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Iniatially Published in The Quibbler, Official Publication of the Santa Barbara County Bar Association (December, 1996). © 1996 Dibby Allan Green
Contents
There has been surprisingly little publicity concerning California's adoption of the Uniform Partnership Act of 1994, AB 583, chaptered September 29, 1996, at 1003, effective January 1, 1997.
AB 583 was modeled on the Revised Uniform Partnership Act adopted by the National Conference of Commissioners of Uniform State Laws in 1992, and again revised in 1993 and 1994. As of July 1996, RUPA has been adopted by 12 other states.
The California legislation was initially introduced in 1994, but several controversies arose among the Business Law Section of the State Bar, legal scholars, the Department of Corporations, the Secretary of State, and the Consumer Attorneys of California. The controversies were resolved with the modifications introduced with the 1995-96 AB 583 legislation, which had the support of the business Law Section. This legislation adds new chapter 5 (commencing with §16100) to Title 2 of the California Corporations Code. [All section references below are to the new AB 583 revisions to the Corporations Code, unless otherwise indicated.]
Note that AB 583 does not affect the California Revised Limited Partnership Act (CRLPA) (Corporations Code §§15611, et seq.) Except to modify present §15722 to provide that in any case not provided under CRLPA, "limited partnerships shall be governed in the same manner as general partnerships would be governed" by the California Uniform Partnership Act of 1994. Thus, the provisions of the Act will affect both general and limited partnerships, and §15722 appears to include the allowance of an existing limited partnership to make an election to be governed by the new Act insofar as the new California Uniform Partnership Act of 1994 applies to a limited partnership and is not replaced by CRLPA.
With only a few limitations (some of which are discussed below), partners are free to arrange their own internal affairs. The statute provides default provisions to the extent the partnership agreement does not provide otherwise. The statute provides default provisions to the extent the partnership agreement does not provide otherwise.
"The Act's default rules were drafted for a small, informal partnership, in which all of the partners are active and contribute both money and human capital. The Revised Uniform Act attempts to provide a body of default rules that are similar to those that would be crafted by partnership lawyers seeking to provide a commercially reasonable and efficient organizational structure."
[Larson, John W., "Florida's New Partnership Law: The Revised Uniform Partnership Act and Limited Liability Partnerships," 23 Florida State University Law Review 201 (1995). Click here for list of additional articles on Florida RUPA by Prof. Marilyn Blumberg Cane.]
Switch to Entity Theory
One of the most significant changes of the new law is that a partnership is to be considered an entity distinct from its partners. The Senate Judiciary Committee Analysis speaks of the "age long conflict in partnership law over the nature of the organization: Should a partnership be considered merely an aggregation of individuals or should it be regarded as an entity by itself." Current law defines a partnership as an aggregation of individuals. This theory approaches the partnership as a conglomerate of individuals and a mechanism through which the partners conduct business. It views each partner as having an undivided share of the partnership assets.
Under the new law, a partnership "is an entity distinct from its partners" (§16201). Under this approach, the partnership is treated as a separate legal entity that is completely removed from the individual partners of the partnership. Each of the partners has separate legal interests and the ownership of the partnership assets is in the entity, not the partners.
This shift means that as property is owned by the partnership entity, not by the partners individually (§16203), that a partner is not a coowner of partnership property (§16501), and thus, there is no longer a need to change title to partnership property every time there is a change in the partners. Property is deemed partnership property if title is in the name of the partnership or name of an individual designated as a partner. To clear up past confusion where indication of a partnership is not apparent, the legislation provides that property is presumed to be partnership property if purchased with partnership funds, but is presumed not to be partnershi property if not acquired with partnership assets, even if it is used for partnership purposes. (New §16204, which makes more clear the presumptions then present §15008.) (Also note §16302 regarding signature authority for transfer of partnership property -- any partner may sign unless otherwise limited by a filed and recorded Statement of Partnership Authority under §16303.)
Similarly, the entity theory means that a withdrawing partner cannot force an in-kind distribution, but can only be paid the value of the partnership interest (§16401(a), 16701). A partner, not being a coowner of partnership property, has no interest in partnership property which may be transferred either voluntarily or involuntarily (§16501), but the only transferable interest of a partner in the partnership is a personal property interest of the partner's share of the profits and losses, and a right to receive distributions (§16503). A transferee does not automatically have the rights to participate in the management or conduct of the partnership business (§§16503(a)(2), 16503(b), cf. §16401(i)).
This also affects dissolution of the partnership in that no longer does a withdrawing partner mean termination of the partnership (§16503(a)(1)) (which is presumed under current law, unless agreed to otherwise in writing — this being a significant problem for change in ownership property tax issues if there is no such writing). If a partnership for a definite term or particular undertaking continues after the expiration without an express agreement, the rights and duties of the parties remain similar to a "partnership at will," and the partners are presumed to have agreed that the partnership will continue (§16406). Separate provisions apply to a "dissociating partner" (§§16601-16705) than those which apply to a dissolving partnership (§16801-16807).
Litigation and Liability Issues
For the litigation counsel, note that this change to an "entity theory" will also affect how partnerships are named and described in judicial pleadings. The "entity approach" means that a partnership can be treated separate and distinct from the individual partners, that the partnership may sue and be sued in the partnership name (§16307), and that it is not necessary to name the partners individually in addition to naming the partnership.
On the other hand, a judgment against the partnership is not, by itself, a judgment against a partner (§16307(c)). Thus, a partner must be individually named in the suit and a judgment entered against the individual partner in order for the personal assets of the partner to be subject of a levy (§16307(c)), unless partnership assets have been exhausted (§16307(d)).
The nature of the partners' joint and several liability is modified. On the one hand, new §16306 continues joint and several liability for all partnership obligations (and not only for tort-type liabilities under present §15015). On the other hand, a requirement is imposed on creditors to first exhaust the partnership assets before levying against a partner to satisfy a judgment based on a claim against the partnership (§16307(d)). Exhaustion is not required in bankruptcy, by agreement, determination of a court, or where liability is imposed on the partner by law or contract independent of the existence of the partnership (§16307(d)). The new law does not affect an action or proceeding commenced or right accrued before January 1, 1997 (§16112).
The Board of Equalization is generally exempt from these provisions, but see specific sections for applicability as, in some instances, if a written partnership agreement stating that all assets will be held in the name of the partnership is furnished to the Board at the time of certain registrations, this will eliminate the Board's exemption (see Chapter law 1003 for various Revenue & Taxation Code provisions amended and newly added).
Fiduciary Duties and Obligations of Partners
One of the most controversial portions of the legislation has been the codification of duties and obligations of partners to the partnership and other partners.
A fiduciary duty of loyalty, including not appropriating partnership benefits, refraining from "self-dealing," and not to compete with the partnership in the conduct of its business (§§16404(b), 16603(b)(3)). These provisions are currently present under California case law.
A fiduciary duty of care (§§16404(c), 16603(b)(3)). This duty is new for California, but one which has been established by other state courts.
An obligation (not a fiduciary duty) of good faith and fair dealing (§16404(d)), also a new provision for California, and is not explicitly defined in the Act.
Partners' access to books and records and right to be furnished with information (§16403).
The law of agency still applies, each partner being an agent of the partnership for the purpose of its business (§16301).
The Senate Judiciary Committee Analysis (July 2, 1996) notes that as the "intricacies of fiduciary duty has mainly derived from common law," it is "difficult to say with certainty" if this legislation will have any significant impact on existing law. The Analysis states that the members of the Revised Uniform Partnership Act subcommittee reviewed a number of California cases which have dealt with the fiduciary duty of partners to determine whether any of the cases would have been decided differently if the Act had been applied. The subcommittee concluded that none of the cases would have been decided differently, and thus the new fiduciary duty section makes no substantive change from prior law. (See the Analysis for further discussion on case law and treatises pertaining to these duties; also Larson, supra.)
Larson (supra) indicates that RUPA is a compromise between (a) "contractarians" who argue for statutory restraint of judicial discretion of fiduciary responsibility, and that any default rules should be able to be waived by the parties in their entirety, and (b) more traditional commentators who urge a more complete statement of fiduciary principales and statutory recognition of the judicial role in review, emphasizing that a partnership is fundamentally relational and fiduciary in character, and not merely contractual. The compromise is reached by RUPA acknowledging the fiduciary nature of the partnership relationship by characterizing a partner's duties as "fiduciary," but then limiting the extent of those duties by providing that the only fiduciary duties a partner owes are the duty of loyalty and the duty of care (incorporated into the California statutes at §16404).
There are several restrictions to modification of these duties by a written partnership agreement (§16103(b)). A partnership may maintain an action against a partner, or a partner against the partnership or another partner, for breach of these duties and breach of the partnership agreement (§16405). (The statute of limitations for bringing an action is not altered from present law [§16405(c)].
Organizational Matters
Formation. A partnership may be formed without the specific intention to form a partnership. "Except as otherwise provided . . . the association of two or more persons to carry on as coowners a business for profit forms a partnership, whether or not the persons intend to form a partnership" (§16202). §1202(c) sets forth rules for determining whether a partnership is formed, and are similar to present §15007.
New Statement of Partnership Form. The new law provides for an optional filing of a Statement of Partnership with the Secretary of State (§16105) and recording a certified copy with the County Recorder. The form of this Statement of Partnership is not specified. Larson (supra) indicates that the drafters of the uniform act contemplated that the filing of partnership statements would be similar to UCC filings, in that they would be statewide filings, with the Secretary of State merely indexing the statements, and the responsibility for the accuracy of the statements and determination of its legal effect left entirely to the parties. [Update: However, this is not how the California Secretary of State is approaching the forms. See Follow-Up Article.]
§16303 provides for the optional filing of a "Statement of Partnership Authority" and recording a certified copy with the County Recorder. The contents specified for this form are similar to the present form for a statement of partnership for a general partnership, and include provisions for limitations on a partner's authority to act. On reading the California act, it is not clear whether the Statement of partnership under §16105 is the same document as a Statement of Partnership Authority under §16303, or a separate document. [Update: the California Secretary of State has combined them into one Form GP-1. See Follow-Up Article.] The Florida act prescribes a "partnership registration statement" which is separate from a "Statement of Partnership Authority" (Larson, supra).
The new statute prescribes a filing fee of $70 for the "Statement of Partnership" and a filing fee of $30 for other statements (§16331).
Under the new law, a Statement of Partnership which is only recorded in the county and not filed with the Secretary of State "does not have the effect provided for recorded statements in this chapter" (§16105(b)). Only filing with the Secretary of State and recording a certified copy has that effect. There is also a requirement to mail a copy of the Statement of Partnership to every nonfiling partner (§16105(b)).
Conversions and Mergers. There are also specific provisions for converting a partnership interest to another business form (e.g., a limited liability company) and for mergers (§§16901-16917). These provisions are drafted to conform to similar provisions of the California Revised Limited Partnership Act and Limited Liability Company Act.
LLPs. Provisions pertaining to limited liability partnerships are not part of the Revised Uniform Partnership Act adopted by the National Conference, but California is making its LLP law consistent with and incorporated into the new statutes. LLPs are now called "registered limited liability partnerships" unless they are "foreign limited liability partnerships" (§§16951, et seq., 16101(4), 16101(6)). The "LLP" designation may still be used, or may be replaced with "RLLP" (§16952).
The provisions pertaining to limitations on liability of a registered limited liability partnership is at §16306. There are some revisions to the LLP organizational provisions (see new Article 10, commencing at new §16951), and an LLP may elect to continue to be governed by current law until January 1, 1998, at which time all LLPs will be governed by the new law (§16955.5). There are not time limitations for making this election.
Two-Year Transition Period
AB 583 applies to all partnerships formed on or after January 1, 1997, but for existing partnerships, generally (there are exceptions) the current law applies until January 1, 1999, at which time the entire Chapter 1 (§§15001, et seq.) of Title 2 of the Corporations Code is repealed and the new law governs all partnerships (§16111(b)). Existing partnerships may optionally elect to be governed by the new law by partnership amendment (§1611(a)), but the election must be made by amending the partnership agreement prior to January 1, 1997, the effective date of the new law. (See above for the LLP's different one-year transition period and election.)
Very careful consideration will need to be made in determining whether to take advantage of this election opportunity before December 31, 1996. The election may be beneficial in order to take advantage of the new "exhaustion requirement" of the joint and several liability. For a limited partnership, pursuant to §15643 (California Revised Limited Partnership Act), it appears that such an election would serve to limit a general partner's liability exposure.
Note, however, the provisions of new §16111(c) which limits the application of the modified joint and several provisions to partnerships electing to be governed by the new law only to third parties who had done business with the partnership within one year preceding the partnership's election and only if the third party knows or has received a notification of the partnership's election. The new law also does not affect an action or proceeding commenced or right accrued before January 1, 1997 (§16112).
Another advantage of the new law is where a partnership does not have written provisions continuing the partnership upon death or withdrawal of a partner, for property tax purposes (so that a "change in ownership" causing reassessment of all property owned by the partnership does not occur) the partnership will definitely want to elect come under the new law.
On the other hand, all the ramifications of the "entity theory" verses the "aggregate theory" (such as the nature of the partner's ownership interest) will need to be evaluated in making such an election. There are some questions as to how the new provisions will affect valuation of a partnership interest, of which tax, estate planning, and family law attorneys might want to note. The only transferable interest of a partner in the partnership is the partner's share of the profits and losses, and the partner's right to receive distributions (§16502). Generally, when a partner is dissociating from a partnership, the dissociated partner's interest in the partnership is to be purchased for a ‘buyout price" which is the amount equal to any excess of the credits over the charges in the partner's account if, on the date of the dissociation, the assets of the partnership were sold at a price equal to the greater of the liquidation value or the value based on the sale of the entire business as a going concern without the dissociated partner and the partnership were wound up as of that date (§§16701, 16807). On the other hand, for a limited partnership interest, the provisions of California RUPA (such as §15644 entitling a withdrawing limited partner to "the fair value of the limited partnership interest . . . based upon the limited partner's right to share in distributions from the limited partnership") still apply.
A Confusing Time Ahead?
This two-year period may cause some confusion for third parties dealing with partnerships. Three problem areas come readily to mind: legal title to assets, contracts with partnerships, and litigation issues.
Ownership of Partnership Property. Between January 1, 1997, and December 31, 1998, if title to property is in a partnership name, unless we know (a) that the partnership was formed on or after January 1, 1997, or (b) that the pre-existing partnership has made a timely election to be governed by the new law, then we will not know if legal ownership of property whose title indicates a partnership is in the individual partners (if the partnership is still governed by present law) or in the partnership entity (if the partnership is governed by the Revised Uniform Partnership Act).
Then there is always the ambiguous situation where title is in the names of several individuals without an indication of a partnership association, but there is in fact a partnership agreement among the individuals or characteristics which make the association a partnership under the law. Do we then question legal ownership of property any time title is in more than one name? Even a joint tenancy or community property designation does not alleviate the question of whether a partnership may exist. This will have implications for title insurance, liability insurance, sale and transfer of assets, dissolution of marriage, estates and trusts.
Contracts. Questions may also arise pertaining to contractual relationships with a partnership which has made a timely election to be governed under the new law (and thus imposing the "exhaustion requirement" on the joint and several liability, or change the legal ownership of partnership assets). Would a separate agreement among the parties to continue joint and several liability without the "exhaustion requirement" be binding if the partnership elected to come under the new law? Would it be binding in any event after December 31, 1998? (Such an agreement is not prohibited under new §16103(b).)
Similarly, in drafting a new contract with a partnership, we will have to know whether the partnership is governed by the new law. If it is desirable to continue the present joint and several liability without the new exhaustion requirement, consider either including a provision in the contract waiving the new statutory "exhaustion requirement," or else naming as parties to the contract both the partnership entity and the individual partners (and then amend the contract whenever the individual partnership change, so also include a notice provision).
Liability of Dissociating Partners. There are technical provisions concerning partnership liability for a dissociating partner, in that the partnership may be bound by the acts of a dissociating partner for two years (§16702), although this period may be eliminated by providing actual notice, or shortened to 90 days with the filing of a statement of dissociation (§16704). On the other hand, for third parties dealing with a partnership, absent actual notice, notice of the dissociation is deemed to have been given to third parties 90 days after the filing of a statement of dissociation with the Secretary of State (§16704). Thus, to ensure that a transaction actually binds a partnership, one will need to check with the Secretary of State within 90 days of the date of a contemplated transaction (or include a binding representation of not dissociation in the contractual terms).
Litigation. Litigation questions also arise. An attorney evaluating whether to handle a litigation matter, and then in pleading the matter, will want to discover (preferably before the action is filed, but definitely in the first discovery request) (a) whether individuals are doing business as a partnership according to the statutory rules for determining this, (b) until December 31, 1998, whether a partnership is governed under present law or the new law (either by date of formation or by timely election), (c) whether any contractual agreements (including the partnership agreement) might affect whether the "exhaustion requirement" exists to limit the joint and several liability, and (d) whether any actual notice of a dissociation of a partner has been given under (§16702) or a statement of dissociation has been filed providing constructive notice after 90 days (§16704).
Public Notice Issues. Thus, the consideration for a present partnership is not only whether to make an election to be governed under the new law, but also whether to make the election a matter of public record. For a general partnership, filing a Statement of Partnership with the Secretary of State and recording a certified copy will provide for the statutory effect of a recorded statement (§16105(b)). For clarity, perhaps the new Statement of Partnership should refer to any previously recorded statements of partnership under prior law (including amendments), as well as include a notice of the partnership's timely election to be governed by the new law.
But what form of public notice for such an election would be appropriate for a present limited partnership? Will a limited partnership now optionally file a Statement of Partnership with the Secretary of State (in addition to its previously filed Certificate of Limited partnership), and then record a certified copy? For limited partnerships formed after January 1, 1997, will there be a benefit to filing a Statement of Partnership in Sacramento prior to the filing of a Certificate of Limited Partnership? The California Revised Uniform Limited Partnership Act does not seem to exclude these possibilities. [However, the Secretary of State is not allowing this. See Follow-Up article.]
Obviously, very quickly we all will need to understand the implications of new partnership law as it applies to diverse areas of practice.
Link to Follow-Up Article.
The contents of this publication are for information purposes only and are not meant nor should be construed to be legal advice. Note, also, the date of the document. Laws are constantly changing, and are subject to differing interpretations. We, therefore, urge you to do additional research or to contact your own legal or tax counsel before acting on the information contained herein.
This article: www.taxlawsb.com/resources/BusTax/ptshp.htm
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