BILL ANALYSIS Ó
SENATE JUDICIARY COMMITTEE
Senator Hannah-Beth Jackson, Chair
2015 - 2016 Regular Session
SB 284 (Cannella)
Version: April 22, 2015
Hearing Date: April 28, 2015
Fiscal: Yes
Urgency: No
RD
SUBJECT
Engineering and land surveying: limited liability partnerships
DESCRIPTION
Existing law authorizes licensed engineers and land surveyors to
organize and operate as limited liability partnerships (LLPs),
subject to certain insurance liability coverage requirements, as
specified, until January 1, 2016.
This bill would extend, until January 1, 2021, existing law that
allows engineering and land surveying firms to form limited
liability partnerships (LLPs) and foreign limited liability
partnerships to engage in the practice of engineering and land
surveying.
BACKGROUND
In 1994, the Legislature enacted the Beverly-Killea Limited
Liability Company (LLC) Act, under which a foreign or domestic
limited liability company is prohibited from rendering
professional services in this state unless expressly authorized
under applicable provisions of law. Professional services are
those services for which a license, certification, or
registration is required under specified statutes.
Beginning with the creation of limited liability partnerships
(LLPs) in 1995 by SB 513 (Calderon, Ch. 679, Stats. 1995),
however, sponsored and supported by law and accountancy firms,
certain licensed professionals have been able to enjoy limited
liability protections, with tax advantages similar to LLCs, upon
SB 284 (Cannella)
Page 2 of ?
meeting specified conditions. Generally, operation as an LLP
offers both liability and tax advantages by combining the
limited liability attributes of a corporation with the federal
tax advantage of operating as a general partnership. For
liability purposes, partners in an LLP have no personal
liability for the torts of the other partners in the partnership
and stand to lose only the amount he or she has contributed or
is obligated to contribute under the terms of the partnership
agreement. In a general partnership, however, the partner would
be jointly and severally liable with the other partners for any
tort of the partnership, including a tort of one of the
individual partners. In both settings, the individual partner
who committed the wrongdoing would be personally liable for his
or her tort.
The original rationale for the exclusion of professional
services under the Beverly-Killea LLC Act was that service
providers who harm others by their misconduct, incompetence or
negligence should not be able to limit their liability by
operating as an LLC (or LLP) and thus become potentially
judgment-proof.
In authorizing licensed attorney and accountant firms to form
LLPs, SB 513 conditioned the authorization upon a condition that
the LLP purchase a liability insurance policy or maintained bank
deposits of at least $100,000 per limited liability partner (or
an aggregate of not less than $500,000 for fewer than five
partners and not more than $5 million for all others).
Moreover, only partnerships with a net worth of $10 million or
more were allowed to become LLPs. Subsequently, in 1998, the
Legislature allowed for architects to form LLPs under the same
conditions as accountants and attorneys, for a trial period of
ten years (AB 469 (Cardoza, Ch. 504, Stats. 1998)). In 2006,
the sunset for architects was extended to 2012, and the
liability coverage requirement was increased to $1,000,000 for
partnerships of five or fewer licensees, and an additional
$100,000 per additional licensee up to a maximum of $5,000,000.
(AB 2914 (Leno, Ch. 426, Stats. 2006).) In 2007, SB 414
(Corbett, Ch. 80, Stats. 2007) updated the liability coverage
requirement for accountants and attorneys. Similarly, bills
that have authorized professional service providers to form LLCs
have also required those businesses to maintain an adequate
level of liability insurance. (See Prior Legislation.)
Relevant to this bill, in 2003, AB 1265 (Benoit, 2003) was
SB 284 (Cannella)
Page 3 of ?
introduced to also authorize engineers and land surveyors to
practice within the scope of their licensure as an LLP with the
same insurance liability coverage requirements as that of
architects. This Committee held that bill due to concerns
regarding inadequate insurance coverage.
Subsequently, in 2010, SB 1008 (Padilla, Ch. 634, Stats. 2010)
was enacted to allow engineers and land surveyors to organize as
LLPs and required those LLPs to carry the same insurance
liability amounts as those required of accountants and
architects. Those provisions included a sunset of January 1,
2016.
This bill would now extend the sunset for engineer and land
surveyor LLPs, and the requisite liability insurance provisions,
by an additional five years, to January 1, 2021.
This bill was heard in the Senate Business, Professions &
Economic Development Committee on April 20, 2015, and passed out
on a vote of 9-0.
CHANGES TO EXISTING LAW
Existing law provides that a partner in a registered limited
liability partnership (LLP) is not liable or accountable,
directly or indirectly, including by way of indemnification,
contribution, assessment, or otherwise, for debts, obligations,
or liabilities of or chargeable to the partnership or another
partner in the partnership, whether arising in tort, contract,
or otherwise, that are incurred, created, or assumed by the
partnership while the partnership is a registered limited
liability partnership, by reason of being a partner or acting in
the conduct of the business or activities of the partnership.
(Corp. Code Sec. 16306(c).)
Existing law includes, along with the practice of architecture,
public accountancy, and law, the practices of engineering and
land surveying in the definitions of "foreign limited liability
partnership," "registered limited liability partnership," and
"professional limited liability partnership services." (Corp.
Code Secs. 16100(6)(A), 16100(8)(A), 16100(14).)
Existing law requires that every registered LLP and foreign LLP
provide security for claims, as specified. (Corp. Code Sec.
16956.)
Existing law requires all LLPs, at the time of registration and
SB 284 (Cannella)
Page 4 of ?
continuously while transacting intrastate business to provide
security for claims, as specified. For claims based upon acts,
errors, or omissions arising out of the practice of engineering
or the practice of land surveying, a registered LLP or foreign
LLP providing engineering or land surveying services must comply
with one, some combination as specified, of the following:
maintaining a policy or policies of insurance against
liability imposed on or against it by law for damages arising
out of claims as follows:
o the total aggregate limit of liability under the policy
or policies of insurance for partnerships with five or
fewer licensees rendering professional services on behalf
of the partnership shall not be less than two million
dollars ($2,000,000);
o for partnerships with more than five licensees rendering
professional services on behalf of the partnership, an
additional one hundred thousand dollars ($100,000) of
liability coverage shall be obtained for each additional
licensee;
o however, the total aggregate limit of liability under
the policy or policies of insurance is not required to
exceed five million dollars ($5,000,000); or
in lieu of insurance coverage as specified above, maintaining
in trust or bank escrow, cash, bank certificates of deposit,
United States Treasury obligations, bank letters of credit, or
bonds of insurance or surety companies as security for payment
of liabilities imposed by law for damages arising out of all
claims as follows:
o the maximum amount of security for partnerships with
five or fewer licensees rendering professional services on
behalf of the partnership shall not be less than two
million dollars ($2,000,000);
o for partnerships with more than five licensees rendering
professional services on behalf of the partnership, an
additional one hundred thousand dollars ($100,000) of
security shall be obtained for each additional licensee;
o however, the maximum amount of security is not required
to exceed five million dollars ($5,000,000). (Corp. Code
Sec. 16956(a)(4)(A)-(B).)
Existing law provides that the impairment or exhaustion of the
aggregate limit of liability by amounts paid under the policy in
connection with the settlement, discharge, or defense of claims
applicable to a designated period (not to exceed 12 months)
shall not require the partnership to acquire additional
SB 284 (Cannella)
Page 5 of ?
insurance for that designated period. (Corp Code Sec.
16956(a)(4)(A).)
Existing law provides that the partnership remains in compliance
with this section (mandating security for claims) during a
calendar year, notwithstanding amounts paid during that calendar
year from the accounts, funds, Treasury obligations, letters of
credit, or bonds in defending, settling, or discharging
specified claims, provided that the amount of those accounts,
funds, Treasury obligations, letters of credit, or bonds was at
least the amount specified in the preceding sentence as of the
first business day of that calendar year. (Corp Code Sec.
16956(a)(4)(B).)
Existing law requires the LLP to confirm, as specified, that as
of the most recently completed fiscal year of the partnership,
the LLP had a net worth equal to or exceeding $10 million.
(Corp Code Sec. 16956(a)(4)(D).) Existing law provides that
unless the partnership has satisfied the requirement that its
minimum net worth exceeds $10 million, each partner of a
registered LLP or foreign LLP providing engineering or land
surveying services, by virtue of that person's status as a
partner, automatically guarantees payment of the difference
between the maximum amount of security required for the
partnership and the required security in the policy or polices
specified above, provided that the aggregate amount paid by all
partners under these guarantees shall not exceed the difference.
(Corp. Code Sec. 16956(a)(4)(C).)
This bill would extend the sunset on the engineering and land
surveying LLP provisions above until January 1, 2021.
COMMENT
1. Stated need for the bill
The author writes:
Next January, without SB 284, engineers and land surveyors up
and down the state will no longer have the flexibility they
need to form a Limited Liability Partnership [LLP], should
they desire to do so. [ . . . ]
3.4 million California small businesses account for 99 percent
of the state's employers and employ 52 percent of the
SB 284 (Cannella)
Page 6 of ?
workforce. Small businesses are the backbone to any economy.
Small business owners know their business best and should have
every tool available to them to be successful in California.
Engineers and land surveyors are a foundation for business[ ]
growth in California and continuing to extend the same
flexibility to form limited liability partnerships as
architects allows them to contribute to business and job
growth throughout the state.
The American Council of Engineering Companies (ACEC) of
California, sponsor of this bill, notes that the vast majority
of other states allow professional services to be engaged in
these LLP business structures. ACEC writes that "[p]roviding
options to business makes sense. Allowing engineering and land
surveying firms the option to structure as LLPs [provides]
additional flexibility that will encourage business expansion in
some instances, while boosting project delivery options. SB 284
offers flexibility in business and encourages innovative
partnerships that will allow California to better meet our
growing infrastructure needs."
In support of the bill, the California Land Surveyors
Association (CLSA) writes that the bill enhances the private
practice of and surveying by providing an alternative method of
organizing a land surveying firm. CLSA adds that bill is not
only important to facilitate a multi-state engineering or land
surveying firm (as virtually every other state allows licensed
professionals and design professions to organize as a limited
liability company and the bill would allow parity among the
partners in various states), but that it also should be noted
"that the provisions of Senate Bill 284 continue the balanced
approach required of the current professions that enjoy LLP
status. Although LLP status provides for a limitation on
liability, it also requires that a land surveying firm that
chooses the LLP form of business organization maintain certain
liability insurance thresholds, pledge collateral, or maintain a
$10 million minimum net worth that will protect the public in
the event injury is caused by land surveying service."
2. Important role of insurance minimums and sunset reviews
California's LLP law has always sought to strike a balance
between allowing professional licensed service providers to
operate in a business model that offers both tax and
liability-limiting advantages while preserving to an appropriate
SB 284 (Cannella)
Page 7 of ?
degree the ability of a party injured by professional negligence
to recover damages for that injury. Thus, an insurance
requirement has always been imposed upon professional licensees
that seek to operate as an LLP.
The rationale behind the insurance requirement is to ensure that
a person who is injured by a LLP is likely able to collect his
or her judgment. Because of the limited liability attributes of
a LLP, the injured person can no longer rely on the joint and
several liability of the partners and their personal assets, but
must look to the assets of the LLP. To ensure adequate but not
necessarily complete recovery in all claims, the insurance
requirement is added as a condition of being permitted to
operate as a LLP. Thus, even if the LLP has few assets because
the profits are regularly distributed to its members, the
required insurance is available to pay tort damages.
The difficulty has always been in the setting of the minimum
level of required insurance in an appropriate amount. While the
law has never sought to cover all potential claims, since that
would obviate the need and benefit for operating as a LLP, the
law has always sought to ensure that most predictable claims are
covered. Hence, committee staff has always sought and used the
available insurance claims data in proposing the recommended
minimum insurance requirements.
For example, when the original LLP law for architects was
enacted in 1998, the scant insurance data then available (see
also, Comment 3, below) did not provide a clear picture of the
types and amounts of judgments assessed against architects for
professional negligence. According to this Committee's analysis
of AB 469 (Cardoza, Ch. 504, Stats. 1998), the available
information suggested that the average payout on claims against
architects between 1993 and 1997 was about $32,000. By the
time the architects' LLP authorization and insurance provisions
came up for sunset review ten years later, some additional
information became available (though that information was still
not complete). This Committee's analysis noted at the time
that, according to the data gathered by the sponsors from
insurers representing less than 50 percent of the market, the
average payment of claims against small firms with gross
billings of $500,000 had at least doubled, averaging $65,526 in
the preceding 10 years. The information further reflected that
for firms with between $500,000 and $5 million in gross
billings, the average payout over the 10 years studied was
SB 284 (Cannella)
Page 8 of ?
$141,699, with the average reaching $216,279 in 2004 and
subsiding lightly to $206,335 in 2005. Further, for firms with
gross billings over $5 million, which likely involve firms with
a large number of architects, the average claims paid over the
10-year period was $422,657, with a spike in 1998 of $1.6
million and a low in 2004 of $119,970. (Under the LLP law, a 50
licensee architectural firm would be required to carry the
maximum $5 million in insurance.) In addition, the limited
claims data reflected that the 10 largest claims paid on behalf
of California architects ranged between $955,735 and $2,302,214,
with six of those claims being at or over $1,000,000.
Based upon that information, this Committee was able to
determine that the proposed increase in the minimum insurance
levels for architect LLPs from $500,000 to $1,000,000 for LLP
firms with five or fewer licensees was appropriate and that a
"step-up" for larger LLPs (namely, an additional $100,000 per
additional licensee after the first five licensees, up to a
$5,000,000 maximum) was also appropriate.
Accordingly, as discussed in Comment 3, one of the significant
policy questions raised by the proposed sunset extension is
whether the existing insurance liability requirements for
engineer and land surveyor LLPs are sufficient.
3. History of engineer and land surveyor LLP authorization and
the resulting insurance minimums
This bill seeks to extend the sunset on engineer and land
surveyor LLPs, which were first authorized five years ago, after
two prior attempts failed.
AB 1265 (Benoit, 2003) was the first attempt to add engineers
and land surveyors to the list of professions that could
organize as LLPs and was analyzed extensively with regard to the
insurance coverage requirements. That bill would have only have
provided for minimum insurance liability coverage of $500,000
for firms of five or less partners, and would have set the
insurance minimum at $5 million for bigger firms. The bill was
ultimately held in this Committee. Subsequently, in 2005, a
second bill was brought to authorize engineers and land surveyor
LLPs, AB 180 (Horton, 2005). That bill would have allowed
SB 284 (Cannella)
Page 9 of ?
engineers and land surveyors to operate as LLPs if the
partnership maintained at least $1.5 million in insurance for a
LLP with up to five licensed persons rendering professional
services, and $2 million for a LLP with up to 10 licensed
persons rendering professional services. For partnerships with
more than 10 licensed persons rendering professional services on
behalf of the LLP, the bill would have required an additional $1
million for every one to five additional licensed persons
rendering professional services on behalf of the partnership.
However, the total aggregate limit of liability under the policy
or policies of insurance for the LLP was not required to exceed
$7.5 million, less amounts paid in defending, settling, or
discharging claims, provided that a minimum of two-thirds of
each policy or policies of insurance is reserved for payment of
claims and not more than one-third of each policy or policies of
insurance may be used for payment of costs for defending,
settling, or discharging claims.
When this Committee considered AB 180's $1 million dollar
proposed insurance levels, it noted that the insurance data
provided at the time demonstrated that highest claims paid in
[five] of the last 10 years surveyed exceeded $1,000,000. The
highest were $3.5 million in 2002, $1.45 million in 1995, $1.15
million in 1994, $1,100,000 in 2003, and $1,086,500 in 1998.
There also was no data available for claims resulting from the
recent disasters involving landslides in Southern California.
Complicating the analysis for AB 180 was the fact that data
showing the frequency of such high payouts was requested but
denied by all but one insurer on the grounds that such
information is proprietary. That one insurer, representing
about 40 [percent] of the market, indicated that in the past
five years, one claim exceeded $1.5 million (but did not
indicate by how much), two claims were within the $1 million to
$1.25 range, and two were within the $500,000 to $1 million
range (out of 234 claims). (See Sen. Judiciary Com. analysis
of AB 180 (2004-2005 Reg. Session) pp. 6-7.)
AB 180 passed this Committee and the bill was amended to
increase the insurance levels to $1.5 million in light of
concerns over the ability of injured parties to be able to
collect judgments against engineer and land surveying firms
operating as LLPs, but the bill was ultimately gutted and
amended into a different topic. Finally, in 2010, SB 1008
(Padilla, Ch. 634, Stats. 2010) succeeded in adding engineer and
land surveyors to the list of authorized LLPs. As originally
SB 284 (Cannella)
Page 10 of ?
heard in this Committee, the bill would have provided for $1
million minimum liability coverage. At the time, this
Committee's analysis noted based on available data, that under
those terms, only five of the highest claims would have been
covered. Accordingly, to address that issue and ensure that
the insurance liability coverage could cover all but one of the
largest claims, this Committee raised the minimum insurance
levels to $1.5 million dollars. By the end of the legislative
process, the minimum level was raised to $2 million dollars, as
is reflected under current law.
At this time, staff notes that no information has been provided
to this Committee with regard to the insurance claims in the
five years since SB 1008 authorized engineer and land surveyor
LLPs. As introduced, this bill would have repealed the sunset
on both the LLP authorization and the requisite insurance levels
mandated as a condition of the LLP authorization. As approved
by the Senate Business, Professions & Economic Development
Committee, the bill instead would extend the sunset by five
years to January 1, 2021.
Staff notes that incomplete data is not a new problem. In 1998,
the Senate Judiciary Committee analysis for AB 469 stated:
The scanty available claims data provided by the sponsor does
not provide a clear picture of the types of judgments assessed
against architects for professional negligence.
(See AB 469 (Cardoza, Ch. 504, Stats. 1998), extending the
sunset for architecture LLPs.)
Again in 2001, that precise information is not available. (AB
1596 (Shelley, Ch. 595, Stats. 2001).) And in 2006, only
partial information was made available when the architecture LLP
authorization once again came up for review. (AB 2914 (Leno,
Ch. 426, Stats. 2006).) As noted then, at the very least, the
lack of complete data justifies the policy of extending the
sunset for the LLP law for moderate periods of time, to enable
periodic review, rather than its complete repeal. This bill
would appear to be consistent with that policy, by extending the
sunset by five years.
That being said, given the lack of information to help evaluate
the efficacy of the insurance minimums set in 2010 (despite the
availability of claims data for engineers and land surveyors in
SB 284 (Cannella)
Page 11 of ?
the past), it may be appropriate to reduce the proposed sunset
even further, to three years. This would provide the sponsors
time to acquire the necessary information to better inform a
longer sunset (or repeal of the sunset), without disrupting
existing LLPs in the interim. Furthermore, if the data were to
show that insurance amounts are currently insufficient to cover
the majority of claims, the shorter sunset will ensure that the
Legislature is able to appropriately respond to such an issue.
Suggested Amendment :
Replace the January 1, 2021 sunset in the bill with January 1,
2019 sunset
4. Potential future issue
The current insurance coverage required in all the LLP laws
provide that "the impairment or exhaustion of the aggregate
limit of liability by amounts paid under the policy in
connection with the settlement, discharge, or defense of claims
applicable to a designated period shall not require the
partnership to acquire additional insurance for that designated
period."
In short, the required insurance is a "wasting assets" policy
that could well be depleted by defense costs and multiple claims
in a coverage year so that the more difficult claims to resolve,
usually the larger claims, could result in no payment at all to
the tort victim because the required insurance assets for the
covered year has been exhausted.
Especially in light of the current lack of data, the issue of
the "wasting asset" insurance policy and whether there should be
an obligation on LLPs to replenish the policy during the course
of the year deserves re-visiting in the future as defense and
claims costs are likely to increase year after year.
Support : American Institute of Architects, California Council
(AIACC); California Land Surveyors Association (CLSA);
Structural Engineers Association of California
Opposition : None Known
HISTORY
SB 284 (Cannella)
Page 12 of ?
Source : American Council of Engineering Companies of California
Related Pending Legislation : SB 177 (Wieckowski, 2015) would
extend the sunset on the authorization for an LLC to be granted
an alarm company operator's license, conditioned upon meeting
certain insurance level requirements, to January 1, 2022. That
bill is also scheduled to be heard in this Committee on April
28, 2015.
Prior Legislation :
AB 1608 (Olsen, Ch. 669, Stats. 2014), among other things,
authorized the Bureau of Security and Investigative Services
within the Department of Consumer Affairs to issue a private
investigator's license to LLCs if, among other things, certain
insurance requirements are met. The bill included a January 1,
2020, sunset date.
SB 1077 (Price, Ch. 291, Stats. 2012), among other things,
authorized LLCs to be issued alarm company operator licenses if
certain liability insurance requirements are met. The bill
included a January 1, 2016, sunset date.
SB 560 (Gorell, Ch. 291, Stats. 2011) extended the sunset for
architecture LLPs to January 1, 2019, under the continuation of
the insurance levels required in AB 1596 (Shelley, Ch. 595,
Stats. 2001). The bill, as introduced, proposed to remove the
sunset entirely.
SB 1008 (Padilla, Ch. 634, Stats. 2010) authorized licensed
engineers and land surveyors to organize and operate as LLPs, as
specified, and requires engineers and land surveyors organizing
as LLPs to carry insurance liability coverage, as specified.
This authorization is set to sunset on January 1, 2016.
SB 392 (Florez, Ch. 698, Stats. 2009) authorized the State
Contractors' License Board to issue to an LLC a license to
provide contactor services, if the LLC met the liability
coverage requirements provided in the bill (and met other
licensing requirements).
SB 1337 (Correa, 2008) was similar to SB 392, but lacked the
insurance and/or escrow deposit requirements for the LLC and its
members. The bill died in this Committee.
SB 284 (Cannella)
Page 13 of ?
SB 1225 (Harmon, Ch. 114, Stats. 2008) permitted an LLC to
obtain a license as a cemetery authority provided it conformed
to the insurance requirements for professional LLPs and provided
no licensee practicing his or her profession becomes an
owner-member of the LLC.
SB 414 (Corbett, Ch. 80, Stats. 2007) increased the liability
coverage amounts for accountancy and law LLPs.
AB 2914 (Leno, Ch. 426, Stats. 2006) extended the sunset date of
architecture LLPs until January 1, 2012, and increased the
amount of insurance that such LLPs must hold.
AB 180 (Jerome Horton, 2005) was substantially similar to SB
1008 (Padilla, Ch. 634, Stats. 2010) in its provisions of the
organization of engineers and land surveyors as LLPs, and
contained a sunset date. That bill passed this Committee but
was ultimately gutted and amended to deal with a different
topic.
AB 1265 (Benoit, 2003) would have permitted professional
engineers and land surveyors to organize as an LLP and would
have required that, depending on the number of partners, the LLP
have between $500,000 and $5 million in insurance. This bill
was held in this Committee.
AB 1596 (Shelley, Ch. 595, Stats. 2001) extended the sunset date
of statutes permitting architects to organize as LLPs, to
January 1, 2007.
AB 469 (Cardoza, Ch. 504, Stats. 1998) authorized architects to
form a LLP provided the partnership had between $500,000 and $5
million in insurance depending on the number of partners in the
LLP. Only partnerships with a net worth of $10 million or more
were allowed to become LLPs. This bill included a January 1,
2002, sunset date.
AB 2401 (Miller, 1996) would have allowed contractors to operate
as LLCs. The bill died in this Committee.
SB 141 (Beverly, Ch. 57, Stats. of 1995) would have added
numerous categories of state regulated professional service
providers to the types of businesses that could operate as LLCs.
However, opponents of SB 141 and that bill's sponsor were
unable to agree as to whether or not professional or licensed
SB 284 (Cannella)
Page 14 of ?
LLC service providers should carry adequate insurance to ensure
their financial ability to respond to legal judgments for
contract or tort claims. Consequently, those additional classes
of businesses were amended out of SB 141 prior to its enactment.
SB 513 (Calderon, Ch. 679, Stats. 1995) authorized the
establishment of LLPs for licensed attorneys and licensed
accountants, as long as the LLP purchased a liability insurance
policy or maintained bank deposits of least $100,000 per limited
liability partner (or an aggregate of not less than $500,000 for
fewer than five partners and not more than $5 million for all
others). Only partnerships with a net worth of $10 million or
more were allowed to become LLPs.
SB 469 (Beverly and Killea, Ch. 1200, Stats. 1994) See
Background.
Prior Vote : Senate Business, Professions and Economic
Development Committee: (Ayes 9, Noes 0)
**************