it applies to a judgment creditor who becomes an assignee pursuant to the entry of a charging order. (Meyer v. Christie, No. 07-2230-CM (D. Kan., Oct. 13, 2011)). This explicit provision of the KRLLCA makes it clear that in Kansas a charging order does not provide the same level of asset protection to a SMLLC as it would to a multi-member LLC. Under the Kansas framework, a creditor can use a charging order to reach the assets of its member's SMLLC to satisfy its judgment.

The Supreme Court of Florida's 2010 determination of the issue, on the other hand, hinged on whether or not the statutory charging order was the sole remedy through which a creditor could reach its debtor's SMLLC interest. (Olmstead v. FTC, 44 So. 3d 76 (Fla. 2010)). Although the court found that Florida's charging order remedy "clearly does not authorize the transfer to a judgment creditor of all an LLC member's 'right, title and interest' in an LLC," it also held that the charging order was not the judgment creditor's exclusive remedy. (Id.) Florida's generally applicable law subjecting a judgment debtor's corporate stock to levy and sale under execution, combined with the "uncontested right of the owner of the single-member LLC to transfer the owner's full interest in the LLC," permitted the court to order the debtor to surrender all right, title and interest in its SMLLC to satisfy an outstanding judgment. (Id.) While the Florida charging order remedy protects the rights of non-debtor members of a multi-member LLC, the availability of this additional remedy allows a creditor to go beyond the charging order protections and reach its debtor's full SMLLC membership interest, including management rights.

Similarly, a U.S. Bankruptcy Court applying Colorado law has held that "the charging order limitation serves no purpose in a SMLLC, because there are no other parties' interests affected." The court found that without the protections of a charging order as an exclusive remedy, a debtor's bankruptcy filing effectively transferred her full membership interest in her SMLLC, including her management rights, to the bankruptcy estate. (In re Albright, 291 BR 358 (Banker. Court D. Colorado, 2003)). This allowed the Bankruptcy Trustee to obtain management rights and to cause the SMLLC to sell its assets and distribute the proceeds to the estate, without being hindered by the protections of a charging order.

Ohio Proposed Amendment

While Ohio courts have not addressed whether the same charging order protections offered to multi-member LLCs are also available to SMLLCs, changes to Ohio law recently discussed in the Ohio Senate Judiciary Committee begin to address this issue. If enacted, proposed amendments to Section 1705.19 of the Ohio Revised Code, to be contained in HB 48, would expressly provide that a charging order is the exclusive remedy of a creditor seeking to satisfy judgment against the LLC membership interest of a debtor. Furthermore, the amendment would prohibit any creditor of a member of an LLC from having any right to obtain possession of, or to exercise legal or equitable remedies with respect to, the property of the LLC. The proposed amendment does not differentiate between SMLLCs and multi-member LLCs.

Under the analysis used in the above cases, this change would most likely prevent a judgment creditor from obtaining management rights in an SMLLC, since there would be no specific statutory exception for SMLLCs and the charging order would be the exclusive remedy available to the creditor to reach the debtor's membership interest. If the amendment is enacted and Ohio courts interpret the statute to provide SMLLCs with the same charging order protections as multi-member LLCs, creditors will be unable to recover judgments by forcing the sale of their debtors' SMLLC assets and distributing proceeds.

Bankers should be aware of this possibility and take necessary precautions to avoid relying on unreachable assets of the debtor's SMLLC as security for the credit they extend. In most cases, the straight-forward solution is prepare loan documentation reflecting the SMLLC as a borrower.

Arguments Begin In Legal Challenges to NLRB Posting Rule

Mike Underwood — Fri, 18 Nov 2011 12:04:10 -0600

As we reported previously, the National Labor Relations Board ("NLRB") issued a rule in August requiring all employers to post workplace notices about employee rights to join a union. This effort by the NLRB to require posting about union organizing rights in all workplaces has caught the attention of the employer community more than any NLRB action in recent memory. The rule reaches into the workplace of all employers except for those few which are outside of the NLRB's jurisdiction. [See our earlier post that outlines NLRB jurisdiction]. Briefly, if you are wondering if you are covered, you probably are covered. The original effective date for the rule was to have been November 14, 2011, but that effective date was delayed when lawsuits were filed in two federal district courts challenging the NLRB's authority to issue such a rule. The new effective date is January 31, 2012 and the arguments in the lawsuits challenging the posting rule are beginning to take shape.

In a case before the federal District Court for the District of Columbia, all of the parties filed motions for summary judgment on October 26, 2011. (National Ass'n. of Mfrs. v. NLRB, D.D.C., No. 11-CV-1629). In addition to the National Association of Manufacturers, others challenging the NLRB rule in this case include the National Right to Work Legal Defense and Education Fund, Inc., the Coalition for a Democratic Workplace, the National Federation of Independent Businesses, and several specific employers. The primary arguments being made by those challenging the posting rule include:

The NLRB's jurisdiction is limited to specific cases where unions are trying to organize employees (representation cases) and cases where an employer has been charged with committing an unfair labor practice ("ULP"). The law does not allow the NLRB to impose obligations on employers which are not the subject of a representation case or being charged with a ULP. Therefore, the NLRB cannot require all employers to post the notice.
The NLRB has exceeded its authority by stating in its rule that the failure to post will be considered a ULP. The NLRB cannot create new ULP's which are not found in the National Labor Relations Act and that law does not include a posting requirement.

The primary arguments made by the NLRB in support of its posting requirement are:

The NLRB has authority to enforce employee rights, such as the right to engage in union organizing activity without fear of punishment by their employers. The NLRB argues that "... full and free exercise of NLRA rights depends on employees knowing those rights and that the Board protects those rights."
Employees must be made aware of their rights to file ULP charges with the NLRB and of the time deadlines that apply for filing charges.
It is appropriate to charge employers with a ULP if they fail to post because employee knowledge of their rights is essential to a full and free exercise of those rights and an employer's intentional refusal to post constitutes interference with employee rights.

The Judge has scheduled oral arguments for December 19, 2011. The other case which challenges the NLRB's right to require posting was filed by the United States Chamber of Commerce and others and is pending in the U.S. District Court for the District of South Carolina. Also, Senator Thune (R-S.D.) has introduced legislation that would block the NLRB's posting rule, but the Senate has not taken any action on that Bill.

We will continue to post future developments that may impact the NLRB's posting rule and the current January 31, 2012 effective date.

CFPB Releases Examination Manual

Grant Stephenson — Wed, 09 Nov 2011 10:15:10 -0600

In October, the Consumer Financial Protection Bureau published its first supervision examination manual which will be of interest to bankers and other financial service executives.

On one level, the manual is fairly pedestrian and may contain little surprising in that most bankers have a fairly extensive appreciation of (and experience with) an examination process. And, of course, the Bureau has direct supervisory authority only over the roughly 100 large banks, thrifts, and credit unions that have assets more than $10 billion.

What should be interesting to many bankers, however, is the insight the Manual provides into the examination approach of the Bureau, an approach that will doubtlessly influence and inform the practices and procedures of all other financial institution regulators, large and small. Essentially, the Manual describes the Bureau's process for risk assessment: first there will be the establishment of the inherent risk of a particular "product" line for consumers and then there will be an assessment of an entity's set of quality controls to manage and mitigate the risks.

As bankers consider the Manual and its implications for the future regulatory approach of the Bureau, they will be particularly interested in its discussion in a hitherto unknown concept in consumer financial regulation: "abusive" practices.

As a matter of law, the Bureau has jurisdiction over "unfair, deceptive and abusive" practices. Unfair and deceptive are fairly established legal terms; indeed much of existing consumer law and regulation is predicated on these terms. "Abusive" in the context of consumer financial practices is new however (although there is precedent in other contexts). The Manual suggests a practice will be "abusive" if it:

Materially interferes with the ability of a consumer to understand a term or condition of a consumer financial product or service; or

Takes unreasonable advantage of –

A lack of understanding on the part of the consumer of the material risks, costs, or conditions of the product or service;

The inability of the consumer to protect its interests in selecting or using a consumer financial product or service; or

The reasonable reliance by the consumer on a covered person to act in the interests of the consumer.

There are no concrete examples of "abusive" practices in the Manual of course because the Bureau has yet to begin its examinations or to institute enforcement actions. The Manual does contain a template for risk assessments that provides an indication into what will be the approach of the Bureau to its review of consumer products and practices:

Products are bundled in a way that may obscure relative costs;

The terms of the product are subject to change at the discretion of the entity, and the entity has frequently made changes in the terms; and

Complex products are marketed to consumers not likely to benefit from them or who may be likely to be harmed by them.

It would appear, then, the Manual confirms what had been predicted since the passage of the Dodd-Frank Act and the creation of the Bureau: that bankers and financial services executives should be prepared to deal with a review of their products and practices, during a examination by the Bureau, that goes much further than the current review which is grounded in compliance with the disclosure requirements of various federal and state statutes, such as the Truth in Lending Act. This review will apparently be more subjective and less empirical.

Historically Low Interest Rates Create Estate Planning Opportunities

Mark Snider — Wed, 12 Oct 2011 07:35:42 -0600

For good or for bad, interest rates are currently near all-time lows, including the “applicable federal rate” (“AFR”) which is used to set minimum interest rates for certain gift and estate tax planning techniques. While bankers and financial institution executives routinely consider the implications of such low rates for their institutions, they also should carefully consider the opportunities these low rates create for their estate planning and for that of their customers. Community bank owners and executives, in particular should not overlook these techniques that may help persevere years of wealth creation.

The October 2011 AFR is 0.16% for short-term obligations (up to 3 years), 1.19% for mid-term obligations (more than 3 years, up to 9 years), and 2.95% for long-term obligations (longer than 9 years). Such low interest rates could make this a good time to consider several estate and gift tax planning strategies that are generally more beneficial during periods of low interest rates. Here are some common techniques for bankers to consider:

Intra-Family Loans

Using an intra-family loan, one person loans money to another with an interest rate that can be as low as the current AFR (set based on the duration of the loan) without triggering gift or estate tax. These loans typically go from an older, wealthier generation to a younger, less wealthy generation. The borrower can use these loans to make investments expected to generate a return higher than the interest rate charged or to pay down higher-rate debt. Any returns the borrower obtains on the loan proceeds in excess of his or her loan payments will be retained by the borrower free of gift or estate tax.

GRATs

Another tax-efficient way to transfer wealth is a Grantor Retained Annuity Trust (“GRAT”). A GRAT allows for the transfer of the anticipated future appreciation of assets to another person without triggering large tax liabilities. With a GRAT, the grantor transfers assets into a trust for a term of years. (Very short-term GRATs have been used in the past, although the IRS is scrutinizing those now that interest rates have fallen sharply.) During the term of the trust, the grantor receives an annuity payment based on the fair market value of the assets placed into the trust. At the end of the trust term, any remaining principal is distributed to the trust beneficiaries, which are generally a younger generation. The taxable gift is equal to the fair market value of the property placed into the trust, less the present value of the annuity payments received by the grantor. The values of the retained annuity payments and remainder interest are based on 120% of the mid-term AFR.

Lower interest rates increase the present value of the retained annuity payments, thereby reducing the value of the taxable gift of the remainder interest. In some circumstances it is possible to structure the GRAT so that the present value of the retained annuity interest equals the value of the property transferred into the GRAT, resulting in no deemed gift to the beneficiaries for tax purposes.

Intentionally Defective Grantor Trusts

A sale to an intentionally defective grantor trust (“IDGT”) may also be attractive when interest rates are low. The transferor sells property to a IDGT in return for an installment note with an interest rate that can be as low as the current AFR. At the end of the trust term, any income and appreciation on the trust assets, minus the note payments, passes to the trust beneficiaries. When the AFR is low, there is a greater chance that the trust assets will generate more income, or increase in value to a greater extent, than is necessary to service the note.

There are other more complicated techniques that also benefit from low-interest rates, so consultation with knowledgeable professional advisors is appropriate.

Blog Roundup

Ryan Daniels — Wed, 05 Oct 2011 10:21:05 -0600

Below are several of the latest posts from the Porter Wright blog network. They cover diverse topics ranging from protecting your trademark with the new adult entertainment industry domain names to say-on-pay and EU data protection to "Facebook firings."

Act now to prevent use of your trademark with the new adult entertainment industry TLD

A new top level domain will soon be available for use by adult entertainment providers. In order to address concerns from trademark owners not in the adult entertainment industry, a sunrise reservation period has been established to enable trademark owners to reserve or "block" the new adult entertainment industry domain names that correspond to their registered trademarks. The period for trademark owners to reserve such domain names runs through October 28, 2011. Read more.

Ohio Federal Judge Allows Say-on-Pay Lawsuit to Proceed

In a September 20, 2011 Opinion, Judge Timothy Black of the Southern District of Ohio ruled that a lawsuit brought against senior executives and directors of Cincinnati Bell, Inc. alleging a breach of fiduciary duty regarding compensation would be allowed to proceed. The lawsuit focuses on the "say-on-pay" provisions of the Dodd-Frank Act: specifically, attacking the Board's decision to increase 2010 executive compensation in light of the nonbinding vote by 66% of the voting shareholders to reject that increase. Read more.

Basic Principles of European Union Consent and Data Protection

Any US company that receives data about individuals living in the European Union must be familiar with the basic principles of consent and data protection within the EU to avoid costly mistakes that are easily made in obtaining consent, should the validity of such consent be challenged by the EU data protection agencies. Read more.

First "Facebook Firing" Case Decided by NLRB Administrative Law Judge

Earlier this year, speculation and educated guesses gave way to NLRB General Counsel Advice Memoranda on how the NLRB will address unfair labor practice charges challenging so-called Facebook firing cases. Now we have our first charge that actually has gone to hearing and resulted in an Administrative Law Judge decision. Read more.

Is The Judicial Ping Pong Game Over Health Care Reform Coming To A Merciful Close?

The Obama administration was faced with a deadline to ask for an en banc review by the 11th Circuit Court of Appeals of a decision that declared the health care reform legislation’s individual mandate unconstitutional. Under applicable court rules, such a request had to be filed by Monday, September 26. A decision to seek such a review would have caused further delay, and very likely would have delayed the timing of a decision on the legislation by the Supreme Court until after the 2012 national elections. Read more.

Building a Model for a Defensible Reduction-in-Force

Mike Underwood — Wed, 14 Sep 2011 13:03:07 -0600

The continuing struggle to improve the economy leaves many financial institutions of all sizes still looking for ways to improve efficiency and profitability. Often the resulting business strategy includes cut backs in personnel. But a reduction in the workforce that is not carefully planned and documented can result in costly and sometimes difficult to defend lawsuits and other legal challenges that can off-set the intended economic benefit. It is very common after a reduction-in-force for legal claims to be pursued by terminated employees, sometimes as multiple-plaintiff lawsuits. Possible claims include allegations that the reason for selection of a person to be terminated was illegal (i.e., age, race, sex, medical condition, use of FMLA, whistleblower, etc.). A successful defense requires showing not just that there were legitimate reasons to reduce the workforce but also the specific legitimate reason that the complaining employee was selected for termination. Not having a carefully planned and documented approach to the decision-making can result in time-consuming and expensive litigation. Also, a well-planned and documented approach to the reduction-in-force will promote reasoned, careful, and sound business decisions, which support the Company’s overall objective for reducing costs and improving efficiency.

Here is a brief outline of steps that should be included in any plan for implementation of a reduction-in-force:

Documenting the Preliminary Steps

There should be a written explanation of the primary reason for reducing the workforce, including a summary of those areas of the business that will be examined for possible reduction (i.e., an entire business unit, specific departments, multiple locations, a single location, certain cost codes, etc.)

Documenting the Methods and the Decision-Making

Document the steps to be followed in the reduction. The approach to a reduction-in-force that is best designed for successful defense begins with identifying job functions that are redundant and that can be eliminated and job functions that can be combined with other jobs. Document the specific methods for selection of employees to be retained. Determine a method for ranking employees based on job-related, non-discriminatory criteria.

Determine whether employees whose jobs are eliminated will be considered for reassignment to different positions and whether incumbent employees will be “bumped” from jobs by persons being reassigned. If employees are given consideration for transfer to other positions, the procedure and criteria for doing so should be documented and applied consistently.

Develop and document a procedure for instructing decision-makers on the proper steps and criteria for the reduction-in-force. Finally, develop a procedure for oversight and review by upper management and human resource professionals as well as review by legal counsel of decisions that could result in legal challenge and of the statistical impact of the reduction.

Implementing the Reduction

There are key decisions to consider at the early planning stages about the method and timing for implementation. Will the company offer severance pay and, in exchange, obtain a release of all potential claims? When will employees be made aware of the impending reduction, and what will be the timetable for carrying out the reduction? In addition, determine any obligations for prior notice to employees under the federal WARN Act or similar state laws. If any of the affected employees are represented by a union, determine if there are any applicable labor contract provisions and evaluate the duty to bargain with the union before implementing the reduction. Also consider whether employees will be offered any rights to recall and develop a plan for determining post-termination benefits, including accrued paid time off, and for COBRA notices. Finally, determine if notice to the state unemployment insurance agency is required.

Good planning, implementation, and documentation can lessen the risks of litigation that often accompany tough business decisions.