But my spouse is not even on the corporate documents
Managing Spouse Owes Fiduciary Duties to Other Spouse in Operating California Business Entity, Even If Non-Managing Spouse Has No Stated Role or Ownership Interest in Entity
We are often asked about a factual scenario along these lines: Jane and John, California residents, are married. Jane forms a business entity, such as a corporation or limited liability company. John is not named in the organizational documents as an owner, member, or director, nor does he serve as an officer, employee, or other agent of the entity. Because California is a community property state, the question is whether John nevertheless has some role or ownership interest in the entity.
The answer is that Jane must manage the business for the benefit of both Jane and John, even though John is not officially named as an owner or otherwise involved in the company. In fact, in this scenario, California law explicitly provides that Jane owes a fiduciary duty to John in managing the company.
The California Family Code states that
a spouse who is operating or managing a business or an interest in a business that is all or substantially all community personal property has the primary management and control of the business or interest. Primary management and control means that the managing spouse may act alone in all transactions but shall give prior written notice to the other spouse of any sale, lease, exchange, encumbrance, or other disposition of all or substantially all of the personal property used in the operation of the business …, whether or not title to that property is held in the name of only one spouse.[1]
In our scenario, this means that Jane can manage the business on her own, without John’s input, although she must notify John, in writing, if she decides to sell all of the entity’s personal property.
But even though Jane may make her own business decisions, in undertaking to manage and control the business she acts with respect to John “in accordance with the general rules governing fiduciary relationships which control the actions of persons having relationships of personal confidence as specified in Section 721 [of the Family Code], until such time as the assets and liabilities have been divided by the parties or by a court.”[2] Section 721, in turn, specifies that the confidential relationship between spouses “is a fiduciary relationship subject to the same rights and duties of nonmarital business partners,” and “imposes a duty of the highest good faith and fair dealing on each spouse, and neither shall take any unfair advantage of the other.”[3] Sections 721 and 1100 detail some of the duties that the managing spouse owes to the other, including: (1) “Providing … access at all times to any books kept regarding a transaction for the purposes of inspection and copying”; (2) “Rendering upon request, true and full information of all things affecting any transaction that concerns the community property”; and (3) “Accounting to the spouse, and holding as a trustee, any benefit or profit derived from any transaction by one spouse without the consent of the other spouse that concerns the community property.”[4] Section 721 also incorporates the same rights and duties owed to each other by nonmarital business partners as are provided in Sections 16403, 16404, and 16503 of the California Corporations Code (which are part of California’s Uniform Partnership Act of 1994).[5] Notably, Section 16404 of the Corporations Code includes both a fiduciary duty of loyalty—some of the aspects of which are specifically incorporated into Section 1100 of the Family Code[6]—and a fiduciary duty of care, which is “limited to refraining from engaging in grossly negligent or reckless conduct, intentional misconduct, or a knowing violation of law” in managing the business.[7]
The Family Code even goes so far as to provide a claim for breach of fiduciary duty in favor of one spouse against the other who manages the business.[8] In particular, each spouse has a claim against the other “for any breach of the fiduciary duty that results in impairment to the claimant spouse’s present undivided one-half interest in the community estate,” including any single transaction or series of transactions that “have caused or will cause a detrimental impact to the claimant spouse’s undivided one-half interest in the community estate.”[9] Remedies for a breach of one spouse’s fiduciary duty to the other under Sections 721 and 1100 include an award of “50 percent, or an amount equal to 50 percent, of any asset undisclosed or transferred in breach of the fiduciary duty plus attorney’s fees and court costs.”[10]
So even though John is not named as an owner of the entity in our situation, he effectively owns an undivided one-half interest in Jane’s ownership interest in the business. And, although John does not have a say in business decisions, Jane still owes John fiduciary duties of loyalty and due care in managing the business. If the parties separate, Jane’s fiduciary obligations continue all the way through the final division of Jane and John’s property.[11] If Jane violates her fiduciary obligations at any point, then John has a claim against Jane for breach of fiduciary duty, which permits him to recover his 50 percent interest in the asset mismanaged by Jane.
[2]Id. § 1100(e); see also In re Marriage of Georgiou & Leslie, 218 Cal. App. 4th 561, 569, 160 Cal. Rptr. 3d 254, 259 (2013) (“Spouses have fiduciary duties to each other as to the management and control of community property.”); In re Marriage of Prentis-Margulis & Margulis, 198 Cal. App. 4th 1252, 1270, 130 Cal. Rptr. 3d 327, 339 (2011) (Section 1100 “requires each spouse to act as a fiduciary toward the other in the management of community assets”).
[3]Cal. Fam. Code § 721(b); see also In re Marriage of Prentis-Margulis & Margulis, 198 Cal. App. 4th at 1269, 130 Cal. Rptr. 3d at 339 (Section 721 “provides that accountability for the management of community assets is a fundamental aspect of the fiduciary duties owed between spouses”).
[4]Cal. Fam. Code § 721(b); see also id. § 1100(e) (the managing spouse’s fiduciary duty includes “the obligation to make full disclosure to the other spouse of all material facts and information regarding the existence, characterization, and valuation of all assets in which the community has or may have an interest and debts for which the community is or may be liable, and to provide equal access to all information, records, and books that pertain to the value and character of those assets and debts, upon request.”
[5]Id. § 721(b).
[6]Compare Cal. Corp. Code § 16404(b)(1) (a partner’s duty of loyalty to the partnership and the other partners includes a duty “[t]o account to the partnership and hold as trustee for it any property, profit, or benefit derived by the partner in the conduct and winding up of the partnership business or derived from a use by the partner of partnership property or information, including the appropriation of a partnership opportunity”) with Cal. Fam. Code § 721(b)(3) (spouse’s fiduciary duty in managing business includes “[a]ccounting to the spouse, and holding as a trustee, any benefit or profit derived from any transaction by one spouse without the consent of the other spouse that concerns the community property”).
[7]Cal. Corp. Code § 16404(c).
[8]See Cal. Fam. Code § 1101; In re Marriage of Prentis-Margulis & Margulis, 198 Cal. App. 4th at 1270, 130 Cal. Rptr. 3d at 339 (Section 1101 “creates a right of action and specific remedies for the breach of fiduciary duty between spouses”).
[9]Cal. Fam. Code § 1101(a).
[10]Id. § 1101(g). The value of the asset is determined to be “its highest value at the date of the breach of the fiduciary duty, the date of the sale or disposition of the asset, or the date of the award by the court.” Id.
[11]See In re Marriage of Prentis-Margulis & Margulis, 198 Cal. App. 4th at 1270-71, 130 Cal. Rptr. 3d at 340 (taken together, the provisions of the Family Code discussed in this article “impose on a managing spouse affirmative, wide-ranging [fiduciary] duties to disclose and account for the existence, valuation, and disposition of all community assets from the date of separation through final property division”).