Conference Paper Abstracts

Legal Problems Associated with the Identification of Partnerships - David Milman, Professor of Law, University of Lancaster, UK

This paper will review recent case law in which the issue of identification of an alleged partnership has arisen.  The author will review the governing principles and will discuss whether any clarity can be brought to bear  in an area of legal uncertainty.

 

The Moral Hazard of Limited Liability? An Empirical Study of Scottish Legal LLPs - Jonathan Hardman, Honorary Lecturer, University of Glasgow, UK and Solicitor, Dickson Minto, Edinburgh

In recent years a large number of Scottish law firms have converted from unincorporated partnerships to limited liability partnerships. Under Scots law, both unincorporated partnerships and limited liability partnerships enjoy separate legal personality, making them a rarity. Following their conversion, a large number of them have either entered insolvency process or been the junior partner in a merger that has resulted in their separate identity being lost. Could this be as a result of the introduction of limited liability? If so, does the example of Scottish limited liability partnerships provide empirical evidence that utilising a business vehicle with limited liability encourages the vehicle in question to export more risks to the creditors in a manner which subsequently resulted in the collapse of such law firms? This paper reviews the law and economics theory of limited liability and the publicly available accounts of such limited liability partnerships to establish whether there is any empirical evidence that the adoption of a limited liability form encouraged the partnerships in question to increase the risk to their legal forms.  In examining this, it explores a broader question: does limited liability encourage the owners of businesses to externalise risk to the creditors?

 

Why can’t a partner be an employee? - Geoffrey Morse, Professor of Law, University of Birmingham, UK

In Clyde & Co v Bates Van Winklehof four members of the Supreme Court suggested that the issue as to whether a partner could also be an employee of the partnership (sic) could be open to reconsideration, despite a century of jurisprudence to the effect that the two capacities were mutually exclusive. This paper examines this question. It will first consider the considerable importance of the context in which the question arose in the case (whether a member of an LLP could be a “worker” entitled to protection for whistleblowing).

The paper will then consider why the two capacities have consistently been regarded as mutually exclusive in both case law and literature and by the Law Commissions, due to the unique nature of the partnership relationship. In that regard it will consider the equitable nature/good faith basis for partnership, the fact that partners are co-venturers carrying on a business in common and the way in which financial rewards paid to partners and their financial interests are treated.

Then the paper will consider whether any of the three factors identified by Lady Hale in particular require reconsideration, and by implication reversal, of the established position. These are (i) the effect of section 82 of the Law of Property Act 1925, (ii) the fact that a partner can be the landlord of a lease held as a partnership asset so in effect being both landlord and tenant; and (iii) the fact that a partner can lend money to the firm, so being both creditor and debtor in respect of it.

It will be argued that none of those three factors which relate mainly to capacity should affect the status quo and suggest that the Supreme Court also failed to realise the importance of the fact that in England a partnership has no legal personality and that an LLP is not a modified form of partnership; the real villain in the piece being section 4(4) of the LLP Act 2000 which gave rise to the confusion in the case.

Finally, the paper will consider a few of the interesting consequences if the status quo were to be reversed by the Supreme Court in the future.

 

A comparative perspective: the validity of protecting directors as employees - Jason Ellis, Senior Lecturer in law, Nottingham Trent University

Through the process of incorporation, entrepreneurs can grant themselves employment status by acting as directors of the companies they create. In turn, “self-employed” persons are able to stand in line with those they employ to receive similar rights and benefits accorded to employees in general. This can be particularly relevant when claiming against the National Insurance Fund on the insolvency of a company. This paper seeks to consider the validity of a regime which allows this and also asks if the rights which directors enjoy should not be curtailed.

 

Contribution-Default Remedies of LLCs and Partnerships - Brad Borden, Professor of Law, Brooklyn Law School, USA

Members of partnerships and limited liability companies (LLCs) agree upon the extent to which they will be liable for initial and additional contributions. They can also establish remedies that will apply when a member fails to satisfy a contribution obligation. The stakes for contribution provisions and default remedies are high. First, contribution provisions determine the extent to which members are obligated to contribute capital to an entity. Those obligations can affect the extent to which an entity’s liability shield will protect members. Second, contributions typically affect members’ legal interests in entities. Those interests typically determine members’ voting power and determine compliance with tax-rule thresholds, such as those defining related-party classification and domestic-foreign-entity status. Third, contributions can affect members’ financial interests by altering the timing and amounts of distributions that members will receive.

A member’s failure to satisfy a contribution obligation can alter the intended results of contributions. To help ensure that members fulfill contribution obligations, partnership and LLC agreements often include contribution-default remedies that apply when a member fails to satisfy a contribution obligation. Contribution-default remedies fall into two general categories (with some potential overlap): (1) those intended to prevent disruption of membership interests, and (2) those intended to disincentivize default. Remedies that prevent disruption of membership interests typically take the form of constructive member-to-member loans, under which the member who covers a defaulting member’s contribution is deemed to lend proceeds to the defaulting member, following which the defaulting member is deemed to contribute the proceeds to the entity. The deemed loan and contribution preserve the members’ interests in the entity but may affect the members’ returns on investment.

If preserving initial ownership interests is not a concern, contribution-default remedies often dilute the defaulting member’s interests and increase the contributing member’s interests in the entity. These types of remedies may provide for natural dilution, accounting only for the

monetary effect that disproportionate contributions have on the members’ interests, or punitive dilution, reducing the non-contributing member’s interest by more than the monetary effect of the disproportionate contribution. Punitive dilutions should result in a deemed transfer of interests for tax purposes and trigger tax law’s interest-transaction rules. Disincentivizing-contribution-default remedies can also include crossover member-to-member loans, which treat the amount of a contribution that covers the non-contributing member’s obligation as a loan to the non-contributing member that, after a designated period of time, can cross over to a contribution by the contributing member. They can also include member-to-entity loans, which may have conversion mechanisms that allow the loan to convert to a contribution, after a designated period of time.

Freedom to contract allows members to choose any contribution-default remedy, so the range of remedies can be significant, and the quality of adopted remedy provisions can vary significantly. This paper presents examples of various general types of contribution-default remedies, uses financial analysis to illustrate the effects of remedies, and shows how ambiguities result from using terms and concepts imprecisely. Financial analyses also illustrate how remedies can alter both the defaulting and contributing members’ investment returns, change a share of residual equity into a fixed return, and affect the order of payouts. Finally, the paper considers tax implications of the various types contribution-default remedies.

 

New Partnership Structures: Distribution Flexibility and Tax Flow-Through - Brett Freudenberg, Associate Professor of Law, Griffith University, Australia

A number of countries around the world have introduced new partnership structures which utilise company characteristics, such as liability protection for members and separate legal entity status. This includes limited liability partnerships (LLPs) in the United Kingdom (UK); and limited liability companies (LLCs) in the United States of America (USA). These new partnership structures generally have the characteristic of tax flow-through, with members assessed directly on the income and/or losses.

There continues to be calls in Australia for the introduction of such a new business structure with tax flow-through. Previously, it has been argued that one of the inhibitors for the introduction of a new tax flow-through business structure in Australia is the presence of Australia’s imputation system for corporations, as well as the popularity of discretionary trusts for business and investment. Part of the reason for the popularity of discretionary trusts in Australia is their flexibility of distributions. It is this flexibility that provides great tax planning opportunities, as well as to provide for family members.

It is argued that if a tax flow-through business structure were to be introduced in Australia that for it to be viable alternative to discretionary trusts then the ‘flexibility’ of distributions is a key attribute required by it. If this is the case then such models as the LLP and the LLC appear to be the favoured, given that they can provide for flexibility in distributions to members. In comparison, other flow-through business structures, such as USA’s S Corporation only allows for one class of membership interest, which greatly reduces its flexibility.

However, this flexibility with distributions can have adverse implications. For example, LLCs and their members are subject to greater (and potentially more complex rules) when it comes to measuring cost basis of their membership interest; which then influences members ability to utilise allocated losses, and the tax treatment of distributions. The flexibility of distributions for LLPs in the UK has also raised concerns with the introduction of integrity measures. In comparison, the S Corporation with only one class of membership interest has fewer integrity rules when it comes to allocated amounts.

This paper will critically assess how the flexibility of distributions by these new partnerships structures affects the tax rules that apply to the allocations and distributions from them to their members. It will be argued that flexibility in distributions appears to be a key characteristic demanded for business structures both for commercial and tax reasons. However, investors need to be cognitive of the inherent complexity and cost that this flexibility may entail. It is this factor that needs to be acknowledged and addressed if Australia is to proceed with a new partnership structure.

The structure of this paper is as follows. Firstly the concept of new partnership structures are discussed, as well as their utilisation in the USA and the UK; and calls for their introduction in Australia. This is then followed by a description of why distribution flexibility is a desired feature for business structures and how this is facilitated with Australia’s discretionary trusts, and the LLPs and LLCs. The next part of the paper will then critically analysis the tax rules that apply to LLCs due to their allocation and distribution flexibility, which will include comparisons to the rules for S Corporations. This analysis will consider the relevant statute, available case law and Inland Revenue rulings. This is followed by recommendations and limitations, before the paper concludes. It will be argued that for any new partnership structure to be introduced in Australia that provides flexibility in distribution then this will necessarily involve complex integrity rules. It needs to be carefully considered whether such increased complexity is a desired feature to add the tax system.

 

Legal problems in Italian partnerships – Marco Speranzin, Professor of Law, University of Padua, Italy

Topics to be analysed:

  • General features of Italian partnerships and different partnerships structures under Italian law
  • Amendments of the Articles of Association
  • Transfer of interests in the partnership
  • Seizure of partnership’s interest
  • Management of partnerships
  • Legal problems connected with the insolvency of partnerships and partners

 

Modernising Dutch partnership law: it’s time! - Iris Wuisman, Professor of Law, University of Leiden, Netherlands

Dutch statutory law on partnerships dates back to 1838 and is incomplete, inconsistent and unclear. There have been two serious attempts to introduce new legislation, but neither of them made it to the Dutch Civil Code as a final Act. Although it was expected that new partnership law was going to be adopted in 2011 as the parliamentary legislative trajectory was almost successfully finished, the adoption was abruptly stopped after VNO-NCW and MKB Nederland (national organizations that represent Dutch enterprises of all sizes) claimed that the new legislation would cause severe increase of costs for entrepreneurs. In their view, the proposed Act would lead to more problems than it would solve and the administrative burden would make it unfit for its purpose. Eventually, the Act was rejected by the First Chamber of the States General. As a consequence, the Dutch Supreme Court has been forced to express its opinion on many partnership law issues in the meantime, especially on liability issues. In 2012, a voluntary working group of practitioners and legal experts on Dutch partnerships (Werkgroep Personenvennootschappen) was established in order to design a new draft proposal that would take away bottlenecks, fill gaps and modernise and innovate the old rules. After 4 years of hard work and discussions the working group presented its first draft to the legal community. The group was open for discussions and collected suggestions for improvements. After reviewing the feedback, the working group made amendments to the proposal and presented it to the minister of Security and Justice in the fall of 2016. It is expected that the proposal will be carefully examined when a new draft bill will be written. Three elements of the proposal that are quite unique and innovative compared to the old rules are (1) the possibility of having legal personality, (2) a restricted possibility to apply a limited liability rule and (3) the availability of restructuring options. This paper will set out how the working group has designed the rules relating to these three elements and shed our light on the question whether these rules are adequate solutions in their current form or whether they may (still) need some revision. 

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