978-0077733735 Chapter 25 Lecture Notes

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Chapter 25 – The Business Person: An Introduction

Chapter 25

The Business Person: An Introduction

I. Key Terms

Aggregate theory (p. 605) Limited liability partnership (p. 608)

Capital contribution (p. 611) Limited partner (p. 607)

Continuity of existence (p. 605) Limited partnership (p. 607, 619)

Cooperative corporation (p. 608) Partnershhip (p. 605)

Cooerative corporation with Partnership at will (p. 617)

wage-earning employees (p. 608) Private corporation (. 608)

Cooperative with nonemployee Public corporation (. 608)

owners (p. 608) Public bodies corporation (p. 608)

Cross-owned corporation (p. 608) Public-private corporation (p. 608)

Disclaimer of general partner status (p. 619) Quasi-public corporation (p. 608)

Dissociation (p. 617) Registered limited liability

Dissolution (p. 617) partnership (p. 619)

Entity theory (p. 605) Revised Uniform Partnership Act

Failure proof corporation (p. 608) RUPA) (p. 605)

Franchise (p. 608) Secret partner (p. 614)

General partner (p. 619) Silent partner (p. 614)

General partnership (p. 607) Social corporation (p. 608)

Joint liability (p. 612) Sole proprietorship (p. 604)

Joint and several liability (p. 612) Surplus (p. 614)

Joint venture (p. 608) Term partnership (p. 617)

Limited liability (p. 619) Uniform Partnership Act (UPA) (p. 604)

Limited liability corporation (p. 608)

II. Learning Objectives

1. List the most common forms of business associations.

2. Outline the advantages and disadvantages of a sole proprietorship.

3. Identify the two model acts that govern partnership law.

4. Describe the differences between the aggregate and the entity theories of partnership.

5. Explain the nature of a partnership agreement.

6. Explain when profit sharing does not create a partnership.

7. Explain what constitutes a person in partnership law.

8. Identify the different views of specific partnership property in partnership law.

9. Distinguish between dissociation and dissolution in partnership law.

10. Distinguish between a registered limited liability partnership and a limited partnership.

III. Major Concepts

25-1 Sole Proprietorships and Other Business Entities

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Chapter 25 – The Business Person: An Introduction

The easiest business organization to form is a sole proprietorship. All that businesspeople

have to do is open their doors for business, and a sole proprietorship is created. The

greatest advantage to a sole proprietorship is that the owner has complete control over the

business. The major disadvantage is that the sole proprietor is subject to unlimited

liability.

25-2 General Partnership Characteristics

The Revised Uniform Partnership Act states that a partnership is “an association of two or

more persons to carry on as co-owners a business for profit.” Under the RUPA, a

partnership is considered an entity, or an individual unit that exists separate from the part–

ners. A partnership is an entity in its ability to own title to property, sue or be sued, and

have its own separate bank accounts in its own name. Under the RUPA, partnerships also

have continuity of existence.

25-3 Partnership Formation

One of the most common ways to form a partnership is by an express agreement between

the parties. It is generally best to put the terms in writing to prevent misunderstanding and

disputes that might arise later in the life of the partnership. The written agreement that

establishes a partnership is called a partnership agreement. To show that a business is op-

erating as a partnership by proof of existence, three elements must exist: (1) an

association of two or more persons (2) who are co-owners of (3) a business for profit.

25-4 Partnership Property Rights and Duties

Capital contributions are sums that are contributed by the partners as permanent

investments and that the partners are entitled to have returned when the partnership is

dissolved. Loans or later advances that partners make to the partnership and accumulated

but undivided profits belong to the partners on an individual basis. Other forms of

partnership property belong only to the partnership in its status as an entity. The RUPA

states that “A partner is not co-owner of partnership property and has no interest in

partnership property which can be transferred, either voluntarily or involuntarily.”

Partners can use a partnership only for partnership purposes. The RUPA establishes that a

partner has an interest in the partnership as a firm. That interest consists of two parts: (1)

a transferable economic interest and (2) a nontransferable interest in management rights.

25-5 Dissociation and Dissolution

Under the RUPA, a dissociation takes place whenever a partner is no longer associated

with the running of the firm. Partners can leave a partnership firm whenever they want.

A partner leaves a firm wrongfully if he or she does not have the legal right to do so. The

dissolution of a partnership occurs when a partner ceases to be associated with the

partnership and the partnership ends. The dissolution of a partnership can occur in one of

three ways: (1) by an action committed by the partners, (2) by operation of law, or (3) by

the decree of a court of law.

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25-6 Other Forms of Partnership Business

The changing needs of the modern marketplace and the development of new ideas in the

law have combined to allow for a new form of partnership, the registered limited liability

partnership. Those same forces have cooperated to update one of the more traditional

forms of the partnership business, the limited partnership.

IV. Outline

I. Sole Proprietorships (25-1)

A. Formation of a Sole Proprietorship

1. The easiest business organization to form is a sole proprietorship.

2. In most cases a person can initiate a sole proprietorship by simply opening their doors

for business; but the sole proprietor may have to check zoning restrictions, licensing

laws, and filing requirements.

B. Advantages and Disadvantages of a Sole Proprietorship

1. Perhaps the greatest advantage to a sole proprietorship is that the owner has complete

control over the business.

2. Another advantage is that the owner may keep all of the profits.

3. A third advantage is that a sole proprietorship is relatively simple to begin and end.

4. A major disadvantage is that the owner is subject to unlimited liability.

II. General Partnership Characteristics (25-2)

A. Revised Uniform Partnership Act

1. The Uniform Partnership Act (UPA) has limitations and shortcomings.

2. The Revised Uniform Partnership Act (RUPA), which addresses many of the

problems with the Uniform Partnership Act, has been implemented in over half of the

states.

B. Elements of a Partnership

1. The RUPA says that a partnership is “an association of two or more persons to carry

on as co-owners a business for profit.”

2. The term “person” can refer to an individual, a corporation, other partnerships, joint

ventures, trusts, estates, and other commercial or legal institutions.

3. A partnership must involve a sharing of profits.

C. Entity and Aggregate Theories

1. Under the entity theory, a partnership exists as an individual person with its own

separate identity.

2. Under the aggregate theory, the partnership is seen simply as an assembly or a

collection of the partners who do business together.

3. Under the RUPA, a partnership is to be considered an entity in most situations.

4. Under the RUPA, partnerships have continuity of existence which permits the

partnership to continue to operate as an entity even after the individual partners are no

longer associated with it.

5. RUPA does, however, still consider a partnership to be an aggregate in relation to

liability; thus, partners still have unlimited liability for the obligations of the

partnership.

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6. It is possible to solve the problem of unlimited liability through the formation of a

registered limited liability partnership.

D. Alternative Business Entities

1. Potential partners who are considering a business plan should think about forming a

registered limited liability partnership rather than a general partnership.

2. The problems associated with the start of new business are not unlike the problems

associated with establishing a stable national economy.

3. Similar to the goal of a national economic reform movement, the goal of a business

plan is to organize entrepreneurs and use capital to fashion a product or service the

sale of which produces a profit.

4. Similar to instituting a national economic reform movement, the initiation of a new

business results in unintended negative consequences.

5. Managers of a new business, like the managers of a national economic reform

movement, should remember that establishment must be preceded by a fact-finding

mission.

6. Orthodox, traditional, business entities include the sole proprietorship, general

partnership, limited partnership, limited liability partnership, private corporation,

public or state-owned corporation, quasi-public cororation, limited liability

corporatioin, joint venture, and franchise.

7. Unorthodox, nontraditional, business entities include the failure-proof public

corporation, public-private corporatioin, cross-owned corporation, public bodies

corporation, social corporation, cooperative cooperation, cooperative corporation with

wage-earning employes, and cooperative with nonemployee owners.

III. Partnership Formation (25-3)

A. Formation of a Partnership by Contract

1. One of the most common ways to form a partnership is by an express agreement

between the parties.

2. The agreement can be oral, but it is best to put the terms in writing.

3. Both the RUPA and the UPA are default statutes, which means the partners are free to

enter any type of agreement they desire; however, if they neglect to include

something in the agreement, the RUPA or the UPA will fill in the gaps.

B. Formation of a Partnership by Proof of Existence

1. The RUPA states that a business arrangement will be considered a partnership if it

involves two or more persons, in association with one another, who are carrying on a

business as co-owners for profit.

2. Signs that indicate that the parties are co-owners include the existence of management

power and the sharing of profits, with certain exceptions.

IV. Partnership Property Rights and Duties (25-4)

A. Introduction

1. Capital contributions, considered property of the partnership, are sums contributed by

the partners as permanent investments and that the partners are entitled to have

returned when the partnership is dissolved.

2. Loans belong to the partners on an individual basis, and other forms of partnership

propery belong to the partnership in its status as an entity.

B. Partnership Liability

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1. Under the original Uniform Partnership Act, partners were jointly liable for contract

obligations, but jointly and severally liable for any tort obligations.

2. Under the Revised Uniform Partnership Act, liability was altered so that joint and

several liability applies to suits in both contract and tort law.

3. Because the revised act emphasizes the entity nature of the partnership, the entity

itself must satisfy any judgment, contract or tort, before an individual partner can be

held personally responsible.

4. Responsibilities can be altered by the partners in the partnership agreement.

C. Partnership Property

1. The fact that the RUPA has established the existence of a partnership as an entity has

alleviated some of the difficulties that were once associated with identifying

partnership property.

2. The RUPA states that partnership property is any and all property that has been

obtained by the partnership itself.

D. Specific Partnership Property

1. Under the UPA the rule was that each partner had a property interest in all specific

items of partnership property.

2. The RUPA changed from the view of the UPA, and under the RUPA a partner is not a

co-owner of partnership property and has no interest in partnership property that may

be transferred.

3. Under the RUPA partners may still use partnership property; however, their right to

hold and use such property is limited to partnership purposes.

E. Interest in the Partnership

1. The RUPA establishes that a partner has an interest in the partnership as a firm

consisting of a transferable economic interest and a nontransferable interest in

management rights.

2. The partner’s assignable economic interest is his or her share of the profits and losses,

and his or her share of the surplus.

3. The right to make management decisions is not limited to a partner’s proportional

share of the firm, and all partners have equal rights in the management of the

partnership business.

4. It is possible for a partner to reduce his or her part in management voluntarily by

becoming a silent partner.

5. A secret partner is a partner whose identity and existence are not known outside the

firm but who nevertheless can participate in the management of the firm.

6. Some partnerships create their own hierarchy of partners; and a firm may be divided

into junior and senior partners or into managing and nonmanaging partners.

F. Partnership Rights and Duties

1. Under the UPA, partners have only three enforcement rights:

a. The right to see the firm’s financial records.

b. The right to compel an accounting.

c. The right to compel a dissolution of the entire partnership.

2. Under RUPA, those enforcement rights are enhanced.

a. The rights above are retained.

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b. In addition, a partner can sue a partner or the partnership itself to enforce his or

her partnership rights as expressed in the RUPA or as granted by the partnership

agreement.

3. RUPA notes that partners have three critical duties;

a. The duty of loyalty.

b. The duty to obey.

c. The duty of due care.

V. Dissociation and Dissolution (25-5)

A. Background

1. Under the UPA whenever a partner ceased to be associated with the partnership,

technically, that partnership went through the dissolution process.

2. The RUPA includes two methods by which a partner becomes dissociated with a

partnership, dissociation and dissolution.

B. Dissociation of a Partnership

1. Under the RUPA, a dissociation takes place whenever a partner is no longer

associated with the running of the firm.

2. It is always possible for partners to leave a partnership, however a partner may leave

the firm wrongfully if he or she does not have the legal right to do so.

3. A term partnership is one that has been set up to run for a certain set time period or in

order to accomplish a task of some sort, and a partner who leaves a term partnership

before the term expires or before the task is accomplished has acted wrongfully.

4. A partnership at will is one that any partner may leave without liability.

C. Dissolution of a Partnership

1. The dissolution of a partnership occurs when a partner ceases to be associated with

the partnership and the partnership ends.

2. The dissolution of a partnership can occur in one of three ways:

a. By an action committed by the partners.

b. By operation of law.

c. By the decree of a court of law.

3. When a partnership terminates, there must be a winding up of the partnership affairs

which includes the sale of the partnership’s assets; the payment of creditors; and the

distribution, if any, of the remaining surplus to partners according to their

profit-sharing ratios.

VI. Other Forms of Partnership Business (25-6)

A. Registered Limited Liability Partnerships

1. A registered limited liability partnership (LLP) is a general partnership in all respects

except for liability.

2. Once an LLP has been created, partners can no longer be held jointly or severally

liable for the torts, wrongful acts, negligence, or misconduct committed by another

partner or by any representative of the partnership.

3. Partners would still be liable for their own wrongful acts and for the wrongful acts

committed by other partners or employees who are under the direct control of that

partner.

B. Limited Partnerships

1. The RUPA defines a limited partnership is “a partnership formed by two or more

persons . . . having one or more general partners and one or more limited partners.”

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a. General partners take an active part in the management of the firm and have

unlimited liability for the firm’s debts.

b. Limited partners are nonparticipating investors.

2. Limited partners have limited liability.

3. Limited partnerships must follow strict filing requirements.

4. A limited partner who exercises too much control over partnership affairs may lose

the protection of limited liability although recently many state legislatures have

expanded the types of activities in which a limited partner may engage without losing

limited partner status.

V. Background Information

A. Cross-Cultural Notes

1. While American businesses generally use suppliers on a short-term, best-price basis,

Japanese businesses tend to establish permanent, loyal relationships with suppliers

that endure through economic difficulty as well as success.

2. While the U.S. legal system is a common law system, Mexican law applies a civil law

system in which codified law is of primary importance. Mexican law requires that

companies expressly grant authority to representatives to perform their duties as

opposed to the U.S. system.

B. Historical Notes

1. The first U.S. statute regarding limited partnerships was enacted in New York in

1822.

2. The societates publicanorum, arising in Rome in the third century, was arguably the

ealiest form of limited partnership. Some had investors, and interests were publicly

traded; but a partner with unlimited liability was required. Limited partnerships were

used in Italy in the twelfth century to give anonymity to clergymen and nobles who

were investing capital in various businesses. Limited partnerships spread to France

and then to America, first appearing in Louisiana and Florida.

C. State Variations

1. In Nevada, as in many other states, any person doing business under an assumed or

fictitious name which does not show the real name of each person who owns an

interest in the business must file a certificate containing required information

identifying the persons involved in the business.

2. Most states have adopted the Revised Univorm Partnership Act although some states

still apply the initial Uniform Partnership Act, and the Louisiana Civil Code should be

consulted in that state. The Uniform Law Commission provides an article titled

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Chapter 25 – The Business Person: An Introduction

“Why States Should Adopt RUPA” at http://www.uniformlaws.org/Narrative.aspx?

title=Why%20States%20Should%20Adopt%20RUPA.

VI. Terms

1. The word entity refers to a being or self-contained existence, while aggregate means

“the sum of several parts.”

2. In a profit-sharing agreement, a businessowner often agrees to give an employee

more money in the future and perhaps to make that employee a partner if the business

is successful.

3. A silent partner is one whose identity is not revealed to the public. Silent partners

have the same liability as the other partners. A sub-partner forms an agreement with

one member of a partnership to share in that partner’s profits.

VII. Related Cases stop

1. Clayton and Jones were partners in a real estate business called ERA Clayton Realty.

On one occasion, Clayton paid a debt not related to ERA out of the partnership funds.

Jones filed charges with the state, which in turn charged Clayton with theft. The court

threw out the charge affirming the ruling of the district court that theft as defined by

state statute or under common law did not include a partner’s unauthorized taking of

partnership property. People v. Clayton, 728 P.2d 723 (Colo. 1986).

2. When a partner in a partnership of certified public accountants died, some of the

partners wanted to terminate the partnership. The other partners wanted it to continue,

however, and the terminating partners were forced to sue to bring about the

dissolution. The court ruled that, absent specific language to the

contrary in partnership contracts, the partnership dissolves upon the death of a

partner. The survivors had created a new relationship among themselves in the form

of a partnership at will. Burger, Kurzman, et al. v. Kurzman, 527 N.Y.S.2d 15 (App.

Div. 1988).

VIII. Teaching Tips and Additional Resources

1. Some states have web sites addressing partnership issues. For example, information

regarding various types of partnerships in Iowa can be found at

http://www.sos.state.ia.us/business/limliabpart.html.

2. Additional information regarding sole proprietorships including a link to a checklist

for starting a sole proprietorship is available at

http://smallbusiness.findlaw.com/business-structures/sole-proprietorship/.

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Chapter 25 – The Business Person: An Introduction

3. Ask students what type of business they would like to operate and what they would

like to call it. An article on naming businesses is available at

http://smallbusiness.findlaw.com/starting-business/starting-business-name/.

4. Discuss with students the problems smaller businesses face. An article titled “Smaller

Businesses Struggle to Recover from Katrina” can be found on the web site of USA

Today at

http://www.usatoday.com/money/smallbusiness/2007-08-28-katrina-finances_N.htm.

An article involving the British Petroleum oil spill in the Gulf of Mexico and its

effects on businesses there titled “Future Losses from BP Oil Spill Worry Gulf Coast

Businesses” is available from the site of USA Today at

http://www.usatoday.com/money/economy/2010-06-09-gulfbiz09_ST_N.htm.

5. Ask students how they would publicize a small business including what they think

about the value of endorsements. An article titled “Celebrity Scents Boost Perfume

Business” is available on the Internet site of USA Today at

http://www.usatoday.com/money/2007-10-18-forbes-celebrity-scents_N.htm.

6. The U.S. Small Business Administration has information abailable at

https://www.sba.gov/, including a section on choosing business structure at

https://www.sba.gov/category/navigation-structure/starting-managing-business/startin

g-business/choose-your-business-stru.

7. Information and videos involving problems confronting small businesses is available

from National Public Radio at

http://www.npr.org/series/138960721/small-businesses-big-problems.

8. An article titled “Facing the Challenges of Starting a Small Business” is available

from the web site of USA Today at

http://www.usatoday.com/money/smallbusiness/startup/2010-01-29-facing-challenges

_N.htm.

9. An article titled “Sole Proprietorship Taxes” available at

http://smallbusiness.findlaw.com/incorporation-and-legal-structures/sole-proprietorshi

p-taxes.html discusses the tax situation for sole proprietorships including a discussion

of forming a corporation so as to pay lower taxes.

10. Discuss factors, aside from legal ones, that potential partners should consider before

going into business together. Have students discuss what characteristics they would

look for or expect in a business partner. Stress to students the importance of partner

compatibility regarding working styles, ethics, and personal and professional goals.

11. A partnership formed with a specific and limited purpose in mind is called a joint

venture. The laws governing partnerships also apply to joint ventures, which are often

established informally by people not realizing they create legal relationships.

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Chapter 25 – The Business Person: An Introduction

12. The concept of the value of goodwill is often difficult for students to grasp. Goodwill

is also referred to as the intangible value of the business that is excluded by the

balance sheets. It has also been defined as the difference between the net worth and

actual value of the business.

13. Although courts have differed about at what point a partnership becomes legally

binding, if two people seriously discuss a partnership and talk about details such as

suppliers, markets, and office space, many courts will recognize their relationship as a

binding partnership without a written agreement.

14. In large partnerships in which some of the partners do not want to be involved in the

day-to-day business operations, a managing partner is hired or chosen from among

the partners.

15. List a partnership’s fiduciary duties on the board. Lead the class in a discussion of

these duties and their importance.

16. Ask students if owning their own business or being involved in a partnership would

give them freedoms that working for someone else would not. Discuss responsibilities

a businessowner has that an employee doesn’t. Encourage students to think of

problems that might arise in a partnership that wouldn’t arise between coworkers.

17. For a more detailed discussion of Schumpeter’s theories see: Sievers, Allen M.

Revolution, Evolution, and the Economic Order (Englewood Cliffs, NJ: Prentice Hall,

1962), p. 41.

18. Actions that courts consider harmful to a partnership include failure to contribute

urgently needed capital, stealing partnership property to pay personal debts, constant

quarrels, intoxication, and gambling. Because determining what action is harmful to a

partnership is by nature subjective and difficult for courts, it is advised that partners

include in the written partnership agreement provisions for expulsion of a partner or

dissolution of a partnership.

19. Ask pairs of students to form imaginary business partnerships. Assign each pair a

disagreement to work out, such as a dispute about adding a new product to the

product line, borrowing money, buying advertising, or hiring or firing an employee.

Be specific about the problems they are to solve, assigning each pair a position in the

matter. Each pair should work out an agreement to resolve the problem.

20. If a partnership is in debt when it is dissolved, all partners will he held liable for the

bills. If any of the partners are insolvent, the solvent partners are expected to cover

the debts.

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