Unit 4
Business Organizations
Eight Chapters in Three Weeks!
What a ride!?!?
The Chapters…
41. Types of Business Organizations
42. Partnerships
43. LPs, LLCs, and LLPs
44. Corporation Formation
45. Shareholder Rights in Corporations
46. Securities Regulation
47. Accountants’ Liability and Malpractice
48. Management of Corporations
A quick overview of each chapter in
Unit 4…
And then let’s consider our schedule…
41. Types of Business Organizations
An overview chapter
The principal forms of business organizations:
Individual proprietorships
Partnerships, LLPs, & LLCs
Corporations
The specialized forms of business organizations:
Joint ventures
Unincorporated associations
Cooperatives
The franchise business format:
Types of franchises, franchise agreements, and
liability of franchisors
42. Partnerships
How partnership is created…
Characteristics; rights, classifications, and nature of
partners; acquisition and transfer of partnership property;
assignment of interests
Authority of partners…
Express and customary authority, limitations on partners’
authority, and prohibited transactions
Duties, Rights, Remedies, and Liabilities of Partners…
Extent of partners’ liabilities and rights of partnership and
partnership creditors
Dissolution and termination of partnership…
Methods of dissolution by act of parties, operation of law,
court decree; process of winding up; distribution of
assets; and right to continue business
43. LPs, LLCs, and LLPs
Partnership limited liability…
Limited partnerships…
How formed and characteristics (ULPA)
Limited liability companies…
Characteristics, comparison to other forms of
ownership, and requirements for creation
Limited liability partnerships…
Limited liability and requirements for registration
44. Corporation Formation
Nature and classification of corporations…
Rights of corporation as person; classifications;
ignoring corporate entity
Powers of corporations…including ultra vires acts
Creation and termination…
Duties of promoters; incorporation process;
defective corporations; insolvency, bankruptcy
and reorganization; grounds for dissolution
Consolidation, mergers, and conglomerates…
Definitions and legality, liability of successor
corporations
45. Shareholder Rights in Corporations
Nature and acquisition of corporate stock…
Nature of stock, kinds of stock, and
characteristics of bonds; requirements for stock
acquisition and transfer of shares; lost,
destroyed, and stolen shares
Rights of corporate shareholders…
Ownership rights, voting rights, inspection of
books, dividends and capital distributions, and
shareholder lawsuits
Liability of shareholders…
Exceptions to shareholders’ limited liability;
professional corporations and owners’ liability
46. Securities Regulation
State regulation of securities…
Blue sky laws and the Uniform Securities Act
Federal laws on the sale of securities…
Securities Act of 1933, Securities Exchange Act
of 1934, trading on insider information, short
swing profits, tender offers, accountants’ liability
and regulation under the SEC
Securities industry self-regulation…
47. Accountants’ Liability and Malpractice
General principles of law…
Accountant malpractice, remedies for accountant
malpractice, current environment, ways to limit liability
Accountants’ liability to 3rd parties…
Status of an accountant, legal theories of accountant
liability to 3rd parties, parties to whom accountants have
no liability, defenses to accountants’ liability, accountant
liability for fraud
Provisions of Sarbanes-Oxley applicable to accountants…
Responsibilities of audit committees, auditors’
obligations on keeping records and penalties for
destruction
48. Management of Corporations
Role of shareholders…
Shareholder authority and control, legal aspects
of shareholders meetings
Role and power of directors…
Qualifications of directors, powers, conflicts of
interests, directors’ meetings, director liability
Role, authority, powers and liability of officers,
agents and employees of corporation…
Corporate liability to 3rd persons…
Liability of management to 3rd persons, criminal
liability, indemnification of officers and directors,
civil liability of corporation
How are we going to do this?
Chapter 41 is an overview. You read it for today.
We won’t cover it per se in class.
Chapters 42 & 43 (partnerships and limited liability
companies) we will cover today
Chapters 44, 45, & 46 (corporations, shareholders
rights, and securities regulation) after Spring
Break
Chapters 47 & 48 (accountants’ liability and
malpractice and corporate management) the
next week.
Entrepreneurship, Sole
Proprietorships, and General
Partnerships
31 - 1
Entrepreneur
A person who forms and operates
a new business either by him- or
herself or with others.
31 - 2
Entrepreneurial Forms of
Conducting Business
Sole
Proprietorship
General
Partnership
Limited
Partnership
Limited Liability
Partnership
Limited Liability
Company
31 - 3
Sole Proprietorship
• Owner is actually the business.
• Business is not a separate legal
entity.
• Most common form of business
organization in the United
States.
31 - 4
Advantages of a Sole
Proprietorship
• Ease and low cost of formation.
• Owner can make all management decisions.
– hiring and firing employees.
– No other approvals required.
• Sole proprietor owns all of the business
• Has the right to receive all of the business’s
profits.
• Easily transferred or sold
31 - 5
Disadvantages of a Sole
Proprietorship
• Access to capital is limited to:
– personal funds plus
– any loans he or she can obtain.
• Legally responsible for the
business’s contracts
• Responsible for any torts
committed in the course of
employment.
31 - 6
Creation of a Sole
Proprietorship
• No formalities.
• No federal or state government
approval is required.
• Some local governments
require a license to do business
within the city.
31 - 7
Personal Liability of a Sole
Proprietor
• The sole proprietor bears the risk of loss of the
business.
– Will lose his or her entire capital contribution
if the business fails.
• The sole proprietor has unlimited personal
liability.
• Creditors may recover claims against the
business from the sole proprietor’s personal
assets.
31 - 8
Personal Liability of a Sole
Proprietor (continued)
Sole
Proprietorship
Debt or obligation
owed
Third Party
Capital investment
Sole
Proprietor
(Owner)
Personal liability for sole
proprietorship’s debts and
obligations
31 - 9
General Partnership
• Voluntary association
• Two or more people
• Carry on business for profit
• Creates rights and duties between partners
and with third parties
• General partners personally liable for the
debts and obligations of the partnership.
31 - 10
General Partnership
General
Partnership
Capitalinvestment
investment
Capital
General
Partner
General
Partner
Debt or obligation
owed
Third Party
Personal liability for
partnership’s debts and
obligations
General
Partner
31 - 11
Uniform Partnership Act (UPA)
•
•
•
•
Model act
Codifies partnership law
Most states have adopted
Covers most problems that
arise in the formation, operation,
and dissolution of ordinary
partnerships
31 - 12
Entity Theory of Partnership
• UPA considers partnerships as
separate legal entities.
• Partnerships can:
– Hold title to personal and real
property
– Transact business in the
partnership name
– Sue in the partnership name
31 - 13
General Partnership Name
• Can operate under name of any one or all
of partners
• May use fictitious name
– Must file fictitious business name certificate
– Publish notice
– Cannot be similar to name used by another
business
31 - 14
Requirements for a General
Partnership
• UPA states that a partnership is:
1. A voluntary association of two or more
persons
◼ Includes natural persons, partnerships,
corporations
2. Carrying on a business
3. As co-owners
◼ All partners must agree to participation
4. For profit
31 - 15
Evidence of Partnership
• Prima facie evidence:
– Receipt of a share of
business profits
• Compelling evidence:
– Agreement to share in profits
and losses
– Right to participate in
management
31 - 16
Partnership Agreement
• May be written or oral
– Statute of Frauds applies
• No formalities required
• Recommended that it be in writing
– Called partnership agreement or articles of
partnership
– UPA will fill gaps
31 - 17
Rights Among Partners
• Unless otherwise agreed, each partner:
– Has a right to participate in
management, and
– Has an equal vote on partnership
matters.
• Under UPA, a simple majority decides
most ordinary partnership matters.
31 - 18
Partners’ Rights to Share
in Profits
• UPA mandates right to an equal share in
profits and losses
• Agreements often provide otherwise
– If agreement describes sharing of profits, but
losses are silent, then losses are shared in
same proportion
– If agreement states sharing of losses, but is
silent as to profits, then profits are shared
equally
31 - 19
Right to Compensation and
Reimbursement
• UPA provides that no partner is entitled to
remuneration
– Implied partners will devote full time and
service to partnership
• Partner entitled to indemnification
– Partner to be reimbursed for expenditures
incurred on behalf of the partnership
31 - 20
Right to Return of Loans and
Capital
• Partner entitled to repayment of loan
– Right is subordinated to claims of creditors
who are not partners
• Partners entitle to have capital
contributions returned at termination of
partnership
– Right is subordinated to rights of creditors
31 - 21
Right to Information
• Partner has right to true and full information
– From any partner
– All things affecting partnership
• Partner has a duty to provide information
• Partnership books must be kept at
partnership’s principal place of business
– Partners have absolute right to inspect and
copy records
31 - 22
Duties Among Partners
Duty of
Loyalty
Duty of
Obedience
Duty to
Inform
Duty of
Care
31 - 23
Duty of Loyalty
• Duty that a partner owes not to act adversely to
the interests of the partnership.
• Duty is imposed by law
• Cannot be waived.
• In case of conflict between partnership interests
and personal interests, partner must choose the
interest of the partnership.
31 - 24
Partners breach their duty of loyalty if they:
1. Self-deal with the partnership without permission
2. Usurp a partnership
opportunity
3. Compete with the partnership without permission
4. Make secret profits from
partnership business
5. Disclose confidential
partnership information
6. Misuse partnership property
7. Make other breaches of their
fiduciary duty
31 - 25
Duty of Care
• Partners must use the same level of care
and skill that a reasonable person in the
same position would use in the same
circumstances.
• A breach of the duty of care is negligence.
• A partner is liable to the partnership for
any damages caused by his or her
negligence.
31 - 26
Duty to Inform
• Duty partner owes to inform his or her copartners of all information he or she possesses,
that is relevant to the affairs of the partnership.
• Knowledge is imputed to other partners.
31 - 27
Duty of Obedience
• Duty that partners must adhere to the
provisions of the partnership agreement and
the decisions of the partnership.
• Partner who breaches this duty is liable to the
partnership for any damages caused by the
breach.
31 - 28
Right to an Accounting
• Partners cannot sue partnership
• They may bring an action for an
accounting
– Formal judicial proceeding in which the court
is authorized to:
• Review the partnership and the partners’
transactions, and
• Award each partner his or her share of the
partnership assets
31 - 29
Tort Liability
• Partnership is liable for the tortious act of a
partner, employee, or agent that is
committed while the person is acting within
the ordinary course of partnership business
or with the authority of his or her copartners.
– Both negligence and intentional torts covered
31 - 30
Joint and Several Liability
• Partners are jointly and severally liable for tort
liability of the partnership.
– i.e., the plaintiff can sue one or more of the
partners separately.
– If successful, the plaintiff can recover the
entire amount of the judgment from any or all
of the defendant-partners.
– Release of one partner does not discharge
the others.
31 - 31
Contract Liability
• Partners are jointly liable for contracts and debts
of partnership.
• Third party must name all partners in suit.
– If suit does not list all, judgment cannot be collected.
– If one is released, all are released.
• Successful third party may collect judgment
against any or all partners.
– Partners may seek indemnification if they pay more
than their share.
31 - 32
Summary: Personal Liability of
General Partners
Issue
Joint Liability
Joint and Several Liability
Type of
lawsuit
Contract action
Tort action
Defendants
Plaintiff must name all partners
as defendants
Plaintiff can sue partners individually
Recovery
If successful, the plaintiff can
recover the judgment against
all or any of the defendants
If successful, the plaintiff can recover the
judgment against all or any of the named
defendants
Indemnification
Partner who pays judgment can Partner who pays judgment can recover
recover contribution from other contribution from other partners for their
partners for their share of the
share of the judgment
judgment
31 - 33
Liability of Incoming Partners
• New partner who is admitted to the partnership
is liable for the existing debts and obligations
(antecedent debts) of the partnership only to the
extent of his or her capital contribution.
• The new partner is personally liable for debts
and obligations incurred by the partnership after
becoming a partner.
31 - 34
Dissolution of General Partnership
• Defined as:
– “Change in the relation of the partners caused by any
partner ceasing to be associated in the carrying on of
the business”.
• Partnership for a term
– For a fixed duration
– Until event occurs
– Terminates automatically at end of time or when
objective accomplished.
• Partnership at will
– Partner may rightfully withdraw and dissolve
partnership at any time.
31 - 35
Winding-Up
• Process of liquidating the partnership’s
assets and distributing the proceeds to
satisfy claims against the partnership.
• The surviving or remaining partners have
the right to wind-up the partnership.
• A bankrupt partner cannot participate in
the winding-up of a partnership.
31 - 36
Notice of Dissolution
• Terminates partners’ actual authority to enter into
contracts or act on behalf of partnership
• Notice must be given to certain third parties
– Third parties who dealt with partnership must be given
actual notice.
– Third parties who had knowledge of partnership must
be given actual or constructive notice.
– Third parties who had no knowledge owed no notice.
• If no notice given, apparent authority to continue
to bind partnership
31 - 37
Distribution of Assets
1.
2.
3.
4.
Upon the winding-up of a dissolved
partnership, the assets of the partnership are
distributed in the following order :
Creditors (except partners who are creditors)
Creditor-partners
Capital contributions
Profits
31 - 38
Wrongful Dissolution
• Partner has power to withdraw at any
time, but may not have the right to
withdraw.
– Withdraws before expiration of term
– Withdraws before occurrence of event
• Partner is liable for damages caused by
the wrongful dissolution of the partnership.
31 - 39
Continuation of Partnership
after Dissolution
• Remaining partners have right to continue after
dissolution
• Continuation agreement
– Sets forth events that allow for continuation, amount
paid to out-going partners, and other details.
• Old partnership dissolved and new partnership
created
– Creditors of old partnership become creditors of new
partnership
– Have equal status with creditors of new partnership
31 - 40
Liability of Outgoing Partners
• Dissolution of partnership does not
discharge liability of outgoing partners for
existing partnership debts and obligations
31 - 41
Right of Survivorship
• Upon the death of a partner, deceased partner’s
right in specific partnership property vests in the
remaining partner or partners
• Does not pass to heirs or next of kin
– Value passes to beneficiaries and heirs
• Upon death of last partner, rights in specific
partnership property vest in the deceased
partner’s legal representative
31 - 42
Twomey Jennings
Anderson’s Business Law and the Legal Environment, Comprehensive 20e
Anderson’s Business Law and the Legal Environment, Standard 20e
Business Law: Principles for Today’s Commercial Environment 2e
Chapter 42
Partnerships
Copyright © 2008 by West Legal Studies in Business
A Division of Thomson Learning
Nature of a Partnership
• A partnership is a relationship:
– created by the voluntary association of two or
more persons,
– to carry on as co-owners a business for profit.
• Partnership consists of:
– Voluntary relationships.
– Capital or in-kind contributions.
• If no profit intended, then an
unincorporated association.
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2
Characteristics of a Partnership
• The existence of a partnership may be
found from the existence of:
– shared control in the running of the business
and
– the fact that the parties share profits and
losses.
– The sharing of gross returns, as opposed to
profits, is very slight evidence of a
partnership.
3
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Partnership Agreement
• The partnership agreement governs the
partnership during its existence and may
also contain provisions relating to
dissolution.
• The partnership agreement will generally
be in writing; this may be required by the
statute of frauds.
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4
Partnership Property
• Partners hold title to firm property by
tenancy in partnership. Surviving
partners receive property.
• A creditor of a partner cannot proceed
against any specific item of
partnership property but must obtain a
charging order to seize the debtorpartner’s share of the profits.
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5
Partnership Property
• An assignee of a partner’s interest
does not become a partner without the
consent of the other partners and is
entitled only to a share of the profits
and the assignor’s interest upon
dissolution.
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6
Authority of Partners
• Scope of authority is determined by
partnership agreement.
• Majority of partners prevails.
• Individual partners may have express
authority under agency theory.
– Implied powers as co-owner of business.
– Partnership may be bound by act of
partner with third party if third party did
not know of limitations.
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7
Partners as to Third Parties
Make contracts.
Adjust claims for
or against the
partnership.
Sell goods in the
regular course of
business.
Execute commercial
paper in the name of
the firm.
An
individual
partner
can:
Buy
insurance.
Purchase items
needed by the
business.
Hire
employees.
Borrow money for
the firm’s purposes.
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8
Limitations on Authority of
Partner to Bind Partnership
Law of Agency
Individual partners, acting in an
apparently proper way,
have authority to bind the firm.
Individual
Partner
Business Transactions
Third
Person
Prohibited Transactions
Cessation of business, suretyship,
agreement to arbitrate, confession of
judgement, assignment for creditors.
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9
Prohibited Transactions
• Certain transactions a partner cannot
undertake without express approval:
– Cessation of business.
– Suretyship.
– Arbitration.
– Confession of judgment (admission).
– Assignment of partnership property.
– Personal obligations.
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10
Duties, Rights, and
Liabilities of Partners
• Duties (general agency law):
– Loyalty and good faith.
– Obedience.
• Rights:
– Management.
– Inspection of Books.
– Share of Profits.
– Contribution and Indemnity.
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11
Liability of Partners
• Partnership Contracts: Partners are jointly
liable.
• Partnership Torts: Partners are jointly and
severally liable for torts within scope of
business.
– Partner who has paid has right to
contribution.
• Liability of New Partners.
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12
Rights and Liabilities of Partners
DUTIES
RIGHTS
LIABILITIES
Loyalty and Good Faith Management
Firm Contracts
Obedience
Share of Profits
Torts of Employees
Partners Within
Scope of Business
Reasonable Care
Repayment of Loans
Breach of Duties
Information
Payment of Interest
Partners Remain Liable
After Dissolution
Accounting
Contribution and Indemnity New Partner Not
Personally Liable for
Participation in Distribution Existing Debts
of Capital
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Inspection of Books
13
Dissolution and Termination
• A partnership may be dissolved by the
parties themselves in accordance with the
terms of the partnership agreement, by
the expulsion of a partner, by the
withdrawal of a partner, or by the
bankruptcy of the firm or one of the
partners.
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14
Dissolution (cont’d)
• A court may order dissolution of a
partnership upon the petition of a
partner because of the insanity,
incapacity, or major misconduct of a
partner.
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15
Dissolution (cont’d)
• Dissolution may be decreed because of
lack of success, impracticability, or other
circumstances that equitably call for
dissolution.
• Dissolution ends the right of the
partnership to exist as a going concern.
• Notice of dissolution, except dissolution
by operation of law, must be given.
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16
Winding Up
• Dissolution is followed by a winding-up
period and the distribution of assets.
• Distribution of Assets. After the firm’s
liabilities to non-partners have been
paid, the assets are distributed among
the partners as follows:
– (1) refund of advances,
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17
Winding Up
• Winding Up (cont’d):
– (3) division of remaining assets in
accordance with the partnership
agreement or, if no agreement is
stated, division of net assets equally
among the partners.
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18
Twomey Jennings
Anderson’s Business Law and the Legal Environment, Comprehensive 20e
Anderson’s Business Law and the Legal Environment, Standard 20e
Business Law: Principles for Today’s Commercial Environment 2e
Chapter 41
Types of
Business Organizations
Copyright © 2008 by West Legal Studies in Business
A Division of Thomson Learning
Forms of Business
Organizations
• The three principal forms of business
organizations are:
– Sole Proprietorships,
– Partnerships, LLP’s and LLC’s and
– Corporations.
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2
Forms of Business
Organizations
• Newly created forms of business --the LLC and
LLP -- allow for tax treatment as a partnership
with some limited liability.
• The selection of the form of organization is
determined by:
–
–
–
–
–
Nature of the business,
Tax considerations,
Financial risk involved,
Importance of limited liability, and
The extent of management control desired.
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3
Definitions
• In a sole proprietorship one person owns the
business, controls all decisions, receives all
profits, and has unlimited liability for all
obligations.
• A partnership involves the pooling of capital
resources and talents of two or more persons
whose goal is making a profit; the partners are
subject to unlimited personal liability.
• A corporation is an entity--an artificial being-created by a government grant; the corporation 4
itself bears all liability; shareholders elect a board
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Definitions
• In a sole proprietorship one person owns the
business, controls all decisions, receives all
profits, and has unlimited liability for all
obligations.
• A partnership involves the pooling of capital
resources and talents of two or more persons
whose goal is making a profit; the partners are
subject to unlimited personal liability.
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5
Specialized Forms
of Business Organizations
• A cooperative consists of two or more
persons or enterprises, such as farmers,
who cooperate to achieve a common
objective, such as the distribution of
farm products.
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6
Franchise Business Format
• By a franchise, the owner of a trademark,
trade name, or copyright licenses others to
use the mark or copyright in selling goods
or services.
• The Automobile Dealers’ Franchise Act
and the Petroleum Marketing Practices Act
are federal laws that provide covered
franchisees with protection from bad-faith
terminations.
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7
Liability of Franchisors
• A franchisor is not liable to third persons
dealing with its franchisees.
• Liability of the franchisor may, however,
be imposed on the ground of the apparent
authority of the franchisee or the latter’s
control by the franchisor.
• Liability of the franchisor may also arise in
cases of product liability.
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8
Protection of Franchisors
• Special Protections under Federal Laws.
– Automobile Dealer’s Day in Court Act.
– Petroleum Marketing Practices Act.
• Disclosure.
• Vicarious Liability Claims Against
Franchisors.
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9
Limited Liability Companies and
Limited Liability Partnerships
34 - 1
Limited Liability Companies
• An unincorporated business entity that
combines the most favorable attributes of
general partnerships, limited partnerships, and
corporations.
• An LLC may elect to be taxed as a partnership.
• The owners can manage the business.
• The owners have limited liability.
34 - 2
Limited Liability Company (LLC)
• Limited liability companies are creatures of state
law, not federal law.
• Limited liability companies can only be created
pursuant to the laws of the state in which the
LLC is being organized.
– Limited liability company codes regulate the
formation, operation, and dissolution of LLCs.
34 - 3
Limited Liability Company (LLC)
(continued)
Legal Entity – An LLC is a separate legal entity
(an artificial person) that can:
– Own property
– Sue and be sued
– Enter into and enforce contracts
– Be found civilly and criminally liable for
violations of law
34 - 4
The Uniform Limited Liability
Company Act
• A model act that provides comprehensive and
uniform laws for the formation, operation, and
dissolution of LLCs.
• The ULLCA is not law unless a state adopts it as
its LLC statute.
• Many states have adopted all or part of the
ULLCA as their limited liability company law.
34 - 5
Taxation of LLCs
• LLCs are taxed as partnerships unless it
elects to be taxed as a corporation.
– Taxes flow through to individual’s tax returns.
– No taxation at the entity level
34 - 6
Powers of an LLC
• An LLC has the same powers as an
individual
– It can own, mortgage, and transfer real estate.
– It can own and transfer personal property.
– It can enter into contracts and make
guarantees.
– The LLC may borrow money, and issue notes
and bonds.
– An LLC can be sued and can sue.
34 - 7
Member’s Limited Liability
Member – an owner of an LLC.
– Members have limited liability.
– Members are liable for the LLC’s debts,
obligations, and liabilities only to the extent of
their capital contributions.
34 - 8
Limited Liability Company (LLC)
Limited
Liability
Company
(LLC)
Debt or obligation
owed
Third Party
Capital investment
Member
Member
Member
Member
Liability limited to capital
contribution
No personal liability for company’s debts
and obligations
34 - 9
Liability of an LLC
• LLC is liable for loss or injury caused by
wrongful act or omission or member,
manager, employee, or agent in course of
ordinary business.
• Managers are not personally liable for
debts, obligations, and liabilities of LLC.
• Tortfeasors are still personally liable for
injuries they cause.
34 - 10
Formation of an LLC
• An LLC may be organized to operate
businesses and real estate developments.
– May not be certain professional groups.
• An LLC can be organized in only one state
even though it can conduct business in all
other states.
34 - 11
Articles of Organization
• An LLC is formed by delivering articles of
organization to the office of the secretary of state
of the state (or other designated office) of
organization for filing.
– The existence begins when the articles of
organization are filed.
• Articles include name, address of office, name
and address of agent and organizers, type of
LLC.
34 - 12
Duration
• Term LLC
– An LLC that has a specified term of duration
• At-Will LLC
– An LLC that has no specified term of duration
34 - 13
Capital Contribution
• Money, tangible or intangible property, services
performed or promised to be performed,
promissory notes, or other agreements to
provide cash or property
• Not excused by death or disability
34 - 14
Certificate of Interest
• Document that evidences a member’s
ownership interest in an LLC.
– Acts the same as a stock certificate issued by
a corporation.
34 - 15
Operating Agreement
• Agreement entered into among member
that governs the affairs and business of
the LLC and the relations among
members, managers, and the LLC.
• May be amended by the approval of all the
members unless otherwise provided in the
agreement.
34 - 16
Conversion of an Existing
Business to an LLC
• Some existing businesses may want to
convert to an LLC.
– To obtain the tax benefits and limited liability
shield of an LLC.
– Law permits such conversions.
• Agreement of conversion sets forth terms.
• Articles of organization must be filed with
the secretary of state.
34 - 17
Dividing an LLC’s Profits and
Losses
• ULLCA mandates that each member has
right to equal share of profits and losses.
• Operating agreement may have other
provisions.
34 - 18
Distributional Interest
• A member’s ownership interest in an LLC that
entitles the member to receive distributions of
money and property from the LLC.
• A transferee of a distributional interest in an LLC
receives the right to receive profit and other
distributions of the LLC.
34 - 19
Member-Managed LLC
• In a member-managed LLC, all members can
bind the LLC to authorized contracts.
• Each member has equal rights in the
management of the business irrespective of the
size of his or her capital contribution.
• Any matter relating to the business of the LLC is
decided by a majority vote of the members.
34 - 20
Manager-Managed LLC
• In a manager-managed LLC, only the managers
can bind the LLC to authorized contracts.
• The members and non-members who are
designated managers control the management
of the LLC.
• The members who are not managers have no
rights to manage the LLC unless otherwise
provided for in the operating agreement.
34 - 21
Compensation and
Reimbursement
• A non-manager member is not entitled to
remuneration.
– Except for winding-up the LLC.
• Managers of an LLC are paid compensation and
benefits.
– Specified in their employment agreements.
• An LLC is obligated to reimburse members and
managers for payments made on behalf of the
LLC.
34 - 22
Agency Authority to Bind an
LLC to Contracts
• All members in member-managed LLC
may bind LLC.
• Only managers have authority to bind LLC
in manager-managed LLC.
– Members cannot bind LLC unless they are
also a manager.
34 - 23
Duty of Loyalty
• Duty owed by a member of a member-managed LLC
and a manager of a manager-managed LLC.
– Must be honest in dealings with the LLC and not act
adversely to the interests of the LLC.
• Breaches of the duty of loyalty by a covered member or
manager include:
– Usurping an LLC opportunity
– Making secret profits
– Secretly dealing with the LLC
– Secretly competing with the LLC
– Representing any interest adverse to that of the LLC
34 - 24
Limited Duty of Care
• A duty owed by a member of a member of a
member-managed LLC and a manager of a
manager-managed LLC to not engage in
conduct that injures the LLC:
– A known violation of law
– Intentional conduct
– Reckless conduct
– Grossly negligent conduct
34 - 25
Duty of Care (continued)
• A member or manager of an LLC is not liable to
the LLC for injuries caused to the LLC by his or
her ordinary negligence.
• The ordinarily negligent member or manager,
and the LLC on whose behalf the member or
manager was acting when the negligent act
occurred, are liable to the injured third party.
34 - 26
No Fiduciary Duty Owed by a
Nonmanager Member
• A nonmanager member of a manager-managed
LLC owes no fiduciary duties of loyalty, care, or
good faith and fair dealing to the LLC or its
members.
34 - 27
Dissolution
• The ULLCA gives a member of an LLC the
power to disassociate from the LLC.
• Wrongful disassociation
– Occurs when a member withdraws from a term LLC
prior to the expiration of the term or from an at-will
LLC when the operating agreement eliminates a
member’s power to withdraw.
– This could cause the dissolution of the LLC.
34 - 28
Payment of Distributional Interest
• If no wrongful disassociation, LLC must
purchase the disassociated member’s
distributional interest.
• Price and terms may be fixed in operating
agreement, otherwise, must pay fair market
value.
• If wrongful disassociation, payment made at
expiration of term.
– Damages may be offset against price.
34 - 29
Notice of Disassociation
• A document filed with the secretary of
state that gives constructive notice that a
member has disassociated from an LLC.
• Effective against any person who later
deals with LLC.
34 - 30
Continuation of an LLC
• Members may vote unanimously to
continue LLC before the expiration of the
term.
• LLC may be continued as an at-will LLC
by simple majority vote.
34 - 31
Winding-Up an LLC’s Business
• The process of preserving and selling the assets
of the LLC and distributing the money and
property to creditors and members.
• Creditors are paid first.
• Surplus amounts are distributed to members in
equal amounts.
– May be modified by operating agreement.
34 - 32
Articles of Termination
• Document that is filed with the secretary of state
(of the state in which the LLC is organized) that
terminates the LLC as of the date of filing or
upon a later effective date specified in the
document.
34 - 33
Limited Liability Partnership
(LLP)
• A special form of partnership where all partners
are limited partners and there are no general
partners.
• No partners are personally liable; all have limited
liability.
• LLPs have flow through tax benefits.
– No taxes at entity level.
34 - 34
Limited Liability Partnership (LLP)
(continued)
Limited
Liability
Partnership
(LLP)
Debt or obligation
owed
Third Party
Capital investment
Limited
Partner
Limited
Partner
Limited
Partner
Limited
Partner
Liability limited to capital
contribution
No personal liability for partnership’s
debts and obligations
34 - 35
Articles of Partnership
• LLP’s must be created formally by filing
articles of partnership with the secretary of
the state in which the LLP is organized.
• The LLP is a domestic LLP in the state in
which it is organized.
• An LLP must register as a foreign LLP in
any state in which it wants to conduct
business.
34 - 36
Liability Insurance Required
• Many state laws require LLPs to carry a
minimum of $1 million of liability insurance that
covers negligence, wrongful acts, and
misconduct by partners or employees of the
LLP.
• Quid pro quo for limited liability of partners.
34 - 37
Limited Partnerships
Limited Partnership
A type of partnership that has two types of
partners:
– General Partners –invest capital, manage the
business, and are personally liable for
partnership debts.
– Limited Partners –invest capital, but do not
participate in management and are not
personally liable for partnership debts beyond
their capital contribution.
Limited Partnership (continued)
• A limited partnership must have at least one
general partner and one limited partner.
• There are no restrictions on the number of
general or limited partners allowed.
• Any person may be a general or limited partner.
• Corporation may be sole general partner.
– Shareholders are liable only up to their capital
contributions.
The Revised Uniform
Limited Partnership Act
(RULPA)
• Uniform Limited Partnership Act (ULPA)
– Promulgated in 1916
– Contained a uniform set of provisions for the
formation, operation, and dissolution of limited
partnerships
– Most states originally enacted this law
The Revised Uniform Limited
Partnership Act (RULPA)
(continued)
• Revised Uniform Limited Partnership Act
(RULPA)
– A 1976 revision of the ULPA
– Provides a more modern comprehensive law
for the formation, operation, and dissolution of
limited partnerships
– A majority of states have adopted the RULPA
Limited Partnership (continued)
Limited
Partnership
Debt or obligation
owed
Third Party
Capital investment
Limited
Partner
Limited
Partner
Liability limited to capital
contribution
No personal liability for partnership’s
debts and obligations
General
Partner
General
Partner
Personal liability for partnership’s
debts and obligations
Formation of Limited
Partnerships
• The creation of limited partnerships is
formal
• Requires public disclosure.
• Entity must comply with the statutory
requirements of the RULPA or other state
statute.
Certificate of Limited Partnership
• Document that two or more persons must
execute and sign.
• Contains name of limited partnership, purpose,
names and addresses of partners, agent, and
principal place of business, contributions of each
partner.
• Must be filed with secretary of state.
• Not formed until certificate filed.
Amendments to Certificate of
Limited Partnership
• Certificate must be kept current by filing
amendments
• Filed at same offices as certificate
• Changes must be filed within 30 days
–
–
–
–
Change in capital contributions
Admission of new partner
Withdrawal of partner
Continuation of business after judicial dissolution or
withdrawal of general partner
Name of Limited Partnership
The firm name of a limited partnership
may not include the surname of a limited
partner unless:
1. It is also the surname of a general partner, or
2.The business was carried on under that name
before the admission of the limited partner.
Name of Limited Partnership
(continued)
Other restrictions:
1. The name cannot be the same as or deceptively
similar to the names of other businesses or
partnerships.
2. States can designate the words that cannot be used
in limited partnership names
3. The name must contain without abbreviation the
words limited partnership
Capital Contributions
• Under RULPA, these may be in cash,
property, services rendered, or a
promissory note or other obligations to
contribute cash, property, or to perform
services.
• Partners or creditors may bring lawsuit to
enforce promise to make contribution.
Defective Formation
•
Occurs when:
1. A certificate of limited partnership is not properly
filed,
2. There are defects in a certificate that is filed, or
3. Some other statutory requirement for the creation of
a limited partnership is not met.
•
Limited partners who have been erroneously
been listed as a general partner can have
certificate of amendment filed or can withdraw
•
Liable as a general partner for all transactions until
amendment filed.
Limited Partnership Agreement
• Document that sets forth:
– The rights and duties of the general and
limited partners; and
– The terms and conditions regarding the
operation
– dissolution and termination terms.
• If no agreement, certificate serves as
articles.
Share of Profits and Losses
(continued)
• The limited partnership agreement may specify
how profits and losses are to be allocated
among the general and limited partners.
• If there is no such agreement, RULPA provides
that profits and losses from a limited partnership
are shared on the basis of the value of the
partner’s capital contribution
• A limited partner is not liable for losses beyond his or her
capital contribution
Right to Information
The limited partnership must also keep the
following records at its principal office:
– Copy of certificate of limited liability and all
amendments thereto
– List of the full names and business addresses
of each partner
– Copies of effective written limited partnership
agreements
– Copies of federal, state, and local income tax
returns
– Copies of financial statements for the three
most recent years.
Admission of New Partners
• A new limited partner can be added only upon
the written consent of all partners.
– Agreement can provide otherwise.
• Admission effective after amendment filed.
Foreign or Domestic?
• Domestic Limited Partnership – A limited
partnership in the state in which it is formed.
• Foreign Limited Partnership – A limited
partnership in all other states than the one in
which it was formed.
Foreign or Domestic? (continued)
• Under the RULPA, the law of the state in which
the entity is organized governs its organization,
its internal affairs, and the liability of its limited
partners.
• Certificate of Registration – A document
permitting a foreign limited partnership to
transact business in a foreign state.
Liability of General and Limited
Partners
• General partners of a limited partnership
have unlimited liability for debts and
obligations of the partnership.
• Limited partners are liable only up to
amount of their capital contributions.
– Give up right to participate in the control
and management
Participation in Management
• General partners have management
rights.
• Limited partners give up these right in
exchange for limited liability.
– Liable as general partner if participation is
substantially the same.
– Only liable to persons who reasonably believe
them to be general partners.
Permissible Activities of Limited
Partners
Being an:
– Agent of the limited partnership
– Employee of the limited partnership
– Contractor of the limited partnership
– General partner
Being a consultant or advisor to a general
partner regarding the limited partnership.
Permissible Activities of Limited
Partners (continued)
• Acting as a surety for the limited partnership.
• Approving or disapproving an amendment to the
limited partnership agreement.
• Voting on certain specific partnership matters.
Liability on Personal Guarantee
• When an extension of credit from a bank,
supplier, or other creditor is not approved based
on the credit of the limited partnership, the
creditor may require a limited partner to
guarantee the repayment of the loan in order to
secure repayment.
• Creditor may enforce personal guarantee if
limited partnership defaults.
Summary: Liability of Limited Partners
General Rule
Limited partners are not individually liable for the
obligations or conduct of the partnership beyond
the amount of their capital contribution.
Exceptions to the General
Rule
Limited partners are individually liable for the debt,
obligations, and tortuous acts of the partnership in
three situations:
1. Defective Formation
2. Participation in Management
3. Personal Guarantee
Dissolution of a Limited
Partnership
Partnership may be dissolved:
–
–
–
–
At the end of the life of the limited
partnership as specified in the certificate of
limited partnership.
With the written consent of all general and
limited partners.
Because of the withdrawal of a general
partner.
With the entry of a decree of judicial
dissolution.
Winding-Up a Limited
Partnership
• A limited partnership must wind up its
affairs upon dissolution.
• Certificate of cancellation must be filed by
the limited partnership with the secretary
of state of the state in which the limited
partnership is organized.
Distribution of Assets
• After the assets of the limited partnership have
been liquidated, the proceeds must be
distributed.
• The RULPA provides the following order of
distribution of partnership assets:
– Creditors of the limited partnership
– Partners with respect to
• Unpaid distributions
• Capital contributions
• The remainder of the proceeds
Twomey Jennings
Anderson’s Business Law and the Legal Environment, Comprehensive 20e
Anderson’s Business Law and the Legal Environment, Standard 20e
Business Law: Principles for Today’s Commercial Environment 2e
Chapter 43
LPs, LLCs, and LLPs
Copyright © 2008 by West Legal Studies in Business
A Division of Thomson Learning
Limited Partnerships
• A limited partnership consists of one
or more limited partners, and one or
more general partners.
• Limited partners contribute assets or
services with no liability for loss
beyond their investment, but do not
manage the business.
Copyright © 2008 by West Legal Studies in Business
A Division of Thomson Learning
2
Limited Partnerships
• General partners manage the business
and have unlimited personal liability.
• A certificate must be properly
executed and filed when a limited
partnership is formed.
Copyright © 2008 by West Legal Studies in Business
A Division of Thomson Learning
3
Limited Liability Companies
• A limited liability company is a hybrid
form of business organization that
combines the tax advantages of a
partnership with the limited liability
feature of the corporation.
Copyright © 2008 by West Legal Studies in Business
A Division of Thomson Learning
4
Limited Liability Companies
• Distributions: profits and losses are
shared according to the LLC operating
agreement.
• Property: LLC owns property in its own
name.
– Interest in an LLC is personal and
assignable.
Copyright © 2008 by West Legal Studies in Business
A Division of Thomson Learning
5
Limited Liability Companies
• Disregarding the LLC entity.
– Similar to ‘piercing the veil’ of corporations.
– Members may be personally liable even
beyond their capital investment.
• LLCs and other entities.
– LLCs vs. Sub-S corporations.
– LLCs vs. Limited Partnerships.
Copyright © 2008 by West Legal Studies in Business
A Division of Thomson Learning
6
Limited Liability Partnership
• A limited liability partnership is a
new form of business organization
that allows existing partnerships to
convert to this new form without
major renegotiation of the underlying
partnership agreement.
Copyright © 2008 by West Legal Studies in Business
A Division of Thomson Learning
7
Limited Liability Partnership
• Innocent partners in a limited liability
partnership are not personally liable
for the torts of other partners beyond
their investment in the firm.
Copyright © 2008 by West Legal Studies in Business
A Division of Thomson Learning
8
Comparison of Business Forms
General
Partne rship
Limite d
Partne rship
No formality required.
Filing a certificate of
limited partnership with
appropriate state office.
Filing articles of
organization with
secretary of state.
Registration of LLP
filed with state
government.
Unlimited liability of
each partner for fir m
debts.
General partners:
unlimited liability for
firm debts.
All members are liable
for LLC debts to the
extent of their capital
contr ibutions and
equity in firm. No
personal liability
beyond such.
No liability for
partners beyond their
contributions and
equity in firm, except
unlimited personal
liability for their own
wrongful acts and
those of persons
whom they supervise.
By members of fir m,
who may delegate
authority to managers.
All partners
according to
partnership
agreement or the
UPA.
As set forth in LLC
statute or articles of
organization.
As set forth in
partnership
agreement or the
UPA or RUPA.
Creation
Liability
Management
Limited partners: no
liability beyond loss of
investment.
All partners accord ing
to their partnership
agreement or the UPA
or RUPA.
General partners
according to their
partnership agreement
or the UPA or RUPA.
Limited Liability
Company (LLC)
Limite d Liability
Partnership (LLP)
Limited partners
excluded.
Dissolution
As set forth in the
partnership agreement
or the UPA or RUPA
Copyright © 2008 by West Legal Studies in Business
A Division of Thomson Learning
As set forth in the
partnership agreement
or the ULPA or RULPA
9
Discussion 1 ( three students)
Student 1
In choosing between a joint venture and partnership, the key issues seem to revolve around the
participants and purpose. While a partnership's participants are usually both people and joint
venture could include people or businesses. Additionally, a partnership is people coming together
to create a business, while a joint venture's participants are usually coming together only for the
life of a project. Ultimately the purpose of coming together would determine what entity is
formed.
Student 2
Partnerships and joint ventures each have their own benefits and flaws. If I were looking to start
a business with a colleague, there are a few factors that I would weigh before deciding which
business organization to enter such as the purpose, the legal definition, the different options
available, as well as the benefits and flaws.
For example, if my colleague and I were looking to start a firm together, I would lean towards a
partnership. In a partnership, two or more people merge their capital together to start the
business, with the main purpose to have a profitable business. Also, a partnership can be
converted into a limited liability partnership where each partner is only liable for their initial
capital investment used to start the partnership. However, if my friend and I were looking to
produce a music concert with We Are Messengers as the headliner, I would lean towards a joint
venture. In a joint venture, a business relationship is formed between two or more people who
combine their assets for a specific event/transaction and share all profits and losses equally. It
allows for the relationship to be absolved at the will of any participating member if there is not a
terminating date included in the contract. Overall, both partnerships and joint ventures are great
options depending on the type of business one is looking to start.
Student 3
Joint ventures are the joining of two or more persons pulling their sources together to achieve a
goal. In a joint venture, all parties are responsible for all losses as well as all gains. Joint ventures
are more limited and are created for one purpose, usually. They are not made up solely for profit.
Partnerships are the pooling of resources of two or more whose goal is to make a profit. In
partnerships, partners are subject to unlimited personal liability. Partnerships are ongoing for an
indefinite amount of time. The factors I would consider when deciding whether to choose a joint
venture or partnership are the amount of time I wish to be apart of this agreement, the amount of
money I could gain or lose, and the purpose of the agreement.
Discussion 2 ( three students)
Student 1
If I entered a partnership, I would mainly consider the terms of the partnership agreement like the rights
and responsibilities of all partners, the distribution of profits and losses, as well as the actions taken in the
event of a partner's death. The partnership agreement contains all of the conditions and terms that will be
implemented in the partnership. It would also make sure that the other partners understand their rights
and responsibilities to the partnership. Also, to ensure that my personal assets are protected, I could ask
for a provision to be added to the partnership agreement that states that my personal assets are not to be
used to settle outstanding debts for the partnership.
Student 2
There are multiple factors that I would want to consider when forming a partnership for business
purposes. I would want to make sure that there were limitations on authority which means that if a partner
violates that agreement then they are liable to the other partners for any loss caused by the breach of the
limitation. I would want to lay out all of the duties of the partners and what is expected from each partner
in the agreement. I would consider forming an LLC or LLP. Unlimited personal liability is remedied by the
LLC form of business organization. Professional partnerships that convert to an LLP shield innocent
partners from personal liability beyond their investment in the firm.
Student 3
If I were entering into a partnership the first step I would take is setting up a partnership agreement and
have all parties sign it. In the partnership agreement I would address the issues of personal liability.
Personal liability is very real concern that everyone should be careful about especially when related to
partnerships. Partnerships and sole proprietorships are the most risky forms of business because there
are not as many laws set in place to protect these businesses. With both businesses the owners put
themselves at risk because creditors can come directly after their personal assets when they don't make
their business payments on time. Therefore, this topic needs to be addressed first in the partnership
agreement.
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