Duty of Loyalty: Avoiding Conflicts of Interest
What Is the Duty of Loyalty?
The duty of loyalty requires fiduciaries to act in the best interests of those they serve and to avoid conflicts of interest. Unlike the duty of care (which concerns competence), the duty of loyalty addresses faithfulness and undivided allegiance.
Courts treat duty of loyalty violations more seriously than duty of care breaches, and protections like the business judgment rule generally do not apply.
What the Duty of Loyalty Prohibits
- Self-dealing — Entering into transactions where the fiduciary has a personal financial interest on both sides
- Usurping corporate opportunities — Taking business opportunities that rightfully belong to the entity you serve
- Competing with the principal — Operating a competing business while serving as a director, officer, or partner
- Misusing confidential information — Using proprietary knowledge gained through the fiduciary role for personal benefit
- Favoritism — Treating certain stakeholders preferentially at the expense of others
Duty of Loyalty in Contracts
Contracts address the duty of loyalty in several ways:
- LLC and partnership agreements — Delaware law allows LLC agreements to modify the duty of loyalty, but it cannot be entirely eliminated (only reduced to good faith and fair dealing)
- Employment agreements — May include loyalty obligations like non-compete, non-solicitation, and confidentiality provisions
- Board service agreements — May require disclosure of potential conflicts and recusal from conflicted decisions
Consequences of Breach
- Disgorgement of any profits earned through disloyal conduct
- Compensatory damages for losses caused to the principal
- Possible removal from the fiduciary position
- In extreme cases, punitive damages
- Transactions tainted by disloyalty may be voided entirely
When to Consult a Lawyer
If your agreement modifies or defines loyalty obligations, or if you suspect a breach of the duty of loyalty, consider consulting an attorney promptly. These claims often have time-sensitive elements.
This article is for informational purposes only and does not constitute legal advice. Consult a licensed attorney for guidance specific to your situation.