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Between partnerships and corporations lie a variety of hybrid business forms: limited partnerships, sub-S corporations, limited liability companies, limited liability partnerships, and limited liability limited partnerships. These business forms were invented to achieve, as much as possible, the corporate benefits of limited liability, centralized control, and easy transfer of ownership interest with the tax treatment of a partnership.
Limited partnerships were recognized in the early twentieth century and today are governed mostly by the Uniform Limited Partnership Act (ULPA-1985 or ULPA-2001). These entities, not subject to double taxation, are composed of one or more general partners and one or more limited partners. The general partner controls the firm and is liable like a partner in a general partnership (except under ULPA-2001 liability is limited); the limited partners are investors and have little say in the daily operations of the firm. If they get too involved, they lose their status as limited partners (except this is not so under ULPA-2001). The general partner, though, can be a corporation, which finesses the liability problem. A limited partnership comes into existence only when a certificate of limited partnership is filed with the state.
In the mid-twentieth century, Congress was importuned to allow small corporations the benefit of pass-through taxation. It created the sub-S corporation (referring to a section of the IRS code). It affords the benefits of taxation like a partnership and limited liability for its members, but there are several inconvenient limitations on how sub-S corporations can be set up and operate.
The 1990s saw the limited liability company become the entity of choice for many businesspeople. It deftly combines limited liability for all owners—managers and nonmanagers—with pass-through taxation and has none of the restrictions perceived to hobble the sub-S corporate form. Careful crafting of the firm’s bylaws and operating certificate allow it to combine the best of all possible business forms. There remained, though, one fly in the ointment: most states did not allow professionals to form limited liability companies (LLCs).
This last barrier was hurtled with the development of the limited liability partnership. This form, though mostly governed by partnership law, eschews the vicarious liability of nonacting partners for another’s torts, malpractice, or partnership breaches of contract. The extent to which such exoneration from liability presents a moral hazard—allowing bad actors to escape their just liability—is a matter of concern.
Having polished off liability for all owners with the LLC and the LLP, the next logical step occurred when eyes returned to the venerable limited partnership. The invention of the limited liability limited partnership in ULPA-2001 not only abolished the “control test” that made limited partners liable if they got too involved in the firm’s operations but also eliminated the general partner’s liability.
Table 42.1 Comparison of Business Organization Forms
|Type of Business Form||Formation and Ownership Rules||Funding||Management||Liability||Taxes||Dissolution|
|Limited partnership||Formal filing of articles of partnership; unlimited number of general and limited partners||General and limited partners contribute capital||General partner||General partner personally liable; limited partners to extent of contributionUnder ULPA-2001, the general partner has limited liability.||Flow-through as in partnership||Death or termination of general partner, unless otherwise agreed|
|S corporation||Formal filing of articles of incorporation; up to 100 shareholders allowed but only one class of stock||Equity (sell stock) or debt funding (issue bonds); members share profits and losses||Board of directors, officers||Owners not personally liable absent piercing corporate veil (see Chapter 43 "Corporation: General Characteristics and Formation")||Flow-through as in partnership||Only if limited duration or shareholders vote to dissolve|
|Limited liability company||Formal filing of articles of organization; unlimited “members”||Members make capital contributions, share profits and losses||Member managed or manager managed||Limited liability||Flow-through as in partnership.||Upon death or bankruptcy, unless otherwise agreed|
|Limited liability partnership (LLP)||Formal filing of articles of LLP||Members make capital contributions, share profits and losses||All partners or delegated to managing partner||Varies, but liability is generally on partnership; nonacting partners have limited liability||Flow-through as in partnership||Upon death or bankruptcy, unless otherwise agreed|
|Limited liability limited partnership (LLLP)||Formal filing of articles of LLP; choosing LLLP form||Same as above||Same as above||Liability on general partner abolished: all members have limited liability||Flow-through as in partnership||Same as above|
Peron and Quinn formed P and Q Limited Partnership. Peron made a capital contribution of $20,000 and became a general partner. Quinn made a capital contribution of $10,000 and became a limited partner. At the end of the first year of operation, a third party sued the partnership and both partners in a tort action. What is the potential liability of Peron and Quinn, respectively?
A limited partnership
Puentes is a limited partner of ABC, LP. He paid $30,000 for his interest and he also loaned the firm $20,000. The firm failed. Upon dissolution and liquidation,
Reference to “moral hazard” in conjunction with hybrid business forms gets to what concern?
One of the advantages to the LLC form over the sub-S form is