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Business Associations/Corporations
University of San Diego School of Law
Wonnell, Christopher T.

I.        Organizational Forms
A.      Introduction
                1.         Key Considerations
a.      Formation – Methods of forming could have affect on choice
b.     Liability of Owners – Will there be personal or limited liability?
c.      Management and Control of Owners – Who is going to be in control?
d.     Transferability of Ownership Interest
e.      Duration of Life of Business Association (Continuity of Life)
f.       Taxation Preferences
                2.         Types of Organizations
a.      Sole Proprietorship
i.         Proprietorships are not incorporated
ii.       Proprietorships make-up 13 million of all businesses; corporations
b.     Partnership
c.      Limited Partnership (LP)
d.     Limited Liability Partnership (LLP)
e.      Limited Liability Company (LLC)
f.       Corporation
                3.         Corporations
a.      Corporations make-up 3 million of all businesses, but 96% of all sales come from corporations.
b.     Two Types of Corporations:
i.         Closely Held Corporations
                                                           1)      Few shareholders and shares are not publicly traded
                                                           2)      96% of corporations are closely held
                                                           3)      Business managers and owners are the same persons
                                                           4)      Entrepreneurs
ii.       Open (Public) Corporations
                                                           1)      Publicly traded shares with many shareholders
                                                           2)      Separation of ownership with control (management)
a)       Owners bifurcated Into:
·         Those investing in the corporation are capital suppliers (suppliers of capital); and
·         Portfolio managers put money in a pension fund.
b)      Public corporations own over 89% of all assets in the US.
c.      Four Stages of Corporations:
 
            Publicly Held Corporations
 
                                   
Managers          Owners
 
 
Portfolio           Suppliers of Capital
 
 
Beneficiaries                 Human Resource Managers
 
                                                           1)      Closely Held Corporations are at stage one (managers and owners)
 
Key
Consideration
Partnership
Ltd.
Partnership
Corporation
Ltd. Liability Partnership
Ltd. Liability Co.
Ltd. Liability
Personal Liability
General Partner Personally Liable
No Personal Liability
Partial Personal Liability
Members Have Limited Liability
Mgm’t & Control
Partners Control
General Partner Controls
Bd. of Directors Controls
General Partner Controls
Members/Manager Controls
Continuity
Dissolves if Partner Leaves
Dissolves if Partner Leaves
Yes. Buyout Agreements.
Dissolves if Partner Leaves
Member May Withdraw
Entity or Aggr.
Aggregation
Aggregation
Entity
Aggregation
Entity
Taxation
Flows Through To Partners
Passed on to Partners
Taxed to Corporation
Flows Through To Partners
Taxed to LLC
Formation
Informal
File Certificate
File Articles
File Application
File Articles
 
B.      Sole Proprietorship
                1.         Owner of the business carries on the business as an individual.
a.      Debt – Owner directly liable for all debts of the proprietorship.
b.     Tax – Owner reports the tax as his own.
C.      Partnership
                1.         General Partnership
a.      UPA Definition: “an association of two or more persons to carry on as co-owners a business for profit” (§6(1)).
b.     Creation
i.         By operation of law – Partnership can come into existence by operation of the law, without any filing of papers.
ii.       Creation by ‘estoppel’– If two people represent to the outside world that they are in partnership. (See UPA §16)
                                                           1)      Limited scope – Applies only where 3d party extends credit to the partnership. Other reliances inapplicable.
c.      Life Span
i.         Dissolution: Dissolves upon death, bankruptcy, or withdrawal of any partner.
                                                           1)      Absent an agreement, any partner may withdraw and demand liquidation.
d.     Liability to Outsiders
i.         Partners have unlimited liability, personal assets at risk for partnership obligations.
                                                           1)      Under some statutes liability of partnership contracts is joint, so partnership assets must first be exhausted.
e.      LLP Statutes
i.         Limit liability of partners for partnership debts and obligation, unless partner supervised another partner or agent engaged in wrongful conduct.
f.       Financial Rights
i.         Partners share equally in profits and losses, which are divided on dissolution.
                                                           1)      No statutory right to profits.
                                                           2)      No statutory right to compensation for services.
g.     Firm Governance:
i.         Binding the firm: Each partner is an agent of all other partners and can bind the partnership, either by transacting business as agreed by the partners (actual authority) or by appearing in the eyes of 3d parties to carry on partnership business (apparent authority).
ii.       Control of firm – Unless otherwise agreed, majority vote needed to decide ordinary partnership matters.
                                                           1)      Extraordinary matters or those contravening agreement – require unanimity.
h.      Transferability of Ownership Interests
i.         Partner cannot transfer interest unless all remaining partners agree or partnership agreement permits it.
                                                           1)      Partner may transfer his financial interest in profits and distribution, entitling the transferee to a charging order.
                2.         Limited Partnership (LP)
a.      Formation
i.         Must be created with written agreement among the partners and certificate filed with state official (RULPA §201)
                                                           1)      Dissolution – Limited partnership lasts as long as the partners agree or, absent agreement, until a general partner withdraws.
b.     Nature
i.         Two Kinds of Partners:
                                                           1)      General– Each liable for all debts of the partnership;
a)       Corporate general partner – General partners may be corporations.
                                                           2)      Limited – Not liable for debts of partnership beyond their proportional share of contributions.
a)       No management participation
c.      Liability to Outsiders:
i.         General Partner – Must be at least one ¬ unlimited liability
ii.       Limited Partners – Liable only to the extent of their investment.
                                                           1)      No participation in control
d.     Firm Governance:
i.         Binding firm: General partners have authority to bind the partnership to ordinary matters.
                                                           1)      Limited partners have voting authority over specified matters, but cannot bind the partnership.
e.      Transferability of Ownership Interests:
i.         General Partner – Cannot transfer interest unless all remaining partners agree or partnership agreement permits it.
ii.       Limited Partner – Interests freely assignable.
iii.      Both – can assign their rights to profits and distributions.
D.      Limited Liability Partnership (LLP)
                1.         Similar to a general partnership, but there are no limited partners
                2.         Partners may have shield from some partnership liabilities
a.      Partial Shield LLPs
i.         Partners have personal liability for all contractual obligations of the partnership.
ii.       Partners have personal liability for their own negligence and the negligence of their subordinates.
iii.      Partners do not have personal liability for negligence of their partners or employees they do not supervise
b.     Full Shield LLPs
i.         Same protections as partial shield LLPs
ii.       PLUS partners also have limited liability for contractual obligations of the partnership.
E.      Limited Liability Company (LLC)
 

tributions to profit-sharing plans, as long as they are “reasonable.”
i.         Constructive dividends – If compensation is not related to the value of services, IRS can treat excess compensation as “constructive dividends” and the corporation loses its deduction, e.g. secretary gets $200K per year.
c.      Deductible Interest – Shareholder-lenders can receive deductible interest, rather than non-deductible dividends.
                6.         Accumulating Corporate Earnings
a.      If corporate earnings are reinvested in the business and not distributed to shareholders, no federal income taxes.
b.     Under current tax law, any gains from selling assets that have increased in value are taxed at the corporate level before the proceeds are distributed to shareholders, where they are taxed again.
i.         Nonetheless, it may be advantageous to let earnings accumulate in a business, at sometimes-lower corporate tax rates.
G.     Professional Responsibility (Conflicts of Interest)
                1.         Introduction
a.      Lawyer representing the constituent promoters of a corporation may have a conflict of interest that prevents him from representing all of them
i.         Each individual may have pre-existing conflict
                                                           1)      However, their interests are generally aligned so you may represent them as a lawyer for the “situation.”
                2.         ABA Model Rules of Professional Conduct (2002)
a.      Need consent in writing for multiple representation
i.         Spell out all consequences in letter that they sign
                                                           1)      Loss of attorney and client privilege between the jointly represented parties
a)       The information is shared within the group which is relevant to joint representation
                                                           2)      Also, the entity is the client, and the information in forming the entity is the corporations privilege not the individuals’ privilege
                                                           3)      Let them know that you will have to withdraw as counsel if there is a conflict between parties (cannot represent any of the parties even if one was a prior individual client)
                                                           4)      Most firms do a conflicts check as well
                                                           5)      Differing interests of parties are spelled out in the letter
a)       These are not conflicts, they are different interests
b)      May be called fundamental antagonism
c)       The conflicts may arise from the different interests in the future
                3.         Lawyer Protection
a.      Must represent each equally, not just the one with the money
b.     Raise attorney’s fees at first meeting
i.         Should be in writing for no misunderstanding
ii.       If retainer, then it should be held out and money taken from this
iii.      Some attorney’s won’t work without a retainer
                                                           1)      Client must understand that the retainer is not the limit of what fees are
                                                           2)      Let them know when retainer is running out
                                                           3)      Also may need to revise retainer
a)       Costs go up or go down
iv.     Two Kinds of Expenses: