Business Organizations Outline Christopher Johnson Winter 2013
Wednesday, December 12, 2012
12:44 PM
1. Sources of Biz Org Law
a. State Law
b. Federal Law & Stock Exchange Rules
c. Charter Documents
d. Statutes
i. Read, Read, Read
ii. Structure
1. Subsections
2. Separations
iii. Definition Section
iv. Cross References
2. The Main forms of Business Organizations
a. Sole Proprietorship
i. A person undertakes a business without any of the formalities associated with other forms of organization –> this means he does not set up some other type of entity like an LLC or by incorporating the business
1. There is NO distinction between the business and the owner
ii. How do you form a sole proprietorship?
1. Nothing really, it is formed automatically –> it is the default business organization
iii. What are the major concerns with a SP?
1. liability
a. the individual and the business are one and the same for tax and legal liability purposes
i. Which means that legal claimants can pursue all assets of the owner, not simply the assets used in the business
b. There is no liability protection AND ALL liability is on the owner
2. Taxation
a. The proprietorship does not pay taxes as a separate entity
i. The individual reports all income and deductible expenses for the business son her personal income tax report
ii. These earnings of the business are taxed to the individual regardless of whether they are actually distributed in cash
1. There is no vehicle for sheltering income from tax
4. No state filing is necessary (although certain businesses may have to be licensed)
b. Partnership or General Partnership
i. Partnerships are business entities that consist of TWO or MORE owners
1. Distinctions from a SOLE Proprietorship
a. it has at least 2 owners instead of just one
b. A partnership is considered a separate entity from its owners
ii. The partnership is considered a “legal person”
1. Which means that if A & B form AB Partnership there are 3 legal persons: A, B and AB partnership – this allows AB to enter K, own property, sue and be sued
iii. A partnership is treated like a proprietorship for tax AND liability purposes
iv. Earnings are distributed according to the partnership agreement, and taxes are paid only at the personal level on the partner's share of that income –> so called flow-through taxation
1. Flow through means they do not pay taxes, but rather their income flows through the partners
v. For liability purposes each partner is jointly and severally liable
1. This means that an injured party may pursue on or more of the partners for any amount
2. The claim need not be proportional to invested capital or earning distributing
c. Limited Liability Partnership (LLP)
i. Texas became the first state to adopt an LLP Statute
ii. Idea behind this is very simple, change the undesirable characteristics of partnerships aka the personal, joint and several liability of the partners, but leave the other characteristics of the partnership
d. The Corporation
i. The most common legal structure for large business
ii. One major advantage of the corporation compared to the sole proprietorship, is that a corporation's owners are generally protected from liability
1. Owners = stockholders/shareholders
iii. Because the business does not get any deduction for dividends paid, the earnings of a corporation are in essence taxed twice
1. FIRST –> the corporation pays a tax on its income
2. SECOND –> the owners of the corporation pay tax on the part of the corporation's earnings that is distributed to them as dividends
iv. The current maximum income taxation rate on corporate income is 35%
v. The maximum rate on individual income is likely to be approximately 40% when federal and state taxes are considered
e. The “C” Corporation
i. This limited liability for SH comes with a tradeoff – a double layer of taxation
ii. C corporations are tax payers
1. The corporation must pay corporate taxes & then when dividends are given out to the SH they also must be taxed on this income
iii. This double layer of taxation is less desirable than the flow through tax treatment of partnerships
f. The “S” Corporation
i. Like the LLC, the S corporation is afforded the tax status of a partnership, but the protection from legal liability of a corporation
ii. To qualify for S corporation tax status the business must:
1. Not have more than 100 shareholders, subject to certain “counting” rules
2. Only have US citizens and resident aliens as shareholders
3. Must be incorporated in the US
4. May not have more than one class of stock
5. May only have individuals, estates, certain trusts and certain nonprofit organizations as shareholders
g. Limited Liability Company (LLC)
i. The LLC is a business structure developed to provide both the protection from liability of a corporation AND the protection from double taxation of a partnership
ii. The owners of a LLC are NOT individually liable for the company's debts
iii. The LLC is NOT a tax paying entity –>
1. Income taxes are ONLY PAID ONCE – by the owners of the LLC when a part of the company's earnings is distributed to them
iv. The existence of an LLC depends on compliance with the state LLC law (these laws differ from state to state)
h. Limited Partnership
i. Are a hybrid form of organization
1. It is like a partnership for tax purposes AND
2. It is somewhat like a corporation for liability purposes
ii. A LP is a partnership that has both limited AND general partners
1. The general partner assumes the management responsibility AND unlimited liability for the business
2. The limited partner has NO voice in management and is legally liable only for the amount of capital contribution plus any other debt specifically accepted
a. The limited partner thus looks a lot like a shareholder in a corporation
i. Limited Liability Limited Partnership
i. This is really just an LP with a twist –> general partners will not be personally liable for the LLLP's obligations
ii. The LLLP is to the LP as the LLP is to the general partnership
c. Financial Statements
i. GAAP
1. A series of standards developed by the Financial Accounting Standards Board (FASB) each on a specific accounting topic which have been “codified”
2. Required to be followed by public companies by securities and exchange Commission via Regulation S-x and other rules
3. Conservatism: financial statements should err on the side of caution in some situations
ii. Balance Sheets
1. Describes a specific time – it provides a snap shot in time – it is conservative
2. Three main sections in a balance sheet
a. Assets (cash, equipment, real estate, intangibles like patens, copyrights and trademarks
a. Current assets
b. Property plant and equipment
c. Other assets –> intangibles
b. Liabilities – Accounts payable, taxes, bank notes
a. Amount owned to 3rd parties
b. Current liabilities (paid within a year)
c. Other liabilities or long term liabilities
c. Shareholder's/owners equity (what's left over for owners) ***MUST BALANCE
a. Paid in capital
i. Amount owners invested in business
b. Retained earnings
i. Difference between total amount of earnings of the business since it was formed and the amount that the business has paid out in distributions to its owners since it was formed
3. BALANCE –> assets and liabilities must balance
a. Assets – liabilities = Shareholders/owner's equity
b. Assets = Liabilities + Owner's Equity
iii. Income Statements
1. Profits (loss) = Income – Expenses
a. Profit is not the same as cash
2. Computes profit during a given period of time (a month or year) based on data about revenue and costs (income and expenses)
3. Want to match expenses with income they generate on income statement
a. There can be misleading information on income statement because of this
4. What is on an income sheet
a. Revenues –> sales
b. Expenses –> cost of goods sold, administration
c. Profits – are an account devise and tax devise – doesn’t represent real movement
d. Losses = account devise and tax devise – doesn’t represent real movement
5. Accrual Accounting
a. Those revenues and expenses are recorded on an accrual basis
b. Based on the matching principle
a. Match the revenues for a particular period with the costs incurred in producing those revenues in the same period
c. Accrual basis differs from cash accounting, which books revenues when cash is received and expenses when cash is disbursed
iv. Cash Flow Statements
1. Shows the money coming and going out
2. The cash flow statement covers a period of time, normally the same period of time as the income statement
3. It's important to add this to both income statement and the balance sheet
4. A measure of how much more cash a business has at the end of the year (or period) that it had at the beginning of the year or for a set period
a. Because of the accrual method, the fact that a company records income doesn’t mean that it actually has received any cash from that transaction.
a. But companies ultimately have to satisfy their ongoing liabilities with cash — e.g. salaries, vendor payments, interest on their debt.
b. The reason most businesses fail is that they simply run out of cash. Even though they may show a profit on paper, there is too much of a mismatch between the amount that they are earning and the expenses they have to pay.
5. Formula Cash Flow = Profit After taxes + depreciation – investment
v. What is most important statement to a creditor?
1. Cash flow statement because this tells them if they are able to pay
2. Also a balance sheet to see what the assets of the company are
vi. What is the most important statement to the
the K
d. Agent's Implied Warranty of Authority
i. Someone purports to make a K with third party, but lacks ability to bind, then they may have some liability
e. Termination of Agent's Power
i. Actual authority
1. Death of principal or agent
2. Lack of capacity of principal
3. Agreement
4. Manifestation of principal to agent
ii. Apparent Authority
1. When no longer reasonable for a 3rd party to rely on agent
a. Example would be the public firing an employee
2. Manifestation by principal to 3rd party
c. Tort Liability
i. A principal is liable where there is a master/servant (employer/employee) relationship and the servant is acting within the scope of their employment
ii. Master/Servant (Employer/Employee) Relationship
1. Doctrine of Respondeat Superior
a. P can be liable even though P is not personally negligent
b. If A is negligent and injuries TP, this doctrine will impose liability on P – even though P did nothing wrong
c. P's liability is vicarious or secondary and does not depend on P's being negligent
d. ONLY APPLIES to principal and agent relationships called Master/Servant
2. Control Requirement
a. Master must have control over the details of the job (day to day performance of the agent's task, but not necessarily every move the servant must make)
a. Difference between a servant and an Agent
i. The difference is in the amount of control
ii. Not ALL agents are servants (an not all principals)
iii. But ALL servants are agents (and all masters are principals)
iv. Not all employees are servants –> the master has to have control over day to day performance of an employee in order to be a servant
b. Factors for determining IF Agent is a Servant
i. If you have significant control over the person, the person is most likely a servant
ii. The higher level of skill, the less control is being exercised
iii. The length of time the person is employed –> the shorter the time the person works for you, it is likely they are an agent, but not necessarily a servant
3. Scope of Employment
a. The master is liable for the torts of a servant ONLY IF the tort was committed within the scope of employment
b. Commuting is NOT within the scope of employment
c. Frolic
a. Sometimes a servant leaves the appointed job to engage in personal business
b. Case law would say that such a servant was on a “frolic” and would not be a basis for vicarious liability
d. Detour
a. Although it might seem that an intentional tort would never be within the scope of one's employment, circumstances might indicate otherwise
b. Example a bouncer assaulting/using force against a customer, expected to occur by the master
e. Conduct of a servant is within the scope of employment if, BUT ONLY IF:
a. it is of the kind he is employed to perform;
b. it occurs substantially within the authorized time and space limits;
c. it is actuated, at least in part, by a purpose to serve the master, and
d. if force is intentionally used by the servant against another, the use of force is not unexpected by the master. (RSA § 228)
f. The Factors to be considered in determining if act is w/i scope of employment
a. the time, place and purpose of the act;
b. the previous relations between the master and the servant;
c. the extent to which the business of the master is apportioned between different servants;
d. whether or not the act is outside the enterprise of the master or, if within the enterprise, has not been entrusted to any servant;
e. whether or not the master has reason to expect that such an act will be done;
f. the similarity in quality of the act done to the act authorized;
g. whether or not the instrumentality by which the harm is done has been furnished by the master to the servant;
h. the extent of departure from the normal method of accomplishing an authorized result; and
i. whether or not the act is seriously criminal. (RSA § 229)
