Directorships: 2016 Amendments to the Maryland General Corporations Act and the Maryland REIT Act | Miles and Stockbridge PC

On April 26, 2016, Governor Hogan signed House Bill 354 (Chapter 171), which amends the Maryland General Corporations Act (the “MGCL”) to clarify that a director of a Maryland corporation does not only an obligation to comply with the statutory standard of conduct – not unspecified common law duties – when acting as a director. The bill also makes corresponding changes with respect to the duties owed by trustees of Maryland real estate investment trusts (incorporated under the Maryland REIT Act). These important amendments will come into effect on October 1, 2016 and will provide much-needed clarity on the legal obligations directors and trustees owe to their entities and constituents.

Since 1976, when the General Assembly enacted Section 2-405.1(a) of the MGCL, a director of a Maryland corporation is required to act: (1) in good faith; (2) in a way [the director] reasonably believes to be in the best interest of the company; and (3) with the care that an ordinarily prudent person in a similar position would use in similar circumstances. In adopting the standard of conduct set forth by the American Bar Association in the Model Business Corporation Act, the General Assembly elected codified directorships and common law fiduciary duties that historically governed the conduct of directors. In its revised version, section 2-405.1(c) (formerly subsection (a)) is relatively unchanged, but its scope has been clarified. More significantly, new paragraph (i) provides that Section 2-405.1 is the sole source of a director’s duties to the corporation or the corporation’s shareholders. This clarification removes the ambiguity created by Shenker v Laureate Education, Inc.411 Md. 317, 983 A.2d 408 (2009) and its progeny.

In shenker, the Maryland Court of Appeal held that, among other things, Maryland law recognizes certain undefined common law duties that govern a director’s actions in addition to the standard of conduct set out in section 2- 405.1. The court held that the statute applied to “managerial” decisions, but that there were other unspecified common law obligations that would apply to non-managerial decisions. Although the legal duties set out by the court in shenkerduties of candor and maximization of value, were widely regarded as part of the legal standard of conduct, questions have arisen as to what other common law obligations could exist under the court’s wording. The amendments to the Act eliminate the distinction and clarify that new paragraph (c) is the sole source of a director’s duties.

To preserve the ultimate hold in shenker, that a shareholder would have a direct remedy for a director’s breach of duty in certain circumstances, the newly enacted law eliminates the former paragraph (g) of article 2-405.1, which was the product of a 1999 amendment to the law. Former paragraph (g) limited the application of the standard of conduct to persons acting by or on behalf of the corporation. As revised, a shareholder’s right to sue directly or indirectly for a breach of the standard of conduct will be developed from court case law (as was the case from 1976 until the addition of the former paragraph (g) in 1999). Accordingly, a direct action against a director would retain the benefit of the statutory business judgment rule set out in new subsection (g) (formerly section 2-405.1(f)).

It should also be noted that the new paragraph (a) clarifies that an “act” includes not only an overt act, but also an omission, failure to act or decision taken not to act. The acts are also distinguished from the “duties” due to the administrators. In addition, the bill makes contemporaneous grammatical and technical changes to the law to clarify its content and application, as well as changes consistent with Section 5-417 of the Courts and Court Proceedings Section and Section 8-601.1 of the Maryland REIT Act.

Finally, for those interested in learning more about House Bill 354, the written testimony submitted by the Business Law Section of the Maryland State Bar Association (the only written testimony submitted regarding the Bill) can be found here and my oral testimony in support of Bill as well as that of Del. Benjamin Kramer can be found on the General Assembly website (my oral testimony on the identical bill, Senate Bill 148, as well as that of the Senate sponsor, Senator Brian J. Feldman, can be found here).

The opinions and conclusions in this article are solely those of the author, unless otherwise stated. The information in this blog is general in nature and is not offered and cannot be considered as legal advice for any particular situation. The author has provided the links referenced above for informational purposes only and, in doing so, does not adopt or incorporate the content. Any federal tax advice provided in this communication is not intended or written by the author to be used, and may not be used by the recipient, for the purpose of avoiding penalties which may be imposed on the recipient by the IRS. Please contact the author if you would like to receive written advice in a format that complies with IRS rules and that you can rely on to avoid penalties.

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Luisa D. Fuller