Business Entities

Forms of business associations

1. sole proprietorship

2. general partnership

3. joint venture

4. limited partnership

5. limited liability company

6. limited liability partnership

7. corporation

Sole Proprietorship: Ownership

single person (sole proprietor)

Sole Proprietorship: Creation/Maintenance

easiest to create: just start doing it!

no permits, permissions, government filings, etc.

Sole Proprietorship: Taxes

Pass through tax: money passes through business —> sole proprietor who pays personal tax rate (generally lower than business)

Sole Proprietorship: Liability

100% personal liability to 3rd parties —> includes personal property (business property taken first, but if not enough can come after personal)

Sole Proprietorship: Control + Management

sole proprietor

Sole Proprietorship: Attraction to Potential Investors

Not

Sole Proprietorship: Termination

when sole proprietor wants, until sole proprietor sells, or when sole proprietor dies

Sole Proprietorship: Advantages

• personal tax rate

• complete control + management

• easy creation + termination

Sole Proprietorship: Disadvantages

• liability ***

• maybe tax

• lack of potential investors

General Partnership

association of 2+ persons to carry on as co-owners of a business for profit (*whether or not individuals mean to create the partnership)

Governance of General Partnership

Uniform Partnership Act (UPA), 1914 or Revised Uniform Partnership Act (RUPA), 1997 depending on state —> default rules followed in absence of partnership agreement

partnership agreement primarily dictates the rules that apply to that partnership + may override UPA + RUPA as long as modifications are reasonable

UPA vs RUPA: how partnership is viewed

UPA: partnership viewed as aggregate of all partners as one

RUPA: partnership viewed as entity distinct + separate from partners

UPA vs RUPA: termination of partnership

UPA: departure of a partner —> automatic dissolution

RUPA: partner can depart without ending the business: if partner leaves partner has disassociated from the partnership

UPA vs RUPA: property ownership

UPA: individual partners technically have co-ownership of property

RUPA: property owned by entity not partners

UPA vs RUPA: fiduciary duties

UPA: fiduciary duties rely on general standards (common law)

RUPA: fiduciary duties strictly expressed: listed + detailed (duty of loyalty, duty of care, etc)

UPA vs RUPA: liability

UPA: joint liability for contracts (makes it difficult to sue because must serve all partners) and joint and several liability for torts

RUPA: joint and several liability for contracts + torts

BOTH: must sue partnership before individual’s property

Factors considered in determining a legal partnership

• right of each party to manage + control business

• consent (to act on behalf of the business)

• sharing of profits

  • under RUPA rebuttal presumption: if share profits must prove why NOT a partnership because automatically considered one

• agreement to share in losses of business

General Partnership: Ownership

each partner - as agreed upon in partnership agreement

General Partnership: Creation + Maintenance

easy —> can do without even knowing

few formal regulations, just fiduciary duties, taxes and potential permits depending on type of business

General Partnership: Tax

pass through tax, based on percentage of ownership

General Partnership: Liability

total

General Partnership: Control + Management

each partner (unless agreement says otherwise)

General Partnership: Attraction to Potential Investors

not

General Partnership: Termination

UPA: when partner leaves

RUPA: vote of partners

General Partnership: Advantages

spread responsibilities

taxes favorable

easy to create

more capital available because multiple people involved

laws

General Partnership: Disadvantages

joint liability

personality clashes

difficult to get out + get money back

Formation of partnership agreement must have:

• name + location of business

• duration of partnership (at will/term)

• purpose of business

• partner’s rights to share profits/losses

• how partnership will be managed

• voting powers

• what factors may lead to dissolution

• how assets distributed upon dissolution/disassociation

• restrictions as to transfers of partnership interest

• how agreement can be changed

What transfers when sell partnership interest

only financial interests transfer NOT voting/management powers (unless other partners vote you in)

General Partnership: Partner Duties

fiduciary duties

Limited Partnership

requires general partner who manages business + limited partner who invests in business

Differences between limited partnership and general partnership

statute provides for formation of general partnership

limited partner has no personal liability

Limited Partnership: Ownership

limited partner + general partner

Limited Partnership: Creation + Maintenance

limited partner + general partner

Limited Partnership: Taxation

pass through tax

Limited Partnership: Liability

general partner: 100%

limited partner: 0% (only up to contribution to business)

Limited Partnership: Control + Management

general partner

Limited Partnership: Attraction to Potential Investors

not

Limited Partnership: Termination

by agreement of partners, by agreement or if lose one type of partner

Limited Partnership: Advantages

limited partner is less liable

general partner has full control

division of $ + power

Limited Partnership: Disadvantages

more paperwork to set up

must comply with state statutes including filing annual reports to the state

limited partner at the mercy of the general partner

Limited Liability Partnership

general partnership that limits liability of partners for some or all partners’ obligations by making statutorily required filings (created for professionals)

History of Limited Liability Partnership

1997 - no uniform LLP statute

RUPA amended to allow general partnerships —> LLP

Limited Liability Partnership: Ownership

all partners

Limited Liability Partnership: Creation/Maintenance

must file statement of qualification (all partners of same profession)

must file annual reports

Limited Liability Partnership: Tax

pass through to each partner based on percent ownership

Limited Liability Partnership: Liability

Partners NOT vicariously liable

Limited Liability Partnership: Control + Management

partners, according to partnership agreement

Limited Liability Partnership: Attraction to Potential Investors

not

Limited Liability Partnership: Termination

when partners decide

Limited Liability Partnership: Advantages

protection from vicarious liability + all advantages of general partnership

Limited Liability Partnership: Disadvantages

not recognized in every state

Limited Liability Company

Limited liability protection (like a corporation) + flexible management and tax treatment (like general partnership)

History of Limited Liability Company

not very popular until early 2000s when IRS held that company could decide how they wished to be taxed (double taxation like corporation or pass through like general partnership) because before standards were unclear

Limited Liability Company: Ownership

1+ member

own together equally unless agreement says otherwise

Limited Liability Company: Creation/Maintenance

small filing fee

file charter document with state to initiate entity

charter document can be called “articles of organization” or “certificate of formation” depending on state, some states require operating agreement

business name must include “LLC”

must comply with state statutes

Limited Liability Company: Tax

members decide if want double taxation (like a corporation) or pass through tax (like a general partnership) each year

Limited Liability Company: Liability

no personal liability

Limited Liability Company: Control and Management

either member controlled or manager controlled —> in operation agreement

manager controlled typical for properties

Limited Liability Company: Attraction to Potential Investors

not really

can sell SHARES which are not the same as STOCKS —> share functions like partnership stake: only financial interest transfers unless other members vote you in

Limited Liability Company: Termination

governed by operating agreement

Limited Liability Company: Advantages

limited liability

no limit/min for number of members (can be an individual)

flexible tax

few formalities

easy to convert to corporation w/ minimal tax consequences

governed by statutes

Limited Liability Company: Disadvantages

lack of uniformity across states

not recognized internationally

limited transfer of ownership

Limited Liability Company: Operating Agreement

• the basic contract among members

• subordinate to fed and state law

• determines profit and loss sharing

• specifies type of management

• determines voting rights

Rights of Members in Limited Liability Company

• right to financial interest

• management interest.

• right to withdraw and demand payment interest

• assignment right —> can transfer financial interest to someone else

Nature of Corporations

separate legal entity from owners

“legal person” —> free speech

“legal fiction” —> statutory (created exclusively under state law)

Uniform Corporate Laws

Revised Modern Business Corporation Act (1984): framework/model law for states to create their corporate statutes

Classifications of Corporations: Public

set up for public/governmental purpose and created by special legislation, aka municipal corporation

ex. municipalities, school board

Classifications of Corporations: Private

corporations formed by private individuals for private purposes

Classifications of Corporations: Profit

goal to make money for shareholders

Classifications of Corporations: Nonprofit

goal to make money for charity

Classifications of Corporations: Domestic

corporation that was incorporated within state

Classifications of Corporations: Foreign

corporation that was incorporated in another state but does business in that state —> requires a certificate of authority

Classifications of Corporations: Alien

An international corporation

Classifications of Corporations: Publicly Held

shares owned/traded on the stock market by many people

must be registered under Securities Exchange Act (1934)

Classifications of Corporations: Closely Held

95% of corporations: stocks held by few shareholders who all generally work there/manage the corporation

Corporate Formation: Promoters

promote the business idea + get people to sign up to invest/buy shares by signing subscription agreement

Corporate Formation: Selecting a State for Incorporation

Delaware very popular because only state with court of equity —> plethora of corporate law, management friendly (when dealing with internal conflict), fast hearings, equitable remedies stronger than legal

Corporation does not have to do business in Delaware to incorporate there but downside is incorporation establishes jurisdiction in Delaware

Corporate Formation: Choosing a Name

• Must get preclearance with the Secretary of State

• Getting corporate name does not protect trademark rights

• Name must include “Corp./Inc./Corporation”

  • Tradename: ex. Chrysler under GM Inc.

Charter/Articles of Incorporation includes:

• name of corporation

• name and address of registered agent

• purpose of corporation

• information regarding stock

• dividend rights

• liquidation rights

• provisions providing indemnification for directors, officers and employees

• cumulative voting

• Provisions denying or allowing preemptive rights

Articles of Incorporation: Registered Agent

person who receives all legal notices for corporation

must be updated if changes or risk default judgement

Articles of Incorporation: Information Regarding Stock

par value: what say stock value is

number of authorized shares: pay a fee per share but can easily amend to increase later

classes + series (optional): preferred class - more risk + more reward and common class stocks. Series different treatments within a class

Articles of Incorporation: Liquidation Rights

who gets paid first if company goes under

Articles of Incorporation: Cumulative Voting

assists minority shareholders to concentrate votes —> more power than straight voting

Articles of Incorporation: Provisions Denying or Allowing Preemptive Rights

before any new shares are sold preemptive rights would ensure they are first offered to current shareholders to allow them to maintain majority

What Happens at 1st Official Meeting After Incorporation

• board of directors elected by shareholders

• board of directors elect officers

• establish bylaws

Corporate Bylaws

• sets date of annual shareholder meeting

• defines quorum: required number of SH/directors present in order to vote + make a binding decision

• sets board meetings, number of directors + director voting rights

• gives titles + duties to officers

• establishes fiscal year

• establishes percent/degree of shareholder approval needed for decisions

• voting powers

• restrictions on transferability of shares (common in closely held)

• specifies preemptive rights

• indemnification of board of directors + if extends to officers

• how to amend bylaws

Corporate Ownership + Management: Shareholders

Owners

• approve major decisions: bylaw amendments, merges, splitting stock, etc.

• elect + remove members of the Board of Directors through vote

Corporate Ownership + Management: Directors

all corporate powers over business affairs of corporation must be exercised by or under the authority of (can delegate to committees) the Board of Directors, and is subject to limitations in the Articles of Incorporation

Corporate Ownership + Management: Closely Held Directors vs Publicly Traded Directors

Closely Held: Probably also employees + shareholders

Publicly Traded: Inside (also employee of company) or Outside (only on board and not employee)

Corporate Ownership + Management: Functions of Directors

• selecting, supervising + removing officers

• executing policy

• determining corporation’s capital structure

• determining how much money can be borrowed

• determining whether to issue notes, bonds and other obligations

• determining whether corporation will sell or lease its assets

• initiating fundamental changes

• declaring + paying dividends

• determining compensation of officers

Corporate Ownership + Management: Officers

run day to day business

Shareholder Rights

• to attend annual shareholders’ meeting

• preemption

• transfer shares to anyone

• to inspection

• petition for dissolution

• voting rights

• power to enforce rights

Shareholder Right to Inspection

right to examine corporate records requires prior written request + demand must be made in good faith, for a proper purpose and inspection must be made during normal business hours at principal office

Shareholder Right to Petition for Dissolution

may occur if directors are deadlocked in managerial decisions, directors are acting illegally/oppressively, assets are being wasted or if shareholders are deadlocked and can’t elect directors

Shareholder Voting Rights

in person

via proxy (specific or general) - good for 1 yr

via voting trust: shareholder gives trustee right to vote by signing Trust agreement - good for 10 yrs

Shareholder voting agreement: shareholders agree to vote in specified manner in the future, typical in closely held companies - unlimited time limit

Shareholder power to enforce rights

Direct claim: one shareholder or class action suit where reward goes to shareholders who bring the claim

Derivative Claim: shareholders must ask board of directors to bring a lawsuit first, and if refuse can bring suit. reward goes to the corporation

Shareholder duties

Public: care + loyalty when sell shares but NO duty of self sacrifice

Closely Held: like partnership duties —> “utmost good faith + loyalty”

Directors’ Rights

• compensation

• inspection

• indemnification

Directors’ Duties

• Fiduciary: agents of the corporation

• Duty of care

• Duty of Loyalty

• Conflicts of Interest