Tolling Statute of Limitations for Claims of Entities in Receivership or Bankruptcy Previously Controlled by Wrongdoer

Adverse Domination Doctrine

Under the adverse domination doctrine, the statute of limitations for bringing an action against the corporate wrongdoers is tolled when those wrongdoers continue to control or dominate the corporation and prevent it from discovering the malfeasance and taking remedial action against the malefactors. See Favila v. Katten Muchin Rosenman LLP, 188 Cal. App. 4th 189, 225, fn. 26 (2010) (“Favila”); Smith v. Superior Court, 217 Cal. App. 3d 950, 954 (1990) (“Smith”); Admiralty Fund v. Peerless Ins. Co., 143 Cal. App. 3d 379, 387 (1983)(“Admiralty Fund”); San Leandro Canning Co. v. Perillo, 211 Cal. 482, 487 (1931) (“San Leandro”).

The courts applying the adverse domination doctrine refer to the doctrine as both tolling the statute of limitations (see, e.g., Smith, supra, 217 Cal. App. 3d at p. 954; Admiralty Fund, supra, 143 Cal. App. 3d at p. 387) and preventing the claim(s) from accruing (see, e.g., Favila, supra, 188 Cal. App. 4th at p. 225, fn. 26; San Leandro, supra, 211 Cal. at p. 487).

For example, in fraudulent transfer actions, under California law, accrual of a cause of action is postponed “until the plaintiff discovers, or has reason to discover, the cause of action.” Norgart v. Upjohn Co., 21 Cal. 4th 383, 87 Cal. Rptr. 2d 453, 981 P. 2d 79, 88 (1999). A plaintiff discovers the cause of action when “he at least ‘suspects … that someone has done something wrong’ to him, ‘wrong’ being used … in accordance with its ‘lay understanding.’” Id. (citations omitted and first set of ellipses in original). Accordingly, the statute of limitations was tolled where the wrongdoer controlling the debtor corporations purposely structured the transfers of the properties such that the fraudulent nature of the transfers was indiscoverable “until the trustee in bankruptcy took over the accounts and records of the debtors.” Cooper v. Allustiarte (In re Allustiarte), 786 F.2d 910, 915 (9th Cir. 1986); see also Martin Marietta Corp. v. Gould, Inc., 70 F.3d 768, 772 (4th Cir. 1995) (“the wrongdoers’ control results in the concealment of any causes of action from those who otherwise might be able to protect the corporation”); Quilling v. Cristell, CIV.A. 304CV252, 2006 WL 316981 at *6 (W.D.N.C. Feb. 9, 2006) (“The fraudulent transfers involved in this lawsuit could not have been discovered because at that time, [the principal of the Receivership Entities] was in control of the [Receivership] Entities. Equitable tolling principles recognize that so long as a corporation remains under the control of wrongdoers, it cannot be expected to take action to vindicate the harms and injustices perpetrated by the wrongdoers.   Thus, while [the principal] remained in control of the [Receivership] Entities, the fraudulent transfers were concealed and could not reasonably be discovered. These transfers only became discoverable when the Receiver was appointed and placed in control of the [Receivership Entities. . . . Accordingly, the Receiver’s claims are not barred by the statute of limitations.”) (citations omitted); F.D.I.C. v. Gonzalez-Gorrondona, 833 F. Supp. 1545, 1557 (S.D. Fla. 1993); In re Blackburn, 209 B.R. 4, 13 (Bankr. M.D. Fla. 1997) (holding that under the principles of adverse domination, the statute of limitations was tolled until the appointment of the receiver).

Notably, the adverse domination doctrine does not apply to a situation in which the alleged dominating agent and the alleged wrongdoer are different persons. See Nasr v. DeLeon, 18 Fed. Appx. 601, 604 (9th Cir. 2001) (applying the “discovery rule exception” to the general accrual rule tolling the statute of limitations on fraud claims brought by the Trustee against a corporate officer).

 

The Discovery Rule

Adverse domination is “a corollary of . . . [the] discovery rule, applied in the corporate context,” RTC v. Farmer, 865 F. Supp. 1143, 1154 n.11 (E.D. Pa. 1994) (citing In re Lloyd Securities, 153 B.R. 677, 685 (E.D. Pa. 1993)), to toll the statute of limitations while a corporate plaintiff continues under the domination of the wrongdoers. Many courts find that where the control persons of the corporation who know of the injury are themselves the wrongdoers, the corporation cannot “discover” knowledge known only to those wrongdoers:

It is the “inherently unknowable” character of the injury that is the critical factor that governs the applicability of the discovery rule . . . . A corporate plaintiff does not have “knowledge” of an injury to itself until those individuals who control it know of the injury and are willing to act on that knowledge.

Id. at 1155.

Thus, the adverse domination corollary of the discovery rule “presumes that actual notice will not be available until the corporate plaintiff is no longer under the control of the erring directors.” Hecht v. RTC, 333 Md. 324, 635 A.2d 394, 405 (Md. 1994).

This lack of notice of the wrongdoing is presumed not only as to the victimized corporation but also as to its unknowing creditors, thereby tolling the statute of limitations on all claims arising out of the control person’s misconduct:

But where, as alleged here, the corporation and its board of directors were wholly under the domination of those who committed the original fraud the corporation is deemed to be in the same position as an incompetent person or a minor without legal capacity either to know or to act in relation to the fraud so committed, and during such period of incapacity the statute of limitations does not run, at least, against an innocent stockholder who was without knowledge of the fraud.

Beal v. Smith, 46 Cal. App. 271, 279 (Cal. 1920).

 

Equitable Estoppel

Courts also apply the doctrine of equitable estoppel to toll the statute of limitations on actions against corporate control persons. Under that doctrine, courts seek to prevent the wrongdoers from benefiting from their lack of action on behalf of the corporation:

Is it logical to assume that the directors, in whom the bank has entrusted the discretion to sue, would authorize the initiation of an action against themselves for their own improprieties? To permit bank directors who control and dominate the affairs of a bank to benefit from their own inaction by finding that, as a matter of law, limitations run from the moment of their commission of improprieties, is a result which justice could not tolerate.

FDIC v. Bird, 516 F. Supp. 647, 651 (D.P.R. 1981).

Notably, under either of these rationales, the doctrine will not apply if other non-culpable corporate control persons have actual knowledge of the wrongdoers’ misconduct.  See Int’l Rys. of Cent. Am. v. United Fruit Co., 373 F.2d 408, 414 (2d Cir. 1967).