Chapter 38: Limited Liability Companies and Limited Partnerships

1. Chapter 38: Limited Liability Companies and Limited Partnerships

2. Introduction • Limited liability companies are relatively new creatures of state statute. • An LLC is a hybrid entity that combines the limited liability of a corporation and the tax advantages of a partnership. • LLC’s are increasingly become the entity of choice for businesses.

3. § 1: LLC’s • 1997 IRS rules provide that any unincorporated business (including LLC’s) will automatically be taxed as a partnership unless otherwise indicated on the tax return. • LLC’s are attractive in today’s global business environment because they allow foreign investors to own interests.

4. LLC Formation • Like corporations, LLC’s are creatures of state law. The owners are called “members” (not shareholders) and their ownership is called an “interest” (not shares). • LLC’s are formed by filing articles of organization with the Secretary of State. (seeLLC rulesat Texas Secretary of State).

5. LLC Formation [2] • Articles of Organization require: • Name of Business. • Principal Address. • Name and Address of Registered Agent. • Names of the Owners; and • How the LLC will be managed. • Business name must include LLC or Limited Liability Company.

6. LLC Citizenship • An LLC is a legal entity separate from its owners. • For federal jurisdiction based on diversity, an LLC may be treated differently than a corporation. • For diversity purposes the citizenship of an LLC is the citizenship of its members, which may live in multiple jurisdictions. • Case 38.1: Cosgrove v. Bartolotta(1998).

7. LLC Advantages & Disadvantages

8. LLC Operating 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. Case 38.2 Hurwitz v. Padden (1996).

9. LLC Management • There are two options for management, generally set forth in the articles of organization: • Member-Managed: all of the members participate in management, like a partnership. • Manager-Managed: members are elected to manage the LLC. • If the articles are silent, statutes provide either that each member has one vote or votes are made based on percentage of ownership.

10. § 2: LLP’s • Creature of state statute, similar to an LLC except that an LLP is designed for professionals who normally do business as a partnership (lawyers and accountants). • LLP allows partnership to limit personal liability of the partners but allows “pass through” tax advantages.

11. LLP Liability • Recall that partnership law makes all partners jointly and severally for another partner’s tort, including personal assets. • The LLP allows professionals to avoid personal liability for the malpractice of other partners. • Supervising Partner is also liable for acts of subordinate.

12. Family Limited Liability Partnerships • FLLP is a limited liability partnership in which the majority of the partners are related to each other. • Used frequently for agriculture.

13. § 3: Limited Partnerships • Entity that limits the liability of some of its owners (the limited partners). • Creature of state statute. Filing a certificate with the Secretary of State is required. • Agreement of two or more persons to carry on a business for profit with at least one general partner and one limited partner.

14. Limited Partnerships • The General partner assumes all management and personal liability. • Limited Partner contributes cash but has no management rights. Liability is limited to the amount of investment. A limited partner can forfeit this “veil” of immunity by taking part in the management of the LP. • Case 38.3: Miller v. Dept of Revenue (1998).

15. Rights and Liabilities of LP • General partners are personally liable to 3rd parties for breach of contract and tort liability. However, a corporation (or an LLC) can be a general partner and have limited liability. • Limited partners have the right to inspect the LP’s books and be informed of the LP’s business.

16. Rights and Duties of the LP [2] • On dissolution, the limited partner is entitled to return of capital contributions. • LP interests are considered securities and regulated by both federal and state securities laws. • Limited partners’ liability is limited to the capital investment.

17. LP Management • Only General Partners can manage but they have a fiduciary obligation to LP’s. • LP’s enjoy limited liability as long as they do not engage in management functions. • An LP will be liable to a 3rd party if the 3rd party believes, based on conduct, that the LP is a general partner. • Case 38.4: BTI v. Equitable Life (1999).

18. Dissolution of the LP • Dissolved in much the same way as a general partnership (Chapter 33). • Retirement, withdrawal, death bankruptcy or mental incompetence of a general partner will trigger dissolution unless the remaining GP’s consent to continue. • Creditors are paid first then partners.

19. § 4: LLLP’s • Limited Liability Limited Partnership is a type of limited partnership. • Difference between LP and LLLP is that the general partner has limited liability, like a limited partner, up to the amount of investment. • Most states do not allow for LLLP’s.

20. Law on the Web • Comparison of Different Business Entities. • LLC Formation On-Line at Bizcorp.com • LLC’s at Nolo.com • Legal Research Exercises on the Web.