My clients usually plan to use a limited liability company to own their aircraft, assuming the LLC will protect them from personal liability. Yet they often do not realize that an LLC is far from a bulletproof shield.
Although LLCs can provide barriers to private third-party claims against their owners, the reality is that certain claimants may cut through an LLC to reach the personal assets of the owner/members and other related parties. Perhaps more concerning, the U.S. government has regulatory and statutory authority that may extend personal liability to more individuals and entities than just owners, including their officers, directors, managers, pilots, and aircraft operators.
This personal liability exposure may come from three or more directions. First, third parties—including those who, for example, make claims for breach of contract, personal injury, or wrongful death—may try to “pierce the corporate veil” to reach into the pockets of LLC owners and others to pay for their claims.
Second, the FAA and the Department of Transportation can tag LLCs, LLC owners and managers, pilots, and others under the Federal Aviation Regulations (FARs) and federal statutes.
Third, the Financial Crimes Enforcement Network (FinCEN), a division of the U.S. Treasury Department, acting under the new Corporate Transparency Act (CTA), has few limits in pursuing wrongdoers under the CTA.
Piercing the Corporate Veil
My clients seem to worry most about personal liability stemming from accidents or incidents involving their aircraft and generally believe using an LLC will protect them against this risk. Is that possible?
LLC statutes exist and vary in all states that establish corporate-like rules on the powers and functions of LLCs. Commonly, these statutes create a legal wall or shield in front of their owners and managers that ideally protects them from personal liability for the LLC’s debts, obligations, and liabilities.
In other words, LLCs have a separate legal existence from their owners. For example, an LLC can sue and be sued. With exceptions, the LLC’s obligations remain its exclusive organizational responsibility, rather than that of its owners. Consequently, it is difficult to “pierce the corporate (LLC) veil.” Yet in the right circumstances, a claimant may legally penetrate the shield to access the member/owners’ personal assets.
Why claimants sue owners. Why would a claimant try to impose personal liability on aircraft LLC owners assuming the LLC carries insurance, as all LLCs and owners normally do? First, even if the LLC carries insurance, claimants may sue aircraft LLC owners for strategic, monetary, or procedural reasons such as piercing the LLC’s veil to threaten or take the owner’s assets.
Second, even if the LLC carries liability insurance, the claimant and their lawyers may believe that the insurance proceeds will be insufficient to satisfy the alleged claims or that the insurance company may not pay insurance resulting from, among other reasons, a breach of insurance terms by the insureds.
Piercing the veil. How can a plaintiff cut through an LLC to reach the owner's assets—like those of a high net-worth individual? Let me count a few ways: First, an owner may open the door to personal liability by committing fraud, under-capitalizing the LLC, acting illegally, or taking other wrongful action involving a claimant, whether the owner acted or just condoned the bad acts of LLC management. For example, an aircraft owner can heighten the piercing risk if the owner or an LLC manager defrauds a repair facility or lessor by contracting with them in the name of the LLC but intending never to pay them.
Second, the piercing claim may occur if an owner strictly acts for the owner’s sole benefit as if the LLC does not exist, creating a unity of the LLC and the person, the legal concept of the LLC’s “alter ego.”
Third, the owner rarely follows LLC formalities such as signing a consent to LLC action to buy an airplane, or if the owner commingles their LLC and personal monies.
For example, a pilot-owned, sole-member LLC may confer little, if any, personal liability protection on the owner for aircraft accidents, incidents, and even contractual or business matters where the sole member-pilot violates the FAR or fails to manage the LLC properly with these principles front and center. (For more about piercing the LLC veil, see my previous blog, “AINsight: Piercing the Aircraft LLC Veil.”)
Takeaway: Unless the LLC lawfully functions separately from the LLC owners under best company practices and carries adequate liability insurance, claimants may be able or feel compelled to try piercing the LLC veil to impose personal liability on the LLC owners.
Illegal Charter Operations and Other FAR Violations
The FAA’s regulatory powers transcend state laws on piercing the LLC veil. The FAA has broad discretion to pursue its mission of maintaining safety in U.S. national airspace. That includes evaluating how individuals or companies operate their aircraft, examining substance over form, to identify and punish violations where the FAA finds that an owner and its LLC “operate” an aircraft in violation of the FARs.
To execute its powers, the FAA has formed a special emphasis unit that can recommend imposing civil penalties of up to $1,000 for each violation. Each flight can ramp up multiple violations. The associated penalties can climb fast into hundreds of thousands of dollars or more on “any person,” including LLCs, owners, or pilots who violate the FARs.
For example, relying on F.A.A. v. Landy, the FAA, acting through the Justice Department, very recently successfully imposed a multi-million dollar penalty on a client individually and on his company for FAR violations in the operations of his company’s aircraft.
The FAA risk seems particularly acute when an owner violates the requirements for proper “on-demand” or “charter” operations under the FARs. That issue arises when the operator with one or more aircraft holds itself out for hire or receives any compensation (not just cash) to carry persons or property without FAA Part 119 and 135 certifications. This is often called an “illegal charter,” “gray charter,”[ii] or “134½ operation.” (See my blog AINsight: Owner Personal Liability for Illegal Charter Ops.)
Takeaway: The FAA has the power to, and will, impose civil penalties for illegal operations (and other infractions) on individuals and companies for failing to comply with the FARs. LLC owners should create ownership and leasing structures and conduct aircraft operations that can withstand FAA scrutiny. (See “AINsight: How Dry Leases Can Prevent Illegal Charter” for more on FAR-compliant leasing structures.)
Corporate Transparency Act
FinCEN can, will, and is explicitly empowered to find and penalize individuals criminally and monetarily for violating the CTA. Like the FAA, FinCEN does not need to rely on state law to pierce the corporate veil. Its powers can directly impact individuals and entities, including aircraft owners and other business and non-business entities, formed by filing documents or authorized to do business by registering in the U.S.
As I previously explained more fully (see “Corporate Transparency Act Descends on Bizav”), starting Jan. 1, 2024, the CTA requires original and updated disclosures of sensitive information on “beneficial owners” called “beneficial owner information” (BOI) by all non-exempt “reporting companies,” which covers almost all aircraft LLCs and their affiliated companies. The CTA imposes strict deadlines to submit “beneficial owner reports” during and after 2024.
Importantly, beneficial owners not only encompass LLC owners but also their officers, managers, general counsel, and others who directly or indirectly exercise “substantial control” over a reporting company or hold “ownership interests” of at least 25% of the reporting company.
Although one federal court declared the CTA unconstitutional in National Small Business United v. Yellen, the ruling only applies to the plaintiffs in that case, which FinCEN has appealed. That means—for now—everyone else must report to FinCEN under the CTA. Per a recent webinar, FinCEN seems to have little to no tolerance for non-compliance except for the permitted 90 calendar days after reporting to make corrections to beneficial owner reports.
FinCEN uses the information in its hunt for individuals who may use or hide behind entities to perpetrate financial crimes such as money laundering, drug sales, and terrorist financing. For any person who willfully provides or attempts to provide false or fraudulent BOI or fails to report on beneficial owners, FinCEN can impose civil penalties ranging from $10,000 to $500,000 and up to 10 years in jail, with the most significant penalties for concurrent violations of the CTA and other U.S. laws that may include the FARs.
Wrapping Up
Those who believe that an LLC insulates them from personal liability or protects them from the consequences of not complying with FinCEN or the FARs should think again and be ready to dig into their pockets to pay up when they discover that personal liability is a real thing.
This blog is not intended, nor should it be construed or relied upon, as legal advice. The comments, recommendations, and analysis expressed in this blog are those of the individual author, David G. Mayer, and are purely informational and may not reflect the opinions of AIN Media Group. The use or receipt of this blog, directly or indirectly, does not create an attorney-client relationship between you and the author or his law firm, Shackelford, McKinley & Norton, LLP. If specific legal information is needed, each person should retain and consult an attorney with knowledge of the subject matter.