1.  Discuss whether or not it would have been a conflict of interest for Lucky to represent Danny in connection with his purchase of the 201 Main Street property.

Lucky Lawyer represented Sandy Slumlord in 2000 in connection with her acquisition, financing, permitting, and renovation of a multi-family residential rental property located at 100 Main Street, Newton, Vermont. Thereafter in 2002, Danny Debtor contacted Lucky to represent him in the purchase of a similar property located at 201 Main Street, one block away from Sandy’s property.  By early 2002, the demand for residential rental units in Newton was very low; vacancy rates were high and there was competition for tenants in the housing market.

The issue raised is whether Lucky can represent Danny in the purchase of this property.  Pursuant to Rule 1.9 of the Vermont Rules of Professional Conduct, “a lawyer who has formerly represented a client in a matter shall not thereafter represent another person in the same or a substantially related matter in which that person's interests are materially adverse to the interests of the former client unless the former client consents after consultation.”

Given the facts, it may be a conflict of interest for Lucky to represent Danny. Although Lucky’s representation of Sandy ended in 2000, Lucky still owes a duty of loyalty to Sandy. Danny’s purchase may constitute a substantially-related matter to Sandy’s purchase and given the state of the rental market in Newton, Danny’s interests seem to be materially adverse to Sandy’s. It would therefore, be prudent for Lucky to disclose and explain the potential conflict of interest to Sandy and obtain her written consent allowing Lucky to represent Danny.          

2.  If Lucky had represented Danny, discuss whether Lucky properly could have taken  compensation for his legal services in the form of an ownership interest in the project. 

As Danny Debtor is operating on a thin margin and would have little cash left to pay Lucky Lawyer for his legal work, Danny proposes that Lucky be paid by taking an ownership interest in the subject property. Pursuant to Rule 1.8 of the Vermont Rules of Professional Conduct, “a lawyer shall not enter into a business transaction with a client or knowingly acquire an ownership, possessory, security or other pecuniary interest adverse to a client unless: (1) the transaction and terms on which the lawyer acquires the interest are fair and reasonable to the client and are fully disclosed and transmitted in writing to the client in a manner which can be reasonably understood by the client; (2) the client is given a reasonable opportunity to seek the advice of independent counsel in the transaction; and (3) the client consents in writing thereto.”

In order for Lucky to perform legal work for Danny in exchange for an ownership interest in the rental property the terms of the transaction must be fair and reasonable and fully disclosed to Danny in writing. The facts do not state what the percentage of Lucky's interest would be in the property and whether this interest is fair and reasonable in regard to the services he would be performing. Therefore, it cannot be determined whether Lucky should accept Danny's offer. If Lucky did accept, the details of the transaction must be in writing; Danny must have the opportunity to obtain independent legal advice regarding the transaction; and then Danny must consent to the transaction in writing.

3.  What would have been the proper court for the filing of Danny's bankruptcy petition?  Discuss.

The United States Congress vested all jurisdiction over bankruptcy cases in the United States District Courts. These federal district courts may refer all cases and related proceedings to the adjunct bankruptcy court.  In Vermont, there is a U.S. Bankruptcy Court located in Rutland. Danny's bankruptcy petition would be filed in this court.

4.  Discuss the merits of the arguments of the bankruptcy trustee and of the attorney for the Bank.  Who should win, and why? 

The bankruptcy trustee seeks to avoid Ethan Allen Bank’s mortgage on Danny's property as the acknowledgement on the mortgage was defective. The federal bankruptcy code provides that a trustee shall be able to avoid an obligation if a hypothetical purchaser, buying at the time the bankruptcy proceeding is initiated, would have been able to avoid the obligation.  The general rule in Vermont has been that an invalid mortgage is not sufficient to put a third party on notice as to that mortgage and therefore is not binding on subsequent purchasers, and that an improperly witnessed or acknowledged mortgage is deemed to be invalid - in other words, the defective deed creates the legal fiction that the trustee is without actual knowledge of the defective deed.

However, the bank's attorney argues that the filing of the foreclosure complaint gave subsequent purchasers constructive notice of the mortgage, thereby curing the defect and preventing the trustee from avoiding the mortgage. The purpose of the Vermont recording statute is notice and to prevent fraud. Hence, every deed is good and effectual against the grantor and his heirs, as well as every other person having notice of a prior conveyance, either actual or constructive. 

Was the trustee in this bankruptcy case on constructive notice, that is inquiry notice, about the mortgage? Yes, the trustee had sufficient notice. In this instance, the filing of the foreclosure decree - which had the effect of determining the validity of the mortgage under Vermont law - eliminated the interest in the property of all third parties, including a bona-fide purchaser (in whose shoes a bankruptcy trustee is deemed to stand).  The foreclosure decree is a final judgment which was filed and adjudicated prior to the bankruptcy petition  (the fact that it creates a contingent right to redeem notwithstanding).  Thus, the foreclosure decree provided sufficient notice. As a result, the Bank should be able to obtain relief from the automatic stay imposed by the bankruptcy action and proceed to obtain a writ of non-redemption in the superior court.

MODEL ANSWER - QUESTION V - JULY 2005

1.  In general, the creation of a sole proprietorship does not require any formal action.  However, because Gail is operating under a different name, she should register her trade-name (d/b/a) with the Vermont Secretary of State’s office.  Sole proprietorships are not required to file annual reports with the Secretary of State’s office, however, trade-name registrations must be renewed every five years.  Because she has employees, she will have to comply with worker compensation rules. 

2.  To create a limited liability company, one must prepare articles of organization and file them with the secretary of state’s office.  The articles of organization must specify certain details of the company, including the name, purpose, office, agent, organizer, term, whether it is to be member managed or manager managed company, specify member liability, specify tax liability. To remain in good standing, the company must submit annual reports to the secretary of state.

3.  As a general proposition, the LLC form protects its members against liability for the debts and wrongful acts of the company.   The articles of organization may modify this.

It may be also possible for the Court to “pierce the corporate veil” and hold members personally liable for the LLC’s actions.  Because the LLC is a relatively new business form in Vermont, no Court in this state has pierced an LLC.  However, Gail should argue by analogy to the law regarding closely-held corporations that the Shiftys’ abuse of their LLC opens them up to personal liability.  In determining whether to pierce the veil, Courts in Vermont consider: (1) whether the corporate form has been used to perpetrate a fraud; (2) whether shareholders (or, in this case, members) have made personal use of company monies; (3) whether the corporation (or, in this case, LLC) is undercapitalized and/or operates at no profit; (4) whether business formalities have been recognized; and (5) whether there is any purpose of the business form other than evading liability.  See Agway, Inc. v. Brooks, 173 Vt. 259 (2001).   In the absence of factor (1), which may be dispositive, the Court will engage in a “totality of the circumstances” analysis to determine whether equity weighs in favor of piercing the veil.

Finally, the protections of the LLC aside, the Shiftys may still be held liable for their own actions.  The LLC form only protects its members from liability to the extent that they do not personally engage in the actionable behavior attributed to the company.  In other words, Charlie Shifty may be held liable for his active manufacture of the defective BusPro software.  Similarly, Sheila Shifty may be held liable for misrepresentations and contractual obligations she personally made in marketing BusPro and ConsultCo’s services.

4.  A sole proprietor of a business is personally responsible for all of the company debts and obligations.  Therefore, Gail would be personally liable for unpaid wages. 

5.  Some of the judgment will be taxable and some will not.  As the elements of her damage, Gail will surely seek the recoup the $25,000 she spent on BusPro and ConsultCo, as well as the money she spent fixing the problems both created.  Neither of these elements of damage should be taxed, because they merely reimburse Gail for monies she wrongfully spent.  [Note: If Gail reported losses from BusPro and ConsultCo’s misconduct on her taxes and then receives judgment in a subsequent year, she should amend her prior returns so that she does not receive a “windfall” by way of reportable losses.]

Gail may also seek lost profits or other lost business opportunities from ConsultCo’s misconduct.  To the extent she is able to recover them through a judgment, these items would be taxable as income to her business.

Finally, if Gail sought personal damages from ConsultCo’s misconduct, any judgment attributable to her mental anguish would be tax exempt.

MODEL ANSWER - QUESTION VI - JULY 2005

1.  Whether the contract was enforceable is governed by the statute of frauds, at 9A V.S.A. § 2-201.  It provides that contracts for the sale of goods for the price of $500 or more are not enforceable unless there is "some writing sufficient to indicate that a contract for sale has been made between the parties and signed by the party against whom enforcement is sought."  "Goods" include food.  The writing on the paper bag here contains sufficient information to determine the terms of the contract.  However, it is unclear whether it was signed by the party against whom enforcement is sought, since he merely wrote his name as contact information.  In any event, the buyer has "admit[ted] in his pleading, testimony or otherwise in court that a contract for sale was made," by virtue of his counter-claim.  2-201(3)(b).

2.  Basically, commercially reasonable steps to mitigate his damages, then he gets the difference in price. 

3.  Assuming that the contract was valid, and that Bob was justified in rejecting the spring rolls, he is entitled to both incidental and consequential damages.  Incidental damages include the cost of cover, if it was commercially reasonable, which would include the additional costs of the second order of spring rolls.  2-715.

Sam is only liable for consequential damages if they result from any general or particular requirements and needs of which the seller at the time of contracting had reason to know and which could not reasonably be prevented by cover or otherwise.  Sam could not reasonably have known that Bob's livelihood was at stake, and therefore Bob is unlikely to recover his lost salary.

4.  It is unlikely that the spring rolls violated any implied warranty of merchantability, 2-314, since the objection to the spring rolls was that they did not meet a special purpose of the seller.  For this warranty to apply, the seller must be a "merchant with respect to goods of that kind."  An issue may arise whether he is a merchant with respect to prepared food generally, or only tamales.  If only tamales, then the warranty would not apply in any event.  The fact that selling is not his full time occupation should not affect the analysis of whether he is a merchant with respect to these goods.

An implied warranty of fitness for a particular purpose can arise whether or not the seller is a merchant with respect to goods of that kind.  The issue here is whether the seller at the time of contracting had reason to know any particular purpose for which the goods are required, and that the buyer is relying on the seller's skill or judgment to select or furnish suitable goods.  The argument here would be that the seller was on notice by virtue of being told that the spring rolls were for the Vegan Society's banquet. 

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