R8.3 – Business Structures

Question 0

Sole Proprietorship

Answer 0

Simplest form of business ownership

Sole proprietor not a separate entity from business

No filing with state
– publish true name of business owner if using fictitious name

Unlimited liability

Profits and losses flow-through the business to the sole proprietor
– Report net income on owner’s Form 1040 on Schedule C.

Can’t exist beyond the life of the sole proprietor

Can terminate business or transfer interest in sole proprietorship at will

Question 1

Business Structures

Answer 1

1. Sole Proprietorship
2. General Partnership
3. Joint Venture
4. Limited Liability Partnership (LLP)
5. Limited Partnership (LP)
6. Limited Liability Company (LLC)
7. Corporation

Question 2

General Partnership

Answer 2

General partnership = 2 or more people intend to carry on, as co- owners, a business for profit

Question 3

General Partnership – Formation

Answer 3

Nothing needs to be filed with the state
– Exception: Partnerships doing business under a fictitious name must register with the state.

Express agreement not required
– Agreement can be implied from conduct
– To enforce agreement to remain partners for longer than one year, writing is required under the statute of frauds

Any party competent to make a contract
– An individual, corporation, partnership can be a partner
– A minor can be a partnership, but partnership voidable at option of minor

Question 4

General Partnership – Nature

Answer 4

General partnership not separate entity for federal income tax purposes
– Partnership does not pay federal income tax
– Partner’s report share of partnership profits and losses flow on their individual returns

General partnership treated as separate entity for other purposes
– partnership can be used in its own name
– Separate entity for employment so pay FICA, FUTA, and workers’ compensation

Question 5

General Partnership – Operation

Answer 5

All partners have equal rights to manage the partnership business unless partnership agreement states otherwise

Matters within the ordinary course of business decided by simple majority unless partnership agreement states otherwise

Matters outside the ordinary course of business decided by consent of all partners
– Admitting new partners
– Confessing a judgment of submitting a claim to arbitration
– Making fundamental change in the partnership business
– Changing partnership agreement
– Assigning partnership property to others

Question 6

General Partnership – Agency of Partners

Answer 6

Each partner is a mutual agent of other partners

Each partner has
– Actual authority granted
– Apparent authority for transactions within regular course of business
– No apparent authority for transactions outside the regular course of business

Partner’s apparent authority cannot be limited by resolutions or instructions of which the third-party is unaware

A partner who acts outside scope of actual authority liable to the partnership for any damages caused

Question 7

General Partnership - Rights in Partnership Property

Answer 7

Partnership owns all money and property contributed by partners and any acquired by partnership

Partners not treated as co-owners of partnership property
– Can’t assign or transfer his rights in a specific item of partnership property
– Partner’s creditor can’t attach to partnership property to satisfy partner’s obligation to creditor
– Partnership property is not subject to individual partner’s liability for alimony
– Upon death, rights in partnership property vest in surviving partners and do not pass on to partner’s estate

Partner can’t mortgage partnership property without authority

Question 8

General Partnership – Rights in Partnership Interest

Answer 8

Partner’s interest in partnership consisting of partner’s right to his share of the profits and surplus

Partner can assign his interest in the partnership
– Assignee has rights to partner’s share of the profits and surplus, but has no management rights
– Assignee has to be admitted as a partner to get management rights

Partner cannot assign his interest in specific partnership property

A creditor of an individual partner can attach a partner’s interest

When a partner dies, his rights to profits vests in his heirs

Question 9

General Partnership – Rights to Indemnification & Contribution

Answer 9

Partnership must indemnify every partner for expenses incurred by the partner on behalf of the partnership

If partner pays more than his share of a partnership debt, can seek repayment from other partners

Question 10

General Partnership – Right to inspect books and records

General Partnership – Rights to bring legal action against partnership

Answer 10

Every partner has the right to inspect and copy the books and records of the partnership

Partners can bring legal actions against the partnerships under most circumstances

Question 11

General Partnership – Duties & Legal Obligations

Answer 11

Each partner owes a fiduciary duty to the partnership and is bound to use partnership property and his best efforts for the benefit of the partnership

Each partner is personally liable for all partnership obligations

Partners are personally liable for all contracts entered into and torts committed by other partners within the scope of the partnership business or which are otherwise authorized

Partner’s liability is joint and several

Question 12

General Partnership – Profit & Loss Allocation, and Distributions

Answer 12

Partners have equal rights to share in the profits of the partnership, unless partnership agreements states otherwise

Partners share losses in the same manner as they share profits, unless agreed to otherwise

Partner has no specific rights to receive distributions from the partnership other than as they agree

Partner’s are to devote themselves to partnership business full-time, unless agreed to otherwise
– Don’t get any re numeration for services other than their share of profit of business
– Exception: a surviving partner is entitled to reasonable compensation winding up the partnership affairs.

Question 13

General Partnership – Termination: Dissociation

Answer 13

Dissociation = 1 or more partner leaves partnership
– Does not necessarily dissolve partnership
– Partner who wrongfully dissociates is liable for damages caused by dissociation
– At will partnership = partner can quit at any time

Dissociated partner’s apparent authority to bind the partnership will continue until 3rd parties given notice of the dissociation

Dissociated partners remain liable for debts incurred by the partnership prior to dissociation unless released by creditor or novation

Dissociated partner may be liable for debts incurred up to 2 years after the date of dissociation if the other party to the transaction reasonably believed when entering the transaction that the dissociated partner was still partner and did not have notice of the dissociation

Incoming partner is not liable for debts incurred prior to him becoming partner, but incoming partner’s contribution can be used to settle prior debt

Question 14

General Partnership – Termination: Dissolution

Answer 14

Dissolution = partnership is dissolved and business will be wound up

A partnership will be bound by a partner’s act after dissolution is the act is appropriate for winding up the partnership

Partnership is bound by partner’s post-dissolution act if 3rd party not notified of dissolution

Partnership continues to exist after dissolution until is business is wound up, at which time partnership is terminated

The following people can wind up a partnership
– All partners except a partner who has wrongfully caused a dissociation
– Surviving partner if partnership dissolved by death of a partner
– Last surviving partner’s executor if partnership not wound up when the last partner dies

Question 15

General Partners – Termination: Distribution of Assets

Answer 15

1. Reduce assets to cash
2. Pay creditors including partners that are creditors
3. Balance handed over to partners

Question 16

Joint Venture

Answer 16

Association of persons or entities with the intent of engaging in a single business venture for profit

Same legal requirements, consequences, advantages, disadvantages as general partnership

General partnership vs. joint venture
– joint venture: single transaction or project, or related series of transactions of projects
– general partnership: ongoing open-ended association

Question 17

Limited Liability Partnership (LLP)

Answer 17

Flow through of profits and losses to partners

Formation: must file with state

Liability of LLP partners:
– Not personally liable for acts of fellow partners, employees, agents
– Liable for negligence and negligence of those under direct control
– Not personally liable for debts and contractual obligations of the LLP
– Liable only to the extent of the capital contributions and for their own and their subordinates’s negligence

Question 18

Limited Partnership (LP)

Answer 18

Limited partnership = 1+ general partner plus 1+ limited partners
–.Need at least one general partner

Must file with state
– Name of business must include “limited partnership” or “Ltd.”

New partner can be added only with consent of all partners

Allocation of profits and losses according to partnership agreement
– If no agreement, profits and losses in proportion to contributions

Death of a limited partner does not cause dissolution

Question 19

Limited Partnership (LP) – General Partners

Answer 19

Personal liability for all partnership debt

Responsible for management

Can also be a limited partner at the same time

Can be a secured or unsecured creditor of partnership

Question 20

Limited Partnership (LP) - Limited Partners

Answer 20

Liability is limited to his investment

No right to take part in management

Not an agent of business – cannot bind business in contract

No fiduciary duty to partnership

Uniform Limited Partnership Act of 1976 = Limited partners are liable as general partners if they participate in management

Uniform Limited Partnership Act of 2001 = limited partners not liable as general partners if they participate in management

1/2 of states follow 1976 rule, 1/2 of states follow 2001 rule

Limited partner can assign his interest in the partnership
– Assignee has limited partner’s right to profits
– Assignor ceases being limited partner upon assignment of all limited partnership interest

Question 21

Limited Liability Company (LLC)

Answer 21

Entity distinct from members

Profits and losses flow-through the LLC to owner

Limited liability

Formation – File with states

Can have 1-person LLC

Question 22

Limited liability Company (LLC) – Operation

Answer 22

All members have rights to participate in management

Members participating in management are agents of the LLC,

Members owe fiduciary duty to LLC

Voting rights proportional to contribution

Profits and losses allocated according to contribution
– Uniform Limited Liability Company Act states divides profits and losses equally

LLC members don’t have right to any particular distribution

LLC member can not transfer ALL of his interest in LLC without consent of all the other members

LLC Members can’t assign rights to manage LLC

Question 23

Corporations – Nature

Answer 23

A corporation is a separate legal entity distinct from its owners and managers
– separate entity status may sometimes be ignored to reach assets of shareholders or managers (piercing the corporate veil).

Only the corporation is liable for corporate obligations
– Shareholders, directors, officers not personally liable for contracts made by corporation
– Shareholders, directors, officers not personally liable for torts unless they participated

Corporation generally has perpetual life

Question 24

Corporations – C corporations

Answer 24

C corporations tax as entity distinct from owners

Shareholders not taxed on C corporation’s profit until distributed as dividends

Double taxation

Question 25

Corporations – S Corporations

Answer 25

S Corporation taxed like partnership: Flow-through to owners
– No double taxation

Restrictions on S corporation
– No more than 100 stockholders
– Shareholders must be individuals, estates, or certain trust not C corporation
– Corporation must be domestic corporation
– Only one class of stock
– No foreign shareholders

Question 26

Corporations – Formation: Articles of Incorporation

Answer 26

Formation: File articles of incorporation with state

Articles of incorporation filed with the states
– Name of Corporation
– Name an address of Corporation’s registered agent
– Name and addresses of each of the incorporators
– Number of shares authorized to be issued
– One or more classes of shares must have unlimited voting rights
– Corporations can choose to include a statement of its business purpose and articles.

Some states require a purpose clause
– If a corporation has a narrow purpose and acts outside it, it is said to be acting “Ultra Vires”. – Director or officer who authorizes act may be liable to corporation for damages caused

Bylaws = rules for running corporation
– Not part of articles of incorporation and are not required to be filed with the state

Question 27

Corporations – Piercing the Corporate Veil

Answer 27

Piercing the Corporate Veil = holding shareholders, officers, or directors of a corporation who were active in management or operation of business personally liable because the privilege of conducting business in corporate form is being abused

Reasons corporate veil pierced
– Shareholders commingle personal funds with corporate funds
– Corporation was inadequately capitalized at time of formation
– Committing fraud on existing creditors

Corporate Veil will not be pierced for:
– Incorporating as S corporation
– Incorporating as a partnership
– Bankruptcy of a corporation that was adequately capitalized at the outset.

Question 28

Corporations – Financing

Answer 28

Debt securities = Bonds
Corporation as borrowed funds from an outside investor and promises to repay them

Equity Securities
– Shares
– Stock warrants
– Options to purchase shares granted by corporation
– Stock Options
– Option to purchase shares granted by others

Corporation must issue stock
– If only one class of stock, it is called common stock
– Can choose to issue several classes or series of stock with varying rights

If par value, Corporation can not issue stock at less than par value.

Board can decide to issue uncertified shares if article or bylaws don’t prevent it

Unless prohibited by articles, board can issue stock at any price it considers appropriate
– As long as board values property received in good faith, its determination of value is conclusive

Question 29

Corporations – Shareholders’ Voting Rights

Answer 29

Elect or remove directors

Approve fundamental changes to the corporation
– Dissolution
– Amending articles of incorporation
– Mergers, consolidations, and compulsory share exchanges
– Sale of substantially all of the corporate assets.

Inspect books and records (5 days written notice stating a proper purpose)

Preemptive rights
– Right of first refusal when corporation proposes to issue additional shares of stock

Dissenting Shareholder Appraisal Rights
– When shareholder dissatisfied with fundamental corporation changes can ask corporation to pay them fair value of shares rather than remain shareholders.

Derivative actions
– Corporation has legal cause of action against someone but refuses to bring action, shareholders have right to bring shareholder derivative action, against directors or outsiders, to enforce corporation’s rights
– Recovery goes to corporation, not shareholder who brought action

Generally, one share = once vote

Some classes may be denied the right to vote, or may be granted a voting preference

Cumulating voting for directors

Shareholders don’t have right to a distribution until and unless declared by board of directors.

Preferred Shareholders must be paid first non preferred shareholders

Question 30

Corporations – Directors

Answer 30

Duties
– Elect, remove, and supervise officers
– Adopt, amend, and repeal bylaws
– Fix management compensation
– Initiate fundamental changes to the corporation’s structure
– Sole discretion to declare distribution to shareholders
– Shareholders have no power to compel a distribution
– Have fiduciary duty to corporation

Business judgment rule – directors liable to corporation only fo negligent acts or omissions

Duty of loyalty

Right to Rely on info provided

Can be indemnified lawsuit brought against them in their corporate capacity

Can not be indemnified against shareholder derivative suit

Question 31

Corporations – Officers

Answer 31

Agents (employees) of the corporation

Conduct its day to day operations and

Can bind the corporation to contracts made on its behalf.

Selected by the directors

Serve at the discretion of board – Can be removed with or without cause

Not elected by shareholders

Officers have fiduciary duty to corporation

Protected by business judgment rule

Can be indemnified

Officers can serve as director

Officer not required to be shareholder, but can be

Question 32

Corporations – Fundamental Changes

Answer 32

Require corporate shareholder approval
– Dissolution
– Amendments to the articles of incorporation
– Merger’s consolidation, and compulsory share exchanges
– Sales of substantially all of the corporation’s assets outside the regular course of business.

Question 33

Corporations – Mergers, Consolidations, and Share exchange

Answer 33

Merger = 1 or more corporation joins with another corporation
– 1 corporation survives merger, and continues in existence, other corporations cease to exist

Consolidation = 1 or more corporation joins together to form new corporation
– New corporation emerges; old corporations all cease to exist
– New corporation liable for debts of old corporations

Share exchanges = 1 corporation acquires all of the outstanding shares of one or more classes of stock of another corporation
– No new corporation; all corporations continue to exist

Share exchange: only the corporation whose shares are being acquired goes through fundamental changes procedure

Merger of subsidiary - parent corporation owning 90%+ of subsidiary can merge subsidiary into parent without approval of subsidiary’s shareholders, parent’s shareholders, or subsidiary board.

Question 34

Corporations – Fending off Unwanted Takeover Attempts

Answer 34

Persuade shareholders to reject offer

Sue person or company attempting takeover for misrepresentation or omission and obtain injunction against takeover

Merge with white knight (company that wants to merge)

Make self-tender (offer to acquire stock form own shareholders)

Pay greenmail (pay person/company to abandon takeover attempt)

Lock up crown jewels (give third party option to buy company’s best assets)

Scorched earth policy (sell off assets or load up on debt)

Apply Shark Repellant (amend articles of incorporation or bylaws to make takeover more difficult)

Question 35

Corporations – Termination

Answer 35

Dissolution = fundamental change
– Needs director and shareholder approval

May also be pursuant to court order

After dissolution, corporation exists until liquidation process complete.

Question 36

Corporations – Tax Year

Answer 36

Can choose between calendar year or fiscal year

For tax purposes, fiscal year must be approved by IRS