LLCs can cause problems for any lawyer attempting to determine if there is diversity jurisdiction. The LLC is a citizen of each state in which one of its members is a citizen. If one LLC owns another LLC, citizenship must be verified through both layers of the LLC.
If there is no diversity, there is no subject matter jurisdiction, and the proceedings in federal court are essentially null and void.
In the Bluestern case, the problem did not become apparent until the case had been pending in federal court for some time, almost two years. Bluestern, the defendant, was sued in Georgia State Court in December 2011. Bluestern, believing that there was diversity jurisdiction, promptly removed the case to federal court. Later, discovery requests were served, but the parties did not notice the problem. Only in late 2012, did the parties and the court fully comprehend the problem. The case was remanded back to state court.
The Court explained the problem in this way:
This case demonstrates the difficulty of applying established diversity jurisdiction principles to 21st-century business organizations. When determining citizenship of the parties for diversity jurisdiction purposes, a limited liability company (LLC) is a citizen of every state that any member is a citizen of. And it is common for an LLC to be a member of another LLC. Consequently, citizenship of LLCs often ends up looking like a factor tree that exponentially expands every time a member turns out to be another LLC, thereby restarting the process of identifying the members of that LLC. The simplest misstep has the potential to derail years of litigation and result in a massive financial sanction, as happened here. It is in everyone’s best interest, both the litigants’ and the courts’, to verify that diversity jurisdictionexists before proceeding with the case. Everyone involved in this case trusted that diversity jurisdiction existed, but no one verified it. The law firms involved trusted their clients. The clients trusted their lawyers. The law firms trusted each other, and the district court trusted them. But there was no verification.
Pursuant to its inherent authority, the district court sanctioned one of the parties in the amount of $550,000 in legal fees. The Eleventh Circuit reversed on the ground that the sanction an abuse of discretion because the party that made the jurisdictional mistake did not abuse the legal process. The court explained that the sanction was a misapplication of the doctrine of the inherent power of the court. Again, a thoughtful explanation from the court:
If a district court is unsure whether to sanction a party under its inherent powers, it should look to the guidance of the Supreme Court in Chambers. The purpose of the inherent power is both to vindicate judicial authority without resorting to contempt of court sanctions and to make the non-violating party whole. See Chambers, 501 U.S. at 45-46, 111 S. Ct. at 2133. The inherent power must be exercised with restraint and discretion. This power is not a remedy for protracted litigation; it is for rectifying disobedience, regardless of whether such disobedience interfered with the conduct of the trial. See id. at 44, 111 S. Ct. at 2132. Courts considering whether to impose sanctions under their inherent power should look for disobedience and be guided by the purpose of vindicating judicial authority. None of these concerns are present here.
In the end, the court concluded that no party engaged in any bad faith conduct. Instead, the court noted that the case was a colossal waste of time and money. The Eleventh Circuit chose to be merciful to the lawyers involved in the case, reasoning that the wasted legal fees and embarrassment were enough punishment.
Source: PURCHASING POWER, LLC v. BLUESTEM BRANDS, INC., Court of Appeals, 11th Circuit 2017 – Google Scholar