Plaintiff Not Estopped from Disputing Defendant's Ownership Interest Based on K-1

In a Decision dated February 3, 2022, in Tradesman Program Mgrs., LLC v. Doyle, Index No. 655520/18 and First Department Case Nos. 2020-04608, 2021-00319, and 2021-00320, 2022 N.Y. Slip. Op. 00747, the First Department affirmed an order of Justice Masley granting plaintiff’s motion for summary judgment declaring that defendant JCB Associates was not a member of plaintiff and thus not entitled to claim an interest in the entity. JCB argued that plaintiff was estopped from taking that position based on a Schedule K-1 distributed to members for the 2017 tax year showing JCB to have an 18.75% interest. The First Department explained:

The motion court properly found that plaintiff was entitled to a judgment declaring that defendant JCB Associates NY, Inc. was not a member of plaintiff, and thus not entitled to claim an interest in the entity. We reject JCB's argument that plaintiff was estopped from disputing JCB's ownership interest on the basis of a Schedule K-1 that plaintiff distributed to its members for the 2017 tax year, which showed JCB to have an 18.75% profit and loss share and a "various" capital share. Tax estoppel "applies where . . . the party seeking to contradict the factual statements as to ownership in the tax returns signed the tax returns, and has failed to assert any basis for not crediting the statements" (PH-105 Realty Corp. v Elayaan, 183AD3d 492, 492-493 [1st Dept 2020]). However, plaintiff did not sign the K-1 in question. Moreover, plaintiff has offered a reasonable explanation why the statement contradicts reality- namely, the affidavit of one of its managers stating that it paid distributions to JCB solely on the basis of misrepresentations made to plaintiff by nonparty Doherty & Associates, P.C., one of its original members.

Additionally, the record shows that the purported assignments to JCB were dated January 1, 2017, more than one year before JCB existed. Accordingly, the assignments were made to a nonexistent entity incapable of receiving them, thus rendering those assignments void (Kiamesha Dev. Corp. v Guild Props., 4 NY2d 378, 388 [1958]). Furthermore, one of plaintiff's notices to admit sought an admission that "JCB . . . did not contribute any capital directly to" plaintiff. Defendants did not timely respond to the notices to admit, and hence, are deemed to have admitted the allegations in the notice (see Watson v City of New York, 178AD2d 126, 128 [1st Dept 1991]). That plaintiff enjoyed no such benefit from JCB militates against any conclusion that it is estopped from denying JCB's ownership stake, notwithstanding JCB's nonexistence at the time of the assignment (see Boslow Family Ltd. Partnership v Glickenhaus & Co., 7 NY3d 664, 667 [2006]).

The attorneys at Schlam Stone & Dolan frequently litigate business divorce and membership disputes. Please contact the Commercial Division Blog editors at commercialdivisionblog@schlamstone.com if you or a client have questions concerning business divorce.