RAQs: Recently Asked Questions

Topic: Can a public library set up a separate LLC? - 10/21/2020
A public library is looking at the possibility of taking over the running of a medical loan closet...
Posted: Wednesday, October 21, 2020 Permalink

MEMBER QUESTION

A public library is looking at the possibility of taking over the running of a medical loan closet that has been previously run by a church.

The library would find a space through a partner, so it would not be on library property.

The library would be responsible for cataloging the items, tracking their circulation, and applying for grants to help with funding.

The local visiting nurses have volunteered to handle the distribution of equipment, and are willing to continue if the library takes it over from the church.

The library's director and trustees are concerned about insuring the library to protect it in the event that someone gets hurt using a piece of equipment and there is the possibility of a lawsuit. They talked to their insurance agent and the company they use would not cover this.

A discussion came up about starting a separate LLC for the medical loan closet that the library would be openly affiliated with.

Would it be possible for a public library to set up a separate LLC to do this?

WNYLRC ATTORNEY'S RESPONSE

Before I answer, let's talk about why a person or business might create an LLC ("limited liability company").

A primary function of an “LLC”[1] is to do exactly what the member has proposed—to create a separate entity designed to hold the liability associated with a particular venture.

Examples of how an LLC can be used to take on liability (and keep it from flowing to its owner/s) include: ownership of rental properties, operation of restaurants, and yes, collaborative formation of charitable initiatives, like a medical closet operated in affiliation with a library.[2]

This is because, when set up properly, an LLC allows its "members"[3] to have an ownership stake in the company, while minimizing the risk of liability associated with the LLC adhering to other parties (like the members).

For this reason, a lot of property owners and participants in risky ventures[4] use an LLC to contain the liability that could result from the risks of the venture.  This helps with insurance, critical decision-making, and keeping unrelated assets separate from the liabilities of a venture.

Aside from this primary “separation of risk” function, the LLC model also allows creative arrangements for financial operations and tax considerations.  Among many other things that relate to ownership of family businesses, and complex corporate structures, this includes allowing one or multiple 501(c)(3)[5] not-for-profit charitable entities to form an LLC that will have a similar tax status. 

So the "short answer"[6] to the member's question is: YES.

That said, I do have a "long answer" composed of several considerations and caveats, which I hope will be helpful.

Consideration 1: Audit.

While the laws governing public libraries[7] do not forbid--and arguably expressly allow--an education corporation like a public library to own, or partially own, the asset of an LLC[8], a review of various New York State Comptroller audits[9] shows that any assets flowing between the two entities will be considered subject to all the requirements that must be followed by the library.

In other words, if the State Comptroller conducts a fiscal audit of the library (as State Comptrollers are randomly wont to do), the Comptroller will not only look at the books of the library, but also the books of the LLC—subjecting them to the same scrutiny as the library. 

So, to the extent money and resources flow from the library to the LLC, the same constraints on procurement, investment, and other use of assets will be imposed on the LLC.  This could bar or limit the activities of the LLC, so should be a primary consideration when it is formed.

Consideration 2: Operations

By "operations," I mean: who is helping the LLC get the work done?

In the scenario submitted by the member, it is the library who will "be responsible for cataloging the items, tracking their circulation, and applying for grants to help with funding."  Meanwhile "local visiting nurses have volunteered to handle the distribution of equipment."  And finally, as described by the member, the storage/pick-up (the "Closet") will be off-site (not on library property).

This means that the LLC would rent/borrow the space for the Closet, volunteer nurses would work there helping to distribute equipment, and the library would use its personnel to track the lending and equipment.

And although the member doesn't specify, let's say the library doesn't use its own circulation system for this, but instead, buys or builds a custom system—maybe even something as simple as an Excel spreadsheet.[10]

So the library would supply the "time and talent" of its people on an ongoing basis to the LLC, perhaps tracking it as an in-kind support to the charitable venture,[11] and also separately purchase assets that would be solely owned and used by the LLC.

This "time and talent," is where "risk and liability" for the library—even with an LLC housing the operations—truly enter the picture.  Even with a separate entity designed to take the hit, when an entity supplies its own people to staff a venture, there is always some risk that the direct involvement of a third party can lead to an assertion of liability (when people sue, they often look for not only deep, but multiple pockets).

How do you solve that?  It takes two things:

Consideration 3: The Operating Agreement

By law, every LLC must have an "Operating Agreement" that specifies how the "members" run the company.  For small, simple LLC's, an "OA" can be a fairly short document.  For complex ventures with detailed financial goals and complex management structures, an OA can be hundreds of pages.

In the case of a "Medical Loan Closet" LLC meeting the criteria in the member's scenario, the operating agreement would have to address, head-on:

  • The precise responsibilities of each member[12]; and
  • The in-kind services being supplied by each member; and
  • The precise terms under which individuals would contribute their services, including volunteers; and
  • The precise way assets of the LLC are purchased, loaned, and de-accessioned (this is the part the Comptroller would look at); and
  • How the premises of the Closet is managed and insured; and
  • Most critically, the way the LLC would hold harmless and indemnify the participating parties for any assertion of liability against them based on LLC operations.

Which brings us back to...

Consideration 4:  Insurance

At the end of the day, this question is about two things: 1) how to do a good thing for a community; and 2) how to make sure the organizations doing that "good thing" properly manage the risks of doing it.

While much of this can be addressed via good planning, rigorous equipment maintenance,[13] and proper paperwork, as can be seen in "Consideration 3,” and as the member clearly knows, a venture that will be so closely connected to people's physical health must have some form of insurance. The coverage should extend to every person with either a fiduciary, employment, agency, or volunteer relationship with the Closet.

While precise coverage amounts should be determined by the participating parties, my instinct is that there should be at least $1 million of coverage per incident, with no less than $3 million/year aggregate.[14]  But it will depend on many factors.

So, what to do?

Many times, there is a very solid reason to start an LLC.  If the Closet described by the member was going to own real property, have its own employees, apply for grants, and in general, take care of most of its operations in-house, with the support—but not the direct service—of the members, I'd say that was the right solution for this scenario.

However, if the Closet is to be a collaborative effort that will rely on the direct services and assets of the member organization/s (in this case, services by library employees, on library time), in my experience[15], a tightly structured plan that properly establishes the responsibilities of the collaborating parties—and ensures there is proper insurance coverage for all involved—might be the most practical way to move forward. 

This will also position the library to do the right type and amount of "volunteer vetting" and to properly confirm the conditions of (and insurance coverage for) the volunteers.

So, on a practical level, what am I saying?  A library can spend thousands to set up a charitable LLC to run a Medical Loan Closet[16], and then about a thousand or so a year to ensure the proper administration of that LLC--or it can develop the Closet as a program of the library (either stand-alone, or in collaboration with others) and spend the money on additional risk management and insurance. 

After all, we're not talking small engine repair, here.  Lending things—even if it is health-related equipment—is part of any library's core mission.

At the end of the day, many factors will play into the decision to use 1) an LLC, 2) a collaboration agreement[17], or 3) to simply operate the Closet as a new program of the library (with some volunteer agreements for the nurses). 

To get to the part where the library can make the decision, I advise developing an "Operational Plan"[18] for the program, and getting quotes from several insurance carriers as to what the coverage would costs for your library and/or for a new entity to conduct the activities in the Operational Plan.

Since there will be a lot of detail to review, a small ad hoc committee[19] consisting of a board member or two, the library director, any other person whose input will be helpful, and the library's attorney, can then review this information, and come up with a solution to pitch to the board. 

And when that pitch is made, everyone should be confident that there is no "wrong" way to develop a new, life-saving lending initiative—so long as the way selected clearly defines everyone's responsibilities, establishes that clarity in writing, assures legal and fiscal compliance, and ensures everyone helping out is covered by insurance.  With the right attention to detail, this could be an LLC—or another solution.

I wish this venture luck and stout hearts for getting it over the finish line; it sounds like a great asset to any community!



[1] When I write about LLC's, I really struggle with putting "an" before an acronym that begins with a consonant ("LLC").  But the rules on "indefinite articles" assure me it is proper.

[2] There are some questions about the operation of a collaborative 501(c)(3) LLC in New York, but they happen, and haven't been shot down yet.

[3] "Members" is what the New York State Limited Liability Company Law calls owners.

[4] I don’t mean “risky” as in “Don’t drive that Pinto!” In in this context, “risky” applies to any venture that has a risk of exposure to legal claims due to having premises, employees, contractual obligations, or providing goods/services.  In that context, even my own law office (which is a type of LLC) is “risky.”

[5] "501(c)(3)" is a designation from the IRS that allows a library or other charitable organization to accept donations while the donor takes a deduction.

[6] Trust me, this WAS that short answer!  Another business lawyer who reads this will find it pretty skimpy.

[7] The Education Law, the Not-for-Profit Corporation law, the General Municipal Law, the Public Officer's Law.

[8] This is NOT to say that the local library could engage in a hostile takeover of the LLC-operated laundromat next door to ensure the very loud HVAC system is turned off during children's story hour.  A not-for-profit, and a public library, both have extensive rules regarding what assets and investments they can own, and how they can benefit from them.  But it could be done (in my hypothetical, it could be done if either: a portion of the laundromat income was a directed donation used to purchase special collections OR if use of the machines to clean clothes while reading or using library Wi-Fi was a free service to the community tied into the library's Plan of Service.  Which, by the way, would be AWESOME).

[9] When I want to relax, I just pop on over to the Comptroller's "library audits" page at https://www.osc.state.ny.us/local-government/audits/library, and have a jolly good read.

[10] My apologies if my assumption that such a project could be tracked via Excel is laughable.  While I can script out workflow and compliance protocols like a pro, my database programming skills stop with a 4-column chart in "Microsoft Word."

[11] Remember, the assets of both a not-for-profit and a public library come with heavy restrictions.  This includes the "asset" of the workforce.  In this scenario, we're assuming all the right paperwork for "lending" employees to a venture is properly in place...not something to assume lightly in the Real World.

[12] Operating a charitable LLC is fairly simple after the start-up phase, but there are routine tasks that must be kept up with: book-keeping, audit, routine IRS and Charities Bureau filings, compliant procurement, de-accession.  Consider who will be responsible for all these things.

[13] This consideration—about properly maintaining loaned health-related equipment—is addressed in the RAQ response to a question we got back in April 2020 about lending a Telehealth kit, which is found here: https://www.wnylrc.org/ask-the-lawyer/raqs/132.

[14] A great short cut on this would be to find some other medical loan closet programs in New York and ask who their carrier is.  Establish your credentials and tell them why you need the information first, though...places get VERY nervous when you ask who their insurance carrier is!

[15] At this point, I have worked on joint ventures for educational purposes, arts purposes, community gardens, the development of apps for civic transparency, community murals, and just about every feel-good thing you can think of.  I will never be rich, but I love my job.

[16] A word of caution: the phrase "Medical Loan Closet" is part of a name protected by a trademark, the "Wichita Medical Loan Closet" which can be seen here: http://tmsearch.uspto.gov/bin/showfield?f=doc&state=4806:g09zye.2.1. When developing a "closet" program here in New York, take care to distinguish your brand so there is no risk of getting a cease-and-desist.

[17] Remember, a “collaboration agreement” is different than an LLC’s “operating agreement.”  A “collaboration agreement” unites the efforts of two or more entities creating the venture, and manages risk WITHOUT creating an LLC. 

[18] The "operational plan" will evolve once you make the decision about the entity type, but to start it is just a description that sets out how the Closet will run.  If the idea is largely to use the same model used by the current operator, that is a fairly simple task, but make sure to include every role and responsibility, simply noting "TBD" is you don't yet have an answer.  An inventory of equipment will be an essential component of this exercise.

[19] Since I have hit you with a lot of detail that could be daunting, I will add this gratuitous advice: if possible, have a meal or fun snack at your planning meetings (even if they have to be via Zoom right now).  I have been working on a charitable planning committee, and by turning it into a convivial experience, we are getting through some fairly obscure stuff while staying in touch with basic human joy.

Tags: COVID-19, Policy, Public Libraries, Liability, LLCs, Loaning programs

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