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MEE - Partnership

Terms in this set (67)

Partnership Formation
A partnership is formed as soon as two or more persons associate to carry on as co-owners a business for profit, regardless of whether the parties subjectively intend to form a partnership. No state filing or other formalities are required.

Note: sometimes it is said that courts generally look to the intent of the parties to determine whether a partnership exists. This does not mean that the parties' subjective intent to form a partnership is relevant. It means instead that the inquiry is whether the parties intended to carry on as co-owners a business for profit. This is just another way of inquiring into whether the parties' association meets the definition. Asking: "did the parties intend to carry on as co-owners of a business for profit" is just another way of asking whether their association meets the definition.
Factors to Consider in Forming a Partnership
The most important factor in deciding whether an association rises to the level of a partnership is the sharing of profits.
A person who receives a share of the profits is presumed to be a partner unless the profits were received in payment: (1) of a debt; (2) as wages or other compensation; (3) as rent; or (4) as interest on a loan.
Writing
Partnership law does not require one, but the statute of frauds may.
Partnership by Estoppel
If no partnership was formed in fact, parties still may be liable as if they were partners to protect reasonable reliance by third parties.
Partnership Agreement
No agreement is required to form a partnership. Nevertheless, you should be on the lookout for the existence of a partnership agreement because partnership law allows the partners to contract around almost all of the statutory provisions. Look for an agreement first, and then fall back on the statutory default rules in the absence of an agreement.

Note: a partnership agreement may be written, oral, or implied (e.g., by conduct).
Entity Status
Once formed, a partnership is considered to be a legal entity distinct from its partners.
Voting
Unless otherwise agreed, all partners have equal rights in the management of the business and equal votes (i.e., one partner, one vote). Decisions regarding matters within the ordinary course of the partnership business require a majority vote of the partners. Matters outside of the ordinary course of business require the consent of all partners.
No Right to Salary or Other Compensation
Unless otherwise agreed, partners get no compensation (with the exception of a right to reasonable compensation for services rendered in winding up the partnership business).
Sharing Profits and Losses
Unless otherwise agreed, profits are shared equally among the partners (by number).
Unless otherwise agreed, losses are shared in the same manner as profits.
However, if there is no agreement to how profits will be shared, but there is an agreement to how losses are shared, profits are shared by default, because profits do not follow the same manner rule as the losses.
Liability in Tort
With respect to the partnership's liability in tort, a partnership is liable for loss or injury caused to a person as a result of the tortious conduct of a partner (or an employee) acting in the ordinary course of business of the partnership or with authority of the partnership.
Liability in Contract
With respect to the partnership's liability in contract, a partnership is liable for contracts entered into on its behalf by partners with actual or apparent authority.
Actual Authority
Actual authority can be created by the partnership agreement or by the requisite vote of the partners (e.g., majority vote for ordinary business matters).

Actual authority can also be created by the partnership's filing of a "statement of partnership authority" with the Secretary of State. The effect of the statement differs depending upon whether the transaction involves a transfer of real property.
Actual Authority: Real Property
Grants of and restrictions on partner authority to transfer partnership real property in the statement are binding on third parties if the statement is also recorded in the county where the property is located. In other words, third parties are deemed to have constructive knowledge of the statement if secretary of state and county filings are made. Third parties are benefitted by filed grants of authority (unless they have actual knowledge that the partner lacked authority), and burdened by filed restrictions on authority.
Actual Authority: Other Transactions
With respect to all other transactions of the partnership other than real property transfers, grants of partner authority in the statement are binding on the partnership (unless the third party has actual knowledge that the partner lacked authority). Restrictions on partner authority in the statement, however, are not binding on third parties. In other words, third parties are only deemed to have constructive knowledge of filed grants of authority not filed restrictions. Third parties are benefitted by filed grants (unless they have actual knowledge that the partner lacked authority) and are not burdened by filed restrictions (only actual knowledge of restrictions burdens them).
Apparent Authority
A partnership statute states that a partner is an agent of the partnership, and that a partner has apparent authority to bind the partnership to transactions within the ordinary course of the partnership's business (unless the third party is aware that the partner lacks actual authority).
Liability of the Partners
A defining characteristic of the general partnership is that each partner is jointly and severally liable for all of the obligations of the partnership (whether arising in tort or contract).
But: the plaintiff must first exhaust partnership resources before seeking to collect from an individual partner's assets (so the partners are essentially guarantors).

Note: where one partner pays a partnership obligation, he is entitled to indemnification from the partnership. He may also require the other partners to contribute their pro rata shares of the payment if the partnership is unable to indemnify.
Limiting Liability to Third Parties
Partners cannot limit a third party's rights without the third party's consent. The agreement is effective, however, among the partners themselves.
Liabilities of Admitted Partners
A newly admitted partner is not personally liable for partnership obligations that arose before his admission. He can only lose the amount of his investment in the partnership.
Fiduciary Duties
Partners in general partnerships owe fiduciary duties of loyalty and care to each other and to the partnership. they also owe a statutory duty of disclosure.
Duty of Loyalty
This duty requires each partner:
1. to account to the partnership for any benefit derived by the partner in conducting the partnership business, using the partnership's property, or appropriating a partnership opportunity;
2. to refrain from dealing with the partnership in the conduct of its business as (or on behalf of) a party having an interest adverse to the partnership; and
3. to refrain from competing with the partnership in the conduct of its business.
Duty of Care
This duty requires each partner to refrain from engaging in grossly negligent or reckless conduct, intentional misconduct, or a knowing violation of law.
Duty of Disclosure
This is a statutory duty rather than a fiduciary one (although some judicial opinions treat it as fiduciary in nature). The partnership statute states that each partner and the partnership shall furnish to a partner
1. without demand, any information concerning the partnership's business and affairs reasonably required for the proper exercise of the partner's rights and duties; and
2. on demand, any other information concerning the partnership's business and affairs (except to the extent that the demand or the information demanded is unreasonable or otherwise improper under the circumstances).

Note: a partnership may not eliminate the duties of loyalty or care. The duty of disclosure may be eliminated.
Rules for Determining Partnership Property
1. It is partnership property if it is acquired in the partnership's name or in a partner's name where it is apparent from the document that she is acting for a partnership (e.g., it mentions a partnership or says she is a partner).
2. It is presumed to be partnership property if partnership funds are used.
3. It is presumed to be a partner's property if acquired in her name without partnership funds and there is no sign that she is acting for a partnership.
Rights in Partnership Property
Partnership - Rights are totally unrestricted.

Partners - a partner is not a co-owner of partnership property and has no interest in partnership property which can be be transferred. A partner can simply use the partnership property for partnership purposes.
Partner's Ownership Interest in the Partnership
The partnership interest is the personal property of the partner. Although it is personal property, there are restrictions on what a partner can do with it.

A partnership interest is comprised of (1) management rights (i.e., a partner's right to participate in the management of the business, to obtain information about the partnership, and to be recognized as a "partner"); and (2) financial rights (i.e., the partner's right to receive his share of any profit distributions made by the partnership).

Unless otherwise agreed, a partner cannot unilaterally transfer his management rights and thereby make the transferee a "partner." The default rule for the admission of a new partner is that it requires a unanimous vote of the existing partners.

Unless otherwise agreed, a partner can unilaterally transfer his financial rights. The transferee merely has the right to receive profit distributions from the partnership that would have otherwise gone to the partner. The transferee is not a partner; the transferor is still a partner and retains all of the management rights of a partner.
Dissociation
The term "dissociation" simply refers to a withdrawal. When a partner dissociates from a partnership, the partner withdraws or "bows out" of the partnership.
Events of Dissociation
The statute specifies various events of dissociation, including, among others: (1) a partner giving notice to the partnership of his desire to withdraw (dissociation by "express will"); (2) a partner's expulsion, death, or bankruptcy; (3) an agreed-upon event; and (4) the appointment of a receiver for a partner.
Wrongful Dissociation
A partner will be deemed to have wrongfully dissociated if the dissociation is in breach of an express term in the partnership agreement. A dissociation is also wrongful in a term partnership if the partner withdraws, is expelled, or becomes bankrupt before the end of the term. A partner who wrongfully dissociates is liable to the partnership for any damages caused by the dissociation.
At-will Partnership
An "at-will partnership" is one where the partners have not agreed to remain partners until the expiration of a definite term or the completion of a particular undertaking. It is the default form of partnership. (Most partnerships are at-will.)
Term Partnership
A partnership where the partners have agreed, explicitly or implicitly, to remain partners for a definite term or until the completion of a particular undertaking.
Consequences of Dissociation
When a partner dissociates from a partnership, one of two statutory avenues is implicated:
- The first avenue provides that the partnership is dissolved and that its business must be wound up. This means that the partnership business will be liquidated ("sold off").
- The second avenue provides that the partnership continues in existence with the dissociated partner becoming entitled to a buyout of his partnership interest.

The nature of the event of dissociation dictates which avenue is implicated.
Dissolution
Dissolution and winding up are required only in limited circumstances (e.g., event in agreement requiring winding up, business becomes illegal, issuance of a judicial decree, unanimous consent of the partners in a term partnership, expiration of a term partnership). Two circumstances are of particular importance:
1. In general, when a partner dissociates by express will in an at-will partnership, the partnership is dissolved and its business must be wound up.
2. In a term partnership, if one partner dissociates wrongfully, or if a dissociation occurs because of a partner's death or bankruptcy, dissolution and winding up of the partnership are required only if, within 90 days after the dissociation, one-half of the remaining partners agree to wind up the partnership.
Buyout and Continuation of the Business
If a partner's dissociation does not result in a dissolution and winding up, the partner is entitled to receive a buyout of his partnership interest. The remaining partners may continue the business.
If the dissociation is wrongful, any damages will be offset against the buyout price.
Liability of Dissociated Partner
Generally, a dissociated partner remains liable for pre-dissociation partnership obligations (a creditor can agree to release the withdrawing partner, however, from specific obligations).
He may also be liable for post-dissociation partnership liabilities incurred within two years after the dissociation (assuming that dissolution has not occurred). He can protect himself by notifying creditors directly of his dissociation (effective immediately) or by filing a public statement of dissociation (becomes effective 90 days after filing). The partnership can make the filing as well.
Apparent Authority of Dissociated Partner
A dissociated partner has apparent authority to bind the partnership for a period of time not exceeding two years after dissociation (assuming that dissolution has not occurred). The partnership can protect itself by notifying creditors directly of the dissociation (effective immediately) or by filing a public statement of dissociation (becomes effective 90 days after filing).
Dissolution Process
When dissolution and winding up occur (causes of dissolution are stated above), partnership assets must be applied to the discharge of partnership liabilities. If the assets are insufficient, individual partners are required to contribute ("pay in") in accordance with their loss shares. If there are excess assets, they are distributable to the partners in cash in accordance with their profit shares.
Dissolution: Priority of Distribution
Each level of priority must be fully satisfied before beginning the next level.
1. First, the partnership must pay all creditors. Creditors include "outside creditors" (e.g., trade creditors, lenders, suppliers) and "inside creditors" (e.g., partners who loaned money).
2. Second, the partnership must repay all capital contributions paid into the partnership by partners.
3. Third, profits or losses, if any.
Right to Wind Up
Partners who have not wrongfully dissociated may participate in the winding up of the partnership's business.
Apparent Authority After Winding Up
Partners retain apparent authority to bind the partnership to a third party on new business even after an event requiring winding up. But the partnership can protect itself by notifying creditors directly of the dissolution (effective immediately). In addition, any partner who has not wrongfully dissociated may file a public statement of dissolution (becomes effective 90 days after filing).
Limited Partnership (LP)
A partnership with at least one general partner and at least one limited partner. Because it is a partnership, general partnership principles typically apply unless displaced by LP-specific provisions.
LP Formation
Must file a certificate of limited partnership with the secretary of state. The information required in the certificate is minimal. It includes, among other items: (1) the name of the LP; (2) the name and address of the agent for service of process; and (3) the name and address of each general partner. (If you fail to file, you are just a general partnership.)
LP Name
The name of the LP must contain the phrase "limited partnership" or the abbreviation "L.P." or "LP." (The policy here is to alert the public to the limited liability nature of the business.)
LP Partnership Agreement
The real detail on the operation and governance of a LP is typically found in a partnership agreement. It can be written, oral, or implied. As in a general partnership, the agreement can displace almost all of the statutory provisions.
LP Management and Operation
The LP is managed by the general partner(s). Each general partner has equal rights in the management and conduct of the LP's activities. The vote of a majority of the general partners is necessary for ordinary business activities. Limited partners usually have no management rights unless the partnership agreement grants them rights.
That said, unless otherwise agreed, the vote of all partners (general and limited) is necessary for certain extraordinary activities, including an amendment of the partnership agreement, the admission of a new general or limited partner, and the sale of all or substantially all of the LP's property (if such sale is outside the ordinary course of the LP's activities).
LP Financial Rights
Unless otherwise agreed, distributions from an LP are made on the basis of the partners' contributions (i.e., in proportion to the value of each partners' contribution).
LP General Partner Liability
General partners are liable for the obligations of the LP, just as they are in a general partnership.
LP Limited Partner Liability
A limited partner is not personally liable for an obligation of the LP solely by reason of being a limited partner. Limited partners have limited liability, meaning that they can only lose the value of their investments.

Note: A limited partner (as well as a general partner) is always liable for her own torts. The limited liability shield of any business organization does not protect a person from liability for her own torts.
LP Fiduciary Duties
A general partner owes the LP and the other partners the same fiduciary duties of loyalty and care that general partners owe in a general partnership. A limited partner does not have any fiduciary duty to the LP or to any other partner solely by reason of being a limited partner.
Limited Liability Partnership (LLP)
An LLP is typically a general partnership where all of the partners have limited liability. In general, you apply general partnership rules to LLPs, with the exception of the material below.
(Note: It is rare, but a limited partnership can also register as an LLP (called an LLLP - a limited liability limited partnership). In an LLLP, the general partners and the limited partners have limited liability for the obligations of the business. In general, you apply limited partnership rules to LLLPs, with the exception of the material below.)
LLP Formation
Must file a "statement of qualification" with the secretary of state. The required minimal information includes (1) the name and address of the partnership; (2) a statement that the partnership elects to be an LLP; and (3) a deferred effective date, if any. The partnership becomes an LLP at the time of the filing of the statement or on the date specified in the statement. (There is no LLP unless this statement is filed.)
LLP Name
The name of a registered limited liability partnership must end with the words "Registered Limited Liability Partnership" or "Limited Liability Partnership" or one of the abbreviations "L.L.P.," "LLP," "R.L.L.P.," or "RLLP."
LLP Liability
A partner in an LLP is not personally liable (directly, indirectly, or by way of contribution) for the obligations of the LLP, whether arising in tort, contract, or otherwise. As always, however, a partner remains personally liable for her own wrongful acts.
Limited Liability Company (LLC)
A hybrid between a corporation and a partnership in which the owners (called "members") have limited liability as well as the benefits of partnership tax treatment. This is not a corporation, nor is it a partnership. It is its own business form. An LLC is treated as a separate legal entity distinct from its members.
LLC Formation
Must file "articles (or certificate) of organization" with the secretary of state. The information required in the certificate is minimal. It includes (1) the name of the LLC; (2) the address of the LLC's registered office; and (3) the name and address of its registered agent.
LLC Name
The LLC's name must include an indication that it is an LLC. In general, the name should contain the words "limited liability company" or the abbreviation "LLC" or "L.L.C."
LLC Operating Agreement
The real detail on the operation and governance of an LLC is typically found in an operating agreement. The operating agreement can displace almost all of the statutory provisions.
LLC Management and Operation
Management of the LLC is presumed to be by all of the members. Other management arrangements can be made (e.g., management by outside managers), but they must be specified in the operating agreement. A majority vote of members (or managers if manager-managed) is required to approve ordinary business decisions. A unanimous vote of members (or managers if manager-managed) is required to approve extraordinary business decisions, including amending the operating agreement.
LLC Financial Rights
Unless otherwise agreed, profits and losses are allocated on the basis of contributions.
LLC Liability
Members generally are not personally liable for the LLC's obligations. They have limited liability and can only lose the amount of their investments. As always, members are liable for their own torts.
LLC Fiduciary Duties
The fiduciary duties owed by a member (if member-managed) or a manager (if manager-managed) to the LLC AND to its members are the fiduciary duties of care and loyalty.
LLC Duty of Care
Members (or managers if manager-managed) must act with the care that a person in a like position would exercise under similar circumstances, in a manner reasonably believed to be in the best interests of the LLC. Business judgment rule protection is provided, which effectively means that, despite the prior sentence, members (or managers if manager-managed) cannot be held liable for negligent decisions (but can be held liable for decisions tainted by gross negligence or worse).
LLC Duty of Loyalty
Pursuant to the duty of loyalty, a member (or manager if manager-managed) must: (i) account to and hold for the LLC any benefit he derives from the LLC's activities or from the appropriation of an LLC opportunity; (ii) refrain from dealing with the LLC as, or on behalf of, a person who has an adverse interest to the LLC—unless the transaction is fair to the LLC; and (iii) refrain from competing with the LLC's business. However, after disclosure of all material facts, all of the members may authorize or ratify a specific act by a member (or manager if manager-managed) that would otherwise violate the duty of loyalty.
LLC Transferability of Ownership Interests
Essentially the partnership rule applies here—financial rights are unilaterally transferable, but management rights are not. One can become a member (i.e., management rights can be transferred) only with the consent of all of the members.
LLC Dissociation
A person has the power to dissociate as a member of an LLC at any time, rightfully or wrongfully, by expressly withdrawing as a member. Generally, the events that will cause dissociation of a partner in a partnership will also cause dissociation of a member of an LLC. A wrongfully dissociating member may be liable to the LLC for damages.
LLC Dissolution
An LLC will be dissolved when any of the following events occur: (i) An event or circumstance that the operating agreement states causes dissolution; (ii) The consent of all of the members; or (iii) The passage of 90 consecutive days during which the LLC has no members.
A member may also apply for a judicial dissolution of the LLC. A court may grant an application for judicial dissolution if: (i) the conduct of all or substantially all of the LLC's activities is unlawful; or (ii) it is not reasonably practicable to carry on the company's activities in conformity with the certificate of organization and the operating agreement. A court may also dissolve the LLC if the managers or those members in control of the LLC (i) have acted, are acting, or will act in a manner that is illegal or fraudulent; or (ii) have acted or are acting in a manner that is oppressive and was, is, or will be directly harmful to the member applying for dissolution.
LLC Taxation
Partnerships and LLCs are taxed on a "pass-through" basis. There is no entity-level tax; instead, business income is passed-through to the owners and reported on the owners' individual tax returns (regardless of whether that business income is actually distributed to the partners). By contrast, a corporation is subject to "double taxation." The corporation pays taxes on its income, and the shareholders pay taxes on that income again when and if it is distributed to them. In today's tax climate, pass-through treatment usually results in less taxes paid.
General Recommendation
LLPs and LLCs are generally the best vehicles for closely held businesses. They protect all of the owners from liability for the obligations of the business; they allow the owners to contract around almost all of the statutory provisions (so that the business can be run as the owners desire); they allow all of the owners to participate in the management of the business; and they provide pass-through income tax treatment.
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