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Business Orgs.Ch. 20 - RelatedBusiness Orgs.Ch. 20 - Related

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Basic Business Entities

I. MODES OF OPERATION (a/k/a CHOICE OF ENTITY)

A. Legal arrangements and “entities”

1. Legal rules are concerned with identity and the structure or flowof responsibility and authority

a. “Who” is the operative party, an individual (“physical person”)or an unreal entity (“legal person”)?

b. Who has legal authority to control the operative party’s actions?

c. Who is legally responsible for the results of the operativeparty’s actions?

NOTE: In most respects, the law treats a legal entity/legal personexactly as it treats a “physical” person. However, some differencesnecessarily flow from the fact that a legal entity has no separatevolition and cannot act in all the same manners as an individual.A legal entity, in many ways, is similar to an individual in the same way a Bactrian camel is similar to a horse, i.e. designed by a committee.

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2. Each type of business organization has related combination of characteristics that is unique, though in some cases the differences are few.

a. The challenge in choosing a particular type is to selectthe combination that is most appropriate for the needsof the business.

b. It is likely that no recognized organization type will beoptimum for all purposes

c. It is possible to change a business’ organization type asthe operation’s needs change

(1) Changing an organization’s type is not a complicatedlegal problem

(2) Changing an organization’s type may have significantincome tax costs (usually controllable by planning)

d. Desires, finances, etc., of owners may limit the choices

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B. Issues/Factors Relevant to Choosing an Organization Type

1. To what extent can the owner(s) _____________ business operations?

2. What means/methods of _________________ are available?

3. How easy/difficult is it to _____________________ interests?

4. To what extent is an owner subject to _____________ for the business’ obligations?

5. What are the organization type’s ________ characteristics?

6. What _______________ tasks are required for the organization type?

The relative importance of factors will vary widely. If the business has high potential liability for personal injuries (e.g. demolition work), potential owner liability will be extremely important. If it is a one-person operation, the number of time-consuming administrative requirements may be more important. If some of the owners have signi- ficant income from other sources, tax characteristics maybe very important.

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C. Some General Relationships Between Important Factors:

1. CONTROL: As the degree/amount of owner’s control __________:

a. The amount of potential owner liability for debts increases

b. The variety of financing options _________________

c. The ease of transferring the ______________ increases, butthe ease of transferring a portion of the business decreases

2. TAXATION – How an organization type is taxed (for incometax purposes:

a. Depends principally on whether the organization is or is nota _______________separate from its owners

b. Legal entities are taxpayers distinct from owners, but insome circumstances, the parties (entity + owners) can electto not be treated as an entity for income tax purposes.

c. The importance of taxation on entity choice is oftenover-emphasized

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D. Source of Governing Law

1. Common Law

a. The oldest and simplest organization types are based onCommon Law principles, particularly _________, __________,and agency rules

b. Common Law organizations have few administrative requirements

2. Statutory law (STATE)

a. More complicated (and newer) organization types areauthorized by, and created pursuant to, state statutes

b. Administrative burdens vary between organization typesbut statute-sanctioned organizations must generally disclose some information on internal matters and fileregular reports

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II. COMMON LAW ORGANIZATION TYPES

A. Sole Proprietorship

1. An internal arrangement or organization of an individual’s property and financial affairs

2. No statutory compliance necessary to establish, no administrativeburden (but separate accounting is advisable)

3. The sole proprietor has

a. Complete control over _______________________

b. _____________ personal responsibility for business’ liabilities

c. Unrestricted _______________ all or part of business assets

d. Personal responsibility for resulting taxes

e. Ability to finance operations only to the extent her/hispersonal assets and operations support direct borrowing

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Partnership

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I. PARTNERSHIP CHARACTERISTICS

A. Multiple Personality Disorder (a psychology term, not a legal one)

1. Traditionally, “a partnership” was not possible, but “the partner-ship of Hubert and Heathrow” was possible

a. Two or more persons working as a group are referred to as“a partnership”

b. Each partner can / does act for the group

2. More recent rules allow a partnership to be treated as an entityfor some purposes» Holding title to, and transferring, property» Named party in court proceedings» Entering into contracts

3. Depending of issue and circumstances, “the partnership” is:» Any one of the partners» All of the partners together» The partnership as a pseudo-entity

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II. FORMATION

A. Basic Law Applied

1. ___________ law governs the parties’ agreement

2. ___________ law governs partners’ interaction with third parties

3. Statutory law (Uniform Partnership Act) basically Common Law

B. Creating Partnership

1. Contract of partnership can be created ___________________(written, oral, implied)

2. Essence of partnership is agreement to jointly operate business

(a) Distinguish joint ownership of investment

(b) Most unique part of partnership agreement is the agree-ment to _______________________

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3. Between themselves partners can make any agreement desired

a. No statutorily imposed terms

b. If agreement does not cover some questions, law provides

4. Customary legal rules – in absence of agreement:

a. Each partner has an _________________

b. Majority vote (one vote each) decides operational questions

c. _____________ agreement required for major changes

d. Partners _________________ in profits

e. Partners share losses in same proportion as profits

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5. Many aspects of good partnership agreement like prenuptial

a. Who has authority to do what» With partnership property» With respect to third parties

b. Precise provisions for what will happen if:

1. A partner wants out

2. Some partners want to expel a partner (or partners)

3. A partner becomes incapacitated or dies

c. The partnership agreement is not binding on third parties

1. Every partner has _________________ to act for p’ship

2. Public notice may be required when a p’ship is dissolved or a partner leaves

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III. AGENCY ASPECTS

A. Partner as agent

1. Each partner has __________________ to represent the partner-ship and all other partners with respect to partnership business» Partnership agreement can _____________ implied authority

2. Each partner is the _________________ of the partnership

3. Each partner has _________________ to act for the partnershipand all other partners

4. A partner (as principal) can create__________________________to act as agent – a very dangerous ability

B. Duties of Partner-as-Agent

Review agency rules:» Loyalty » Fiduciary duty » Notification» Accounting » Competing » Self-dealing

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IV. PROPERTY–LAW ASPECTS

A. Property dedicated (“contributed”) to partnership business

1. Formal title holder not important

2. Each partner holds a “____________________” in all property

a. Similar to ___________________ (in many respects)

b. Partner has right to possession for partnership business

c. Unless otherwise agreed, rights go to remainingpartners when one dies or leaves

B. Transfers

1. Each partner can transfer clear title to partnership propertyin the ordinary course of business (even without actual authority)

2. Transfer that would severely affect ability to do business mustbe with agreement of all

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V. LIABILITY FOR DEBTS & OBLIGATIONS

A. Between Partners

1. Agreement can establish proportionate liability of each partner

2. If no agreement, ________________________

3. Partner who pays more than share can recover from others(right of “contribution”)

B. To Third Parties

1. Each partner is liable for ________________________» Individual assets can be seized to pay partnership debt

2. “___________ liability” = must be treated (sued) as a group» Omitting one precludes recovery from anyone

3. “__________ liability” = each partner is fully liable as an individual» Can sue/recover/settle against one without effect on

rights against others

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VI. TERMINATION OF PARTNERSHIP

A. “Dissolution” of partnership

1. Essentially identical to termination of an agent’s authority

2. Any change in partnership membership _________________

a. Some partners may continue old partnership’s business innew partnership (usual)

b. Applies to voluntary and involuntary changes

3. An act that causes dissolution may be a breach of contract, but the partnership is still dissolved

a. The essence of acting as partnership is right/ability toact as agent for the group

b. Consent to agency power can be withdrawn at any timefor any (or no) reason

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B. “Winding Up” of partnership

1. After dissolution, partners not causing dissolution have rightto close/terminate operations in orderly manner

a. No authority to continue “partnership” business

b. Authority to complete existing contracts, sell assets, etc.

c. Can exercise reasonable business judgment in process

2. Acting persons have right to compensation for work

3. Must give full accounting to all former partners (or theirrepresentatives)

4. Priority of payment» Debts to third parties» Bona fide debts to partners» Return of capital to partners» Remainder to partners as profit