Basic Business Organizations Class 5

Starting a Business  The first question: –What form should the business take? Sole proprietorship Partnership Corporation Limited liability company

Choosing the Form  Consider –Formation issues Filing requirements? Name restrictions? –Liability protection Protection from personal liability? –Management structure Centralized control? Full participation in management? –Taxation considerations –Exit strategies/transferability of interests

Sole Proprietorship  The most common form of business organization. –One (sole) owner (or – in Wash. – a married couple) –Business does not have to be registered with the secretary of state (although it may have to be licensed) –Profits and losses are the personal profits and losses of the owner and are taxed as such –Personal assets of owner are available to satisfy debts of the business

Advantages  Owner is in complete control & receives all profits  Flexibility  Ease of creation; maintenance

Disadvantages  Owner is personally liable for all torts/contracts  Lacks continuity after death  Difficult to raise financing

An Example  Child care provider –Wants to work out of her house –How does she form this business? –What legal process is required?

Partnership  There are three kinds of partnership –General Partnership –Limited Partnership –Limited Liability Partnership

Uniform Act  Washington has adopted the Revised Uniform Partnership Act  The statute governs to –Determine whether a partnership exists –Fill in the missing terms of a partnership agreement

Partnership  Association of 2 or more persons to carry on as co-owners of a business for profit. –More than one common owner –Terms of the partnership are governed by contract –Profits and debts are shared by the partners under the terms of the partnership agreement –The partners share in the management of the business

Advantages  Easy to create and maintain  Flexible, informal  Partners share profits and losses equally

Disadvantages  Partners are personally liable for all torts/contracts  Dissolved upon death of any one partner  Difficult to raise financing

Creation of Partnership  A partnership is usually created by contract –Oral (but remember the Statute of Frauds) –Written  However, a partnership may be created by “operation of law”

General Partnership  In a general partnership the partners share the profits, rights and liabilities of the business equally

Partnership Rights  Equal management rights  Equal (or as otherwise agreed) sharing in profits  Equal right to inspect the partnership books  Right to an accounting  Equal (or as otherwise agreed) property rights

Partnership Responsibilities  Partners have a fiduciary duty to the partnership and each other. –Are liable to the partnership for intentional misconduct or gross negligence –Cannot compete with the partnership –May not take an advantage from the partnership without consent of the partners –In case of conflict of interest, partnership profits must be given to the partnership

Joint Liability  Because a general partnership is considered a single business entity, the partners are all liable for the acts of any partner. –This includes debt –It includes negligence  Personal property of each partner may be used to satisfy the debts of the partnership

Termination  Dissolution by Acts of the Partners –Withdrawal of any partner from the partnership –Agreement of the partners  Dissolution by Operation of Law –Death of a partner  Dissolution by Judicial Decree

Notice of Dissolution  Each partner must have notice (constructive or actual) of the intent to dissolve or to with­draw.  To avoid liability for obligations incurred after dissolution, all affected third persons must have notice (actual, in the case of a creditor).

Winding Up  After dissolution and notice, partners complete transactions begun and not finished (but they can create no new obligations).  Partnership assets are collected, debts are paid, the values of partners’ interests in the partnership are accounted for, and profits and losses distributed.

An Example  Child care providers –Two friends decide to rent a duplex and make one of the duplexes a child care center –What steps do they need to take?

Limited Partnership  In a limited partnership, at least one of the partners does not share in the right to manage the business  The limited partner invests money, but has no decision-making authority  The liability of the limited partner is limited to his or her investment in the business

Limited Liability Partnership  An LLP is a kind of general partnership that is governed by statute. –The difference between general and limited liability partnerships is that in an LLP the partners are not liable for the debts of the partnership. –Clients or customers of the LLP must be informed of the limited liability.

Limited Liability Partnership  Primary difference between a general partnership and an LLP, in terms of formation, is that LLPs require the filing of a registration; and payment of the filing fee.  The LLP provides limited liability for partners, whether arising in tort or contract or otherwise. They are liable for their own malpractice.

LLPs  LLP is designed for professionals who normally do business as a partnership (e.g., lawyers and accountants).  LLP allows partnership to limit personal liability of the partners but allows “pass through” tax advantages.

Corporations  A business entity formed by shareholders  The corporation is a “person” for the purpose of conducting a business and can –Own property –Enter into contracts –Sue and be sued

Advantages  The liability of shareholders (the owners) of a corporation is limited to the individual’s investment  The business has a perpetual existence

Disadvantages  Takes a lot of attention at the formation stage  Requires ongoing efforts – reporting requirements, annual meetings

Limited Liability Co.  A form of business ownership that permits small business owners to limit their liability to the amount of their investments –These are governed by statute RCW 25.15

LLC Agreement  Operating agreement is analogous to corporation’s bylaws.  Operating agreements may be oral and contain provisions relating to management, dividends, meetings, transfer of membership interests, and other significant issues.  Generally, if the operating agreement is silent, courts will apply partnership principles.

LLCs - History  LLCs were created by statute in Washington in  They may carry on any activity – other than banking and insurance.

Advantages  Member liability is limited to amount of investment.  Can be treated as a “pass through” entity for tax purposes (like partnership).  Profits can be distributed to members without the double taxation of a corporation. Members pay personal income tax on received dividends.