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EVERYONE'S PARTNERSHIP BOOK



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LAWYER AT LARGE, LLC.

MICHAEL LYNN GABRIEL

ATTORNEY AT LAW

B.S., J.D., M.S.M., Dip.(Tax), LL.M. (Tax)


PARTNERSHIPS

TABLE OF CONTENTS


INTRODUCTION

When people wish to conduct business together they have three options available for the form in which their business will take.

They may operate as a corporation, a limited liability company or as a partnership. This book discusses partnerships, both limited and general partnerships. Once the decision is made to do business as a partnership, the next decision to be made is whether they intend a general or limited partnership. Partnership law is quite different in its application on general partnerships as opposed to limited partnerships. This book explains those differences.

Limited partnerships, in particular, have resulted in a great deal of litigation over the propriety of the actions taken by the general partners. To illustrate, recently, limited partners sued for an accounting against the general partners of a limited partnership which operates a public golf course. The general partners has entered into a special operating agreement with the golf course and received substantial benefits from the relationship which had not been disclosed to the limited partners. After discovering the existence of this special operating agreement, the limited partners brought a lawsuit alleging that the arrangement violated the fiduciary duties of good faith and fair dealing which the general partners owed to them. The case was complicated simply because neither the general nor the limited partners fully understood the rights and obligations imposed upon them under both California partnership law and the partnership agreement itself.

It is very important that anyone considering forming a partnership understand the rights and obligations that arise from the partnership arrangement. This book is one in a series that have been written to help the reader cut through legal jargon and understand his or her rights. Other books of this series are:

1. A mini-encyclopedia of law, "A COMPLETE GUIDE TO THE LAW", by Carol Publishing.

2. A two-volume set of ESTATE PLANNING. Volume one pertains to Will, Durable Powers of Attorney and Living Will Declarations. Volume Two deals with the use of Revocable Trusts as estate planning tools.

3. INCORPORATING A SMALL BUSINESS

4. LIMITED LIABILITY COMPANIES

5. BANKRUPTCY CHAPTER SEVEN

6. BANKRUPTCY CHAPTER THIRTEEN

7. SMALL CLAIMS COURTS

8. FINANCIAL PLANNING ONE

9. FINANCIAL PLANNING TWO

10. POWERS OF ATTORNEY

11. PARTNERSHIPS

12. NAFTA (NORTH AMERICAN FREE TRADE AGREEMENT)

These books are different from other legal self-help books. While they explain the pertinent law, they move beyond the basics. This series is written in a very practical mode, explaining to the user how to accomplish the desired results while providing detailed forms, examples and instructions. This series offers the most user-friendly and complete books of their type on the market.


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COMMON QUESTIONS REGARDING PARTNERSHIPS

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Experience has shown that people learn the most by asking questions. Next to that, people learn the most by listening to the answers to questions asked by other persons. The purpose of this book is to both teach and explain how people that create their partnerships as cheaply as possible and usually without an attorney. To accomplish these twin goals, this book is divided into easy to understand and use chapters. This chapter contains the most common questions that persons have regarding partnerships. The answers contained herein are shortened of the greater explanations given throughout the book.

Hopefully, all readers will read the entire book before creating their partnership agreements. As a practical matter, however, many people will skip chapters and go directly to the forms in the book after reading this chapter. For that reason, the information contained in this chapter is presented in as in-depth a manner as possible. By doing so, it is the intention that anyone skipping the succeeding chapters will still have been exposed to the basic information which they will need to understand and create their partnership. The use of chapters devoted just to answering common questions on a topic is unique among self-help legal books, yet it is a common fixture in most of legal books in this series.

1. WHAT IS A PARTNERSHIP?

A partnership, in its simplest form, is two or more persons or entities working together as co-owners to run a business for profit. The Internal Revenue Code defines a partnership in Section 761(a) as:

"a syndicate, pool , joint venture or other unincorporated organization through which...any business is carried on.,. and is not a corporation trust or an estate (meaning sole proprietorship)

The National Conference of Commissioners on Uniform State Laws wrote the Uniform Partnership Act (UPA). The Act has been adopted by every state except Louisiana. The UPA provides the rules on how a partnership is to operate when the partnership agreement does not spell it out. In short, the UPA fills in the blanks in a partnership agreement. The partners can agree not to use the UPA provisions. They can write their own replacement provisions if they elect to so.

A partnership may be formed by a written agreement or it may be formed by an oral agreement of the parties. The determining factors as to whether a partnership exists are:

1. whether the parties intended to form a partnership; and

2. whether they intended to make a profit from the activities. Once the foundational elements of a partnership are met, the partnership is formed and governed either by the terms of the written agreement, the UPA or in the case of Louisiana, its own state partnership law. Chapters 4 and 5 contain basic forms for a general partnership and a joint venture agreement. Because of the basic similarity between both general partnerships and joint ventures, many of the clauses contained in the joint venture agreement are also contained to all general partnerships.

2. WHAT IS A JOINT VENTURE?

A joint venture is a partnership that was created to created to accomplish a very narrow purpose. Most partnerships exist to make a profit while engaging in a particular type of business. A joint venture seeks to make a profit usually on a one time basis. When the purpose of the partnership is completed the joint venture automatically terminates.

An example of a regular partnership is where two persons form a cement paving company. An example of a joint venture is where two persons agree to work together to pave just one job. Joint ventures, as with regular partnerships, are governed by the partnership law of the state where it was formed. Like any partnership, the agreement should be in writing or otherwise have its provisions set by its states' Uniform Partnership Act. Except for the limited purpose of the joint venture, it has the same issues, problems and elements of a regular partnership.

3. HOW ARE PARTNERSHIPS TREATED FOP TAX PURPOSES?

Partnerships are treated for federal tax purposes as "pass through vehicles. All profits and losses of the partnership "pass through" the partnership and are attributed to the partners. The effect of this "pass through" of profits and losses is that the partnership itself is not taxed. Partnership income is not subject to double taxation as is the income of a regular C corporation. To achieve this same tax benefit for small corporations , Congress created the S Corporation.

Under the 1986 Tax Reform Act, profits and losses passing through to partners retains the same character that they had in the partnership. A passive profit or loss to the partnership remains a passive profit or loss to the partner. The same treatment exists for an active profit or loss, A partner, who materially participates in the partnership business, will have all of the attributed profits and losses considered to be active, A partner, who does not actively participate in the partnership business, likewise, will have all of that partner 's share of profit and losses considered to be passive in nature.

Even though income from a partnership is not taxed at the federal level, an annual tax return, the U.S. Partnership Tax Return (Form 1165) must be filed. The Form 1165 must be filed within 3 months and 15 days of the end of the partnership's tax year. The Form 1165 is an informational return which the IRS requires to be filed so as to assure that the partners are actually reporting their share of the partnership income. The IRS puts out a pamphlet, Publication 541, "Tax Information on Partnerships" to assist partnerships in their tax filing.

4. WHAT LIABILITY DO PARTNERS HAVE FOR PARTNERSHIP DEBTS?

The main drawback to any general partnership is the fact that the partners are personally liable for the debts of the partnership. In short, the partners have agreed, by forming a partnership, to guaranty payment of any debts or judgments taken against the partnership. Partners are not liable for the personal non-partnership related debts of the other partners. Under the Uniform Partnership Act, the partnership (and thus the partners) are liable for "any wrongful act or omission of any partner in the ordinary course of the business of the partnership. Where loss or injury is caused to any person by the partnership, the partners are individually liable for payment of the damages. In addition, the partners are liable for the money damages that arise for the actions of any partnership employee or the other partners during the course of their work for the partnership. For example, if a partner gets into a car accident and kills two people while engaging in partnership work, all of the other partners will be liable to pay the damage award that the heirs of victims receive in wrongful death action against the partnership. If the award is $1,000,000 and the partnership only has assets of $200,000, then a personal judgment will be taken against each partner for $800,000.

If at the time of termination, the partnership is insolvent and does not have enough assets to pay all of its debts and liabilities, then the partners must themselves pay the remaining balance. In a case in which I was once involved, a person owned a five percent general interest in a hazardous waste disposal well. The well sprung a leak and needed to be cleaned up. The clean up costs exceeded two and a half million dollars. Several of the partners were corporations who declared bankruptcy, The individual partner was left on the hook for the full two and half million dollars of clean up. Under the law, an individual can not declare bankruptcy in order to avoid hazardous waste clean up costs so he was basically ruined financially ruined even though he had only contributed a small amount of services to acquire his interest.

The unlimited liability of partners for all of the partnership debts is the main drawback of the partnership. The general rule of thumb is that if a partnership is formed and it has employees, the partners should either carry a sufficient amount of insurance, form a limited liability company or incorporate to limit their personal liability.

5. WHAT ISSUES SHOULD BE CONSIDERED IN FORMING A PARTNERSHIP?

In deciding to form a partnerships, the future partners should consider whether any of the following issues should be addressed in the partnership agreement:

1. The name of the partnership,

2. The term of the partnership,

3. The purpose of the partnership,

4. whether a joint venture is being created,

5. how the partnership will be funded,

6. how profit and losses will be allowed and distributed,

7. admission of new partners,

8. exclusion of old partners,

9. withdrawals of contributed assets,

10. expense accounts,

11. salaries and draws of income by partners,

12. responsibilities of the partners,

13. dissolution of the partners,

14. staffing and management.

This list is not exhaustive. Every partnership is different because each is composed of different people with different viewpoints. What must be remembered is that anything not covered in the partnership agreement will be dealt with in accordance with the state's Uniform Partnership Act. If the partners do want the UPA to apply on a particular point, then they must expressly create their alternative provision.

6. HOW LONG DOES A PARTNERSHIP LAST?

Unlike a corporation, a partnership does not have perpetual existence. This means that one day the partnership will terminate. Both state law and the partnership agreement states the conditions under which a partnership will be terminated. Generally, a partnership agreement will contain one or more of the following clauses stating the circumstances under which the partnership will terminate, such as:

1. when the partnership purpose is accomplished (in a joint venture),

2. as of a certain date,

3. if a partner become insolvent or bankrupt,

4. if a partner dies or becomes disabled,

5. if any partner withdraws from the partnership.

Without a clause in the partnership agreement stating otherwise, the Uniform Partnership Act states that a partnership terminates automatically on the death of a partner or upon a partner 's resignation. In addition, under the UPA, when a partner files for personal bankruptcy or the partnership is automatically terminated even though the business may itself be solvent. The reason for the dissolution is that when a partner goes bankrupt the relationship with the partnership and the other partners greatly changes. By filing for bankruptcy protection, the filing partner is no longer liable for the partnership debts. The liability for payment of partnership debts remain with the partners who did not file bankruptcy, It is this general release of liability for the partner filing bankruptcy that gives rise to the termination of the partnership. The partners can agree not to have the partnership dissolved automatically upon the bankruptcy of a partner by a provision in the partnership agreement. Unless the partnership agreement states otherwise, the UPA will apply and the partnership will be terminated upon the bankruptcy of a partner.

Once the decision has been made that partnership will terminate, the partnership will cease doing business except to the extent necessary to wind down its affairs. Under the Uniform Partnership Act, each partner remains liable for the debts of the partnership incurred during the winding down of the partnership affairs. The final cessation of business, the payment of creditors, taxes and final distribution to the partners takes place. Depending on the complexity of the partnership business, termination may be quick or it may be a long and involved process. Until the partnership is fully terminated, the individual liability of the partners continues.

Even if a partnership agreement states otherwise, a court will always have the power to order the dissolution of a partnership. The court has this authority under its equitable jurisdiction, which means it authority to render justice. In addition, under the Uniform Partnership Act, a court is given specific statutory authority to order dissolution of a partnership for the following reasons regardless of specific clauses in the partnership agreement stating otherwise:

1. A partner has been found insane by a court;

2. A partner is incapable of performing his duties under the partnership agreement.

3. A partner's conduct has prejudicially affected the ability of the partnership to carry on its business;

4. A partner has repeatedly breached the partnership agreement;

5. The partnership can only do business at a loss.

Any partner can file a complaint seeking with a court seeking dissolution on any of the above grounds. A trial will then be heard of the facts. If the allegations in the complaint are found true, then the court will order the partnership terminated. In such a lawsuit, if the court orders the dissolution of the partnership, it will order the partnership to pay the legal fees of the partner who brought the suit.


8. HOW ARE THE PROCEEDS FROM A DISSOLUTION DISTRIBUTED?

The proceeds from the dissolution of a partnership are governed by state law. An order of payments is established by state law. At the beginning of the list is government taxes and at the end are the partners themselves. The distribution is made as follows to the extent of partnership assets:

1. all federal and state taxes are paid,

2. all employee wages and benefits are paid,

3. all secured liabilities are paid,

4. all unsecured liabilities are paid,

5. the remaining funds, if any, are divided among the partners in accordance with their percentage of ownership interest in the partnership.

The proceeds received by a partner in the dissolution of a partnership is a return of the partner's investment. Any gain or

loss in the dissolution is treated as a capital gain or loss. For example, if the partner had paid $4,000 for the stock and got back $3,000, then the partner had a $1,000 capital loss. Likewise if the partner got back $6,000, the partner would have to recognize a $2,000 capital gain.

9. HOW ARE PROFITS AND LOSSES OF THE PARTNERSHIP DIVIDED?

A partnership is formed to make money for the partners. As such, probably the most important issues in any partnership is how the profits and losses are divided. It is important to know how the accounting of the partnership's profits and losses will take place. Under the Uniform Partnership Act , all profits and losses of a partnership are divided equally among the partners unless the partnership agreement states otherwise. The equal division of profits and losses occurs even if the partners own an unequal interests in the partnership or have contributed unequal amounts of work or property to it. The partners can agree to an unequal division of profits and losses such as based on partnership ownership interest or contributions. Any agreement for an unequal division of profits and losses should obviously be spelled out with particular clarity in order to make clear that the UPA does not apply. Even if the partnership agreement states that the division of profits and losses is not in accordance with the partner 's ownership interest, the Internal Revenue Service may have a different view. Under the Internal Revenue Code, profits and losses are to be divided, for tax purposes, in accordance to the respective interests on the partner's unless the distribution is for a substantial economic effect. This means that the I.R.S. will allocate all profits and losses to the partners in accordance to their ownership interest unless there exists a valid business reason behind the unequal allocations. The purpose of this law is to prevent illegal income splitting, usually among family members.

10. HOW IS THE OWNERSHIP OF PARTNERSHIP PROPERTY TREATED?

Under the Uniform Partnership Act, property which is titled in the partnership name is owned by the partnership. A partner, who contributes property to a partnership, gives up ownership in the property. Likewise, property purchased with partnership funds is owned by the partnership. The property held by a partnership can be legally sold , transferred or conveyed only by the partnership. Since partnership property is owned by the partnership, it can not be directly attached to satisfy any court judgment taken against a partner. A partner's ownership interest in a partnership can be attached and sold by a creditor but not the underlying property in the partnership.

11. HOW IS PROPERTY CONTRIBUTED TO A PARTNERSHIP TREATED TAXWISE?

A partner who contributes property to a partnership does not recognize gain or loss on the transfer to the partnership. For example, a partner contributes real estate to the partnership which has a basis (cost) of $200,000 to the partnership. The property has a fair market value of $1,000,000. If the partner had sold the property, he would have had to pay capital gain on the $800,000 profit. By contributing the property instead, the partner does not realize any capital gain. The partnership will have the contributing partner's basis in any contributed property not its fair market value at the time of transfer. Thus when the partnership sells the property above for $1,000,000, there will be a capital gain to the partnership of $800,000 which will be passedalong to the partners.

12. CAN NEW PARTNERS BE ADDED TO A PARTNERSHIP?

The Uniform Partnership Act requires unanimous consent of all partners before the admission of new partners. Unless the partnership agreement has a clause to the contrary, the UPA requirement controls and the admission of new partners requires unanimous consent, Requiring unanimous consent only makes sense. If unanimous consent is not required, then new partners could be added over the objections of partners who might not have formed the partnership had they known who their future new partners would be.

Under the Uniform Partnership Act, a new partner is only liable for the partnership debts incurred before becoming a partner, up to the amount of the new partner's contribution to the partnership. The partner is liable, as any partner, for all of the partnership debts incurred after becoming a partner. For example, George joins an existing partnership which owes $200,000 in debts. George contributes $50,000.00. After joining, the partnership racks up another $100,000 in debt. Of the total partnership debt, George is liable for $150,000 ($50,000 pre-existing debt and $100,000 debt after joining) and the other partners are each liable for the whole $300,000.

13. IS THE ACQUISITION OF A PARTNERSHIP INTEREST TAXABLE?

A tax consideration that all persons forming a partnership should bear in mind is the tax consequences of contributing services for the equity interest in the partnership. Under federal tax law, when a person purchases a partnership interest for either services rendered or to be rendered , then that partner has to

recognize, as income, the value of the partnership interest received. In essence, a person can not acquire a partnership tax free by bartering services. For example, if George agrees to become a partner by working for it and the partnership interest acquired would be worth $10,000, then George would have to report the $10,000 as income on his tax return.

14. IS A PARTNERSHIP INTEREST ASSIGNABLE?

Generally, a partner may freely sell or convey his or her interest in the partnership unless the partnership agreement says otherwise. However as a normal point of fact, if the other partners do not approve of the transfer, they can usually dissolve the partnership. Under the Uniform Partnership Act, the remaining partners do not have to dissolve the partnership if they object to the transfer. Instead, the remaining partners may continue partnership operations as before but not accord the new partner all of the rights of full partner. The new partner, in such a situation, would have the right to receive the selling partner's share of profits but would be prohibited from demanding an accounting or inspecting corporate books.

15. CAN A PARTNER BE EXPELLED FROM THE PARTNERSHIP?

Partnerships which have a large number of partners sometimes have a provision in the partnership agreement which permits the expulsion of a partner without the dissolution of the partnership. Expulsion clauses in partnership agreements are valid if they exist to protect the partnership from harm caused as a result of the expelled partner's breach of the partnership agreement or fiduciary duties owed under it. The procedure for the expulsion must be agreed upon in the partnership agreement. An expulsion is obviously against the wishes of the expelled partner. Therefore, the courts will narrowly construe an expulsion clause to determine if it violates state law or is otherwise against public policy.

16. WHAT IS A LIMITED PARTNERSHIP?

A limited partnership is a legal entity which is a cross between a corporation and a regular or general partnership. A limited partnership has two types of partners , the general partners, who run the partnership, and the limited partners who are the investors. As with a regular partnership, the general partners are liable for the debts and liabilities of the limited partnership. The limited partners are treated in a manner similar to shareholders of a corporation. The limited partner's liability for payment of partnership obligations extends only to the amount of their contributions. In other words, the most a limited partner could lose is the partner's investment in the limited partnership. Limited partnerships are specially created pursuant to each state's limited partnership laws.

The National Conference of Commissioners on Uniform State Laws wrote the Uniform Limited Partnership Act (ULPA). Also created was the Revised Uniform Limited Partnership Act (RULPA). The appendix lists every state which has adopt either the ULPA or the RULPA In addition the Uniform Partnership Act applies to limited partnership except where it is inconsistent with provisions of the ULPA or RULPA or state law, The ULPA and RULPA provide the rules on how a limited partnership is to operate in situations not covered in the limited partnership agreement. In short, the ULPA and RULPA fill in the blanks of a limited partnership agreement. The partners can agree not to use some of the ULPA provisions. However there are some ULPA and RULPA provisions, which can not be altered, amended or stricken from a limited partnership agreement. Chapter 5 contains a basic agreement for the creation of a limited partnership. Most of the provisions discussed in this chapter are contained therein and pertain to nearly all limited partnerships.

17. WHAT ARE THE REQUIREMENTS FOR LIMITED PARTNERSHIP?

To have a valid limited partnership, strict requirements must be met. If the requirement are not met , then the relationship between the parties becomes a general partnership not a limited partnership. Most states require , that at a minimum, a limited partnership contain the following:

1. A written limited partnership agreement;

2. At least one general partner;

3. A provision in the written partnership agreement stating that the limited partners will have no management or control over the daily operations of the partnership,

4. That a Certificate of Limited Partnership or Registration Statement be either filed with the Secretary of State or recorded in the County where the limited partnership does business in accordance with the requirement of state law.

These are the requirements for all limited partnership. Each state may have additional requirements that must be met in order for there to be a valid limited partnership.

18. WHAT DOES A GENERAL PARTNER DO IN A LIMITED PARTNERSHIP?

A general partner of a limited partnership is the manager of the partnership. A limited partner can not participate in the management and control of the daily operations of the limited partnership. It is because the limited partner's give up all right to participate in the daily management and control of the limited partnership that they will not any liability for the debts of the partnership beyond their initial contributions. The general partner on the other hand is totally liable for al of the debts and obligations of the partnership.

A general partner is also held to hold a fiduciary duty to the limited partners to look out for their interests. There is a special degree of trust placed upon the general partners to protect the limited partners because the limited partners are not in a position to protect themselves. The general partner of a limited partnership is held to the standard of a care of a reasonable general partner. Likewise , a general partner is expected not to compete in business with the partnership. In short, a general partner is expected not to do anything that a normal reasonable person acting as a general partner would not also do.

A general partner can be sued by the limited partners for losses incurred by the general partner's breach of fiduciary duties. Generally, limited partners can recover damages from a general partner wherever the partnership suffered losses because of the general partner's unreasonable actions,

19. WHO CAN BE A LIMITED PARTNER?

There is no limitation on who can be a limited partner . Individuals, corporations , trusts, general partnerships and even other limited partnerships can all be limited partners in a limited partnership. For example, RODDY LIMITED PARTNERSHIP may be a limited partner along with STINEMEYER CORPORATION and JOHN DOE in the GABRIEL LIMITED PARTNERSHIP. In addition, a general partner may also be a limited partner in the same limited partnership. In partnership debts but the limited partnership share of the general partner 's investment is treated as a limited partnership contribution.

20. WHAT CAN LIMITED PARTNERS' DO?

Limited partners have virtually no authority to participate in the daily operation and management of the limited partnership. In order to be relieved for partnership liability, limited partners mu st agree to give up such right to participate in the daily business of the business. If limited partners violate the terms of the limited partnership law and participate in partnership business then their interest is changed automatically from a limited partnership interest into a general partnership interest. A partner's interest is not determined by what it is called but by the degree of management the partner has in the limited partnership.

Despite the general law that limited partners may not participate in the partnership business, limited partners are allowed to participate in the following limited partnership business without losing their protected status:

1. vote of the dissolution of the partnership,

2. vote of the election or removal of general partners,

3. vote of the admission of new limited partners.

A limited partner can, unlike a general partner, conduct a business in competition with the partnership unless prohibited by the partnership agreement.

21. WHEN DOES A LIMITED PARTNERSHIP TERMINATE?

As with a general partnership, a limited does not a perpetual existence. A limited partnership terminates, by operation of law, upon the occurrence of any of the following events:

1. its term of existence, under the limited partnership agreement, has expired;

2. all of the partners vote to terminate the partnership;

3. by judicial decree;

4. by changing anything contained in the Registration Statement or Statement of Limited Partnership, whichever is used in a State, which then requires a new filing or recordation.

Unlike a general partnership, a limited partnership is not automatically dissolved upon the death, bankruptcy or withdrawal of a limited partner. However, the limited partnership is dissolved by operation of law upon the death, bankruptcy or withdrawal of a general partner unless the partnership agreement states otherwise.

Once a limited partnership has been terminated, the general partner must wind down the partnership. The assets of the partnership are sold, The general then pays all of the partnership liabilities. If the partnership lacks sufficient assets to pay its debts, the general partner must make up the difference. If there are sufficient to pays the debts, the general then pays the debts and then the remaining assets among the partners in accordance to their capital interests in the partnership.

22. WHAT IS A REGISTRATION STATEMENT?

The ULPA and RULPA requires that a limited partnership file a Registration Statement with a governmental agency, usually the Secretary of State . Connecticut requires that the Registration Statement be filed both with the Secretary of State and the town clerk where the limited partnership does business. Some states, such as California, require a specific governmental form to be used whereas other states permit the registration statement to be typed.

The Registration Statement is usually required to contain the following information:

1, The partnership name;

2. The purpose of the partnership;

3. The location of the principal place of business;

4. The names and addresses of all general partners;

5. The names and addresses of all limited partners;

6. The term of the partnership;

7. The contributions of each partner;

8. Whether additional contributions can be demanded;

9. The right to continue the partnership upon the death, withdrawal or bankruptcy of a general partner;

10. Whether new limited partners can be admitted;

Under the ULPA and the RULPA, a valid limited partnership will be found to exist "if there had been substantial compliance in good faith." As such, if there are minor mistakes in the Registration Statement but it wa s filed in a good faith belief that it was accurate, then the limited partnership is still valid.

In addition to the filing requirement, some states impose the addition requirement that the Registration Statement be published in a newspaper. The purpose of the filing a Registration Statement is obviously to inform creditors of the existence of the limited partnership so that they would be in a better position to protect themselves. Also the filing requirement makes it easier for governmental agencies to inspect a limited partnership for fraud or violations of state law. Chapter 5 contains a copy of the Registration Statement used for California. The information contained in it must be provided by the limited partnership, in some fashion, in every state.

An amendment to the Registration Statement is required whenever any of the following acts occur:

1. The partnership name is changed;

2. The partnership business changes,

3. New limited partners are admitted or substituted in the limited partnership;

4. The term of the partnership is altered;

5. The limited partners receive voting rights on management of partnership business (care must be taken to assure rights given do not terminate the limited partnership interest);

6. The amount or character of limited partners' contributions changes.

Any amendment to a Registration Statement must be signed by all of the partners and not just the general partners. Failure to comply with the state law regarding the filing of an amendment to a Registration Statement may result in a limited partners losing their protected status and thereafter being held for the partnership debts as general partners.

**** end of sample view of chapter ****


CHAPTER 2

COMMON CHARACTERISTICS OF ALL TYPES OF PARTNERSHIPS

All partnerships, whether general partnerships, joint ventures or limited partnerships, will contain many of the same clauses. The reason for this is that all partnerships share certain basic characteristics. This chapter discusses those common similarities of all partnerships. By doing so, separate, unnecessary repetitive discussions in succeeding chapters for general partnerships, joint ventures and limited partnerships can be avoided. Those chapters can instead focus on explaining the differences between the various forms of partnerships.

THE UNIFORM PARTNERSHIP ACT

The National Conference of Commissioners on Uniform State Laws wrote the Uniform Partnership Act (UPA). The Act has been adopted by every state except Louisiana. The UPA provides the rules on how a partnership is to operate when the partnership agreement does not give necessary details: the UPA fills in the blanks in a partnership agreement. Partners can agree not to use the UPA provisions. They can write their own replacement provisions if they elect to do so. The UPA, as adopted by California, is set forth in this book.

DEFINITION

A partnership is two or more persons or entities working together as co-owners to run a business for profit. The Internal Revenue Code defines a partnership in Section 761(a) as: "a syndicate, pool, joint venture or other unincorporated organization through which. . .any business is carried on. . .and is not a corporation, trust or an estate (meaning sole proprietorship)."

A partnership may be formed by a written agreement or by an oral agreement of the parties. The determining factors as to whether a partnership exists are:

a. Whether the parties intend to form a partnership, and

b. Whether they intend to make a profit from the activities.

Once these foundation elements are met, the partnership is formed and is, ipso facto, governed thereafter either by the terms of the written agreement, the UPA or in the case of Louisiana its own unique partnership law.

This book contains basic forms for a general partnership and for a joint venture agreement. Many of the clauses contained in the joint venture agreement are also contained to all general partnerships because general partnerships and joint ventures are similar in structure.

A joint venture is a partnership created to accomplish a narrow purpose. Most partnerships exist to make a profit while engaging in a particular type of business. A joint venture usually seeks to make a profit on a one-time basis. When the purpose of a joint venture is completed the joint venture partnership automatically terminates.

An example of a regular partnership would be where people join together to form a cement paving company. An example of a joint 7venture would be people agreeing to work together to pave just one job. A joint venture is also governed by the partnership laws of the state where it is formed. Like any partnership, the agreement should be in writing or otherwise have its provisions set by its states' Uniform Partnership Act. Except for the limited purpose of the joint venture, it has the same issues, problems and elements of a regular partnership.

TAX TREATMENT

Partnerships are treated for federal tax purposes as pass-through vehicles. All profits and losses of the partnership pass through the partnership and are attributed to the partners. The effect of this "pass through" of profits and losses is the partnership itself is not taxed. Partnership income is not subject to double taxation as is the income generated from a regular C corporation.

Regular C corporation income is first taxed when earned by the corporation and is then taxed again when paid as dividends to the shareholders. To achieve this same benefit for small corporations, Congress created the Subchapter S corporation more commonly referred to simply as a S corporation. The income from a S corporation is taxed only once as straight shareholder income.

The partnership does not pay any taxes on the income from the partnership. All partnership profit and loss is passed to the partners. The partnership files a Form 1165 partnership return and its K-1 so as to inform the IRS how the profits and losses are being allocated to each partner. Each partner is treated for tax purposes as a self-employed individual. Each partner is required to estimate the partner's quarterly share of partnership profits and thereafter to make quarterly payments to the IRS.

Under the 1986 Tax Reform Act, profits and losses passing through to partners retain the same character they had in the partnership. A passive profit or loss to the partnership remains a passive profit or loss to the partner. The same treatment exists for an active profit or loss. A partner who materially participates in the partnership business will have all of the attributed profits and losses considered active. The profits and losses of another partner who does not actively participate in the partnership business will be considered passive in nature.

Generally a joint venture is treated the same as a partnership for tax purposes. Still, there are certain differences or elections that pertain only to joint ventures:

1. A joint venture must, like a partnership, file an informational return (except for certain real estate-joint ventures).

2. A joint venture makes tax elections for computation of its taxable income.

3. A joint venture can adopt its own tax year, but it must have I.R.S. permission to use a tax year different from any principal partner.

4. The Internal Revenue Code allows a joint venturer (one of the partners in the joint venture) to enter into a business transaction with the joint venture and be treated as an outsider for tax purposes.

5. If the joint venture is basically a passive investment, members of a joint venture may elect to be excluded from some or all of IRC subchapter K (which defines how partnerships are taxed).

The above tax aspects of joint ventures give them a degree of flexibility regular general purpose partnerships do not have.

PARTNERS' LIABILITY FOR PARTNERSHIP DEBTS

The main drawback to any general partnership is the fact that the partners are personally liable for the debts of the partnership. By forming a partnership the partners have impliedly agreed to guarantee payment of any debts or judgements taken against the partnership. Partners are not liable for the personal non-partnership related debts of the other partners.

Under the Uniform Partnership Act, the partnership (and thus the partners) are liable for any wrongful act or omission of any partner in the ordinary course of the business of the partnership. Where loss or injury is caused to any person by the partnership, the partners are individually liable for payment of the damages. In addition, the partners are liable for the money damages that arise from the actions of any partnership employee or partner during the course of their work for the partnership. For example, if a partner is involved in a car accident which results in the death of two people while engaging in partnership work, all of the other partners will be liable to pay the damage award that the heirs of the victims receive in a wrongful death action against the partnership. If the award is $1,000,000 and the partnership only has assets of $200,000, a personal judgment will be taken against each partner for $800,000.

This is the main drawback of the partnership. The general rule of thumb is if a partnership is formed and it has employees, the partners should either carry a great deal of insurance or incorporate to limit their individual personal liability for the partnership's debts.

FIDUCIARY DUTY OF ALL PARTNERS

By law every partner, both general and limited, is the agent of the partnership. Each partner has a fiduciary duty to the partnership and to the other partners to act in their best interests. Some of the things that partners cannot do are:

1. A partner may not usurp a partnership benefit. A partner must give the partnership the right of first refusal on any business opportunity that the partner finds which may be of benefit to the partnership. For example, if the partnership is in the paving business and a partner finds out that a school is intending to repave its parking lot, the partner cannot bid on the job for himself without first informing the partnership of the job and giving the partnership the choice to bid the job. In addition, the partner usually cannot bid in competition against the partnership.

2. A partner may not divert partnership assets for the partner's own personal use. Such conduct is a breach of trust and could expose the partner to criminal liability.

3. A partner must fully disclose all material facts which affect the partnership and its affairs to the other partners.

A partner, who breaches any of these duties, may be sued by the other partners for their lost profits or other damages suffered as a result of the partner's misconduct. Where a partner usurped a partnership benefit, the partner may be ordered to pay all of the profits realized from the transaction to the partnership. The reason for this is the theory that the partnership would have made that profit itself had not the partner usurped the deal.

AUTHORITY TO ACT FOR THE PARTNERSHIP

In a general partnership each partner has full authority to act on the partnership's behalf in the normal course of its business. Each partner can bind both the partnership and the other partners to contracts even if the other partners never authorized or approved the contracts. This unlimited power on the part of one partner to bind the partnership and the other partners is the biggest concern of most investors. The partners may agree to limit their authority to bind the partnership or act on its behalf.

People dealing with a partnership are entitled to assume, unless informed otherwise, that any partner has the right and power to act for the partnership in the normal course of its business. Even though a partner may actually have only limited authority to act for the partnership, the apparent authority of the partner may nevertheless bind the partnership to contracts with third parties. Contracts entered with people, who did not actually know that the partner lacked the authority to bind the partnership, are binding on the partnership.

There are some acts, however, that a partner can never do unless the authority is specifically granted in a partnership agreement. Anyone dealing with a partner is presumed to know that unless the partnership agreement gives the partner specific authority to act in certain special areas, a valid contract in those areas cannot be executed. The Uniform Partnership Act states the following acts are invalid and not binding on the partnership unless the partnership agreement expressly states a partner can do them:

1. Transfer of a partner's interest to another.

2. Conveyance of partnership property.

3. Mortgaging of partnership property.

4. Confession of a judgment against the partnership.

5. Submission of a partnership claim to arbitration.

6. Any act that would make it impossible to carry on the business of the partnership.

Anyone dealing with a partnership should ask to review the partnership agreement to assure himself that the partner executing the contract does indeed have the authority to do so.

CONSIDERATIONS BEFORE DECIDING TO FORM A PARTNERSHIP

Before forming a partnership, the potential partners should consider the following issues and desire for themselves how they should be addressed:

a. The name of the partnership.

b. The term of the partnership.

c. The purpose of the partnership.

d. Whether a joint venture is being created.

e. How the partnership will be funded.

f. How profits and losses will be allowed and distributed.

g. Admission of new partners.

h. Expulsion of old partners.

i. Withdrawals of contributed assets.

j. Expense accounts.

k. Salaries and draws of income by partners.

l. Responsibilities of partners.

m. Dissolution of the partnership.

n. Staffing and management.

o. Comparison with forming a corporation or limited liability company instead.

p. The potential for personal liability in doing business in the partnership form.

These are important considerations but not the only ones. Each partnership is different because each is composed of different people with different viewpoints. What must be remembered is that anything not covered in the partnership agreement will be handled in accordance with the state's Uniform Partnership Act. If the partners do not want the UPA to apply on a particular point, they must expressly create their alternative provision.

RIGHTS OF THE PARTNERS

All partners have certain basic rights in a general partnership:

1. The right to insist on a partnership accounting. Along with this right is the right to have the books examined by an outside accountant.

2. The right to dissolve the partnership in accordance with the terms of the partnership agreement or the Uniform Partnership Act of the state.

3. The right to seek to restrain the partnership from performing acts prohibited under the partnership agreement.

4. The right to bring a legal action for breach of the partnership agreement.

These are implied rights in any partnership agreement. Provisions in partnership agreements that waive such rights are invalid and against public policy.

PROFITS AND LOSSES

One of the most important issues in any partnership is how profits and losses are divided. After all, the partners formed the partnership in order to conduct a business to make money. Therefore, it is important to know how the accounting of the partnership's profits and losses will take place.

Under the Uniform Partnership Act, all profits and losses of a partnership are divided equally among the partners unless the partnership agreement states otherwise. The equal division of profits and losses occurs even if the partners contribute unequal amounts of work or property to it. Partners can agree to an unequal division of profits and losses, such as one based on partnership ownership interests or contributions. Any agreement for an unequal division of profits and losses should obviously be spelled out with particular clarity in the partnership agreement in order to make that the UPA does not apply.

PARTNERSHIP PROPERTY

Under the Uniform Partnership Act, property which is titled in the partnership name is owned by the partnership. A partner who contributes property to a partnership loses his ownership in the property. Property purchased with partnership funds is owned by the partnership. The property held by a partnership can be legally sold, transferred or conveyed only by the partnership. Since partnership property is owned by the partnership, it cannot be directly attached to satisfy any court judgment taken against a partner. A partner's ownership interest in a partnership can be attached and sold by a creditor but the creditor cannot reach the underlying property in the partnership.

ADDITION OF NEW PARTNERS

The Uniform Partnership Act requires unanimous consent of all partners before the admission of new partners. Unless the partnership agreement has a clause to the contrary, the UPA requirement controls, and the admission of new partners requires unanimous consent. Requiring unanimous consent makes good sense. If unanimous consent is not required, then new partners can be added over the objections of partners who might not have even formed the partnership had they known who their future new partners would be.

Under the Uniform Partnership Act, a new partner is liable only for partnership debts incurred before becoming a partner, and only to the amount of his contribution to the partnership. The partner is liable, as any partner, for all of the partnership debts incurred after becoming a partner. For example, George joins an existing partnership which owes $200,000 in debts. George contributes $50,000. After joining, the partnership racks up another $100,000 in debt. Of the total partnership debt, George is liable for $150,000 ($50,000 pre-existing debt and $100,000 debt after joining), and the other partners are each liable for the whole $300,000.

TAX EFFECT OF CONTRIBUTING SERVICES TO A PARTNERSHIP

A tax consideration that all persons forming a partnership should bear in mind is the tax consequence of contributing services for an equity interest in the partnership. Under federal tax law, when a person purchases a partnership interest for either services rendered or to be rendered, that partner has to recognize the value of the partnership interest received as income. A person cannot acquire a partnership tax free by bartering services. For example, if George agrees to become a partner by working for it, and the partnership interest acquired would be worth $10,000, George would have to report the $10,000 as income on his tax return.

The tax consequence of acquiring a partnership interest for services may result in the business not becoming commercially viable. It simply may not be worthwhile to work for an interest. A complicating factor is that there is often an undercurrent of resentment from the partner who contributed services against the partner who just contributed money. In a successful partnership it is common for a partner who contributes most of the work to feel slighted when a partner who contributes the start-up capital receives a bigger share of the partnership.

TRANSFERABILITY OF THE PARTNERSHIP INTEREST

Generally, a partner may freely sell or convey his interest in the partnership unless the partnership agreement says otherwise. As a point of fact, however, if the other partners do not approve of the transfer, they can usually dissolve the partnership. On the other hand, the remaining partners do not have to dissolve the partnership if they object to the transfer. Instead, the remaining partners may continue partnership operations as before but not accord the new partner all of the rights of a full partner. The new partner, for example, might have the right to receive the selling partner's share of profits but be prohibited from an accounting or inspecting corporate books.

EXPULSION OF A PARTNER

Partnerships which have a large number of partners sometimes have a provision in the partnership agreement which permits the expulsion of a partner without the dissolution of the partnership. Expulsion clauses in partnership agreements are usually valid. A valid expulsion clause exists to protect the partnership from harm that may be caused as a result of the expelled partner's breach of the partnership agreement or fiduciary duties owed under it.

The procedure for the expulsion must be detailed in the partnership agreement. An expulsion is obviously against the wishes of the expelled partner. Therefore, the courts will narrowly construe an expulsion clause to determine if it violates state law or is otherwise against public policy.

**** end of sample view of chapter ****


CHAPTER 3

GENERAL PARTNERSHIPS

NATURE

By simplest definition, a general partnership is two or more persons engaged in a common enterprise for profit. The test as to whether a partnership Is created was stated concisely in the 1953 case Watson vs. Watson, 108 N.E. 2nd 893 which held:

"In determining whether there is a partnership, it is the substance and not the name of the arrangement between the parties which determines their legal relation toward each other, and if from a consideration of all facts and circumstances it appears that parties intended between themselves that there should be a community of interest of both property and profits of a common business or venture, the law treats as their intention to become partners in absence of other controlling facts."

In the Watson case, the court merely restated the enduring rule followed by all states that a partnership is created both by intent and common enterprise. The mere fact that persons may own property together does not create a partnership or common intent to engage in an enterprise to operate the property together. This position has been stated repeatedly throughout the United States. For instance, in Mullins vs. Evans, 308 S.W. 2d 494, the Tennessee Court of Appeals held that:

"Joint ownership of property or the sharing of gross returns, whether or not the persons sharing them have a joint or common right or interest in any property from which the returns are derived, does not of itself establish a partnership."

The significance of the intent of the parties to form a partnership is critical. Without the intent, a partnership is not formed. Whether or not a partnership exists is important because it determines whether, as Illinois law states, a mutual agency between the parties exists. Since every partner is held to be the agent of every other partner, then the acts of one partner bind all of the other partners if a partnership exists.

In a general partnership all of the partners are individually liable for the debts of the partnership. Therefore, any contract validly executed or debt properly incurred by any partner immediately becomes an obligation to be fulfilled or paid by all of the partners.

FORMATION

A partnership need not be in writing to be effective. The only requirement is that there be facts evidencing an intent to engage in a common enterprise for profit. Nebraska confirmed this principle in Lewis vs. Gallemore, 113 N.W.2d 54, wherein the court held:

"Existence and scope of a partnership may be evidenced by written or oral agreement or implied by conduct of parties and what was done by them."

Even though a partnership can be created orally, its terms and conditions should be reflected in a written agreement. It is clearly prudent to have a partnership reduced to writing. A written agreement avoids many problems and misconceptions by having the rights and responsibilities of all of the partners clearly delineated. A partnership agreement should be drafted to be as complete as possible. Any detail not covered in a partnership agreement would be supplied by the law of the state in which the partnership was formed. Thus, before forming a partnership all of the potential partners should consider what major terms and conditions should be contained in the agreement. Among the most important considerations which should be discussed are:

1. The name of the partnership.

2. The term of the partnership.

3. The purpose of the partnership.

4. How the partnership will be funded.

5. How profits and losses will be allowed and distributed.

6. Admission of new partners.

7. Expulsion of old partners.

8. Withdrawals of contributed assets.

9. Expense accounts.

10. Salaries and draws of income by partners.

11. Responsibilities of partners.

12. Dissolution of the partnership.

13. Staffing and management.

Many of these considerations are reflected in optional provisions in the uniform general partnership agreement at the end of this chapter. Since it is impossible to foresee every clause or provision that the parties might wish to include in their partnership agreement, space is left at the end to add additional clauses. If the space provided is not large enough, additional pages can be attached to the agreement. The additional pages should have the heading "Additional Clauses to the Partnership Agreement Dated _______________." The clauses should be individually numbered, and all of the partners should sign each page to signify the approval of the additional clauses. Any matter not covered in the partnership agreement will be determined in accordance with state law or established judicial precedent in the event of a major dispute.

PARTNERSHIP DEBTS

The Uniform Partnership Act makes the individual partners jointly and severally liable for all of the debts of the partnership. This is the major concern of anyone considering forming or joining a partnership. For this reason anyone considering joining or forming a partnership must choose his partners and employees very well. No one wants to be responsible for acts committed by other persons. That, however, is the very nature of a partnership.

This unlimited partner liability for partnership debts is the main drawback of any partnership. The general rule of thumb is that if a partnership is formed and it has employees, the partners should either carry a great deal of insurance or consider incorporation to limit their individual personal liability for the partnership's debts.

CAPITAL CONTRIBUTIONS

A person acquires an interest in a partnership through a capital contribution. Capital is defined for partnership purposes as "a property or services of value." Usually a person contributes only money to the partnership to acquire his partnership interest. Occasionally property instead of money is contributed. In some cases a partnership interest is acquired by providing services in place of cash or property. The value of all capital contributions is that partner's capital account.

In some partnerships a partner's vote is based upon the proportionate share of that partner's capital account to that of the other partners. Example: George has a capital account of $43,000, Abner's capital account is $27,000 and Bill's capital account is $30,000. Their respective voting interests are George 43%, Abner 27% and Bill 30%.

Capital accounts are adjusted upward by a partner's share in the partnership's profits and reduced by any draws or distributions paid to the partner.

OWNERSHIP OF PARTNERSHIP PROPERTY

The Uniform Partnership Act requires that all property in which a partnership has an interest is owned by the partnership. This is an important concept. It means that once property is contributed to a partnership, the contributing partner no longer owns the property. In such an instance, the partner will not have the right of return of the same property upon the termination of the partnership. In addition, once property is contributed to a partnership, the partner who contributed it cannot demand that it be returned to him. Only if no other partner objects can contributed property be returned to the partner contributing it.

Partnership property comprises not only property contributed by the partner but also property purchased or otherwise acquired by the partnership: if partnership funds purchase the property, the partnership owns it, not the individual partners. Partnership property cannot be attached by creditors of a partner who contributed (if done prior to the creditor obtaining a judgment against the partner).

PROFESSIONAL PARTNERSHIPS

Professional persons (people who must be licensed to engage in a profession) can join together to form a partnership. Professional partnerships are usually limited by law to those persons licensed in that profession: the state does not want fees for professional services paid to non-professionals. The belief is that non-professionals would exert undue influence on the professionals in a mixed partnership. States are concerned that non-professional partners would confuse the confidential relationship arrangements that exist between client and professional.

FAMILY PARTNERSHIPS

In the past few years, a tax avoidance scheme has developed through the use of family partnerships. Anyone wishing to create a partnership among family members should discuss it with a tax professional if the purpose for forming the partnership is solely for any alleged tax advantage and not actually to run a business. Special tax laws have been implemented to prevent income splitting among family members. There are many disreputable tax scams. These schemes center around con artists who claim that they can form a family partnership for their clients, place all their assets in the partnership, draw a salary from the partnership and through innovative practices avoid taxes. That simply is not true.

Another instance of misuse of family partnership exists in an attempt to freeze the value of an estate. Children form a partnership which purchases the parent's estate for a note. Often the parent is also a partner whose interest is reduced by the payments. Under federal tax law the entire value of the parent's property at the date of death (not the date of the alleged sale) is nonetheless placed in the parent's estate upon death.

Under the tax law on family partnerships a family member is treated as a partner if he owns a capital interest in the partnership and his capital contribution is the material income-producing asset. This is true whether he is listed in the partnership agreement or not. The family member is a partner regardless of whether or not he purchased the interest. When a family partnership is formed as a result of contributed capital which is not a material income-producing asset, the partnership may be invalidated as an improper attempt to assign income. Moreover, if all the partnership income is derived from the personal efforts of a family member (as his contribution to the partnership) , all of the income will be taxed to that family member. In a family partnership the distributions to the partners must be in proportion to their capital accounts. Unlike ordinary partnerships, a family partnership cannot have disproportionate distributions.

A family limited partnership can be created for estate planning purposes. In that instance, a parent creates the limited partnership with the children. The parent contributes most, if not all of the property. The children generally serve as general partners with the parent. The parent also has the limited partnership interest which is most of the value of the limited partnership. The success of a limited partnership depends on placing significant restrictions on the sale of the limited partnership interests which reduce the value of the limited partnership interest. Upon the death of the parent, the parent's limited partnership is valued at less than the value of the property which was originally contributed to the partnership. As a result, the children receive the parent's partnership interest at significantly below cost. As a result, the estate taxes to be paid as a result of the parent's death are calculated on the fair market value of the partnership interest with all of its restrictions and not on the value of the contributed property. The tax savings can be immense. Use of a family limited partnership for estate planning purposes should only be done through the use of a tax professional to assure receiving the desired tax benefits.

TERMINATIONS

A partnership does not last forever and lacks the perpetual existence of a corporation. The Uniform Partnership Act (UPA) states that unless the partnership agreement states otherwise a partnership terminates upon the death, resignation or bankruptcy of any partner. This termination is founded in the exposure to unlimited liability of the partners for the partnership debts. The UPA recognizes that the partnership relationship imposes basic fiduciary duties on all of the partners in addition to the obligation to pay all of the partnership debts. When a partner becomes unable to fulfill those obligations, it becomes unfair and inequitable to force the remaining partners to continue in a partnership with him unless the partnership agreement states otherwise.

Another reason for the automatic termination is that creditors of the partnership do business with it because they expect all of the partners to guarantee the partnership debts. Fraud may occur when the partnership obtains credit or incurs liability without disclosing the fact that some of the partners are dead, in bankruptcy or insolvent. The creditors are not in possession of the full set of facts needed to make informed decisions as to whether to deal with the partnership. To avoid this scenario the UPA requires automatic termination upon the foregoing occurrences unless the partnership agreement states otherwise.

Termination is discussed in full detail in this book and a termination agreement is included and appropriate tax consequences are also discussed.

SALARIES TO PARTNERS

A partnership may pay a salary to a partner for services rendered. Under the tax law, salaries to partners are called guaranteed payments. Salaries are different from draws which are advances against a partner's anticipated share of the partnership's profits. Guaranteed payments are considered by the tax law as part of the partner's distributive share of the partnership's ordinary income. Guaranteed payments are deductible by the partnership to the extent that they are ordinary and necessary business expenses and are not capital expenditures.

A partner who receives a salary is not considered an employee of the partnership: he is not subject to withholding for income or social security even though it appears a salary is paid the same as to a non-partner employee. The guaranteed payment (salary) is included in the partner's self-employment income along with the partner's ordinary share of partnership income or loss which are used to determine the partner's self-employment tax.

A PARTNERSHIP INTEREST AS A SECURITY

The general rule is that the formation of a general partnership does not involve the sale or transfer of a security. As such, at this time, there usually is no requirement to register a partnership with the Securities and Exchange Commission (SEC) or with a state in order to sell the partnership interests. General partnerships are not considered securities because by their very nature all of the partners are considered responsible for the management and control of the partnership. One of the definitions of a security is that it is an investment contract. An investment contract is an interest in a business enterprise where the profit is derived solely through the efforts of others. Since partners are considered as participating in the derivation of partnership profits, a partnership interest does not constitute an investment contract or a security.

The above view may be changing or at least be limited. The North American Securities Administrators Association (NASAA), which is composed of the state commissioners of all of the states, have filed amicus briefs in several cases pending before the United States Supreme Court on the issues of general partnership interests as securities. The NASAA is urging the Supreme Court to adopt a rule that the partnership must register with the SEC before it can sell any interests when there are large numbers of general partners. Regardless, there is no federal problem if the partnership does not sell its interest by public advertising and does not sell it out-of-state. Moreover, since nearly all states follow the federal law, if there is no federal requirement to register, there is no state registration requirement. The security issue is discussed in full in this book.


(SAMPLE GENERAL PARTNERSHIP)

AGREEMENT OF GENERAL PARTNERSHIP

OF

YOUNGSTOWN MOTEL PARTNERSHIP

THIS AGREEMENT is made by and between RICHARD MULLIGAN, HORACE TAYLOR and HENRY SALLITOR , all of whom are collectively hereinafter called "Partners."

The parties having herein joined together for the specific purpose of forming and creating a GENERAL PARTNERSHIP (the "Partnership") pursuant to the laws of the State of OHIO , hereby form a partnership and agree as follows:

1. NAME OF THE PARTNERSHIP. The name of the partnership is YOUNGSTOWN MOTEL PARTNERSHIP .

2. PRINCIPAL OFFICE. The principal office of the Partnership shall be located at 3336 LOVELAND ROAD, YOUNGSTOWN, OHIO . The Partners may change their designation of the site of the Partnership's principal office.

3. TERM OF THE PARTNERSHIP. The partnership shall terminate on AUGUST 15, 2015 . The Partnership may terminate or be dissolved earlier in accordance with the terms of this Partnership Agreement.

4. PARTNERSHIP PURPOSE AND BUSINESS. The purpose and business of the Partnership shall be to purchase and operate a motel in Youngstown, Ohio and to engage in any other profit-making activity that the partners may agree upon.

No Partner shall have the authority, either express or implied, to engage in any business, execute any contracts or commit the partnership in any fashion or in any way that exceeds the scope and purpose of the partnership as stated herein.

5. OPERATION OF THE PARTNERSHIP.

5.01 (OPTIONAL) UNANIMOUS VOTE. Any major act or decision of the Partnership can only be undertaken or implemented with the unanimous decision of all of the Partners. Minor business decisions or actions for the Partnership may be undertaken by any Partner.

This provision is REJECTED .

This provision is ADOPTED X . 5.02 (OPTIONAL) MAJORITY VOTE. Any major act or decision of the Partnership can only be undertaken after an affirmative majority vote of the Partners. Each Partner's vote shall be proportionate to that Partner's percentage interest in the Partnership capital as determined by the Partner's capital account.

This provision is REJECTED .

This provision is ADOPTED X .

6. CAPITAL CONTRIBUTION AND PARTNERSHIP INTERESTS.

6.01. HORACE TAYLOR shall contribute no cash but will contribute management expertise and services equal to FIFTY THOUSAND ($50,000) dollars. If such expertise and services are not fully granted the acquired interest in the Partnership shall be reduced to reflect the true value of such management expertise and services actually provided.

6.02. shall contribute no cash but will contribute management expertise and services equal to dollars. If such expertise and services are not fully granted then the acquired interest in the Partnership shall be reduced to reflect the true value of such management expertise and services actually provided.

6.03. RICHARD MULLIGAN shall contribute $50,000 in cash or the following property none to the Partnership.

6.04. HENRY SALLITOR shall contribute $50,000 in cash or the following property: a one hundred percent (100%) interest in the motel located at 430 Lockwood, Youngstown, Ohio to the Partnership.

6.05. ________________________________________ shall contribute in cash or the following property __________________________________________________________________to the Partnership.

6.06. ________________________________________ shall contribute in cash or the following property __________________________________________________________________to the Partnership.

6.07. ________________________________________ shall contribute in cash or the following property __________________________________________________________________to the Partnership.

6.08. ________________________________________ shall contribute in cash or the following property __________________________________________________________________to the Partnership.

7. ACCOUNTING, ALLOCATIONS AND DISTRIBUTIONS

7.01 ACCOUNTING YEAR AND METHOD. The Partnership hereby adopts the calendar year ending December 31 as both its accounting and tax year. The books of the Partnership shall be kept using standard accounting practices and shall employ the cash basis method of accounting unless changed by the Partners.

7.02 CAPITAL ACCOUNT. The Partnership shall maintain a capital account for each Partner. Upon becoming a Partner, the capital account of that Partner shall be that Partner's proportionate share of the total capital contributions. Afterwards, the capital account of each Partner:

(a) Shall be increased at the end of each taxable year in the amount of the Partnership's income and gain allocated to the Partner for the taxable year;

(b) Shall be decreased at the end of each taxable year in the amount of the Partnership's deductions and losses allocated to the Partner for that taxable year; and

(c) Shall be decreased at the time of any distributions in the amount of that distribution.

7.03 DETERMINATION OF PROFITS AND LOSSES. The Partnership shall employ standard accounting practices and principles in determining the profits and losses of the Partnership.

7.04 ALLOCATION OF PROFITS AND LOSSES. The Partnership shall employ and use standard accounting practices and principles in accordance with federal tax law to allocate its profits and losses among the Partners. All of the profits and losses of the Partnership and each item of income, gain, loss, deduction or credit entering into the computation thereof shall be allocated each taxable year among and be borne by the Partners as follows:

(a) HORACE TAYLOR shall be allocated THIRTY-THREE AND ONE-THIRD percent (33-1/3%) of the Partnership's profits and losses for each taxable year.

(b) HENRY SALLITOR shall be allocated THIRTY-THREE AND ONE-THIRD percent (33-1/3%) of the Partnership's profits and losses for each taxable year.

(c) RICHARD MULLIGAN shall be allocated THIRTY-THREE AND ONE-THIRD percent (33-1/3%) of the Partnership's profits and losses for each taxable year.

(d) shall be allocated percent ( ) of the Partnership's profits and losses for each taxable year.

(e) shall be allocated percent ( ) of the Partnership's profits and losses for each taxable year.

(f) shall be allocated percent ( ) of the Partnership's profits and losses for each taxable year.

(g) shall be allocated percent ( ) of the Partnership's profits and losses for each taxable year.

(h) shall be allocated percent ( ) of the Partnership's profits and losses for each taxable year.

Profits and losses and each item of income, gain, loss and deduction or credit entering into the computation thereof shall be allocated among the Partners on the last day of each accounting year of the Partnership.

7.05 FEDERAL INCOME TAX TREATMENT. The items of income, gain, loss, deduction or credit hereinabove allocated among the Partners shall, for federal income tax purposes, be deemed to retain their character as ordinary income, short-term or long-term capital gain or loss, depreciation or otherwise and shall be entitled to tax-free treatment in the same proportion as each Partner's proportionate share.

**** end of sample view of chapter ****


CHAPTER 4

JOINT VENTURES

This chapter is directed towards an explanation of what a joint venture actually is and a description of its attributes. A joint venture is a general partnership that is formed for a limited purpose. Care must be taken not to confuse it with a limited partnership. This is discussed more fully in this book's limited partnership chapter. A joint venture is a partnership formed for a limited purpose and composed of two or more persons or entities working together as co-owners to run a business for profit. The Internal Revenue Code Section 761(a) specifically extends partnership tax treatment to joint ventures. A joint venture in its simplest form is a partnership that was created to accomplish a very narrow purpose. A joint venture seeks to make a profit either on a one-time basis or from the operation of just one particular business. The joint venture automatically terminates when the purpose is completed.

A comparison between a general partnership and a joint venture is highlighted below by example. A general partnership is established when the partners form an investment company to invest money in one or more profitable businesses. In contrast, most joint venturers agree to work together to invest in just one company. The inability of the joint venturers to invest in more than the stated company highlights the difference between general partnerships and joint ventures. Joint ventures are quite common in the world of high finance. There, joint ventures are often called consortiums or cartels. Whatever the name, the basics are the same.

Joint ventures are governed by the partnership laws of the state where they were formed. A joint venture agreement does not have to be in writing but may instead be formed by an oral agreement of the parties. Though not required, the joint venture agreement should be in writing otherwise its operations will be governed entirely by the state's partnership laws. Except for its limited purpose, a joint venture has many of the same issues, problems and elements of a regular partnership.

Joint ventures have a place in the business world. One reason is they provide a greater degree of flexibility than S corporations in certain aspects. An S corporation is a special type of corporation on which no corporate income tax is imposed. Instead, the income of the corporation is passed to the shareholders who must pay the tax. This avoids a double taxation (first on the income as earned by the corporation and then again when received by the shareholder as a dividend). An S corporation is treated as partnership. A joint venture has the following tax advantages over a S corporation:

1. Joint ventures may admit anyone as a joint venturer and may have any number of joint venturers. S corporations are limited to 35 members of special status.

2. Joint ventures can divide profits and losses in a manner not related to the joint venturers' ownership interests. By contrast, S corporations must divide profits and losses among the shareholders in accordance with their percentage of stock ownership.

In most cases, these differences are not important because the S corporation usually does not want additional shareholders and does want profit and losses allocated according to shareholder investment. The most important difference between S corporations and joint ventures is there is no personal liability on the part of the shareholders for the corporation's debts; whereas joint ventures have unlimited personal liability for all of the joint venture debts.

The most common difficulties that arise regarding a joint venture concern its actual existence and the extent of authority the joint venturers (the partners) have in conducting the business of the joint venture. These issues arise when third parties have dealt with a person claiming to represent a joint venture, and one of the alleged joint venturers claims (1) the joint venture does not exist or (2) the person did not have the authority to act in that fashion for the joint venture. For example, two persons had an oral agreement to operate an oil and gas lease in Bakersfield, California. One person had extraordinary work done on the lease without the knowledge of the other person. When he was unable to pay for the work, both parties were sued for the value. The issue was whether the person ordering the work had the authority, either express or implied, to bind the other party. It was this question over the existence of the joint venture and its scope that was the center of the dispute.

In determining the existence of a joint venture and its scope of authority, a court looks at:

1. Whether the parties intended to form a joint venture.

2. What the purpose of the venture would be.

3. Whether the parties intend to make a profit.

4. What authority was being granted to each party to accomplish the stated purpose.

Once the elements of a joint venture are complete, the joint venture is formed. Thereafter it is governed either by the terms of the written agreement, the Uniform Partnership Law, or Louisiana state partnership law in Louisiana.

FORMATION

Thought and careful attention to detail should be the hallmark behind the creation of any joint venture. Since any detail not covered in a joint venture agreement will be supplied by the state law of the joint venture, it is important that the joint agreement be complete. Before executing a joint venture agreement, the parties should consider the following items and whether they are important enough to be addressed in the joint venture agreement:

1. The name of the joint venture.

2. The term of the joint venture.

3. The purpose of the joint venture.

4. Whether a joint venture is being created.

5. How the joint venture will be funded.

6. How the profits and losses will be allocated and distributed.

7. Admission of new joint venturers.

8. Expulsion of old joint venturers.

9. Withdrawals of contributed assets.

10. Expense accounts.

11. Salaries and draws of income by joint venturers.

12. Responsibilities of the joint venturers.

13. Dissolution of the joint venture.

14. Staffing and management.

While the above considerations are important, the list is far from complete. It is impossible to list every possible detail that should be considered. The uses for which a joint venture could be formed are virtually limitless and the list of all individual considerations is endless. Every joint venture is different because each is composed of different people with different viewpoints. Care must be taken in writing a joint venture agreement to avoid misconceptions. The most important fact to remember in drafting a joint venture agreement is that anything not covered in the joint venture agreement will be determined by law, usually a version of the Uniform Partnership Act. Should it be decided among the joint venturers that state law is not to apply of a particular point, they must expressly create and incorporate an alternative provision in the joint venture agreement.

TERM OF THE JOINT VENTURE

A joint venture has a finite existence and will one day end. The joint venture agreement usually lists the conditions on which it will terminate. A joint venture agreement may have a clause stating that the joint venture will terminate:

1. When the joint venture purpose is accomplished (in a joint venture).

2. On a certain date.

3. Upon insolvency or bankruptcy of a joint venturer.

4. Upon death or disability of a joint venturer.

5. Upon withdrawal of any joint venturer from the joint venture.

Without a termination clause in the joint venture agreement stating when a joint venture terminates, state law will control. Unless a written agreement expresses a contrary intent, a joint venture terminates on the death of a joint venturer or upon a joint venturer's resignation. In fact, many states have provisions that void a contrary statement in a joint venture agreement. A joint venture also will terminate on the bankruptcy of a joint venturer. A few states require the automatic termination upon the insolvency of a joint venturer unless the joint venture agreement states otherwise. The state's provision of automatic termination unless the joint venture expresses a contrary intent considers that the other joint venturers remain jointly and liable for the debts of the joint venture. It would be unfair to allow the remaining joint venturers to continue to guarantee the full debt of the joint venture without their consent.

JOINT VENTURERS

Joint venturers have certain rights which cannot be denied them or surrendered in a joint venture agreement. Any attempt to limit such rights are usually found to be invalid and against a state's public policy. These inalienable rights of joint venturers are:

1. The right to insist on an accounting for the business affairs and property of the joint venture. Implicit with this right is the right to have the books examined by an outside accountant.

2. The right to dissolve the joint venture in accordance with the terms of the joint venture agreement or, if none, in accordance with applicable state law.

3. The right to seek to restrain the joint venture from performing acts prohibited under the joint venture agreement or state law.

4. The right to bring a legal action for breach of the joint venture agreement.

These are implied rights in any joint venture agreement. Provisions in joint venture agreements that waive such rights are usually found to be invalid and against public policy.

DISSOLUTION

In all states, a court may order dissolution of a joint venture for the following reasons regardless of specific clauses in the joint venture agreement stating otherwise.

1. A joint venturer has been found insane by a court.

2. A joint venturer is incapable of performing his duties under the joint venture agreement.

3. A joint venturer's conduct has prejudicially affected the ability of the joint venture to continue its business. This usually is interpreted to mean that the joint venturer is no longer participating in the business of the joint venture or is making continuous and poor business decisions.

4. A joint venturer has repeatedly breached the joint venture agreement to the detriment of the joint venture.

5. The joint venture can only do business at a loss.

6. Equitable reasons support the dissolution.

A lawsuit seeking termination on any of the above listed grounds will be difficult and costly to prove. A preventative alternative is to include in the joint venture agreement an expulsion provision permitting expulsion of a joint venturer for any of the above reasons.

After a joint venture has been dissolved and its assets liquidated, the distribution of its assets is made in the following order:

1. All federal and state taxes are paid.

2. All employee wages and benefits are paid.

3. All secured liabilities are paid.

4. All unsecured liabilities are paid.

5. Any remaining funds are divided among the joint venturers in accordance with their percentage of ownership interest in the joint venture.

The proceeds received by a joint venturer in the dissolution of a joint venture are a return of the joint venturer's investment. Any gain or loss in the dissolution is treated as a capital gain or loss. Example: The joint venturer had paid $8,000 for his interest in the venture and made a loan to the joint venture in the amount of $2,000. He received $3,000. The joint venturer had a $7,000 capital loss. Likewise, if the joint venturer got back $13,000, he would have to recognize a $3,000 capital gain.

If the joint venture lacks the necessary assets to pay all of its debts, each of the joint venturers remain totally responsible to pay all of the unpaid debt. Any joint venturer who pays more than his proportionate share of the joint venture debt may sue the other joint venturers for indemnification. Example: The joint venture fails. The debts owed are $41,000. There are four joint venturers who own the following interests: George 15%, Ed 25%, Bill 40% and Herbert 20%. The joint venture has $21,000 after selling its assets; therefore, the debt which the joint venturers must pay is $20,000. George and Ed each filed bankruptcy and had their debts discharged, Bill paid the full $20,000 debt. Bill can then sue Herbert for his share of the debt: $6,667. (Bill owns twice as much of the joint venture as Herbert; so he pays twice as much the amount of the debt).

TAXATION

A joint venture is, in essence, a general partnership for limited purposes. As such, it is treated the same as a general partnership tax wise. There are, however, certain elections that pertain only to joint ventures which affect how they file a return or pay taxes. The differences are:

1. A joint venture, like a general partnership, must file an informational return except for certain real estate joint ventures.

2. The joint venture makes the tax elections for computation of its taxable income.

3. The joint venture can adopt its own tax year, but it must have I.R.S. permission to use a tax year different from that of any principal joint venturer.

4. Under the Internal Revenue Code, one of the joint venturers may enter a business transaction with the joint venture and be treated as an outsider for tax purposes.

5. If the joint venture is a passive investment, the members of the joint venture may elect to be excluded from some or all of subchapter K of the Internal Revenue Code which defines how partnerships are taxed.

The above tax aspects of joint ventures give them a slightly better degree of flexibility than regular general purpose partnerships.

JOINT VENTURE INTERESTS AS A SECURITY

The sale of a general partnership interest is not a security under the Security and Exchanges Act. It can be sold without having to be registered or exempted from registration with the Securities and Exchange Commission (SEC). Most states follow federal security law and also do not require registration or permits for the sale of general partnership interests as securities. A joint venture as defined above is basically a general partnership for a limited purpose and currently does not constitute a security under the federal law.

There are, however, several cases pending before the United States Supreme Court concerning treatment of general partnership interests as securities where there are large numbers of general partners. In the cases before the Supreme Court, the general partnerships contain thousands of general partners. State security commissioners contend that there is no general partnership where there are such large numbers of general partners. They argue a business relationship more akin to that of a corporation is created. The argument is that merely calling a person a general joint venturer does not really bestow upon him the ability to manage and control his investment. Therefore, he must rely upon the management expertise of the other partners. This reliance upon others for the creation of profit, it is argued, turns the partnership interest into a security. For the present, however, the law remains firm: if the joint venture interest is not sold out-of-state and all of the joint venturers participate in the management of the joint venture, there will be no federal or state registration requirement regardless of how the Supreme Court decides the matter. The security issue is discussed fully in the security laws chapter of this book.

Following is a uniform joint venture agreement. This agreement with modifications will suffice for virtually any type of joint venture. Add clauses as needed by simply attaching additional pages with the heading, "AMENDMENT TO JOINT VENTURE AGREEMENT DATED ____________________." The amendment must be signed and dated at the bottom by all of the joint venturers.


SAMPLE JOINT VENTURE

AGREEMENT OF JOINT VENTURE

OF

TINKER APARTMENTS

THIS AGREEMENT is made by and between MARTIN HOWARD, WILLIAM TABLE and PETER DELISH ,

all of whom are collectively hereinafter called "Joint Venturers."

The parties hereto, intending to be legally bound for the purpose of forming a JOINT VENTURE (the "Joint Venture") pursuant to the laws of the State of VIRGINIA , hereby form a joint venture and agree as follows:

1. NAME OF THE JOINT VENTURE. The name of the Joint Venture is TINKER APARTMENTS .

2. PRINCIPAL OFFICE. The principal office and place of business of the Joint Venture shall be located at 15 Shandy Lane in Fort Stockton, Texas. The Joint Venturers may change their designation of the Joint Venture's principal office.

3. TERM OF THE JOINT VENTURE. The Joint Venture shall terminate on 31 December 2010 . The Joint Venture may terminate or be dissolved earlier in accordance with the terms of this Agreement.

4. JOINT VENTURE PURPOSE AND BUSINESS. The purpose and business of the Joint Venture shall be limited to the sole and only purpose of THE PURCHASE AND OPERATION OF THE APARTMENT HOUSE AT 135 TINKER STREET, FAIRFLAW, VIRGINIA . No Joint Venturer shall have the authority, either express or implied, to engage in any business, execute any contracts or commit the Joint Venture in any fashion or in any way that exceeds the scope and purpose of the Joint Venture as stated herein.

5. OPERATION OF THE JOINT VENTURE. Each Joint Venturer shall have the full authority to act on behalf of the Joint Venture within the scope of the Joint Venture's stated purpose and business.

6. CAPITAL CONTRIBUTION AND JOINT VENTURE INTERESTS.

6.01. MARTIN HOWARD shall contribute no cash but will contribute management expertise and services equal to Two Hundred Thousand ($200,000) dollars. If such expertise and services are not fully granted, the acquired interest in the Joint Venture shall be reduced to reflect the true value of the management expertise and services actually provided.

6.02. ___________________________________________________ shall contribute no cash but will contribute management expertise and services equal to ________________________________________ dollars. If such expertise and services are not fully granted, the acquired interest in the Joint Venture shall be reduced to reflect the true value of the management expertise and services actually provided.

6.03. PETER DELISH shall contribute to the Joint Venture Four Hundred Thousand ($400,000) dollars in cash or the following property: a fifty percent interest of the apartment house at 135 Tinker Street, Fairflaw, Virginia. .

6.04. WILLIAM TABLE shall contribute to the Joint Venture Four Hundred Thousand ($400,000) dollars in cash or the following property: NONE

6.05. ___________________________shall contribute to the Joint Venture in cash or the following property: ______________________________________________________

6.06. ___________________________shall contribute to the Joint Venture in cash or the following property: ______________________________________________________

6.07. ___________________________shall contribute to the Joint Venture in cash or the following property: ______________________________________________________

6.08. ___________________________shall contribute to the Joint Venture in cash or the following property: ______________________________________________________

7. ACCOUNTING, ALLOCATIONS AND DISTRIBUTIONS.

7.01 ACCOUNTING YEAR AND METHOD. The Joint Venture hereby adopts the calendar year ending December 31 as both its accounting and taxable year. The books of the Joint Venture shall be kept using standard accounting practices and shall employ the cash-basis method of accounting unless changed by the Joint Venturers.

7.02 CAPITAL ACCOUNT. The Joint Venture shall maintain a capital account for each Joint Venturer. Upon becoming a Joint Venturer, the capital account for that Joint Venturer will be his proportionate share of the total capital contributions. The capital account of each Joint Venturer:

(a) Shall be increased of the end of each taxable year by the amount of the Joint Venturer's income and gain allocated to the Joint Venturer for the taxable year,

(b) Shall be decreased as of the end of each taxable year by the amount of the Joint Venturer's deductions and losses allocated to the Joint Venturer for that taxable year, and

(c) Shall be decreased at the time of any distributions in the amount of that distribution.

7.03 DETERMINATION OF PROFITS AND LOSSES. The Joint Venture shall employ standard accounting practices and procedures in determining the profits and losses of the Joint Venture.

7.04 ALLOCATION OF PROFITS AND LOSSES. The Joint Venture shall employ standard accounting procedures and practices in accordance with federal tax law to allocate its profits and losses among the Joint Venturers. All of the profits and losses and each item of income, gain, loss, deduction or credit entering into the computation thereof shall be allocated each taxable year among and be borne by the Joint Venturers as follows:

(a) MARTIN HOWARD shall be allocated TWENTY percent (20%) of the Joint Venture's profits and losses for each taxable year.

(b) WILLIAM TABLE shall be allocated FORTY percent (25%) of the Joint Venture's profits and losses for each taxable year.

(c) PETER DELISH shall be allocated FORTY percent (25%) of the Joint Venture's profits and losses for each taxable year.

(d) shall be allocated percent ( ) of the Joint Venture's profits and losses for each taxable year.

(e) shall be allocated percent ( %) of the Joint Venture's profits and losses for each taxable year.

(f) shall be allocated

percent ( %) of the Joint Venture's profits and losses for each taxable year.

(g) shall be allocated percent ( %) of the Joint Venture's profits and losses for each taxable year.

(h) shall be allocated

percent ( %) of the Joint Venture's profits and losses for each taxable year.

Profits and losses and each item of income, gain, loss, deduction or credit entering into the computation thereof shall be allocated among the Joint Venturers effective the last day of each accounting year of the Joint Venture.


CHAPTER 5

LIMITED PARTNERSHIPS

Limited partnerships are one of the most popular forms of investments. A limited partnership shares some of the characteristics of both a general partnership and a corporation. However, because a limited partnership is neither a general partnership nor corporation it also has certain drawbacks for an investor that do not exist in a general partnership or a corporation. An attorney should be consulted if a limited partnership is being created.

A limited partnership is a security, and its sale is regulated under both federal and state law. The limited partnership agreement in this book can be used throughout the United States. Before raising any money for a limited partnership, an attorney should be consulted to assure that state and federal securities laws have been met.

Investments in limited partnerships have resulted in considerable litigation over the propriety of the actions taken by the general partners. For example, in a case in California the limited partners brought a lawsuit for an accounting against the general partners of a limited partnership which operated a public golf course. The general partners had entered a special operating agreement with the golf course and received substantial benefits without disclosing that fact to the limited partners. After discovering the existence of the special operating agreement, the limited partners brought their lawsuit alleging that the arrangement violated the fiduciary duties of good faith and fair dealing which was owed to them by the general partners. This was a complicated case that should not have occurred. It occurred because neither the general nor limited partners fully understood their respective rights and obligations under California partnership law or the partnership agreement.

This chapter is dedicated to providing the basic information of what limited partnerships are, how they operate and the role which a limited partner plays in the scheme of things. People invest in limited partnerships to make money while not taking needless risks with their investments. This chapter explains how limited partnerships are formed and discusses the most important areas of concern. Also in this chapter is a limited partnership agreement which can be adapted for use by anyone wishing to establish a limited partnership. The limited partnership in this book is flexible and yet comprehensive enough to protect the investors while allowing the limited partnership to conduct its business.

Before any sale of limited partnership interest is made the entire matter should be reviewed by an attorney because a Limited Partnership interest is a security. Moreover, to satisfy Internal Revenue Service regulations for having a limited partnership taxed as a partnership rather than a corporation, the total of the limited partnership interests of the partnership should not exceed 80% of the total interests of the partnership. In addition, under Rev. Proc. 92-88 a sole corporate general partner should have a personal net worth that is at least equal to 10% of the total contributions to the partnership. A sole individual general partner should have a personal net worth of at least the lesser of either 10% of the total contributions or $1,000,000.

Please note that this book does not deal with the creation of family limited partnerships. The limited partnership in this book pertains to a limited partnership formed between partners who are not family members as specified in the Internal Revenue Code provisions governing family partnerships. A family limited partnership is a specific type of limited partnership used primarily for estate planning purposes for large estates. Congress has enacted special taxation provisions regarding family limited partnerships in sections 2701 through 2704 of the IRC. The reader should consult with a tax professional if he is interested in a family limited partnership because of the tax complexities.

THE UNIFORM LIMITED PARTNERSHIP ACT

The National Conference of Commissioners on Uniform State Laws wrote the Uniform Limited Partnership Act (ULPA). The revised Uniform Partnership Act (RULPA) was also created. One of these acts has been adopted by every state except Louisiana. In addition, the Uniform Partnership Act applies to limited partnerships except where it is inconsistent with provisions of the ULPA or RULPA or state law.

The ULPA and RULPA provide the rules to operate a limited partnership in situations not covered in the limited partnership agreement. The partners can agree not to use some of the ULPA provisions. There are, however, some ULPA and RULPA provisions which cannot be altered or stricken from a limited partnership agreement.

WHAT IS A LIMITED PARTNERSHIP?

A partnership, whether it is a general or limited partnership, is two or more persons or entities working together as co-owners to run a business for profit. The Internal Revenue Code defines a partnership in Section 761(a) as: " a syndicate, pool, joint venture or other unincorporated organization through which. . .any business is carried on . . .and is not a corporation, trust or an estate" (meaning sole proprietorship).

A partnership may be formed by a written agreement or by an oral agreement of the parties. The determining factors as to whether a partnership exists are:?

1. Whether the parties intend to form a partnership, and

2.. Whether they intend to make a profit from the activities.

Once these foundation elements are met, the partnership is formed and is, ipso facto, governed thereafter either by the terms of the written agreement, the UPA or in the case of Louisiana its own unique partnership law.

Partnerships are treated for federal tax purposes as pass-through vehicles. All profits and losses of the partnership pass through the partnership and are attributed to the partners. The effect of this pass through of profits and losses is the partnership itself is not taxed. Partnership income is not subject to double taxation. Regular C corporation income is taxed, and then dividends paid to shareholders from the remaining income is taxed as shareholder income. Congress created the S Corporation specifically to allow a small corporation (an S corporation) to "pass through" its income to its shareholders. There it is taxed only once as shareholder income.

Under the 1986 Tax Reform Act, profits and losses passing through to partners retain the same character they had in the partnership. A passive profit or loss to the partnership remains a passive profit or loss to the partner. The same treatment exists for an active profit or loss. A partner who materially participates in the partnership business will have all of the attributed profits and losses considered active. The profits and losses of another partner who does not actively participate in the partnership business will be considered passive in nature. A limited partnership is a legal entity which is a cross between a corporation and a regular (general) partnership. A limited partnership has two types of partners: general partners who run the partnership, and limited partners who are the investors. As with a regular partnership, general partners are liable for the debts and liabilities of the limited partnership. The limited partners are treated in a manner similar to shareholders of a corporation. The limited partners' liability for payment of partnership obligations extends only to the amount of their contributions. The maximum a limited partner could lose is equal to his investment in the limited partnership. Limited partnerships are specially created pursuant to each state's limited partnership laws. Every limited partnership must have, at a minimum, the following.

1. A written limited partnership agreement.

2. At least one general partner.

3. A provision in the written partnership agreement stating that the limited partners will have no management or control over the daily operations of the partnership.

4. A certificate of limited partnership or registration statement filed either with the secretary of state or recorded in the county where the limited partnership does business in accordance with the requirement of state law.

These are the requirements for all limited partnerships. Each state may have additional requirements that must be met in order for there to be a valid limited partnership.

PARTNERSHIP PROPERTY

Under the Uniform Partnership Act, property which is titled in the partnership name is owned by the partnership. A partner who contributes property to a partnership loses his ownership in the property. Property purchased with partnership funds is owned by the partnership. The property held by a partnership can be legally sold, transferred or conveyed only by the partnership. Since partnership property is owned by the partnership, it cannot be directly attached to satisfy any court judgment taken against a partner. A partner's ownership interest in a partnership can be attached and sold by a creditor, but the creditor cannot reach the underlying property in the partnership.

An important aspect of partnership law is that an investor loses all individual rights in property contributed to a limited partnership. Example: A limited partner contributes a farm to the limited partnership worth one million dollars. Upon termination the partner is to receive $1,000,000 back. The partner has no legal right to request the return of the farm instead. In the same vein, creditors of the limited partner cannot sue the partnership for return of the farm. The rights of creditors of a limited partner against the partnership are limited to an attachment and sale of the partner's interest in the partnership, not a recovery of property contributed to the partnership. This means that partnership interests are treated like stock in a corporation. The value of the stock is determined by the percentage value of the entire business and not by the value of the property that an individual person contributed to buy the stock or partnership interest.

THE POWERS OF GENERAL PARTNER IN A LIMITED PARTNERSHIP

Under both the ULPA and the RULPA a general partner of a limited partnership has all of the powers of a partner in a regular general partnership. All partners have certain basic rights in a general partnership:

1. The right to insist on a partnership accounting. Along with this right is the right to have the books examined by an outside accountant.

2. The right to dissolve the partnership in accordance with the terms of the partnership agreement or the Uniform Partnership Act of the state.

3. The right to seek to restrain the partnership from performing acts prohibited under the partnership agreement.

4. The right to bring a legal action for breach of the partnership agreement.

These are implied rights in any partnership agreement. Provisions in partnership agreements that waive such rights are invalid and against a state's public policy.

In addition to the regular partnership powers, a general partner is also has a fiduciary duty to the limited partners to look out for their interests. There is a special degree of trust placed upon the general partners to protect the limited partners because the limited partners are not in a position to protect themselves. The general partner of a limited partnership is held to the standard of care of a "reasonable general partner." A general partner is expected not to compete in business with the partnership. A general partner is expected not to do anything that a normal reasonable person acting as a general partner would not also do.

A general partner can be sued by the limited partners for losses incurred by the general partner's breach of fiduciary duties. Generally, limited partners can recover damages from a general partner whenever the partnership suffers losses because of the general partner's unreasonable actions.

In a limited partnership, only a general partner has full authority to act on the partnership's behalf in the normal course of its business. Only a general partner can bind both the partnership and the other general partners to contracts even if the other general partners never authorized or approved the contracts. This unlimited power on the part of one general partner to bind the partnership and the other general partners is the biggest concern of most investors. The partners may agree to limit a general partner's authority to bind the partnership or act on its behalf.

In a limited partnership, the limited partners may not participate in the daily business operations of the partnership. This non-participation by limited partners in the partnership is the main characteristic of a limited partnership.

People dealing with a limited partnership are entitled to assume, unless informed otherwise, that any general partner has the right and power to act for the partnership in the normal course of its business. Even though a general partner may only have a limited authority to act for the partnership, the apparent authority of the general partner may nevertheless bind the partnership to contracts with third parties. Contracts entered with people who did not actually know that the general partner lacked the authority to bind the partnership are binding on the partnership.

In addition to the above restrictions, there are still some acts, however, that a partner can never do unless the authority is specifically granted in a partnership agreement. Anyone dealing with a partner is presumed to know that unless the partnership agreement gives the partner specific authority to act in certain special areas, a valid contract in those areas cannot be executed.

THE POWERS OF THE LIMITED PARTNERS IN A LIMITED PARTNERSHIP

Limited partners have few powers in a limited partnership. In exchange for not being personally liable for the partnership debts, limited partners agree not to participate in the normal management of the partnership. Therefore, the limited partners are unable to protect themselves effectively from mismanagement. For that reason, there are certain fixed fiduciary duties of trust imposed upon the general partner. Should a limited partner participate in the partnership's daily business, he would lose the protected status of a limited partner and have his partnership interest immediately changed into a general partnership interest. Such a limited partner immediately becomes personally liable for all of the partnership debts the same as any other general partner.

There are a few areas in which most states, however, permit limited partners to participate without losing their protected status. A limited partner is entitled to:

1. Vote on the dissolution of the partnership.

2. Vote on the election or removal of general partners.

3. Vote on the admission of new limited partners.

4. Unlike a general partner, a limited partner can conduct a business in competition with the partnership unless prohibited by the partnership agreement.

FIDUCIARY DUTY OF ALL PARTNERS

By law every partner, both general and limited, is the agent of the partnership. Each partner has a fiduciary duty to the partnership and to the other partners to act in their best interests. Some of the things that partners cannot do are:

1. A partner may not usurp a partnership benefit. A partner must give the partnership the right of first refusal on any business opportunity that the partner comes across which may be of benefit to the partnership. Example: If the partnership is in the paving business and a partner finds out that a school is intending to repave its parking lot, the partner cannot bid on the job for himself without first informing the partnership of the job and giving the partnership the choice to bid the job. In addition, the partner cannot bid in competition against the partnership.

2. A partner may not divert partnership assets for the partner's own personal use. Such conduct is a breach of trust and could expose the partner to criminal liability.

3. A partner must fully disclose all material facts which affect the partnership and its affairs to the other partners.

A partner who breaches any of these duties may be sued by the other partners for their lost profits or other damages suffered as a result of the partner's misconduct. Should a partner usurp a partnership benefit, he may be ordered to pay all of the profits he realized from the transaction to the partnership.

TERMINATION OF A LIMITED PARTNERSHIP

A limited partnership terminates:

1. By expiration of its term of existence under the limited partnership agreement.

2. By vote of all of the partners to terminate the partnership.

3. By judicial decree.

4. By changing anything contained in the registration statement or statement of limited partnership (whichever is used in the state) which then requires a new filing or recordation.

Unlike a general partnership, a limited partnership is not automatically dissolved upon the death, bankruptcy or withdrawal of a general partner unless the partnership agreement states otherwise. After a partnership has been dissolved and its assets liquidated, the priority of distribution of assets is:

1. All federal and state taxes are paid.

2. All employee wages and benefits are paid.

3. All secured liabilities are paid.

4. All unsecured liabilities are paid.

5. Any remaining funds are divided among the partners in accordance with their percentage of ownership interest in the partnership.

The proceeds received by a partner in the dissolution of a partnership are a return of the partner's investment. Any gain or loss in the dissolution is treated as a capital gain or loss. Example: If the partner had paid $4,000 for the stock and got back $3,000, he had a $1,000 capital loss. Likewise, if the partner got back $6,000, he would have a $2,000 capital gain.

THE REQUIREMENT OF FILING A REGISTRATION STATEMENT

The ULPA and RULPA require a limited partnership to file a registration statement sometimes called a Certificate of Limited Partnership. with a government agency, usually the secretary of state. Connecticut requires that the registration statement be filed both with the secretary of state and the town clerk where the limited partnership does business. Some states, such as California, require a specific government form to be used, whereas other states permit the registration statement to be typed.

If a mandated official form is required, it can be obtained from the Secretary of State or other agency with which the filing is to be made. If a specific official form is not required, then the Certificate of Limited Partnership in this book is usually sufficient. To be ascertain the requirements, it is necessary to review the state law.

In addition to the filing requirement some states also require that the registration statement be published in a newspaper.

The purpose of filing a registration statement is to inform creditors of the existence of the limited partnership. Creditors are then in a better position to protect themselves. The filing requirement also makes it easier for governmental agencies to inspect a limited partnership for fraud or violations of state law. The information contained in it must be provided by the limited partnership in every state. All states require most of the information below be provided in a registration statement for a limited partnership:

1. The partnership name.

2. The purpose of the partnership.

3. The location of the principal place of business.

4. The names and addresses of all general partners.

5. The names and addresses of all limited partners.

6. The term of the partnership.

7. The contributions of each partner.

8. Whether additional contributions can be demanded.

9. The right to continue the partnership upon death, withdrawal or bankruptcy of a general partner.

10. Whether new limited partners can be admitted.

Under the ULPA and the RULPA, a valid limited partnership will be found to exist "if there has been substantial compliance in good faith." If there are minor mistakes in the registration statement but it was filed in a good faith belief that it was accurate, the limited partnership is still valid.

Every investor must verify that the registration statement is filed. If it is not filed, the limited partnership is not properly filed, and the investors will be treated as general partners for the purposes of sharing liability for partnership debts.

An amendment to the registration statement is required whenever any of the following acts occur:

1. The partnership name is changed.

2. The partnership business changes.

3. New limited partners are admitted or substituted in the limited partnership.

4. The term of the partnership is altered.

5. The limited partners receive voting rights on management of partnership business (care must be taken to assure rights given do not terminate the limited partnership interest).

6. The amount or character of limited partners' contributions changes.

Any amendment to a registration statement must be signed by all of the partners, not just the general partners.

LIMITED PARTNERS

Anyone can be a limited partner. Individuals, corporations, trusts, general partnerships, and limited partnerships can all be limited partners in a limited partnership. Example: Abel Limited Partnership may be a limited partner along with Boxer Corporation and George Investor in the Ajax Limited Partnership. Furthermore, a general partner may also be a limited partner in the same limited partnership. The general partner is still liable for the partnership debts, but the limited partnership share of the general partner's investment is treated as a limited partnership contribution.

TAXATION

A partnership is subject to its own peculiar tax treatment under federal tax law. Most unincorporated associations and trusts that conduct business are taxed as though they were corporations. Partnerships, however , are treated differently. In a partnership, the income is attributed to the partners in accordance with their percentage of partnership interest. The partnership pays no federal income tax itself. Example: If a partnership earns $1,000,000, it will pay no taxes. The partners will have to include the $1,000,000 on their tax returns. Assuming a 28% federal tax rate, the partners will pay $280,000. Were the partnership a C corporation, $519,200 would go to the federal government in taxes on income.

The partnership does not pay any taxes on the income from the partnership. That is the hallmark of a partnership. Even though a partnership does not pay taxes on its income, the partners pay income taxes on their respective shares of the partnership income. All partnership profits and losses are passed to the partners. The partnership files a Form 1165 partnership return and its K-1 forms, informing the IRS how the profits and losses are being allocated to each partner. Under the Internal Revenue Code, each partner is treated for tax purposes as a self-employed individual. Every partner is required to estimate his share of the partnership income and make estimated quarterly payments to the IRS for that income.

Unless a limited partnership does business in a state which has no income tax (there are very few), it will have state tax laws with which to comply. Limited partnerships are treated by the state tax codes in nearly the same manner as they are treated by the Internal Revenue Code. Limited partnerships under state tax laws are viewed the same as under federal law: pass-through vehicles for the partnership. All profits and losses of the partnership pass through. They are attributed to the individual partners according to their ownership interests in the partnership.

The effect of this pass through of profits and losses is the partnership is not taxed. There is no double taxation of the partnership income as in regular C corporation income. Individual state laws can vary from the federal tax law on specific items, but overall they are quite similar.


CERTIFICATE OF LIMITED PARTNERSHIP

OF

LANDTECH, LIMITED PARTNERSHIP

We, the undersigned, desiring to form a limited partnership pursuant to the provisions of the limited partnership law of the State of NEW MEXICO , do hereby severally certify as follows:

1. NAME: The name of the Partnership is:

LANDTECH, a limited partnership

2. CHARACTER OF THE BUSINESS: The character of the business of the Partnership is to invent and market new equipment for land development as provided in the Partnership Agreement.

3. PLACE OF BUSINESS: The location of the principal place of business of the Partnership shall be: 325 CHESTER, TAYLOR, NEW MEXICO .

4. GENERAL AND LIMITED PARTNERS: The names of the Partners, their places of residence, and their designation as General or Limited Partners are indicated in Exhibit "A" attached hereto and made a part hereof.

5. TERM: The term for which the Partnership is to exist is until the close of business on 31 December 2020 , unless sooner terminated as provided in the Partnership Agreement.

6. LIMITED PARTNERS' CONTRIBUTIONS: The Limited Partners shall contribute the amounts of money in the form of cash as specified in the Partnership Agreement.

7. FURTHER CONTRIBUTIONS BY LIMITED PARTNERS: The Limited Partners have not agreed to make any additional capital contributions to the Partnership.

8. SHARE OF PROFITS OR OTHER COMPENSATION RECEIVABLE BY LIMITED PARTNER: The Limited Partners are allocated a share of the profits from the partnership in the respective percentages as indicated in Exhibit "A" and as provided in the Partnership Agreement in proportion to their respective shares and other compensation as may be provided in the Partnership Agreement.

9. ADMISSION OF ADDITIONAL LIMITED PARTNERS: The General Partner is not given the right to admit additional Limited Partners except as provided by the Partnership Agreement.

IN WITNESS WHEREOF, the undersigned have set their hand and seals as of the __________ day of ________________________, ______.

GENERAL PARTNER

By: _____________________________________________________

LIMITED PARTNERS

By: _____________________________________________________

as Attorney-in-Fact for each of the Limited Partners as indicated in EXHIBIT "A"






Attached to and made a part of that certain Certificate of Limited Partnership of ________________________________________ ________________________________________________________________

_____________________________________________________________,

dated the ______ day of _____________________, _______.



CONTRIBUTION OWNERSHIP

TO CAPITAL INTEREST

GENERAL PARTNER

_______________________ _______________ __________________

_______________________ _______________ __________________

LIMITED PARTNERS

_______________________ _______________ __________________

_______________________ _______________ __________________

_______________________ _______________ __________________





STATE OF ________________________

COUNTY OF ______________________

On ____________________ before me _________________________, a Notary Public in and for said County and State, personally appeared ______________________________________________________,

personally known to me (or proved to me on the basis of satisfactory evidence) to be the person(s) whose name(s) is/are subscribed to the within instrument and acknowledged to me that he/she/they executed the sale in his/her/their authorized capacity(ies), and that by his/her/their signature(s) on the instrument the person(s) or the entity upon behalf of which the person(s) acted, executed the instrument.

WITNESS MY HAND AND OFFICIAL SEAL.

_______________________________________

(Seal)








AGREEMENT OF LIMITED PARTNERSHIP

OF

LANDTECH

THIS AGREEMENT is made by and between JOHN BELL, ROBERT LEE and NATHAN FORREST

hereinafter called collectively the "General Partner" and JOHN BELL, ROBERT LEE and NATHAN FORREST , signing this Agreement as attorney in fact for the Limited Partners (the "Limited Partner"), all of whom are collectively hereinafter called "Partner."

The parties hereto, intending to be legally bound for the purpose of forming a limited partnership (the "Partnership") pursuant to the laws of the State of NEW MEXICO , hereby form a partnership and agree as follows:

1. NAME OF THE PARTNERSHIP. The name of the partnership is

LANDTECH, LIMITED PARTNERSHIP .

2. PRINCIPAL OFFICE. The principal office and place of business of the Partnership shall be located at 325 CHESTER, TAYLOR, NEW MEXICO or such other place as the Partners may from time to time designate.

3. TERM OF THE PARTNERSHIP. The partnership shall terminate on DECEMBER 30, 2020 . The Partnership may terminate or be dissolved earlier in accordance with the terms of this Agreement.

4. PARTNERSHIP PURPOSE AND BUSINESS. The purpose and business of the Partnership shall be to invent, develop and market new land development technology

5. OPERATION OF THE PARTNERSHIP: The General Partner shall be responsible for the day-to-day management of the business of the Partnership in accordance with the limited partnership law of the State of NEW MEXICO .

6. CAPITAL CONTRIBUTION AND PARTNERSHIP INTERESTS:

6.01. Capital Contribution of the General Partners.

a. JOHN BELL as General Partner shall contribute cash in the amount of Five Thousand ($5,000) dollars, the following described property: none NONE

in the value of none ($_____) and management expertise and services in the value of Five Thousand ($5,000) dollars. If the value of the property, services and expertise that is furnished to the partnership is not as indicated, his specific interest in the Partnership shall be reduced proportionally to reflect the true value of the capital contribution.

b. ROBERT LEE as General Partner shall contribute cash in the amount of Five Thousand ($5,000) dollars, the following described property:

NONE

in the value of _______________________ ($_______) and management expertise and services in the value of Five Thousand ($5,000) dollars. If the value of the property, services and expertise that is furnished to the partnership is not as indicated, his specific interest in the Partnership shall be reduced proportionally to reflect the true value of the capital contribution.

c. NATHAN FORREST as General Partner shall contribute cash in the amount of Five Thousand ($5,000) dollars, the following described property:

NONE

in the value of _______________________ ($_______) and management expertise and services in the value of Five Thousand ($5,000) dollars. If the value of the property, services and expertise that is furnished to the partnership is not as indicated, his specific interest in the Partnership shall be reduced proportionally to reflect the true value of the capital contribution.

6.02. CAPITAL CONTRIBUTIONS OF THE LIMITED PARTNERS. The Limited Partners shall, in the aggregate, contribute FIVE HUNDRED THOUSAND ($500,000) dollars in cash to the Partnership. 6.03. GENERAL PARTNERS' SHARE OF THE PARTNERSHIP. The General Partners shall, as an aggregate, have a THIRTY percent (30%) interest in the profits and losses of the Partnership.

6.03.a. JOHN BELL shall have a share as General Partner equal to ten percent (10%).

6.03.b. ROBERT LEE shall have a share as General Partner equal to ten percent (10%).

6.03.c. NATHAN FORREST shall have a share as General Partner equal to ten percent (10%).

6.04. LIMITED PARTNERS' SHARE OF THE PARTNERSHIP. The Limited Partners shall, in the aggregate, have an SEVENTY percent (70%) interest in the profits and losses of the Partnership.

6.05. LIABILITY OF LIMITED PARTNERS. It is hereby understood that the personal liability of any Limited Partner arising out of the activities of the Partnership shall be limited solely to and shall not exceed that Limited Partner's Capital Contribution. It is further understood that no Limited Partner shall be required to make additional contributions to the Partnership or to make loans to the Partnership or to guarantee any performance of the Partnership.

No Limited Partner shall be liable for the actions or obligations incurred by any General Partner or any other Limited Partner.

No Limited Partner shall participate in the management of the Partnership except to the extent permitted under state law for Limited Partners.

No Limited Partner shall have the power to sign contracts for the Partnership or bind the Partnership in any way.

No Limited Partner shall have any right to a return of capital or other property contributed to the Partnership except in the event distributions other than from Partnership profits are made to the Limited Partner pursuant to this Agreement. No interest shall be paid by the Partnership on any Limited Partner's capital contribution.

6.06. ADDITIONAL CAPITAL CONTRIBUTIONS FROM PARTNERS. All of the Partners may agree to make additional capital contributions to the Partnership. In such an event, an Amended Certificate of Limited Partnership must be prepared and filed to state correctly the respective interests of the Partners and their capital contributions.

7. BORROWING NEEDED CAPITAL. Authority is hereby given the General Partner to borrow funds with reasonable interest from any lending institution or person, including a Limited Partner, for any legitimate Partnership purpose. When such funds cannot be obtained through these sources, the General Partner may lend to the Partnership the funds sought with reasonable terms of interest (prevailing rates or better). No lender to which an application for a loan is made by the Partnership shall be required to inquire into the purpose for which the loan is sought. The Partners hereby agree that loans obtained by the General P artner for the Partnership shall be presumed to be intended for Partnership use and purposes.


CHAPTER 6

SECURITY LAWS AND COMPLIANCE

Some partnership interests are considered by law to be securities. Before any sale of a security can legally take place, that security must either be registered for sale with the state and federal regulatory agencies or be exempt from such registration. The costS (including attorney fees) for registering a security under federal law is normally a minimum of forty thousand dollars ($40,000) and takes upward to a year to complete.

Both state and federal security laws provide exemptions from registration for certain kinds of securities. These exemptions are available only to partnerships that have not attempted to sell their securities through public offerings which is defined to mean by public advertisements or solicitation of strangers. Usually the offering is made to persons with whom the person making the offering for the entity is personally acquainted or has had a prior business relationship.

Anyone intending to raise capital through a public offering (sales to strangers) should consult with an attorney.

Even though a partnership may be exempt from the registration requirement for securities, a limited partnership is still governed by the anti-fraud provisions of the Security and Exchange Act. These anti-fraud provisions may also be extended to general partnerships in the future.

GENERAL PARTNERSHIP INTERESTS

The general presumption is that the formation of a general partnership does not involve the sale or transfer of a security. The United States Courts of Appeal for the Eighth, Ninth and Tenth Circuits each have held that general partnerships or joint ventures are not securities if the contractual agreement bestows upon all the participants the right to participate in the management and control of the entity, regardless of whether or not they exercise that right.

Consequently, there is no requirement to register a general partnership with the Securities and Exchange Commission (SEC) or with a state in order to sell partnership interests. General partnerships are not considered securities because all of the partners are considered responsible for the management and control of the partnership. One of the definitions of a security is that it is an investment contract. An investment contract is an interest in a business enterprise where the profit is derived solely through the efforts of others. Since partners are considered as participating in the derivation of partnership profits, a partnership interest has been held not to constitute an investment contract or security.

The above view may be changing. In the federal case WILLIAMSON vs. TUCKER, 645 F.2d 404, the Fifth Circuit Court of Appeal recognized that general partnership interests are usually not securities and stated that the plaintiffs "have an extremely difficult burden if they are to establish that the (general) partnership they purchased are securities." The court, however, went on to develop a three-part test to determine whether a particular general partnership interest is in reality a security. The court test stated:

"A general partnership or joint venture interest can be designated a security if the investor can establish for example that (1) an agreement among the parties leaves so little power in the hands of the partner or venturer that the arrangement in fact distributes power as would a limited partnership, or (2) the partner or venturer is so inexperienced and unknowledgeable in business affairs that he is incapable of intelligently exercising his partnership or venture powers, or (3) the partner or venturer is so dependent on some unique entrepreneurial or managerial ability of the promoter or manager that he cannot replace the manager of the enterprise or otherwise exercise meaningful partnership or venture powers."

The North American Securities Administrators Association (NASAA) is composed of the state commissioners for all of the states. NASAA has filed amicus briefs in several cases pending before the United States Supreme Court urging national adoption of the Williamson test. NASAA has repeatedly urged the court to adopt a rule that when there are large numbers of general partners the partnership must register with the SEC before it can sell any interests.

A general partnership presently is not required to be registered with either the SEC or the state's securities commissioner. It is predicted that eventually the Supreme Court will rule that interests in those general partnerships which have large number of partners yet restrict their management to only a few general partners (managing partners) will be treated as securities. It is almost certain that the Supreme Court will not require general partnership interests be listed as securities when partners actively participate in the business. The majority of general partnerships will not be affected by the Supreme Court's ultimate decision because most partners all participate in management and control. Only interests in those general partnership with large numbers of partners and which restrict management to a few partners will be considered securities. The general partnership and joint venture agreements in this book are designed for use by partnerships and joint venture in which all of the partners participate in the partnerships' management and control. The interests in such partnerships are not securities and nor will they become securities under the anticipated Supreme Court decision on the subject.

LIMITED PARTNERSHIP INTERESTS

Limited partnership interests are securities. Therefore, the sale of a limited partnership interest must either be registered with the Securities and Exchange Commission or exempt under federal law. The sale of a limited partnership interest must also be registered under state law or otherwise exempt from registration.

The following discussion applies to exemptions from security registration available to limited partnerships. These exemptions would also be available to general partnership interests if the Supreme Court elects to extend the security law to them (this extension of security law will most likely be limited to general partnerships in which only a few partners actively participate in the management and control of the partnership).

EXEMPTION FROM REGISTRATION UNDER FEDERAL LAW

The Securities and Exchange Act of 1933 general rule is that the sale in the United States of any security (including an interest in a limited partnership) must be registered with the Securities and Exchange Commission unless the security is exempt from registration. The Securities and Exchange Act (the Act) lists several exemptions that are available for small private offerings.

1. INTRASTATE EXEMPTION

Section 3(a) (11) of the Act allows an intrastate exemption from registration for any offer or sale of securities to residents of a single state who reside in the same state where the partnership was formed and does business.

The Securities and Exchange Commission interprets the intrastate exemption to have the following three requirements:

a. The offeror must be doing business in the state in which it was formed. This is defined to mean the offeror must have substantial operational activities in the state.

b. All of the offers and sales of the limited partnership interest must be to residents in the partnership's state of formation.

c. The limited partnership interest may not be resold by the partner to out-of-state purchasers until at least nine months after the last sale by the partnership.

d. No public solicitation and advertisement is permitted under this exemption.

This is the most common exemption for newly formed limited partnerships. Usually all of the partners will reside in the same state and qualify for the intrastate exemption. If the requirements for an intrastate exemption are not met, the exemption is not available. Other exemptions may still be available.

2. EXEMPTION UNDER REGISTRATION D

Section 3(b) of the Act grants the Securities and Exchange Commission (SEC) authority to adopt special exemptions up to five million dollars for the issuance of securities. Under this section the SEC adopted Rules 504 and 505 of Regulation D. Similarly, Section 4(2) grants the SEC authority to permit special exemptions for "transactions by an issuer not including any public offering," and under this authority the SEC promulgated Rule 506.

Rule 504 of Regulation D exempts the sale of a limited partnership interest from registration when:

a. The partnership is not a reporting (public) company or investment company.

b. The offering does not exceed $500,000 in a twelve month period.

c. There is no public advertisement or solicitation regarding the sale.

Rule 505 of Regulation D exempts the sale of a limited partnership interest from registration when:

a. The partnership is not an investment company.

b. The offering does not exceed $5,000,000 in a twelve month period.

c. There are no more than thirty-five (35) purchasers, excluding accredited investors.

d. Proper disclosure requirements have been met.

e. There is no public advertisement or solicitation regarding the sale.

Rule 506 of Regulation D exempts a limited partnership interest sale from registration when:

a. The offering is unlimited in size.

b. There are more than thirty-five (35) partners, excluding accredited investors.

c. For each non-accredited investor, the partnership reasonably believes the investor has such knowledge or experience in financial and business matters that the investor is able to evaluate the merits and risks of the investment.

d. There is no public advertisement or solicitation regarding the sale.

This chapter has an example of a Partner's Subscription Certificate that should be executed and filed with the limited partnership's books for each sale of a limited partnership interest. This certificate is sufficient to satisfy the requirement that the investor is sophisticated and accredited. This subscription agreement should be used by every partnership to protect against allegations of fraud. Generally, when a business fails the partners try to get their money back. it is not uncommon in such situations for disgruntled partners to claim that they were innocent dupes and tricked into investing in the partnership. Using a subscription certificate is evidence, though not dispositive, that the partner was given all of the available necessary to make an informed decision. Use of the form limits the success of suit for security fraud by upset partners.

When substantial amounts of capital are sought to be raised through the sale of limited partnership interests that are exempt under Rules 504, 505 or 506, the partnership should consult an attorney.

Although qualified offerings are exempt under Rules 504, 505 or 506, the partnership must nonetheless file a Form D with the Securities and Exchange. It is envisioned that the limited partnership to be formed using this book will use the intrastate exemption instead and not be required to file the Form D.

EXEMPTION UNDER STATE LAW

As with federal law, nearly all states require that any partnership wishing to sell limited partnership interests in the state either obtain a permit to sell the limited partnership interests or the limited partnership interests be exempt from registration. Most states have similar offering exemptions that permit a limited partnership to sell a limited partnership interest in the state without obtaining a permit. Most states also have laws which exempt from registration any security where the limited partnership has either registered the security with the SEC or has filed Form D for a federal exemption under Rule 504, 505 or 506.

In addition to an exemption based upon a federal filing, all states have limited offering exemptions: limited partnerships not engaged in a public offering may sell limited partnership interest without a permit.

Even though the sale of the limited partnership interest is exempt, many states require that the partnership file some type of notice with the secretary of state or security commissioner and pay a small fee. Although notice is for tax purposes, it also serves other informational needs.

Most states do not require a limited partnership issuing exempt limited partnership interests to file any notification documents. To determine if a notice requirement exists, the person forming the limited partnership can ask the state's department of corporations (or equivalent agency) if there is any state requirement that a form be filed when a newly formed partnership makes a limited exempt offering. If there is a requirement, the agency will supply the necessary form on request. This information can also be obtained from the attorney the limited partnership is consulting. The laws governing the limited offering exemptions for each state are:

ALABAMA

Section 8-6-11. Sales of the securities are exempt if sold to less than 10 persons within twelve months, no commissions are paid on the sales and no public solicitations or public offerings are employed.

ALASKA

Section 45-55-140. Sales of securities are exempt if sold to less than 10 persons within 12 months, the sales do not exceed $100,000, no commissions are paid on the sales and no public solicitation is employed.

ARKANSAS

Section 23-42-504. Sales of securities are exempt if sold to less than 25 persons within a year, no commissions are paid on the sales and no public solicitation is presented. Proof of the exempt nature of the transaction must be filed with the Secretary of State. The state has also adopted the Uniform Federal-State Limited Offering Exemption 14(b) (14) which basically provides for a state exemption if the issuer received a federal exemption by filing a Form D.

ARIZONA

Section 44-1844. Sales of securities are exempt if sold to less than 10 persons within 24 months, no commissions are paid on the sales and no public solicitations or public offerings are employed.

CALIFORNIA

Corporation Code section 25102(f). Sales to no more than 35 persons are exempt if no commissions are paid on the sales and no public solicitation or public offering is employed. The corporation is required to file a Notice of Transaction with the Corporations Commissioner. The Notice is to be filed within 15 days of the sale. The fee for filing the Notice is usually about $25.00. This book has a copy of the notice form. As can be seen from the form, there is no requirement that the identity of the shareholders be revealed. Failure to file the Notice does not invalidate the exemption.

California has also enacted a new intra-state offering exemption under Section 25102(n). Under this exemption, if the offeror satisfies the same requirements as necessary for a Federal Regulation D exemption, the offeror can sell to an unlimited number of people in California and can engage in limited advertising in a newspaper. The advantage of this offering is that the offeror, if the sales are limited only to California, can advertise in a limited fashion which it can not do in a Federal Regulation D offering if the sales are made in other states. The costs for a Regulation D or 25102(n) offering is around $20,000 when an experienced security law firm is utilized. Most offerings in California rely on the 25102(f) exemption is used because it extremely cheap and fast even though the number of sales is limited to 35 persons.

COLORADO

Section 11-51-308. Sales of securities are exempt if sold to less than 25 persons prior to formation and afterward if the offer of sales is not made to more than 20 persons and the actual sales are made to not more than 10 persons per 12-month period, no commissions are paid on the sales and no public solicitation or public offering is employed.

CONNECTICUT

Section 36-490(B). Sales of securities are exempt if sold to less than 10 persons within 12 months, no commissions are paid on the sales and no public solicitation or public offerings are employed.

DELAWARE

Section 6-7309(b). Sales of securities are exempt if sold to less than 25 persons within the first year and no more than 35 persons in total, no commissions are paid on the sales and no public solicitations or public offerings are employed.

DISTRICT OF COLUMBIA

Section 2-2601(6) lists as exempt transactions as follows:

(E) Any transaction pursuant to an offer directed by the offeror to not more than 25 persons in the District during any 12 consecutive months whether or not the offeror or any of the offerees is then present in the District if the Seller reasonably believes that all of the buyers in the District are purchasing for investment.

(F) Any offer or sale of a preorganization certificate or subscription if:

(i) No commission or other remuneration is paid or given directly or indirectly for soliciting any prospective subscribers;

(ii) The number of subscribers does not exceed 25; and

(iii) No payment is made to the subscriber.

FLORIDA

Section 517.061. Sales of securities are exempt if sold to less than 35 persons within a year, no commissions are paid on the sales and no public solicitations or public offerings are employed. Proof of the exempt nature of the transaction must be filed with the Secretary of State.

GEORGIA

Section 10-5-9. Sales of securities are exempt if sold to less than 35 persons within a year, no commissions are paid on the sales and no public solicitations or public offerings are employed.

HAWAII

Section 485-6. Sales of securities are exempt if sold to less than 25 persons within 12 months, no commissions are paid on the sales and no public solicitations of public offerings are employed.

IDAHO

Section 30-1435. Sales of securities are exempt if sold to less than 10 persons within 12 months, no commissions are paid on the sales and no public solicitations or public offerings are employed.

ILLINOIS

Section 815 ILCS 5/4. Sales of securities are exempt if less than $100,000 is raised or if sold to less than 35 persons within a year, no commissions are paid on the sales and no public solicitations or public offerings are employed.

INDIANA

Section 23-2-1-2. Sales of securities are exempt and no filing is necessary if each purchaser is either an accredited investor or will participate in the management of the business and either (1) there are no more than 15 purchasers in the state or (2) there are no more than 25 shareholders in total and the offering raises less than $500,000.

IOWA

Section 502.203(9). Sales of securities are exempt if sold to less than 35 persons within a year, no commissions are paid on the sales and no public solicitations or public offerings are employed. The exemption does not apply for offerings involving oil, gas or mining.

KANSAS

Section 17-1262. Sales of securities are exempt if sold to less than 15 persons within 12 months, no commissions are paid on the sales and no public solicitations or public offerings are employed.

KENTUCKY

Section 292.410. Sales of securities are exempt if sold to less than 25 persons, no commissions are paid on the sales and no public solicitations or public offerings are employed.

LOUISIANA

Title 51, section 709. Sales of securities are exempt if sold to less than 20 persons within 12 months, no commissions are paid on the sales and no public solicitations or public offerings are employed.

MAINE

Title 32, section 10502. Offers and sales of securities to no more than 10 persons are exempt. Sales from 10 to 25 persons are exempt if the issuer files a Notice of Exemption.

MARYLAND

Section 71-402(b)11. General transactional exemption for any offer or sales to no more than 35 Maryland residents in any 12-month period provided no public advertisement or general solicitation or public offering is employed. The issuer is required to give each purchaser a disclosure statement called a Form MD-2. There is no filing requirement unless more than $100,000 is raised in a 12-month period. The Form MD-1 must be filed with the Maryland Department of Securities no later than 15 days after the first sales.


PARTNER'S SUBSCRIPTION CERTIFICATE

FOR

WHIPPLE OIL COMPANY

This certificate is for use with security offerings exempt from registration under SEC Rules 504, 505 or 506. This certificate must be used for the sale of a limited partnership interest and it is recommended for sale of a general partnership interest.

The statements contained herein are made and given by the undersigned hereinafter referred to as "the Subscriber" to WHIPPLE OIL COMPANY , a (General/Limited) Partnership duly formed and existing under the laws of the State of TEXAS hereinafter referred to as "the Partnership" as a condition for the purchase of TWENTY PERCENT (20%) of the partnership hereinafter referred to as "the Securities."

I. NAME AND ADDRESS OF THE SUBSCRIBER.

Name: TIMOTHY TIMMONS

Social Security Number: 444-333-2222

Residence Address: 555 Eagle Rock

Houston Texas

Business Address:________same_______________________________

____________________________________________________________

II. SUBSCRIBER'S REPRESENTATIONS AND UNDERSTANDING.

A. PURCHASE FOR OWN ACCOUNT.

The Subscriber hereby expressly represents, warrants and covenants with the (General/Limited) Partnership that the Securities are being purchased in the Subscriber's own name and account or for a trust account in which the Subscriber is trustee, and no other person has any interest or right with respect to the Securities.

B. FOR INVESTMENT PURPOSES ONLY.

The Subscriber expressly states that the Subscriber is acquiring the Securities for investment and not with a view for sale in connection with any distribution of Securities. The Subscriber hereby acknowledges and understands the following:

1. The Securities have not been registered under the Federal Securities Act of 1933 or qualified under any state law, that any disposition of the Securities is subject to restrictions imposed by federal and state law and that the certificates representing the Securities will bear a restrictive legend.

2. That the Securities may not be sold, conveyed or transferred without registration and qualification, and that no undertaking has been made with regard to registering or qualifying the securities in the future. The Subscriber understands that no public market exists with respect to the Securities and no representation has been made to me that such a public market will exist at a future date. In addition, it is also understood that the Corporations Commissioner for the State of TEXAS

has made no finding or determination relating to the fairness for investment of the Securities offered by the company and that the Commissioner has not and will not recommend or endorse the securities.

3. That it is not contemplated by the (General/Limited) Partnership that the Securities will be subsequently registered with the Securities Exchange Act of 1934 to permit public resales of the Securities under the Securities Act Rule 144.

III. NO PUBLIC OFFERING WAS MADE REGARDING THE OFFERING.

The Subscriber expressly states that the Subscriber has not seen nor received any advertisement nor general solicitation with respect to the sale of the Securities ("the Offering").

IV. CONSIDERATION FOR THE SECURITIES.

The total consideration that the Subscriber shall pay for the Securities both in cash and other property shall be:

Consideration Amount: $200,000

Other Property: none

V. SUBSCRIBER'S KNOWLEDGE AND EXPERIENCE.

The Subscriber represents and warrants as follows:

1. That the Subscriber possesses sufficient knowledge and experience in financial and business matters to evaluate the risk factors involved.

2. That the Subscriber has evaluated the risk factors and tax considerations involved in any purchase of the Securities.

3. That the Subscriber has had the following personal or business relationship with the Partnership and its officers, directors and controlling partners:

I HAVE INVESTED IN THE OIL BUSINESS IN THE PAST____________________ ___

I HAVE KNOWN THE GENERAL PARTNERS FOR MANY YEARS________________

I HAVE REVIEWED THE OIL LEASE S OWNED BY THE COMPANY_______________

AND I BELIEVE THEM TO BE VALUABLE_____________________________________

The subscriber's business or financial experience is as follows (if none, state None): ____I HAVE WORKED IN THE OIL_BUSINESS FOR TWENTY THREE YEAR___________________

VI. FINANCIAL ADVISORS.

The Subscriber represents and warrants that the Subscriber has consulted with such financial advisors as are listed below and that each is capable of evaluating the merits and risks of the investment, that each such person has had access to the Partnership's records, has had an opportunity to verify the accuracy of all information obtained and is satisfied that sufficient information necessary to make an informed decision has been received. By reason of the business or financial experience of my professional advisor named below, the Subscriber is capable of evaluating the merits and risks of this investment and/or protecting his own interest in connection with this investment.

NAME OF FINANCIAL ADVISOR (IF NONE, STATE NONE): ________

___________________________none__________________________________

FINANCIAL ADVISOR'S OCCUPATION: ___________none___________

FINANCIAL ADVISOR'S ADDRESS: _____________none_________

_______________________________________________________________

FINANCIAL ADVISOR'S BUSINESS OR FINANCIAL EXPERIENCE:

______________________________________________________none_____

NAME OF FINANCIAL ADVISOR (IF NONE , STATE NONE): ______________________________________________________none_____

FINANCIAL ADVISOR'S OCCUPATION: ___________none___________

_______________________________________________________________


CHAPTER 7

PARTNER AGREEMENTS

This chapter contains three of the most common types of partner agreements. The first agreement is a buy-sell agreement. The second agreement is for the adoption of a medical plan. The third is an agreement for the purchase of life insurance on the partners. The agreements contained herein are addressed separately and apart from the partnership agreement. It is possible to include the terms and provisions in the actual partnership agreement. On the other hand, the incorporation of these provisions into the partnership agreement would make it longer and more cumbersome. Another advantage in having the enclosed agreements separate from the partnership agreement is that it allows the partnership flexibility of adopting the agreement at a later date.

A. BUY-SELL AGREEMENT

A frequent concern among partners is what is to happen to the partnership in the event a partner should die or the partner should transfer the partnership interest. The result is obvious. The partnership may then have new partners. The remaining original partners may find themselves having to do business with people they do not like and with whom they do not wish to associate.

The common resolution to this dilemma is for the partners to enter into a partners agreement. The general form of this type of agreement gives surviving partners first right of refusal to purchase the shares of the partnership from the estate of the deceased partner, usually at book value. In the same vein, a partner wishing to sell his partnership interest must first offer it to the other partners for the price that it would be sold to a third party. The selling partner can then sell his interest for the price offered to the partners if the remaining partners do not elect to buy the interest sought to be sold.

Following this chapter is a simple buy-sell agreement governing these situations. The buy-sell agreement can be as complicated as the parties wish, including voting trusts, tax allocations and any other agreement the partners wish to solidify. In the event of violation of the terms of a buy-sell agreement, the non-violating and non-breaching partners can purchase the breaching partner's partnership interest at book value as calculated under the agreement.

Buy-sell agreements provide for continuity of the partnership. They add a degree of stability. Many partnerships are family affairs with a father and one or more children working in it. Often bad feelings arise when a parent dies and the parent's interest in the business is inherited by children who have not participated in the business. The children who have participated in the business with other non-family partners may not want to share the benefits of their work with the new partners. Some partnerships have dissolved because the partnership could not integrate the new partners. The buy-sell agreement in this chapter is a skeletal form that the parties may use to fashion their own contract regarding this sensitive area.


PARTNERS' BUY-SELL AGREEMENT

Agreement made this first day of _____________________ by and between being the partners of a partnership created and existing under the laws of the State of _____________________________ with its principal place of business at _____________________________________________________________

_________________________________________________________________

(hereinafter referred to as the Partnership).

WHEREAS the parties hereto believe that the maintenance of harmonious management is in the best interest of the Partnership and the Partners, and

WHEREAS it is the purpose of this Agreement (1) to require that a living Partner who desires to dispose of any of his capital partnership interest in the Partnership offer his interest first to the other Partners and (2) to provide for purchase by the surviving Partners of the partnership interest of a deceased Partner.

NOW THEREFORE in pursuance of this purpose and in consideration of the mutual agreements and covenants contained herein it is hereby mutually agreed as follows:

ARTICLE 1

Purchase During Life

No Partner during his lifetime shall in any way transfer or dispose of any portion of his capital partnership interest whether by sale or otherwise unless the Partner shall first offer to sell such partnership interest to the other Partners. Such offer shall be in writing, and a copy of said offer shall be sent to all of the Partners. If such other Partners elect to purchase any or all of such shares, the purchase shall be at a price determined in accordance with the provisions of ARTICLE 3. In the event the other Partners reject said offer in whole or in part either by written rejection or failure to purchase all of said partnership interest within thirty (30) days after receipt of the Partner's offer to sell, the offering Partner shall be entitled to sell to any person all or any portion of his remaining partnership interest so offered.

ARTICLE 2

Purchase at Death

Upon death of a Partner the Partner's estate or the Partner's successor-in-interest shall sell and the surviving Partners of the Partnership shall buy all of the Partner's interest in the Partnership at a price determined in accordance with the provisions of ARTICLE 3.

ARTICLE 3

Purchase Price of Partnership Interest

The price to be paid for the purchase of a partner's interest in the Partnership as provided in ARTICLES 1 and 2 shall be determined periodically by mutual agreement of the Partners. The initial purchase price of the partnership interest is hereby agreed to be _____________________ DOLLARS ($_______ ) for each percent of ownership in the partnership as determined by the represented share of the partners' capital accounts. This price shall be redetermined within thirty (30) days following the close of each fiscal year of the Partnership and shall be based upon the net book value of the Partnership. Until such redetermination the prior value shall continue in effect. If the Partners have not agreed to a redetermination within a period of eighteen (18) months prior to the death of a Partner the price shall be fixed by arbitration in the following manner: one arbitrator shall be named by the surviving Partners and one by the representative of the decedent's estate within thirty (30) days after qualification of the executor or administrator of the estate of the deceased Partner; if the two arbitrators cannot agree upon the price of each share within thirty (30) days after their appointment, the Probate Court shall appoint a third arbitrator and the decision of the majority shall be made within thirty (30) days thereafter and shall be final on this issue.

B. ADOPTION OF A MEDICAL PLAN

The delivery and payment of healh care is changing. Addressing inadequacies in the health care system has been of national importance since the 1992 Congressional elections. Various national plans have been proposed all of which share the requirement that all businesses to carry health insurance for employees. If the partnership has employees, it may be required to furnish them with health coverage. The issue is unclear. Under the law, partners are not considered employees. Therefore, whether a partnership may be required to furnish health coverage for its partners remains to be clarified. Given the avowed purpose of the proposed health plans to provide coverage for everyone, partnerships may be required to provide coverage at the very least for those partners who participate in the daily management and control of the partnership.

The value of medical insurance is attributed to the partner as a distribution of income. It usually is not much benefit for the partners to adopt a medical plan unless they can get group rates or it is necessary to provide coverage for non-partner employees. Many states are also considering requiring employers to provide medical insurance for their employees.

Following this chapter is a basic medical expense payment and reimbursement plan. The partnership need not use this plan and may instead adopt its own plan. The important thing to remember is that the plan may not discriminate between the coverage for highly paid and lower paid workers.


PARTNERS' MEDICAL PLAN AGREEMENT

Agreement made this first day of ______________, _____ by and between ________________

_________________________ being the Partners of ________________________________, a Partnership created and existing under the laws of the State of _____________________ with its principal place of business at (hereinafter referred to as the Partnership).

WHEREAS the parties hereto believe that the maintenance of harmonious management is in the best interest of the Partnership and the Partners, and

WHEREAS in order to maximize employee efficiency and productivity and improve employee health, welfare and morale, the parties hereto find it in the best interests of the partnership for the partnership to adopt a Medical Expense Payment and Reimbursement Plan, hereinafter called Plan, created pursuant to Section 105(b) of the Internal Revenue Code of 1986, as amended.

NOW THEREFORE in pursuance of this purpose and in consideration of the mutual agreements and covenants contained herein it is hereby mutually agreed:

ARTICLE 1

ADOPTION OF A MEDICAL PLAN

The Plan adopted herein shall reimburse qualified employees for medical expenses incurred by them. Coverage under the Plan shall also extend to a qualified employee's spouse, children and dependents as defined in Section 152 of the Internal Revenue Code, provided those persons are members of the employee's household at the time any such medical or dental expenses are incurred.

There shall be two types of benefits payable under the Plan. These benefits are:

(a) Elective Plan Benefits, which are defined as being those benefits paid with respect to preventive or non-life threatening medical services such as dental, vision, psychological, orthodontia and other elective services including cosmetic surgery.

(b) Basic Plan Benefits, which are defined under the Plan as those benefits that are not for elective services.

ARTICLE 2

Coverage

Coverage shall extend to the partners and all qualified employees. Qualified employees shall include all of the employees of the partnership with the exception of those employees who fall within any of the following excluded classes:

1. Those employees who were less than eighteen (18) years of age at any time during the Plan year are not covered.

2. Employees who are members of a union, employee association or other unit of employees covered by a collective bargaining agreement for which the benefits under the agreement were the subject of good faith bargaining are not covered by this Plan.

3. Those employees having less than one (1) year of service for elective benefits, but such employees must be covered by the Plan on the first day of the first month beginning after completion of such service not covered.

4. Those employees having less than six (6) months of service for basic benefits, but such employees must be covered on the first day of the first month beginning after completion of such service not covered.

5. Those employees working less than 17-1/2 hours per week are not covered.

6. Those employees working less than six (6) months during the Plan year are not covered.

7. Non-resident aliens who are employees are not covered if they receive no earned income from the Partnership within the meaning of IRC Section 911(d)(2), which constitutes income from sources within the United States as defined by Section 861 (a)(3).

ARTICLE 3

Notification of Coverage

The partnership intends for payments of Plan benefits to comply and be made in accordance with Sections 89 and 105(b) of the Internal Revenue Code. The Partners are hereby directed to inform all current employees and new employees of Plan provisions. All questions concerning the administration and interpretation of the Plan shall be determined by the Partners. Any questions concerning payments or reimbursements are to be directed to the Partners.

ARTICLE 4

Payments under the Plan

Payments of Plan benefits shall be governed by the dollar limitations set herein. The medical expense payments or reimbursements for which qualified employees shall be eligible shall consist of all medical and dental expenses incurred by such employees or their dependents to the extent allowable under and as defined in Section 213 of the Internal Revenue Code that are in excess of such payment or reimbursements said employee may be entitled to receive from any group health and accident insurance coverage provided employees of this partnership by this partnership or any other employer thereof or any other health and accident or medical insurance under which employees may be covered under any Medicare or other federal or state health and accident benefit program.

It is specifically stated herein that notwithstanding anything to the contrary in these resolutions the partnership hereby limits and will not pay or reimburse any eligible employee for any medical or dental expenses under the Plan, whether for basic or elective benefits, for a total aggregate amount greater than _________________________ ($__________) that are incurred by the employee in any fiscal year. There shall be no discrimination or difference in any way by or between the maximum amounts which can be reimbursed or paid to highly compensated and non-highly compensated employees.

Any qualified employee applying for reimbursement or payment under the Plan will be required to submit to the president or board all medical and dental bills, as incurred, for which reimbursement or payment is claimed. Any premium notices for accident or health insurance and any verification of the appropriateness thereof for payment or reimbursement under the Plan are also to be included. The Board of Directors may, at its option, deny coverage and terminate the employee's right to such payment or reimbursement for any qualified employee failing to comply with the above requirements for coverage.


C. LIFE INSURANCE AGREEMENT

Common among small businesses is the use of what is known as key-man life insurance: a life insurance policy on key shareholders or partners of a small business. The reason behind such insurance is quite sound. A business is bereft of the abilities of a key person when he dies. Many small companies will fail upon the loss of their key personnel.

In most small companies only one or two people actually run the management details of the company. The entire company changes when this person is removed. An illistration of this occurred in a small water disposal company in Los Angeles. The owner of the company was a respected and personable individual who doted on his customers. Upon his death the company was inherited by his son. Unfortunately the son lacked his father's business acumen. The business subsequently declined and had to be sold within a year of the father's death. If the company had taken out key man insurance, it would have had a source of funds on which to draw while the business was being restructured.

Another reason for having such insurance is to provide the funds necessary to purchase the partnership interest from a deceased partner's estate. If the partners had executed a buy-sell agreement, the partnership or individual partners would need to find with a sizeable amount of cash upon the death of a partner to purchase the deceased partner's share in the partnership. Insurance can provide that source of funds without having to borrow money or sell partnership assets.

Internal Revenue Code section 264 states that the premiums paid for life insurance on a key person are not deductible where the payor of the premium (the partnership) is directly or indirectly the beneficiary of the policy. Since the proceeds of the insurance policy will be used to purchase the partnership interest of the deceased partner, the partnership is thereby benefited. For that reason, the partnership is not permitted to deduct the insurance payments as an ordinary and necessary business expense.


PARTNERS' LIFE INSURANCE AGREEMENT

Agreement made this first day of _______________, ____ by and between ___________________________________________________ being the Partners of ____________________ __________________________ a Partnership created and existing under the laws of the State of _______________ with its principal place of business at __________________________________________________________________________

(hereinafter referred to as the Partnership).

WHEREAS the parties hereto believe that the maintenance of harmonious management has a value and is in the best interest of the Partnership and the Partners, and

WHEREAS the Partnership should be compensated for the sudden loss of life of a Key Partner and therefore requires key-man insurance on the lives of all Partners,

NOW THEREFORE in pursuance of this purpose and in consideration of the mutual agreements and covenants contained herein it is hereby mutually agreed as follows:

ARTICLE 1

Life Insurance

Each Partner shall apply to for the issuance of the following life insurance policies for the following amounts:

Insured Amount ___________

The partnership is to be named as the owner of the policies and the partnership shall pay all of the premiums for the life insurance policies. Additional policies may be purchased upon agreement of the partners.

ARTICLE 2

Right of Insured to Assignment

If any partner sells or transfers his interest in the Partnership, he may request assignment to him of the life insurance policy carried on his life. The life insurance policy upon the life of said former partner shall be assigned upon receipt by the Partnership of any cash value of the policy from the former partner.


CHAPTER 8

AFTERWARDS: POST-FORMATION ACTS

This chapter is an information chapter to remind the partners of the various acts that may be required to be performed after the formation of the partnership is completed. The partners will be familiar with these acts if they have previously operated a business. This chapter provides a summary of the general requirements most often encountered by a newly formed business. There is no way that this chapter will be able to cover each item in detail. As such, appropriate code sections are referenced. Many of the post-formation acts pertain to tax filings. Partners should, therefore, work closely with the partnership's tax advisor to establish the appropriate accounting procedures for the partnership. Some matters can be handled by the partnership's accountant or bookkeeper; others must be done by the officers. An understanding of what is expected and by whom is of great importance for the smooth operation of the business.

STATE LICENSES

A state may require a license in order to do a certain type of business regardless of whether the business is conducted as a partnership or not. For example, a state may require anyone disposing of hazardous waste to have a state license or permit to do so. The fact that the company doing the hauling may or may not be a partnership is irrelevant. Therefore, it is important that the partnership obtain all the necessary licenses and permits for the operation of its business in the state.

State permits are not transferable. If a partnership which has the necessary permits and licenses to do business should incorporate, the new business entity would have to apply for new state licenses and permits in its own name. A partnership is a legal entity in its own right, and it is treated separate and apart from the shareholders and any business in which they might have previously been engaged.

LOCAL BUSINESS LICENSES

Many states, usually those that have imposed business taxes, permit their counties, parishes, cities and other governmental entities to raise revenue by taxing businesses in their jurisdictional area. The taxing usually takes one of two forms. The first is a straight license fee for a permit to do business. The second (and more insidious) is a business income tax (such as in California) that city and county may charge in order to grant a business license. The partnership should always consider whether there is a city or county business license required in order to operate. Such licenses would be required regardless of whether the business is operated as a corporation, sole proprietorship or partnership.

EMPLOYER IDENTIFICATION NUMBER

A partnership with employees is required to obtain from the IRS a federal employer's identification number (EIN). The application for an Employer Identification Number is Form SS-4. Form SS-4 must be filed within seven (7) days after the first payment of earnings to an employee. There is no filing fee for the form. The IRS will give the partnership an identification number upon filing. This identification number will be used on all tax returns. The Form SS-4 can be obtained from any IRS office or by mail by calling 1(88) TAX-FORMS.

ESTIMATED TAX

While partnerships do not pay taxes on its income, the partners do. A partnership is a "pass-through" vehicle in which the income is passed to the partners in accordance with their individual interest in the partnership. A partnership, even though it does not have to paid taxes, is nevertheless required to file an information tax return Form 1165 even though it does not have to pay taxes. This partnership tax return serves to inform the Internal Revenue Service of the amount of partnership income which is being passed to the partners. The partnership must provide all of the partners with a tax form K-1 which shows the amount of income and loss being allocated and passed through to the individual partners. The partners then incorporate their share of the profits or losses of the partnership in their own individual tax returns as self-employment income or loss. Under federal law all partners are required to make estimated quarterly payments on their estimated share of partnership income.

A partner must comply with the tax law of his home state. A partner residing in a state which imposes an individual income tax is also required to make estimated payments on the state tax liability deriving from the partnership income. For example, Nevada has no personal income tax while California has one of the highest state income taxes on individuals (11%). California may be forced to raised it tax rates even higher to lower its huge state deficit. As a result of their differing tax structure, a Nevada resident will not have to pay taxes, estimated or otherwise, in Nevada for income derived from the partnership whereas a California resident must pay such taxes. If a partnership does business in several states, the partners will have to pay state income on the partnership income derived from each state. For example, each California resident must pay income taxes on the share of income derived from a partnership regardless of whether it does business in California. In addition, if a Nevada partnership does business in California, each of the partners will have to pay California tax on that portion of the partnership income derived from the partnership's California operations even though they will not have to pay a Nevada income tax.

California, along with all of the other states that impose individual income taxes, requires the partners of a partnership doing business in the state to pay estimated income taxes. Therefore, it is important for partners to know whether a state in which the partnership is doing business requires the payment of estimated tax and to comply.

PERSONAL PROPERTY TAXES

Many states, such as California, impose a tax on the personal property of a partnership located within the state. This personal property tax on business assets has resulted in businesses along the border storing their inventory or parking their movable assets across state lines where the neighboring state imposes a lower personal property tax on assets. To illustrate, many of the airlines doing business in California actually fly to Las Vegas or Reno at night to park the aircraft so they will not be taxed in California. A partnership should be aware of the personal property tax that a state may charge for partnership assets located in the state. The same tax rate is normally imposed for the personal property whether it belongs to a corporation, partnership or sole proprietorship.

SALES AND USE TAXES

If the partnership expects to engage in the business of selling tangible personal property, it must determine if it needs to obtain a sales and use tax permit. Those states that have sales taxes presume that all gross receipts from the sale of personal property are subject to the sales tax. As with personal property taxes, it makes no difference as to the form of the business. As long as goods subject to the tax are sold, sales tax must be charged.

EMPLOYEE CONCERNS

1. PAYROLL WITHHOLDING

A partnership, as with any other employer, must withhold from all of its employees' salary income tax and social security tax. Instructions for federal withholding are in IRS Circular E, "Employer's Tax Guide." The partnership must have each employee annually complete an Employee's Withholding Allowance Certificate W-4.

The withheld income and social security taxes are deposited in an authorized commercial bank depository or a Federal Reserve Bank with a Federal Deposit Form 8109. A Form 941, "Employer's Quarterly Federal Tax Return," (Form 941) is required to be filed by the partnership before the end of the month following each quarter. If the taxes are not withheld or paid, any person whose duty it is to make the payments will be 100% liable for the taxes plus interest. Although this can work a manifest injustice, it remains the law. In states that have income taxes, such as California, there must be state payroll withholding as well. It is important that the partnership understand its tax obligations for each state in which it will operate.

2. FEDERAL UNEMPLOYMENT TAX

Any partnership that has an employee at least part of one day every week during the current or preceding calendar year or has paid wages of at least $1,500 during any calendar year is subject to Federal Unemployment Tax (FUTA). The partnership may receive credit against FUTA for taxes paid into a state's unemployment fund. The taxes are deposited in an authorized commercial bank depository or a Federal Reserve Bank along with a Federal Deposit Form 8109, "Employers Annual Federal Unemployment Tax Return." Form 940 must be filed by the partnership by January 31 of each year. More information can be obtained from the I.R.S.'s "Employer's Tax Guide."

3. UNEMPLOYMENT COMPENSATION INSURANCE

Many states, such as California, require that employers provide unemployment and disability insurance for employees. For unemployment insurance the employers must make annual contributions to a state fund based on a percentage of the employee's annual payroll. The disability coverage premium is paid by withholdings from the employee's wages. Some states, like California, permit the employer to elect private disability insurance coverage under a state approved voluntary disability program. The employees are not required to pay disability taxes to the state under such election.

4. WORKER'S COMPENSATION

All states have enacted Worker's Compensation Laws that hold an employer liable for any injuries to a worker on the job regardless of any negligence of either the employer or the employee. The employee, however, cannot sue the employer for punitive damages regardless of how egregious the employer's conduct was in causing the injury. The employer must either carry workers compensation insurance from a state fund or carry it from an approved private insurance carrier. In some states the employer may be permitted to be self-insured provided it is considered large enough and stable enough to do so. Failure to carry the insurance could be disastrous for a partnership. It could mean that an injured employee could sue the partnership for punitive damages whereas the insurance denies the employee the ability to sue.

FICTITIOUS NAME FILINGS

If the partnership is going to do business in a state, it should note the state's requirements for filing a fictitious name statement. Most states require any person or entity, even a partnership, to file a fictitious name statement with the county clerk if it does business in a name other than its own. A fictitious name statement should be filed whenever a partnership does business in a name other than that of all the partners. The purpose of such a filing is to provide the public a means to identify the owner of the business in the event of litigation or any other need to contact the owner. For example, George, Herbert and Bill may operate a restaurant named Guido's. In the event a patron suffers food poisoning, the patron could check the fictitious name filings and find the names of the owners: George, Herbert and Bill. The fictitious name statement is usually obtained at the County Clerk's office or, at most business and a stationary stores.

A fictitious name statement usually is filed with the county clerk and then published in a local paper of general circulation. The fictitious name statement gives notice to the world at large that the individuals are working together as a partnership. It is important that requirements for the fictitious name statement be met both from the standpoint of the creditors and from that of the partners. To avoid confusion, a partnership cannot use a name similar to that of another business.

COMPLIANCE WITH BULK SALES ACT

When a person transfers an existing business into a partnership, he must comply with the state's bulk sales law. Virtually all states have adopted a bulk sales act in some fashion, which deals with giving notice to creditors of a bulk transfer of assets of a business. The bulk sales law is intended to prevent business owners from attempting to defraud or avoid creditors by transferring all or substantially all (the bulk) of the assets of the business to another person or entity. The law also seeks to prevent the situation wherein the business sells its assets in a bargain or sweetheart sale (below fair market value) and the owner of the business still retains some degree of control (for example sale of business assets to another business which the owner also controls).

For most newly formed partnerships there is no desire or plan to defraud creditors. The purpose is simply to change the form of the business, not an attempt to disassociate themselves from the debts of the previous business from which the assets are transferred. The compliance with any bulk sales law is merely a formality. The partnership will be responsible for the debts of the old business transferring the assets to the extent of the value of the assets transferred.

The real concern arises in the situation where the business transferring all of its assets to the partnership will have debts that the partnership will not assume. The partnership should consult an attorney to assure that it will not become liable for such debts if it takes the assets from the other business. The bulk sales law was enacted to help settle such disputes.

In the situation where a partnership is receiving property transferred to it by a business with outstanding debts which the partnership will not assume, the Bulk Sales Act of the Uniform Commercial Code requires the partnership to do the following acts before it can safely issue its stock:

1. The partnership must prepare a Notice to Creditors of Bulk Transfer. The Notice is then published in a paper of general circulation for the judicial district, usually a county, in which the property being transferred to the partnership is located. The Notice must also be published in the judicial district or county where the principal executive office of the prior business is located. The publication must be completed at least twelve (12) business days prior to the date of transfer of the property.

2. The partnership is also required to file copies of the Notice of Bulk Transfer with the County Recorder and the County Tax Collector in each judicial district or county that the property is located and where the prior business had its principal executive office at least twelve (12) business days before the transfer.

After the Notice is given to the Creditors, if the creditors do not object to the transfer, then the partnership can take possession and title to the assets free from all creditor claims.

If, however, creditors for the prior business present claims against the property then special rules apply. Basically, if the partnership wants the property of a prior business in exchange for its partnership interest and creditors are asserting their rights, then the partnership must either pay the creditors (which amounts to paying twice for the property) or deposit the partnership interest with the court and let the court decide who owns it. In such an instance, partnership may find itself with entirely unexpected partners with whom some of the other partners cannot work. FOR THESE REASONS, IN THE EVENT OF A BULK TRANSFER DISPUTE, THE PARTNERSHIP MUST SEEK LEGAL ADVICE BEFORE PROCEEDING ONWARD WITH THIS TRANSACTION. A form for a basic Notice of Bulk Sale follows.


RECORDING REQUESTED BY



WHEN RECORDED MAIL TO



___________________________________________________________________________ Space above the line is for Recorder's use



NOTICE TO CREDITORS OF BULK TRANSFER

NOTICE is hereby given to the CREDITORS of ____________________________________

Transferor (s), whose business address is __________________________________________

County of __________________, State of _________________________________________

The property is described as general: ALL STOCK IN TRADE, FIXTURES EQUIPMENT

AND GOOD WILL OF THAT: _______________________________________________

TYPE OF BUSINESSBUSINESS KNOWN AS _____________________________________________________ NAME OF BUSINESSand located at _____________________________________________________________,

County of ____________ State of ___________________.

The Bulk Transfer will be consummated on or after the _________ day of _______, 199__ at __________________________________________________________________________ OFFICE NAME

__________________________________________________________________________ STREET ADDRESS

County of _________State of __________.

So far as known to the Transferee(s), all business names and addresses, used by the Transferror(s)

for the three years past are _____________________________________________

________________________________________________________________________ (same, put same, if none, put none, if any, list them).

BUSINESS NAME STREET ADDRESS

_____________________ ______________________________________________

______________________________________________

COUNTY STATE

_____________________ ______________________________________________

______________________________________________

COUNTY STATE



Dated:_____________ ___________________________

TRANSFEREE

Dated:_____________ ___________________________

TRANSFEREE

CERTIFICATE OF ACKNOWLEDGMENT OF NOTARY PUBLIC

STATE OF _______________________

COUNTY OF _____________________

On ____________________ before me, ________________________________

personally appeared ___________________________________ personally known to me (or proved to me on the basis of satisfactory evidence) to be the person(s) whose name(s) is/are subscribed to the within instrument and acknowledged to me that he/she/they executed the same in his/her/their authorized capacity(ies) and that by his/her/their signature(s) on he instrument the person(s), or the entity upon which the person(s) acted, executed the instrument.

WITNESS MY HAND AND OFFICIAL SEAL.

Signature




CHAPTER 9

TAX CONSIDERATIONS

This chapter is dedicated to helping to explain some of the tax consequences faced in creating a partnership. These consequences are not, in themselves, neither good or bad, they merely exist. This chapter definitely will not replace the partnership's need for a tax professional. The purpose of this chapter is to give the reader a basic overview of most important aspects of partnership tax law.

Armed with the knowledge which this chapter provides, a partner will be better able to participate effectively with the partnership's tax professional in directing the partnership activities. Critical to the partnership's success is that it rely on a tax professional. Partnership tax law is highly complex and difficult. For an individual to expect to learn all of the tax aspects related to a partnership is unreasonable. So much time would be spent learning the law that little time would be left for running the business. Partnership tax law is in many instances the same as individual tax law. There are, however, significant differences in certain areas. It is toward those differences that this chapter is addressed.

I. TAXATION OF A PARTNERSHIP

A partnership is subject to its own peculiar tax treatment under federal tax law. Most unincorporated associations and trusts that conduct business are taxed as though they are corporations. Partnerships, however, are treated differently. In a partnership, the income is attributed to the partners in accordance with their percentage of partnership interest. The partnership pays no federal income tax itself. For example, even if a partnership earns $1,000,000, it will pay no taxes. The partners have to include the $1,000,000 on their tax returns. Assuming a 28% federal tax rate, the partners will pay $280,000. Were the partnership a C corporation, $519,200 of that $1,000,000 would go to the federal government in taxes on income. The partnership does not pay any taxes on the income from the partnership. That is the hallmark of a partnership. Even though a partnership does not pay taxes on its income, the partners pay income taxes on their respective shares of the partnership income. All partnership profits and losses are passed to the partners. The partnership files a Form 1165 partnership return and its K-1 forms, informing the IRS how the profits and losses are being allocated to each partner. Under the Internal Revenue Code, each partner is treated for tax purposes as a self-employed individual. Every partner is required to estimate his share of the partnership income and make estimated quarterly payments to the IRS for that income.

Partnerships are treated for federal tax purposes as "pass-through" vehicles. All profits and losses of the partnership "pass through" the partnership and are attributed to the partners. The effect of this "pass through" of profits and losses is the partnership itself is not taxed. Partnership income is not subject to double taxation. In a regular C corporation, income is taxed and then dividends paid to shareholders from the remaining income is taxed as shareholder income. Congress created the S Corporation specifically to allow a small corporation (an S corporation) to "pass through" its income to its shareholders. There it is taxed only once as shareholder income.

Under the 1986 Tax Reform Act, profits and losses passing through to partners retain the same character they had in the partnership. A passive profit or loss to the partnership remains a passive profit or loss to the partner. The same treatment exists for an active profit or loss. A partner who materially participates in the partnership business will have all of the attributed profits or losses considered to be active. The profit and losses of a partner who does not actively participate in the partnership business will be considered to be passive in nature.

One of the most important issues in any partnership is how the profits or losses are divided. The partners formed the partnership in order to conduct a business to make money. Therefore, it is important to know how the accounting of the partnership's profits or losses will take place. Under the Uniform Partnership Act, all profits or losses of a partnership are divided equally among the partners unless the partnership agreement states otherwise. The equal division of profits or losses occurs even if the partners own unequal interests in the partnership or have contributed unequal amounts of work or property to it. Partners can agree to an unequal division of profits and losses, such as one based on partnership ownership interests or contributions. Any agreement for an unequal division of profits and losses should be clarified in detail to ensure the UPA does not apply.

II. TAX TREATMENT FOR PARTNERSHIP PROPERTY

Under the Uniform Partnership Act, property which is titled in the partnership name is owned by the partnership. A partner who contributes property to a partnership loses his ownership in the property. Property purchased with partnership funds is owned by the partnership. The property held by a partnership can be legally sold, transferred or conveyed only by the partnership. Since partnership property is owned by the partnership, it cannot be directly attached to satisfy any court judgment taken against a partner. A partner's ownership interest in a partnership can be attached and sold by a creditor; however, the creditor cannot reach the underlying property in the partnership.

This is similar to a person purchasing stock in a corporation. A creditor of the shareholder cannot go to the corporation and demand the money or property paid for the stock. The creditor is limited to taking the stock, selling it and applying the proceeds from the stock to the shareholder's debt.

The partnership's basis on contributed property is the basis that the partner had before it was contributed. Example: George contributed a piece of real property in which he had a basis of $50,000 and which had a fair market value of $200,000. The partnership's basis in the property is $50,000. If the partnership sells the property for $200,000, there will be a $150,000 capital gain to be split among the partners according to their partnership interest.

III. THE PARTNERSHIP INTEREST

A tax consideration all persons forming a partnership should bear in mind is that of contributing services for an equity interest in the partnership. Under federal tax law, when a person purchases a partnership interest for either services rendered or to be rendered, that partner has to recognize as income the value of the partnership interest received. A person cannot acquire a partnership interest tax free by bartering services. For example, if George agrees to become a partner by providing services and the partnership interest acquired would be worth $10,000, George will have to report the $10,000 as income on his tax return.

A partner, who contributes property to a partnership, does not recognize gain or loss on the transfer to the partnership. For example, assume that a partner contributes real estate to the partnership which has a basis (cost) of $200,000. The property has a fair market value of $1,000,000. If the partner had sold the property, he would have had to pay capital gain on the $800,000 profit. By contributing the property to the partnership, the partner does not realize any capital gain.

The partnership will have the contributing partner's basis in any contributed property: not its fair market value at the time of transfer. Thus, when the partnership sells this property for $1,000,000, there will be a capital gain to the partnership of $800,000, which will be passed to all of the partners.

IV. PARTNERSHIP RENTAL INCOME

One of the most common reasons for forming a partnership is to allow several persons to pool their assets for investment in rental property. In fact, there are many real estate general partnerships whose interests are sold nationwide. It is the non-security status of such large general partnerships which is being challenged before the Supreme Court. Nonetheless, real estate remains the most frequent type of investment for small groups. Many other partnerships engage in the business of equipment rental. The tax laws for both real estate and equipment rental are very similar.

Rental income is defined as any payment received for the use of occupation of property. Generally, a lessor must include in gross income all amounts received as rent. Advance rent is any amount received before the period that it covers. Advance rent is included in the rental income for the year the partnership receives it. It is included in gross income of the year received regardless of the period it covers or the accounting method the partnership uses. Security deposits are not included in the rental income of the lessor if the partnership plans to return it to the tenant at the end of the lease. If during the year, however, the lessor keeps all or any part of the security deposit, that amount is treated as rental income and must be reported. If the lessor receives property or services in lieu of rent, the fair market value of said property or services is rental income and must be reported.

A partnership may not deduct losses from rental real estate activities. At-risk rules limit the amount of deductible losses from holding real property placed in service after 1986. A partner is allowed to deduct up to $25,000 of the losses from rental real estate in which the taxpayer participated during the tax year. This $25,000 is reduced to $12,500 if he is married and filing separately and has lived separate from his spouse the entire year. The partner is allowed this offset for otherwise unallowable losses from real estate activities from other income (nonpassive income). The $25,000 ($12,500) figure is reduced if the partner's adjusted gross income is more than $100,000.

V. PASSIVE ACTIVITY LOSSES

Congress has limited the deduction of certain business losses. These losses, called passive activity losses, can only be deducted under certain circumstances. Passive activity losses may not generally be deducted from nonpassive income (wages, interest, dividends). Similarly tax credits for passive activities are limited to the tax allocable to such activities only. Passive activity rules apply to individuals, estates, trusts and personal service corporations. Since they apply to individuals, they apply to his partnership pass-through income and losses.

A passive activity is one that involves the conduct of a trade or business in which the taxpayer does not materially participate. Any rental activity is a passive activity regardless of whether the taxpayer materially participates. An individual will be considered as materially participating in an activity if one of the following tests is met:

1. The taxpayer participates more than 500 hours.

2. The taxpayer's participation constitutes substantially all activity.

3. The taxpayer participates more than 100 hours and no one else participates more.

4. A fact and circumstances test shows that the taxpayer participated in the business on a regular, continuous and substantial basis.

Portfolio income such as interest, dividends, annuities and royalties is not passive income and the activities generating the income are not passive activities.

As a practical matter as long as a partner participates in the day-to-day operations of the partnership, he is an active participant, and the active-versus-passive activity rules do not apply. Losses from the partnership will be active losses and not subject to the passive activity loss rules.

VI. DEPRECIATION

Depreciation is the annual deduction a taxpayer may take to recover the cost of personal property which is used in business for more than one year. The main factors used to determine the amount of depreciation that may be deducted are:

1. The basis of the property.

2. The recovery period of the property.

There are three systems of depreciation involved in computing depreciation. These systems depend on when the property was placed into service. These systems are:

1. MACRS for property place in service after 1986.

2. ACRS for property placed in service after 1980 but before 1987.

3. Straight line depreciation or accelerated depreciation, if property was placed in service before 1981.

The most utilized system is MACRS (Modified Accelerated Cost Recovery System). All property is characterized by its recovery life. Each property is placed in one of the following classes:

1. 3-year property.

2. 5-year property.

3. 7-year property.

4. 10-year property.

5. 15-year property.

6. 20-year property.

7. Nonresidential real property.

8. Residential rental property.

The IRS has published tables for each class that give the percentage of depreciation for each year for property in each class. The taxpayer multiplies that percentage by the cost of the item to determine the depreciation for the year.

If property which has been depreciated through the use of an accelerated method is subsequently sold, there will be a recapture of the depreciation. The depreciation recapture usually will be the difference between straight line depreciation and the accelerated depreciation. Example: A partnership had a piece of equipment that would have had $40,000 of depreciation using a straight line method (yearly amount based upon cost divided by useful life), but instead used an accelerated method which resulted in depreciation of $60,000 at the time of sale. The partnership must recapture $20,000. The depreciation which is recaptured is treated as additional ordinary income to the partnership.


CHAPTER 10

TERMINATION OF A PARTNERSHIP

The ending of a partnership is generally referred to as its "termination" although it is sometimes called a dissolution or "winding down." Whatever the name, it is the process by which the partners cease to operate as a partnership. When a partnership is terminated, all business activities cease except to the extent necessary to complete partnership business that was instituted prior to the termination. A partnership, unlike a corporation, does not have perpetual existence. It is a fundamental precept of partnership law that one day it will end. The Uniform Partnership Act (UPA) requires a partnership to terminate automatically upon the death or bankruptcy of any partner. In addition, when the purpose of a joint venture is accomplished, it too terminates.

A partnership agreement is permitted to have clauses in it stating on what conditions the partnership will terminate. The most common partnership termination clauses are triggered:

a. When the partnership purpose is accomplished (in a joint venture). For example, a partnership to buy, refurbish and then sell an apartment house terminates upon its sale.

b. On a certain date.

c. If a partner becomes insolvent or bankrupt.

d. If a partner dies or becomes disabled.

e. If any partner withdraws from the partnership: resigns.

Without a clause in the partnership agreement stating otherwise, the Uniform Partnership Act states that a partnership terminates automatically on the death of a partner or upon a partner's resignation. In addition, the UPA requires the partnership to terminate automatically when a partner files for personal bankruptcy even if the business is solvent.

The reason for the dissolution: the relationship with the partnership and the other partners changes when a partner goes bankrupt. By filing for bankruptcy protection, the filing partner is no longer liable for partnership debts. The liability for payment of partnership debts remains with the partners who did not file bankruptcy. It is this general release of liability for the partner filing bankruptcy that gives rise to the termination of the partnership. The partners can agree not to have the partnership dissolved automatically upon the bankruptcy of a partner by a provision in the partnership agreement. Unless the partnership agreement states otherwise, the UPA will apply, and the partnership will be terminated upon the bankruptcy of a partner.

Under the Uniform Partnership Act, a court may order dissolution of a partnership for the following reasons regardless of specific clauses in the partnership agreement stating otherwise:

a. A partner has been found insane by a court,

b. A partner is incapable of performing his duties under the partnership agreement,

c. A partner's conduct has prejudicially affected the ability of the partnership to carry on its business,

d. A partner has repeatedly breached the partnership agreement,

e. The partnership can only do business at a loss, or

f. Equitable reasons support dissolution.

A lawsuit seeking termination on any of these grounds will be difficult and costly to prove. An alternative is for the partnership agreement to have an expulsion provision permitting discharge of a partner for any of the above reasons.

The termination of a partnership begins in one of two ways. The termination is instituted either by a unanimous agreement of the partners or by operation of law. A partnership is terminated by operation of law for one of two reasons:

1. Its existence violates terms of the state's partnership law, such as being for an improper purpose.

2. The terms of the partnership agreement call upon the partnership to be terminated automatically upon the happening of certain events.

Once the partnership agreement has terminated, all business operations cease except to the extent necessary to complete outstanding business and the payment of partnership debts and fulfillment of outstanding partnership obligations. This discharge process is sometimes called the "winding down" of the partnership. During the period of time a partnership is being discharged, each partner remains liable for the debts the partnership incurred prior to termination. After the final cessation of business, the partnership will sell all of its assets and distribute the proceeds as follows:

a. All federal and state taxes are paid,

b. All employee wages and benefits are paid,

c. All secured liabilities are paid,

d. All unsecured liabilities are paid, and

e. Any remaining funds are divided among the partners in accordance with their percentage of ownership interest in the partnership.

The proceeds received by a partner in the dissolution of a partnership are a return of the partner's investment. Any gain or loss in the dissolution is treated as a capital gain or loss. For example, if a partner paid $4,000 for his stock and received $3,000 upon dissolution, he has realized a $1,000 capital loss. If he received $6,000, he has a $2,000 capital gain.

Depending on the complexity of the partnership business, termination may be quick or it may be a long and involved process. Until the partnership is fully terminated, the individual liability of the partners continues. If the partnership does not have enough assets to pay all of its debts and liabilities, the partners must themselves pay the remaining balance at the time of termination. The Uniform Partnership Act requires the remaining solvent partners to pay all of the outstanding debts and liabilities if the partnership and some of the partners are insolvent. For example, if the partnership owes $2,000,000 with assets of only $1,000,000 and three of the four partners are insolvent, the remaining partner (who may only own ten percent of the partnership) must pay the entire $1,000,000 outstanding debt of the partnership. In an effort to side track such a disaster, the UPA requires a partnership to be dissolved when a partner files for bankruptcy protection.

Under the Uniform Partnership Act a partnership does not pay interest on a partner's share of proceeds under a dissolution except for time "after the date when repayment should have been made." The partnership must pay interest for the time of the delay if it is late in making a distribution after the dissolution. As with most provisions of the UPA, the partners can make an agreement not to have this provision apply. Likewise, the partners may agree in the partnership agreement to have the partnership pay interest on a partner's distributed share from the date the dissolution plan is adopted rather than the date the distribution could be made.

Once a partnership has been terminated, the partners should publish a notice in the newspaper of the termination of the partnership. The partners should also file a termination of the fictitious name statement. Both of these acts serve the important purpose of notifying the world of the termination of the partnership relationship. Under general agency law, if a partner fails to inform a person of the termination of the partnership and that person, while reasonably believing the partnership to still be in effect, deals with a former partner, the partnership relationship will still be found to exist. Publishing a notice of the termination of the partnership prevents such a third person from having a reasonable belief that the partnership is still in effect when dealing with a former partner.

Another reason for publishing the notice of termination of partnership is to insure creditors are given notice to come forward and present their claims. All partners remain liable for the debts of the partnership even after the partnership's termination. For example, assume that a creditor comes forward two years after the termination to present his claim. The partners will still have to pay. Unless the creditor's claim is barred because it has expired under the terms of a state's statute of limitations, the partners will have to pay it. If one or more of the partners are dead or insolvent at this time, the other partners will have to absorb that partner's share of the debt. It makes good sense to notify all of the creditors at the time of distribution when the money is most available to pay the partnership's creditors.

This chapter has a sample termination agreement for use when all of the partners agree to terminate the partnership. Without such an agreement, the Partnership will still terminate only now the termination will be governed by the state's partnership law not by the agreement of the partners.


PARTNER'S TERMINATION AGREEMENT

Agreement made this day of by and between being the Partners of a Partnership created and existing under the laws of the State of with its principal place of business at

(hereinafter referred to as the Partnership).

WHEREAS, it is the agreement of the parties that the Partnership as now in existence cannot and should not be continued in effect and should be terminated;

NOW, THEREFORE, in pursuance of this purpose and in consideration of the mutual agreements and covenants contained herein, it is hereby mutually agreed as follows:

ARTICLE 1

Termination of Partnership

The Partnership as formed between the parties in accordance with the terms of the original partnership agreement along with all subsequent amendments is by this agreement hereby terminated.

ARTICLE 2

Winding-Down of Partnership

All partnership business operations will cease except to the extent necessary to complete outstanding business and the payment of partnership debts and fulfillment of outstanding partnership obligations. This partnership will sell all of its assets and distribute the proceeds as follows:

1. All federal and state taxes are paid,

2. All employee wages and benefits are paid,

3. All secured liabilities are paid,

4. All unsecured liabilities are paid, and

5. The remaining funds, if any, are divided among the partners in accordance with their percentage of ownership interest in the partnership.

ARTICLE 4

Persons Bound by this Agreement

All provisions of this Termination Agreement shall be binding upon and inure to the benefit of and be enforceable by and against the respective heirs, administrators, personal representatives, executors, assigns and successors in interest of the Partners.

ARTICLE 5

Miscellaneous

5.A. SURVIVAL OF REPRESENTATIONS. The covenants, warranties, representations and other written statements set forth in this Agreement or in any exhibit hereto shall survive the execution and delivery hereof and formation of the partnership. All of the same shall be deemed to be independent material and the party to whom made is deemed to have relied upon it.

5.B. ATTORNEY FEES. If legal action is commenced over the terms of this Termination Agreement, it is agreed that the prevailing party shall be entitled to reasonable attorney fees and costs.

5.C. GOVERNING LAW. This Agreement and all of its terms and conditions shall be governed in accordance with the laws of the State of .

5.D. CONSTRUCTION. None of the provisions of this Termination Agreement shall be for the benefit of or enforceable by any creditors of the Partnership.

5.E. FURTHER ASSURANCES. Each of the Partners hereto shall execute and deliver such further instruments and do such further acts and things as may be required or useful to carry out the intent and purposes of this Agreement which are not inconsistent with the terms hereof.

5.F. ENTIRE AGREEMENT AND AMENDMENT. This Termination Agreement incorporates the entire agreement and understanding among the Partners with respect to the subject matter. This Agreement may not be modified or amended except with the written consent of all Partners.

5.G. SEVERABILITY. If any part of this Agreement is void or otherwise invalid and hence unenforceable, such invalid or void portion shall be deemed to be separate and severable from the other portions of this Agreement, and the other portions shall be given full force and effect as though said void and invalid portions or provisions had never been part of the Agreement.

5.H. PARAGRAPH HEADINGS. The heading of each paragraph of this Agreement is solely for convenience and is not a part of this Agreement and is not intended to govern, limit or aid in the construction of any term or provision of this Agreement.


CHAPTER 11

THE LIMITED LIABILITY COMPANY

I. DEFINITION

The most recent development in business law is the creation of the Limited Liability Company (LLC). The first LLC was created in the 1970's. For many years LLC's were not popular because the tax laws subjected them to more taxation than either a corporation or a limited partnership. In 1977, the first LLC was created in Wyoming for an oil company. The company was granted a private tax ruling stating that it would be treated as a partnership. In 1980, the U. S. Treasury issued proposed regulations that stated an LLC would be taxed as a corporation because its members did not have a partner's liability for the company's debts. In 1988, the Internal Revenue Service finally issued Revenue Ruling 88-76, 19882 CB 360, stating that an LLC could be taxed as a partnership. This revenue ruling calmed concerns about forming LLC's. As a result, the number of states permitting LLC's has increased dramatically.

An LLC is a cross between a corporation and a partnership. The characteristics that are shared with a corporation or a partnership are:

1. It bestows limited liability on its members just as a corporation does on its shareholders and a limited partnership does on its limited partners.

2. It can provide for the free transferability of its membership interests the same as a corporation or partnership.

3. It can provide for continuity of life after the death, resignation, expulsion or bankruptcy of a member the same as a corporation or a partnership.

In addition, an LLC may give full management and control to just a few managing members, which is the same treatment that is available in a partnership and similar to that of the board of directors of a corporation.

The following, however, are the major differences between LLC's and corporations or partnerships:

1. Unlike a corporation, which can have perpetual existence, some states limit the life of LLC for a maximum stated period of time (30 years in such states) before it is terminated by operation of law. Most states, however, permit an LLC to have perpetual existence.

2. Unlike the partners of a general partnership, the members of the LLC are not personally liable for the debts of the company, which is the same basic treatment as that of shareholders of a corporation or limited partners of a limited partnership.

3. Unlike a corporation, the company does not have the corporate restrictions on financing. Example: The company does not need to create a special surplus account for distributions.

4. Unlike a corporation, in the majority of states, absent an agreement among the members to the contrary, profits and losses of an LLC are allocated in accordance with each member's percentage of capital contributions. A few states have adopted the per capita partnership rule: if there is no agreement on decision, profits and losses will be allocated equally among members. Either method is different from that of a corporation. Division of corporate profits and losses must be based upon the number of shares that a shareholder owns in the corporation.

These characteristics are important. If an LLC has any three of them (as discussed below), it will be taxed as a corporation. Such taxation would be detrimental to members so care must be taken in deciding which common characteristics the company should share with a corporation.

The main advantage of an LLC is the limited liability that it provides its owners, who are called members. In an LLC, the most that its members can lose in a lawsuit against the company are the assets they contributed to the LLC. The limitation of liability would naturally not extend to any personal guarantees of company debts by a member. If a member personally guarantees a company loan of $100,000, the member is personally liable for the repayment. The member's liability arises not because the person is a member of the company but because the member guaranteed that he personally would repay the loan. It is immaterial that the money may have gone directly to the company. The limited liability for members is quite different from that of a general partnership where the partners are totally liable for all debts of the business. The creditors of a general partnership can seek and attach every dollar and piece of property that a partner owns in order to settle a judgement against the partnership. Such personal attachment to satisfy company debts cannot be taken against the assets of a member. People either incorporate or form an LLC to eliminate this unlimited business liability exposure. Few people will invest in a business that risks everything they have or will earn.

LLC's are relatively new and has taken time for them to catch. Even so, 48 states and the District of Columbia now permit them to be formed or recognize them. Only Hawaii and Vermont have as yet to join the majority, although there are bills before their legislatures to enact a LLC Act. It is expected that soon these states will also enact a LLC Act.

The fact that some states have yet not decided to permit the existence of LLC's causes a degree of concern for any foreign LLC that wishes to do business in a state that does not permit the formation of LLC's. Such a state could treat a foreign LLC in one of two ways:

1. It could grant full force and credit to the company and permit it to do business in the state in its limited liability form in accordance with the terms of its operating agreement. Hence, members would retain their limited liability for all company debts incurred in the state (absent personal guarantees).

2. It could treat any LLC doing business in the state as a general partnership and disregard the terms of the operating agreement where they contradict existing state law.

It is commonly felt among corporate and tax attorneys that most of the four states that do not permit their citizens to do business as an LLC will permit foreign citizens to do so. An LLC that is considering doing business in one of these three states should consult with both a corporate and a tax attorney to determine how that state would treat the company. It may well be that by the time the company wishes to do business in Hawaii or Vermont, the state may have, by then, adopted a LLC Act which settles the issue.

An LLC is considered to be separate and apart from all of the people who own, control and operate it. An LLC holds most of the rights of a legal person. An LLC is able to validly execute contracts, incur debts, hold title to both real and personal property and pay taxes. The attractiveness of LLC's is that they are held to be separate legal entities from owners, the members, which gives them unique advantages over both corporations and partnerships.

II. FORMATION

A. General

An LLC is a statutory creation. It can only be formed by strict compliance with the state law under which it is being created. An LLC just as with a corporation or a limited partnership requires a public filing of its formation documents. The filing of the articles of organization is required:

1. To give public notice that the company is formed in a way that bestows limited liability on the members for the debts of the company, and

2. To give the public notice where the company is located and who can act in its behalf.

Most states, with Texas being a major exception, require an LLC to have more than one owner. This is a different requirement from corporations, which are permitted to have only one shareholder. Several states permit one person to form an LLC, but the company is not given effect until it has more than one member. Such states include: Arizona, Colorado, Delaware, Illinois, Iowa, Kansas, Louisiana, Maryland, Minnesota, and Virginia. States that require a company to have two or more members also require two or more persons to sign the articles of organization or a subscription agreement prior to filing the articles. If a company falls below the minimum number of members for an LLC, it will not only be dissolved but it will lose the limited liability shield for its members to the extent necessary to dissolve the company. A company will be treated harshly if it continues to do business for an undue period after ceasing to have the minimum number of members. Those states that have the two member requirement use it to insure the availability of the partnership classification for tax purposes. A partnership requires, by definition, two or more persons engaged in business.

B. ARTICLES OF ORGANIZATION

Articles of organization is an application by a group of individuals or entities for a license to do business as an LLC. Once the articles are accepted and filed, the LLC is thereafter formed. Each state sets its own requirements for the contents of the articles, however, they all require:

1. A name for the company which does not mislead the public but does disclose that it is an LLC.

2. The address of the company's principal place of business.

3. The name and address of the company's registered agent in the state.

The requirement for listing both the resident agent and the registered office is also imposed upon a company which is incorporating. Listing of registered agent ensures that someone is authorized to receive legal process against the company. The resident agent is the person who is served any legal notices or summons and complaint on behalf of the company. A company maintains a resident agent in the state, or by default agrees to let the secretary of state serve as the resident agent. The registered office is the location where the company's authority is kept in the state. The registered office listed address gives notice to the world where any complaint against the company can be served.

Several states also require additional provisions to be included in the articles, such as:

1. How capital contributions will be made to the company.

2. Whether the company will be treated as a corporation or partnership for tax purposes.

3. Name and address of each organizer.

4. Whether all the members or a centralized management will manage the company.

The states of Colorado, Florida, Minnesota, Nevada, West Virginia and Wyoming require the articles to state if the company will continue in effect upon the death, bankruptcy or withdrawal of a member.

This book attempts to provide a general set of articles sufficient for most states and has provided specific articles when necessary. The reader should, nonetheless, familiarize himself with the particular LLC law of the state where the LLC will be formed. There are possibly current changes not reflected in this text. The provisions contained in the articles of organization for an LLC can only be altered or changed by the filing of an amendment to the articles. Members frequently place important management provisions in the articles because it is difficult to amend them. The articles contained in this book are all that are needed to meet minimum requirements under state law. In practice, the entire operating agreement or any of its provisions can be included in the articles. Remember, once something is listed in the articles, it can only be changed by filing an amendment.

Before the articles are filed they must be approved and adopted. The person who will file the articles calls a meeting of potential members where they decide what provisions will be contained in the articles. They also decide another important detail: whether all the members or a centralized panel of selected managers will manage the business. Once the articles are adopted, they must be signed either by all the selected managing members, or by all of the members (if no managing members are selected. Usually, the operating agreement for the company is also created and adopted at this meeting.

C. OPERATING AGREEMENTS

After the LLC files its articles, it exists on paper; it does not exist at law (de jure) until membership certificates are actually issued. It is the fact that the company has outstanding membership certificates in the hands of members that is the defining characteristic behind the existence of an LLC. Similarly, a corporation is not deemed to be in effect until it has sold and issued stock. Following the filing of the articles, the potential members of the LLC meet to purchase their membership certificates and adopt the operating agreement for the business. After the membership certificates have been issued, the company is fully formed.

Operating agreements are the rules for the general day-to-day management and operation of the LLC. Contained in the operating agreement are the terms of the company concerning:

1. Capitalization of the business,

2. Distributions made from the business,

3. Admission and withdrawal of members,

4. Management of the business,

5. Fiduciary duties owed to and by the members, and

6. Dissolution of the company.

The operating agreement is adopted by the members and thereafter can be amended only by a majority vote of the members. An operating agreement is an attempt to resolve the many areas of potential conflict within an LLC and to delegate duties and assign responsibilities.

**** end of sample view of chapter ****


The most important change in partnership law since the creation of the limited partnership is occurring now. A few form of partnership has been enacted by some states called the REGISTERED LIMITED LIABILITY PARTNERSHIP or just the LIMITED LIABILITY PARTNERSHIP (LLP). The limited liability partnership is a cross between the two existing types of partnerships: the general partnership and the limited partnership. On the whole, a LLP is the treated the same as a general partnership except for the fact that the LLP provides a degree of protection to the partners for the liabilities of the partnership. A LLP must, the same as any other type of partnership, be composed of two or more persons, trusts, or companies who have joined together to engage in a business for profit.

The driving force behind the enactment of LLP Acts is that professionals are permitted to practice their profession through the use of the LLP. As discussed in the chapter, LIMITED LIABILITY COMPANIES some states, most notably California, does not permit professionals to do business through the use of a limited liability company, LLC. In such states, professionals are limited to doing business in a corporate form, as either a regular corporation or subchapter S to limit their liability for the debts of the business. In order to provide professionals to get together and conduct their profession with some degree of limited liability for professionals working together, some states have enacted limited liability partnership acts. California is a state that does not permit professionals to operate through a LLC and instead adopted in October 1995, one year after the enactment of its LLC Act, a LLP Act. Other states which permit LLP's are Delaware, Minnesota, New York, New Mexico, Texas along with the District of Columbia. More states may be adopt such acts in the future. As of January 1996, 46 states along with the District of Columbia have enactment limited liability company acts. A LIMITED LIABILITY COMPANY OFFERS THE OWNERS (MEMBERS) SAME DEGREE OF FREEDOM AND OPERATION AS AN LLP ALONG WITH EVEN GREATER PROTECTION FOR LIABILITY FOR THE BUSINESS'S DEBTS. Usually, if a person can do business in either the LLC or the LLP form, the LLC form is better. As stated above, however, not all states permit their professionals to do business in the LLC business form. Therefore, in such states, the LLP is the only alternative to a forming a corporation if it is available in the person's state

STATUS OF THE PARTNER

The LLP is for most purposes the same as a general partnership. All of the discussions previously,in this books, regarding a general partnership except for the personal liability of the partners applies to the LLP. A partner of a LLP is a general partner not a limited partner. One of the major differences between the LLP and a general partnership is that the LLP is governed and managed by a written partnership agreement whereas the general partnership is not required to have a written partnership agreement.

As with a general partnership or limited partnership, the partners are the owners of the partnership in accordance to the terms and conditions set forth in the partnership agreement. As with any partnership, the partners are responsible for the management of the partnership either directly or through management which they elect or appoint. The partnership agreement will govern, when stated, those disputes that normally arise during the normal course of business. When the partnership agreement does not cover such instances, the normal business disputes or matters are handled by the majority vote of partners. When the disputes,in questions, are outside the normal course of business, the dispute can only be resolved by the unanimous vote of the partners, RUPA section 401(J).

One of the common concerns that arise in the creation of a partnership,be it a general partnership, limited partnership or LLP, is how the partnership can be capitalized. Every business needs money to operate and a partnership is no different. The question is, however, how the partnership will get its money and what would happen if the company fails. Partnerships almost always have to rely on capital contributed by their partners. The issue is, then, whether the capital will be treated as a loan or the purchase of an equity interest. Loans have to be repaid but do not entitle the lender to an ownership interest in the partnership. Whereas a contribution to equity is not repaid but does purchase a percentage of the partnership. This issue is important if the partnership fails and there is not enough cash to return the capital to the partners after the payments of the partnership debts. The law is settled on this point it is in practice that difficulties arise. Any partner, even for a LLP, can lend money to the partnership and transact business with it in accordance with state law. On dissolution of the partnership, the partners stand on the same footing as regular creditors to the extent of their loans,equity interest remain separate. The treatment of loans by partners to the partnership is the same for LLP's as with other types of partnership as discussed in the earlier termination chapter.

A PARTNER'S LIMITED LIABILITY FOR THE PARTNERSHIP DEBTS

In a general partnership, the partners are jointly and severally liable for the debts of the partnership. In a limited partnership, the general partner is joint and severally liable for all of the debts of the partnership while the limited partners are not liable for any of those debts. The difference there is that the limited partners have no management and control of the limited partnership. If the limited partners subsequently participate in the management of the partnership, they will lose their limited liability protection and become liable for all of the debts of the partnership the same as a general partner.

Since the LLP is a cross between the general partnership and limited partnership, so too is the liability of its partners for the LLP's debts. Generally, partners are jointly and severally liable for the debts of the LLP except that they are specifically held not to be liable, neither directly or indirectly, for the negligence, wrongful acts or misconduct of the other partners. This generally means that if one partner injured another person in the course of the partnership's business, that partner might be personally liable for the damages along with the assets of the partnership but not the other partners. In contrast, if an employee injures a person while in the course of the partnership business, both the partnership and the partners themselves are usually liable for the damages. However, state law is controlling and not all states with LLP Acts treat the issue of liability the same. Some states, for example, extend a partner's limited liability to acts committed by agents and employees while both New York and Minnesota go even further and limit all partner liabilities for all obligations of the LLP. Partners of a LLP still remain liable for their own wrongful misconduct. In addition, most states having LLPs hold partners liable for the misconduct of persons under partners management, control or direction which is rather straight forward.

**** end of sample view of chapter ****


Alabama Code 1975, Sections 10-8-1 through 10-8-103

Alaska AS 32.05.010 through 32.05.430

Arizona A.R.S. Sections 29-201 through 29-244

Arkansas A.C.A. Sections 4-42-101 through 4-22-702

California Corp. Code Section 15001 through 15045

Colorado C.R.S. Sections 7-60-101 through 7-60-143

Connecticut C.G.S.A. Sections 34-39 through 34-82

Delaware 6 Del.C. Sections 1501-1543

Dist. Columbia D.C. Code 1981 Sections 41-101 through 41-142

Florida F.S.A. Sections 620.6 through 620.77

Georgia O.C.G.A. Sections 14-8-1 through 14-8-43

Hawaii HRS Sections 425-101 through 425-143

Idaho I.C. Sections 53-302 through 53-343

Illinois S.H.A. ch 106-1/2, 1-43

Indiana A.I.C. Sections 23-4-1 through 23-4-1-43

Iowa I.C.A. Sections 544.1 through 544.43

Kansas K.S.A. Sections 56-301 through 56-343

Kentucky KRS 363.150 through 362-360

Maine 31 M.R.S.A. Sections 281 through 323

Maryland Corp and Asso. Sections 9-101 through 9-703

Massachusetts M.G.L.A. c 108A, Sections 1 through 44

Michigan M.C.L.A. Sections 449.1 through 449.43

Minnesota M.S.A. Sections 323.01 through 323.43

Mississippi Code 1972 Sections 79-12-1 through 79-12-85

Missouri V.A.M.S. Sections 358-010 through 358-430

Montana MCA Sections 35-10-101 through 35-10-615

Nebraska R.R.S. 1943 Sections 67-301 through 67-343

Nevada N.R.S. Sections 87.010 through 87.430

New Hampshire RSA Sections 304A:1 through 304A:43

New Jersey N.J.S.A. Sections 42:1-1 through 42:1-43

New Mexico NMSA 1978 Sections 54-1-1 through 54-1-43

New York Partnership Law Sections 1 through 74

North Carolina G.S. Sections 59-31 through 59-73

North Dakota NDCC Sections 45-05-01 through 45-09-15

Ohio R.C. Sections 1775.01 through 1775.42

Oklahoma 54 Ok Sections 201-243

Oregon ORS Sections 68.010 through 68.650

Pennsylvania 15 PA C.S.A. Sections 8301 through 8365

Rhode Island General Law Sections 7-12-12 through 7-12-55

South Carolina Code 1976 Sections 33-41-10 through 33-41-1090

South Dakota SDCL Sections 61-1-101 through 61-1-142

Texas Civ St. art. 6132b

Utah U.C.A. 1953, Sections 48-1-1 through 48-1-40

Vermont 11 V.S.A.Sections 1121 through 1335

Virginia Code 1950 Sections 50-1 through 50-43

Washington RCWA Sections 25.04.010 through 47-8A-45

W. Virginia Code, Sections 47-8A-1 through 47-8A-45

Wisconsin W.S.A. Sections 178.01 through 178.39

Wyoming W.S. 1977, Sec. 17-13-101 through 17-13-615

LOUISIANA has not adopted the Uniform Partnership Act. Its partnership law is Sections 2801 through 2848.

STATE CITATIONS FOR UNIFORM LIMITED PARTNERSHIP ACTS

Alabama Code 1975, Sections 10-9A-1 through 10-9A-203

Alaska Title 32, Sections 32.11.10 through 32.11.990

Arizona A.R.S. Sections 29-301 through 29-366

Arkansas A.C.A. Sections 4-43-101 through 4-43-1109

California Corp. Code Sections 15611 through 15723

Colorado C.R.S. Sections 7-62-101 through 7-62-1201

Connecticut C.G.S.A. Sections 34-4 through 34-3383g

Delaware 6 Del.C. Sections 17-101 through 17-1107

Dist. Columbia D.C.Code 1981 Sections 41-401 thru 41-499.25

Florida F.S.A. Sections 620.101 through 620.186

Georgia O.C.G.A. Sections 14-9-100 through 14-9-1204

Hawaii Sections 4256D-101 through 425D-1104

Idaho I.C. Sections 53-201 through 53-267

Illinois S.H.A. ch 106-1/2, 151-1 through 162.5

Indiana A.I.C. Sections 23-16-1 through 23-16-12-6

Iowa I.A.C. Sections 545.101 through 545.1105

Kansas K.S.A. Sections 56-1a01 through 56-1a609

Kentucky K.R.S. Sections 362.401 through 363.527

Maine 31 M.R.S.A. Sections 401 through 528

Maryland Corp and Asso. Sections 10-101 through 10-1105

Massachusetts M.G.L.A. c 109, Sections 1 through 62

Michigan M.C.L.A. Sections 449.1101 through 449.2108

Minnesota M.S.A. Sections 322A.01 through 322A.87

Mississippi Code 1972 Sections 79-14-1 through 79-14-1107

Missouri V.A.M.S. Sections 359-011 through 359-691

Montana MCA Sections 35-12-501 through 35-12-1404

Nebraska R.R.S. 1943 Sections 67-233 through 67-297

Nevada N.R.S. Sections 88.315 through 88.645

New Hampshire RSA Sections 304B:1 through 304B:64

New Jersey N.J.S.A. Sections 42:2A-1 through 42:2A-73

New Mexico NMSA 1978 Sections 54-2-1 through 54-2-63

New York Sections 121-101 through 121-1300

North Carolina G.S. Sections 59-101 through 59-1106

North Dakota NDCC Sections 45-10-01 through 45-10-65

Ohio R.C. Sections 1782.01 through 1782.62

Oklahoma 54 OK Sections 301-365

Oregon ORS Sections 70.005 through 70.490

Pennsylvania 15 PA C.S.A. Sections 8501 through 8594

Rhode Island General Law Sections 7-13-1 through 7-13-65

South Carolina Code 1976 Sections 33-42-10 through 33-42-2040

South Dakota SCDL Sections 48-7-101 through 48-7-1105

Tennessee T.C.A. Sections 61-2-101 through 61-2-1208

Texas Civ St. art. 6132a-1

Utah U.C.A. 1953, 48-2a-101 through 48-2a-1107

Vermont Title 11, Sections 1391 through 1419

Virginia Code 1950 Sections 50-73-1 through 50-73-77

Washington RCWA Sections 25.10.010 through 25.10.690

W. Virginia Code, Sections 47-9-1 through 47-9-63

Wisconsin W.S.A. Sections 179.01 through 179.94

Wyoming W.S. 1977, Sec. 17-14-201 through 17-14-1104

Louisiana has not adopted either the Uniform Limited Partnership or the Revised Uniform Limited Partnership Act. Its limited partnership law is covered in Sections 2838 through 2848.






INDEX

Common Questions 3

Addition of New Partners 14,43

Division of Profits and Losses 12,42

Fictitious Name Statement 28,52

Issues on Formation 8

Joint Venture Definition 5

Liability for Partnership Debts 6,37,61

Limited Partnership

Definition 17

General Partner 18

Limited Partner 19,20

Authority to Act 39

Requirements for Formation 18

Registration Statement 22

Termination 21

Ownership of Partnership Property 13,63

Partners, Expulsion of 16,45

Partnership Interest

Acquisition 15

Assignability 16

Partnership Definition 4

Security Registration 25,27

Taxation 24,32,35,54

Employee Withholding 28,53

Federal I.D. Number 29,52

Partners 5

State Taxes 31

Tax year 30

Unemployment Tax 30

Tax Effect on Contributed Property 14

Tax Differences: Partnership vs. S Corporation 50

Term of Partnership 9

Termination 9,46

Proceeds on Distribution 12

Fiduciary Duties of all Partners 38

General Partners Authority to Act 39

Joint Venture

Agreement for Joint Venture 113

Definition 5

Dissolution 107

Formation 104

Joint Venturers 106

Security Treatment 110

Tax Treatment 109

Term 105

Limited Liability Companies 305

Articles of Organization 310

DEbts of Prior Business 323

Dissolution 324

Formation 309

Operating Agreements 313

Lawsuits 327

Members 315

Membership Certificates 318

Security Laws 319

Taxation 321

Limited Liability Partnerships 329

Conversion of General Partnership to LLP 335

Liability for Partnership Debts 332

Operating in Other States 336

Special Requirements 334

Status of Partners 320

Limited Partnership 142

Agreement for Limited Partnership 165

Certificate of Limited Partnership 159

Definition 145

Fiduciary Duty of Partners 38,142

General Partner 17,148

Limited Partners 19,151,156

Partnership Property 13,62,147

Registration Statement 22,154

Taxation 35,157

Termination 21,64,153

Partner Agreements 240

Buy-Sell Agreement 242

Life Insurance Agreement 257

Medical Plan 248

Partnership

Addition of New Partners 14,43

Agreement for General PartnershiP 69

Consideration in Formation 8,40

Contribution of Property 50,61

Contribution of Services 44

Definition 4,33

Expulsion of Partners 16,45

Family PartnershipS 63

Fictitious Name 28,52

Formation 59

Nature 58

Partners Liability for Partnership Debts 6,37,61

Partnership Property 43,62

Professional Partnerships 63

Profits and Losses 12,42

Rights of Partners 42

S Corporation Comparison 24,50

Tax Treatment 35

Federal I.D. Number 52

State Taxes 31,56

Tax Return 31,54

Withholding 28,53,245

Unemployment Tax 56,246

Termination 46,65

Transferability of Interest 45

Post Formation 266

Bulk Sales Act 271

Business Licenses 265

Employee Identification Number 265

Estimated Tax 266

Fictitious Name Filing 271

Personal Property Taxes 267

Sales and Use Taxes 268

State License 264

Workers Compensation Insurance 270

Tax Consideration 281

Activity Not for Profit 287

Canceling a Debt 287

Capital Gains, Losses and Carryover 287

Casualty Losses 291

Depreciation 281

Like-Kind Exchanges 291

Partnership Interest 281

Partnership Property 13, 280

Passive Activity Losses 282

Rental Income 282

Taxation of Partnership 24,282

Theft Losses 292

Termination 294

Procedure 296

Agreement for Termination 300

Salaries to Partners 66

Security Laws 206

Exemptions under Federal Law 209

Intrastate Exemption 210

Regulation D 211

Exemptions under State Law 212

General Partnership Interests 206

Limited Partnership Interests 209

Security Registration 66,93,207

Subscription Certificate 235

Uniform Limited Partnership Act 144

Uniform Partnership Act 33