Legal Framework for Companies and Partnerships

AAT Level 3

Regulatory Bodies

A government department is set up to oversee the regulation of accounts of companies Eg. Companies House

Companies are required to submit their financial statements to these bodies so that interested parties can inspect them.

Tax Authorities

Companies are accountable to the tax authorities in the countries in which they are based.

They have to prepare tax returns each year showing the amount of taxable profits earned in a period.

Business also have to submit returns showing the amount of sales tax (VAT) owed to tax authorities.

Financial Conduct Authority & Prudential Regulation Authority

Public bodies that monitor and control the activities of organisations within the industry. This protects client against failure or poor advice.

Charity Commission

A public body that registers all charities and monitors their activities.

OFGEM

Public body in the UK that regulates the activities of utility providers.

Companies Act 2006

Legislation covers not only the need to prepare financial statements but also how they should be prepared including frequency and format.

Typical requirements for financial statements

• apply all appropriate accounting standards

• information must be adequately detailed

• follow generally accepted practice

• should not contain any material misstatement

Directors

Responsible for producing financial statements that give a true and fair view.

Managing Director/ CEO

• appointed to carry out overall day to day management functions

• board can delegate powers to MD/CEO

• dual role - member of the board and an executive officer

• authority to enter into all contracts of a commercial nature on behalf of the company

Executive Director

• Full time employee involved in management

• Performs a specific role under a service contract

• May be distinguished by a special title such as sales director or finance director.

Non - Executive Director

• Part time and not an employee

• Brings outside expertise to the board

• Contributes an independent view

• Exerts control over executive directors

• Subject to the same duties, controls and potential liabilities as executive directors

Chairman of the Board

• Chair meetings of the board

• Acts as spokesperson for the company

• Has a casting vote

Fiduciary Duties

A duty imposed upon certain persons because of the position of trust and confidence they are in.

Directors Duties

• Duty to act within powers

• Duty to promote the success of the company

• Duty to exercise independent judgement

• Duty to exercise reasonable care, skill and diligence

• Duty to avoid conflicts of interest

• Duty to not accept benefits from third parties

• Duty to declare interest in proposed transaction or arrangement

Directors Powers

Required to exercise powers in accordance with the company’s constitution

Express Authority

Where authority is expressly given, all decisions taken are binding.

Implied Authority

Authority flows from a persons position. Managing director has implied authority to bind the company in the same way as the board.

Apparent Authority

Authority arises where a director is believed by other board members as having the authority to bind the company in contracts.

Company

• separate legal entity

• limited liability - liability of shareholders is limited to any amount still unpaid on their share capital

• company enters into contract in its own name and can sue and be sued in its own name

• Company owns its own property

• Company has perpetual succession irrespective of the fate of shareholders

• Management is separated from ownership

• Company is subject to requirements of the Companies Act 2006 and the Small Business, Enterprise and Employment Act 2015

Memorandum of Association

Signed by all subscribers and stating that they wish to form a company and agree to become members of the company.

Application for Registration

CA2006 sets out information that must be delivered to the registrar when an application is made including

• the proposed name for the company

• whether the members will have limited liability

• whether the company is to be private or public

• details of the registered office

Articles of Association

• set out the manner in which the company is to be governed

• regulate the relationship between the company, shareholders and directors

Accounting records

• disclose with reasonable accuracy the company’s financial position at intervals of not more than six months

• directors to ensure that any accounts that need to be prepared comply with the CA2006 and International Accounting Standards

• Accounting records must be kept for three years in a private company and six years in a public one

• These should be kept at the registered address

Rights of shareholders

• To be sent a copy of annual accounts and reports

• To require directors to call a general meeting

• To attend general meetings

• To appoint a proxy to exercise rights

• To inspect company information

• To bring a derivative claim

• To vote on certain company affairs

• To be issued with a share certificate

• To inspect directors service contracts

• Petition the courts on the basis of unfair prejudice

Minority and Majority Shareholders

Decisions require a majority over 50%, anyone who has less than 50% is considered a minority shareholder.

Unlimited Liability Partnership - Elements

• A partnership includes at least two individuals

• Partners seek to generate profits

• Partnership is an unincorporated business entity

• For accounting purposes partnership is a separate entity from the partners

• Legal perspective partnership is not a separate legal entity from the partners - if partnership is unable to pay its liabilities partners may be called upon to use personal assets to settle unpaid liabilities

Partnership Agreement - Share of Residual Profit

• PSR (Profit Sharing Ratio) is profit available to be shared between partners.

• Profit = Income - Expenses

Appropriation Account

An additional accounting statement required for a partnership. For a sole trader profit for the year is transferred to the credit side of the proprietor’s capital account - double entry is completed by a debit entry in the profit and loss creating a nil balance. In a partnership the statement of profit or loss will still be debited but profit will be credited to the appropriation account rather than capital.

Partners Salaries

As partners are owners of the business amounts paid to them are part of their appropriation. As it is guaranteed it will be dealt with as a CR entry in the partners account before residual profit is shared.

Partners Authority

Agreement will set out express authority - agreement is not a requirement but will be useful in the events of disputes.

Partnership Act 1980 Section 5

Every partner is the agent of the firm and all of the other partners

The PA 1890

Partners will share profits equally but in cases where partners contribute different amounts of capital partners will need to agree more specific profit sharing arrangements

Implied Authority

Partner is presumed to have implied authority to

• sell the firms goods

• buy goods necessary for the business

• receive payments of debts due to firm

• engage employees

• employ a solicitor to act for the firm in defence of claim or pursuance of debt

Trading Partnerships

Partners in trading partnerships have both implied authority and additional powers such as borrowing money.

Dissolution of the Partnerships - Without Court Order

• the expiry of a fixed term or the completion of a specific enterprise

• one of the partners gives notice

• Death of bankruptcy of a partner

• where continuation of a partnership would be illegal

Dissolution of the Partnerships - By Court Order

• partner has a mental disorder or permanent incapacity

• partner engages in activity prejudicial to the business

• partner willfully or persistently breaches partnership agreement

• partner conducts themselves in a way that is no longer reasonable for others to continue business with

• Business can only be carried on at a loss

• It is just and equitable to do so

Dissolution of the Partnerships - Distribution of Assets

If proceeds on the sale of assets does not cover debts then the personal wealth will be called upon to make up the shortfall.

Proceeds from the sale will be applied in the following order

1. Paying debts to outsiders

2. Paying the partners any advance they made to the firm beyond the capital contribution

3. Paying capital contribution

In the event assets are insufficient to meet debts, profits held back from previous years on partners capital will be used to make up the shortfall. If this is also insufficient partners will contribute portion they shared in the profits.

Dissolution of the Partnerships - Effect of Change in Partner

When a new partner is admitted the old partnership is dissolved and the new partnership is created. The new partners effectively buy the assets of the old partnership.

Goodwill

Amount by which the fair value of the net assets of the business exceeds the carrying amount of the net assets.

Goodwill - New Partner

When a new partner joins they will not be entitled to goodwill created in the old partnership. Goodwill value will need to be allocated to the old partners at that point.

Goodwill - Process

• Recognise goodwill as an asset. This is a DR entry for the value of the goodwill in the goodwill account.

• Double entry is complete with CR entries to the old partners capital accounts

• Value of each entry is calculated by sharing the value of the goodwill between the partners in the old PSR

• If goodwill is to be retained in the partnership no further entries are required

• If goodwill is to be carried in the books it is eliminated by a CR entry in the goodwill account. The double entry is completed with debit entries in the partners capital accounts. Value of each entry is calculated between the new partners using the new PSR ratio

Unlimited Liability Partnerships

The relationship that subsists between persons carrying on a business in common with a view to profit

When joint owners of a business are mutually responsible for the company’s debt and liabilities and their personal liability isn’t capped this is known as an unlimited liability partnership.

Limited Liabilities Partnership Act 2000

Sets out rules for LLPs. States that unlike normal partnerships each partner is only liable for the amount of capital they put into the LLP.

Advantages of Unlimited Liability in Business

• More freedom due to fewer compliance regulations

• Potential tax savings

Disadvantages of Unlimited Liability in Business

• Personal assets are at risk if business sees high level of liability

• Securing a loan could be more difficult due to increased risk

Unlimited Liability for Debts

Partners all have unlimited liability and are personally liable for any business debts. In a sole proprietorship business the one individual has the entire responsibility for all debts, accountability and duties.