BLAW W3

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Organizational Forms

• Businesses are generally structured as:
• Sole proprietorship
• Partnership
• Corporation
• Limited liability company (LLC)
• While different states have variations on the above forms, the descriptions and discussion that follow generally apply to all businesses in the United States.

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Sole Proprietorship

• A Sole Proprietorship is a business owned and operated by one person.
• Advantages:
• Extremely easy to form.
• Owner has complete authority (within the boundaries of the law).
• Owner can be creative.
• All profits flow directly to the owner.
• Easy to dissolve the business if necessary.

20-*

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Sole Proprietorship (cont.)

• Sole Proprietorship
• Disadvantages:
• Owner has unlimited liability.
• Owner’s assets are at risk.
• Difficulty in raising money to finance the operations of the business.

20-*

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Partnership

• A partnership is business owned and operated by two or more persons.
• Shares of partners might be equal, or vary according to an partners’ contract/agreement.
• Dissolution per agreement occurs due to:
• The death or disability of one of the partners.
• The expulsion of one of the partners.
• Illegality of the partnership’s business.
• The retirement of one of the partners.
• The bankruptcy of the business.

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Partnership (Cont.)

• Dissolution of partnership followed by a winding-up period, during which there is an orderly liquidation of the partnership assets.
• Joint venture: Individuals become partners for only a short period of time or for only a single project.
• The Uniform Partnership Act (UPA), which governs partnerships, has been adopted by the majority of states.

20-*

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Partnership (cont.)

• Advantages:
• Each partner has the right to share in the profits of the business.
• Each individual partner will be responsible for paying the income taxes on those profits (or deduct losses).
• Each partner also has a right to share in the value of the firm’s assets; all business assets are owned jointly by all partners.
• Easy to form and owners have complete authority for the running of the business.

20-*

Copyright © 2016 McGraw-Hill Education.  All rights reserved.

Partnership (cont.)

• Disadvantages:
• Each partner has unlimited liability.
• Partners have joint and several liability.
• Partners may disagree on how the business should be run.

20-*

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Example: Partnership

• Facts:
• Petrillo and Patel co-owned a bakery as equal general partners.
• Petrillo responsible for sidewalk in front of store.
• Petrillo failed to remove ice from sidewalk, a pedestrian slipped and injured her leg.
• The pedestrian sued only Patel.
• Patel liable to pedestrian and could recoup losses by suing Petrillo.
• This illustrates risk of partnership and why it’s important to have liability insurance.

20-*

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Limited Partnership

• A limited partnership is a business in which there are one or more general partners and one or more limited partners.
• Limited partnerships receive the same tax treatment as all partnerships.
• Authority, dissolution, and so forth are governed by the partnership contract.

20-*

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Limited Partnership (cont.)

• Limited Partnership -
• Advantages:
• Personal liability is limited to each partner’s investment in the business.
• Disadvantages:
• Each partner may not be able to participate in overall management of business, lest he or she deemed by courts to be a general partner, and lose his or her limited liability.

20-*

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Limited Liability Partnership

• Limited Liability Partnership (LLP)
• A limited liability partnership is type of partnership used by professionals in business together.
• Generally, in a LLP, all partners have limited liability for other partners’ negligence.
• Common LLPs:
• Law firms
• Accounting firms
• Medical practices

20-*

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Corporation

• A business formed as a separate legal entity.
• Individuals can start a corporation by applying for a charter in one of the 50 states.
• Corporations are owned by shareholders, who purchase shares of stock in the corporation.

20-*

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Corporation (cont.)

• Articles of incorporation: List the general powers of the company.
• Bylaws: Provide rules for the meetings of the corporation.
• Quorum: This is required for action to be taken at a meeting.

20-*

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Corporation (cont.)

• A corporation is considered a kind of legal person, and courts have granted corporations similar constitutional rights to those granted to individuals and other organizations.
• Corporations may be required to have:
• A corporate seal.
• Special tax identification number.

20-*

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Corporation (cont.)

• Advantages:
• Limited liability to shareholders.
• Courts are extremely hesitant to pierce the corporate veil.
• Easy for a corporation to raise capital and obtain additional financing by issuing and selling new shares.

20-*

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Corporation (cont.)

• Disadvantages:
• Corporations are required to pay separate income taxes at a special corporate rate for any year during which a profit is earned.
• Expense associated with forming and maintaining the company.

20-*

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Subchapter S Corporation

• A corporation but with the advantage of being taxed as a partnership.
• The company must comply with tax regulations, such as the restriction that there be a limited number of shareholders, among other requirements.

20-*

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Corporate Directors and Officers

• Directors: Voted in by shareholders of corporation. Responsible for managing overall strategy and operations of firm over long term.
• Members of the board: The directors are members of a board. Responsible for managing overall strategy and operations of firm over long term.
• Officers: Directors appoint officers. Exercise control over normal, routine matters that arise on daily basis.
• Examples: President, vice president and others.

20-*

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Fiduciary Responsibility

• Directors and officers exercise authority while working under duty of loyalty and duty of care.
• Duty of Loyalty
• A director has legal and ethical obligation to administer affairs of corporation with personal integrity, honesty, and candor.
• Example: Directors prohibited from advancing own personal or outside business interests at corporate expense.

20-*

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Fiduciary Responsibility (cont.)

• Duty of Care
• Director has legal and ethical obligation to act diligently and prudently in conducting corporate affairs.
• Director responsible for selecting, monitoring, and evaluating competent management.
• Director must promote and advance policies and strategic initiatives of firm, while at all times making certain implementation of policies and strategies adheres to principles of law and safety.

20-*

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Example: Fiduciary Responsibility

• Facts:
• Lennox, a partner in a law firm, also served on board of directors for a corporation.
• When the company decided to purchase a warehouse, Lennox convinced the board of directors to hire his firm to handle the transaction for an exorbitant fee.
• Lennox has breached his duty of loyalty and violated his legal and ethical responsibilities

20-*

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Limited Liability Company (LLC)

• A relatively new organizational form recognized by all 50 states.
• It is taxed like a partnership for federal tax purposes (state laws vary in terms of state tax treatment).
• The members (owners) act as a management team and share in the overall control of the business.

20-*

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Limited Liability Company (cont.)

• Laws governing the formation of LLCs vary from state to state
• Generally, to organize an LLC, members draft an operating agreement that serves to govern the business in important matters.
• Operating agreements cover topics such as how the LLC will be managed, the members’ rights and responsibilities, and how the LLC will be dissolved.

20-*

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Limited Liability Company (LLC)

• Advantages:
• The LLC provides all members with limited liability, while allowing them to participate in the management of the business.
• The LLC is treated in the same manner as a partnership by the IRS.
• Members can avoid double taxation of earnings.
• In most states, an LLC is quite easy to form.

20-*

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Limited Liability Company (LLC)

• Disadvantages:
• Owners frequently have difficulty in raising additional funds to expand or maintain the business.
• There may be times when members of the management team may disagree on how the business should be run.

20-*

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Other Organizational Forms

• Organizational forms whose purpose is to aid society are known as not-for-profit organizations.
• Examples:
• Charitable organizations
• Political parties
• Labor unions
• Social clubs
• Universities

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