In Justice Alito's Hobby Lobby decision, he ruled for the majority that "the term 'person' as used in RFRA" includes "the closely held corporations involved in these cases."
Over on Facebook, a friend and fellow corporate law professor posted this query:
... regarding the question of "what is a closely-held corporation," for purposes of the Hobby Lobby decision, do you think the Supreme Court majority relied on a 50-state survey or treatise identifying state corporate law statutory (and/or) case law definitions of closely-held corporations? If so, can you tell me where I'd find it. . . . as just comparing DE, MA and NY, there is great variety, not to mention the IRS definition or the securities law analog (of privately held vs. publicly traded for both 33 and 34 Act purposes). Thanks.
Unless I missed it, Alito's opinion nowhere defines "closely held corporation." So let's put on our thinking caps.
First, as I explain in Corporate Law, a number of states have adopted special statutes for close corporations, commonly modeled on the ABA’s former (now discontinued) Model Close Corporation Supplement. Promoters of a close corporation may opt into coverage by such statutes through an express designation of such status in the articles of incorporation. The regulatory regime for statutory close corporations is substantially more liberal in a variety of ways than is mainstream corporate law. Yet, courts frequently grant comparable benefits to nonstatutory close corporations. In Ramos v. Estrada, 10 Cal. Rptr. 2d 833 (Cal. App. 1992), for example, defendants noted that California’s close corporation statute authorizes vote pooling agreements but the general corporation statute was silent. Defendants inferred that vote pooling agreements were invalid in close corporations that had not opted into the special statute. The court rejected that argument, upholding vote pooling agreements as valid even in nonstatutory close corporations. See also Zion v. Kurtz, 428 N.Y.S.2d 199 (1980) (similar holding under Delaware law).
Indeed, in Nixon v. Blackwell, 626 A.2d 1366 (Del. 1993), the court expressly acknowledged that one could be a closely held corporation without being a statutory close corporation. Hence, my first proposition:
- A corporation can be a close corporation for purposes of RFRA without being a statutory close corporation.
It is possible that courts will look to the law of the state of incorporation. One hint in this regard is provided by Justice Alito's discussion of what courts should do if a corporation's shareholders disagree about the corporation's policies:
State corporate law provides a ready means for resolving any conflicts by, for example, dictating how a corporation can establish its governing structure. ... Courts will turn to that structure and the underlying state law in resolving disputes.
But notice that Alito is referring here to resolution of disputes, not to the fundamental question of whether the entity is closely held. That is a definitional question that arises under federal rather than state law: Is this a "person" for purposes of RFRA? In turn, that requires the court to engage in what amounts to creating interstitial federal common law.
Once the problem is seen as one to be solved by application of federal common law, a choice of law question arises. Federal common law often is influenced by, and not infrequently incorporates, state law. In Burks v. Lasker, for example, a shareholder of a federally regulated investment company brought suit under the federal securities laws against the company's board of directors. The Supreme Court held that state law controls the board of directors' ability to use a special litigation committee to terminate the litigation. In Kamen v. Kemper Financial Services, Inc., the Court extended Burks, describing the federal law governing derivative suits brought under the Investment Company Act as a species of federal common law, and incorporating state law governing excusal of the demand requirement in such suits. Until quite recently, for another example, the federal courts applied state statutes of limitation to private party lawsuits under Rule 10b-5. Although the Supreme Court adopted a unique federal limitations period in Lampf, Pleva, Lipkind, Prupis & Petigrow v. Gilbertson, the Court indicated that it would continue to borrow state statutes of limitations in appropriate cases. …
[In making these decisions,] courts have two options. First, they may create a unique rule of federal common law that applies uniformly throughout the nation. The courts could draw on state law by analogy in doing so, but the rule would remain wholly federal. Second, they may adopt state law as the federal rule. If this option is selected, the substantive content of the federal rule will vary depending on which state's law controls. …
Unfortunately, the standards governing that choice are not particularly well-developed. The basic test, however, is the impact incorporation of state law would have on the relevant federal statutory policies. In Lampf, for example, the Court created a unique federal statute of limitations for implied federal rights of action because borrowing a state limitations rule would frustrate the purpose of the underlying federal statute. In Burks, the Court used state law to fill the interstices of a federal statute affecting the powers of directors because doing so did not permit acts prohibited by the federal statute and was otherwise not inconsistent with the statutory policy. In Kamen v. Kemper Financial Services, Inc., the Court reaffirmed what it termed “the basic teaching of Burks v. Lasker: Where a gap in the federal securities laws must be bridged by a rule that bears on the allocation of governing powers within the corporation, federal courts should incorporate state law into federal common law unless the particular state law in question is inconsistent with the policies underlying the federal statute.” The bottom line then is whether there are important federal interests that would be adversely affected by adopting state law fiduciary duty principles as the federal rule of decision.
Hence, proposition 2:
2. Unless the court decides that there is an essential federal interest in having an uniform national definition, courts will turn to the law of the state of incorporation.
My guess is that courts will find an uniform federal common law rule to be appropriate here, given the important federal interests at stake in the ACA and RFRA statutes.
Finally, given my inherent skepticism about the Supreme Court's institutional competence in the areas of corporate and securities law, if the issue gets back to the SCOTUS, I suspect what will really happen is some version of Potter Stewart's take on obscenity: They'll know it when they see it.