The National Rifle Association, sued last summer by the Attorney General of New York seeking to dissolve the organization and recover large sums from top officials for breach of fiduciary duty, has failed in an effort to use bankruptcy as a vehicle to move the corporation to Texas.   A Bankruptcy Court in the Northern District of Texas has ruled that the case was not filed in good faith.

The Court agreed with the Attorney General of New York that the NRA was attempting to use the bankruptcy proceeding to address a regulatory enforcement problem, not a financial one.  Because it was not filed “for a purpose intended or sanctioned by the Bankruptcy Code,” the Court said, it was not filed in good faith and was dismissed.

The NRA was formed by a special act of the New York Legislature in 1871.  It is classified as a charity under state law, although it is registered as a 501(c)(4) social welfare organization with the Internal Revenue Service, not as a 501(c)(3) charity.  It has about five million members, almost 500 employees, and annual revenue of about $300 million.  It also operates a 501(c)(3) charitable foundation formed in the District of Columbia.

The New York Attorney General sued in state court, naming four top officers, including Wayne LaPierre, who is the executive vice president and effectively the CEO, the general counsel, the former CFO, and former chief of staff, as individual defendants.  It accused LaPierre of exploiting the NRA for his own financial benefit and the benefit of close friends, intimidating and punishing anyone at senior level who raised concerns about his conduct, hiring individuals and contractors who could help him control the organization, and entering into post-employment agreements with excessive payments in return for little in service and nondisclosure agreements.

While the investigation by the AG was underway, the NRA undertook a “course correction” to improve its operations.  A few weeks after the AG filed her complaint, the President of the NRA appointed a Special Litigation Committee to oversee the AG action and other pending lawsuits.  In November, 2020, the NRA filed a Form 990 tax information return disclosing several excess benefit transactions involving individuals at the NRA, including LaPierre.

In January 2021, the NRA Board gave LaPierre power to “exercise corporate authority in furtherance of the mission and interests of the NRA,” including reorganizing or restructuring “for the purposes of cost-minimization, regulatory compliance or otherwise.”  There was no mention at the Board meeting or executive session of bankruptcy.  A week later, the NRA and a newly formed limited liability company formed as a transition vehicle to facilitate the NRA’s relocation to Texas, filed for bankruptcy.  LaPierre made the decision personally, after consulting the three-person Special Litigation Committee, but without consulting the Board generally, the NRA treasurer, CFO or general counsel.

In the bankruptcy hearing, the NRA admitted it was in its strongest financial condition in years and had the capacity to pay all of its creditors fully.  After offering several various reasons for the filing, LaPierre admitted that it was filed because the AG was seeking dissolution of the NRA and seizure of its assets, “and we believe it’s not a fair, level playing field.”

The Court found that “the evidence does not support a finding that the purpose of the NRA’s bankruptcy filing was to reduce operating costs, to address burdensome executory contracts and unexpired leases, to modernize the NRA’s charter and organization structure, or to obtain a breathing spell.”  “The primary purpose of the bankruptcy filing was to avoid potential dissolution” in the AG action, the Court held.

The Court went on to decide that such a reason was not “a valid purpose for bankruptcy” and the case should be dismissed.

The NRA argued that the case was about preserving the NRA as a going concern, which, the Court said, “is a very common good faith reason for filing bankruptcy.”  But there is a difference, it said, “between a lawsuit in which a party seeks a monetary judgment that would pose an existential threat to a debtor and one where the attorney general of a state is specifically seeking dissolution of a debtor under the state’s laws and therefore required to satisfy standards and requirements that specifically justify dissolution.”

The Court said that the New York Not-For-Profit Corporation Law required the AG to meet a “high burden” of proving that the NRA’s misconduct had been material and serious and injured the general public or that insiders have “looted or wasted the corporate assets, have perpetuated the corporation solely for their personal benefit, or have otherwise acted in an illegal, oppressive or fraudulent manner.”

“A dissolution that requires this showing is not the type of dissolution that the Bankruptcy Code is meant to protect against,” the Court wrote.  “The Court is not in any way saying it believes the NYAG can or cannot make the required showing to obtain dissolution of the NRA, but the Court is saying that the Bankruptcy Code does not provide sanctuary from this kind of threat.”

The Court said that the case was like those in which courts have found bankruptcy was filed “to gain an unfair advantage in litigation or to avoid a regulatory scheme.”  It said that the case was intended “to deprive the NYAG of the remedy of dissolution, which is a distinct litigation advantage.”  It said the purpose was clearly to “take dissolution off the table,” quoting the NRA counsel in the proceeding.

The Court also said that a bankruptcy proceeding would be “problematic” because it deprives the state of New York of the ability to regulate not-for-profit corporations in accordance with its laws and that reincorporating in Texas could be accomplished “outside of bankruptcy pursuant to applicable regulations” for New York nonprofits.

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The Court also dismissed requests for appointment of a trustee or examiner to administer the NRA during a bankruptcy proceeding, based, in large part, on what it described as continuing problems at the NRA.

It dismissed the case without prejudice, but noted that “should the NRA file a new bankruptcy case, this Court would immediately take up some of its concerns about disclosure, transparency, secrecy, conflicts of interest of officers and litigation counsel, and the unusual involvement of litigation counsel in the affairs of the NRA, which could cause the appointment of a trustee out of a concern that the NRA could not fulfill the fiduciary duty required by the Bankruptcy Code for a debtor in possession.”  (In re: National Rifle Association of America, Bankruptcy Ct., N.D. TX, No. 21-30085, 5/11/21.)

YOU NEED TO KNOW

This decision, if it stands, appears to open the way for the Attorney General of New York to proceed with its attempts to recover significant monetary damages from the four defendants, to prohibit two of them, including LaPierre, from ever serving on a charity board in New York again, and potentially dissolving the organization.  Many of the breach of fiduciary duty charges have been essentially admitted on the Form 990 filing and in published materials.  Whether governance has been so lax that the organization should be dissolved, rather than just getting a new slate of directors, and what would happen to its assets if it is dissolved, remains to be seen.