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 FormConsider

– 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 ProprietorshipThe 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

AdvantagesOwner is in complete control & receives all

profitsFlexibilityEase of creation; maintenance

DisadvantagesOwner is personally liable for all

torts/contractsLacks continuity after deathDifficult to raise financing

An ExampleChild care provider

– Wants to work out of her house – How does she form this business? – What legal process is required?

http://www.access.wa.gov/business/index.aspx

PartnershipThere are three kinds of partnership

– General Partnership– Limited Partnership– Limited Liability Partnership

Uniform ActWashington has adopted the Revised

Uniform Partnership ActThe statute governs to

– Determine whether a partnership exists– Fill in the missing terms of a partnership

agreement

PartnershipAssociation 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

AdvantagesEasy to create and maintainFlexible, informalPartners share profits and losses equally

DisadvantagesPartners are personally liable for all

torts/contractsDissolved upon death of any one partnerDifficult to raise financing

Creation of PartnershipA 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 RightsEqual management rightsEqual (or as otherwise agreed) sharing in

profitsEqual right to inspect the partnership booksRight to an accountingEqual (or as otherwise agreed) property

rights

Partnership ResponsibilitiesPartners 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 LiabilityBecause 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 DissolutionEach partner must have notice (constructive

or actual) of the intent to dissolve or to with draw.

To avoid liability for obligations incurred after dissolution, all affected third persons must have notice (actual, in the case of a creditor).

Winding UpAfter 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 ExampleChild 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.

LLPsLLP 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.

CorporationsA business entity formed by shareholdersThe corporation is a “person” for the

purpose of conducting a business and can– Own property– Enter into contracts– Sue and be sued

AdvantagesThe liability of shareholders (the owners) of

a corporation is limited to the individual’s investment

The business has a perpetual existence

DisadvantagesTakes a lot of attention at the formation

stageRequires 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 AgreementOperating 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 - HistoryLLCs were created by statute in

Washington in 1994. They may carry on any activity – other than

banking and insurance.

AdvantagesMember 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.