Legal and Ethical Environment of Business Nineteen

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What is the main characteristic of a sole proprietorship?

Involves multiple owners sharing management duties

Taxed separately from the owner’s income

Requires formal registration with the state

Only involves one person with personal liability (correct)

Which type of business organization is characterized by an unincorporated association of two or more co-owners?

Closely Held Corporation

Limited Liability Corporation

Sole Proprietorship

General Partnership (correct)

What is a disadvantage of a general partnership?

Liability protection from personal assets

Individual liability for debts and claims (correct)

Limited ability to share management duties

Passing through taxes to individual partners

What is one of the main advantages of a sole proprietorship?

Easy formation without formal documents Signup and view all the answers

Which of the following types of corporations allows for a 'pass-through' tax treatment?

Subchapter S Corporation Signup and view all the answers

What is typically more challenging for a general partnership compared to other business forms?

Raising capital Signup and view all the answers

Which of the following business organizations is not typically a type that provides significant liability protection?

Sole Proprietorship Signup and view all the answers

Which of the following statements about partnerships is true?

Partners share profits equally unless stated otherwise. Signup and view all the answers

What is a primary disadvantage of a class C corporation?

Double taxation on profits Signup and view all the answers

Which of the following is true about Limited Liability Partnerships (LLPs)?

LLPs are required to file documents with the state Signup and view all the answers

In which scenario would partners in an LLP be held personally liable for debts?

If they fail to properly file required documents Signup and view all the answers

What characterizes Subchapter S Corporations regarding liability?

Shareholders are not liable for debts of the S corp Signup and view all the answers

What major benefit do Limited Liability Partnerships provide to their partners?

Pass-through taxation Signup and view all the answers

Which of the following statements about corporations is incorrect?

Shareholders can be held liable for corporate debts Signup and view all the answers

What is required to create a Limited Liability Partnership?

Filing with the state Signup and view all the answers

Which of the following is a unique feature of class C corporations?

Double taxation on distributed profits Signup and view all the answers

What is one requirement for a corporation to qualify as an S corp?

All shareholders must agree to the S corp status. Signup and view all the answers

Which characteristic is unique to close corporations compared to other types?

They typically require unanimous decisions for corporate actions. Signup and view all the answers

In a professional corporation, who is liable for malpractice committed by a member?

Only the member who committed the malpractice. Signup and view all the answers

What type of shareholders can own stock in an S corporation?

Only individuals, estates, charities, pension funds, or trusts. Signup and view all the answers

Which statement describes a feature of close corporations?

They often operate without formal management structures. Signup and view all the answers

What is a typical characteristic of shareholders in a professional corporation?

They must belong to the same professional field. Signup and view all the answers

What distinguishes a close corporation’s treatment of minority shareholders?

Majority shareholders have a fiduciary duty to them. Signup and view all the answers

What is one limitation of an S corporation regarding shareholder composition?

All shareholders must be US citizens or entities located in the US. Signup and view all the answers

What is a primary benefit of forming a Limited Liability Company (LLC)?

Members are free of personal liability. Signup and view all the answers

Which of the following is a reason that a Court may pierce the corporate veil of an LLC?

Commingling personal and business assets. Signup and view all the answers

When did the Limited Liability Company (LLC) form first get established?

1977 in Wyoming. Signup and view all the answers

What is one risk that could lead to individual liability for an LLC member?

Inadequate capitalization of the LLC. Signup and view all the answers

What is a characteristic feature of the taxation structure of an LLC?

It operates on a pass-through taxation basis. Signup and view all the answers

What is recommended for the operation of an LLC?

A well-planned operating agreement should be in place. Signup and view all the answers

Which of the following exemplifies a failure to observe formalities in an LLC?

Lack of written agreements for contracts directly with the LLC. Signup and view all the answers

What happens to the duration of an LLC unless stated otherwise in the operating agreement?

It is perpetual. Signup and view all the answers

What is a primary responsibility of the franchisee in a franchise agreement?

Manage daily operations of the franchise Signup and view all the answers

What upfront cost must a McDonald's franchisee have available in liquid assets?

$500,000 Signup and view all the answers

Which of the following is a common drawback of operating a franchise?

High initial and ongoing costs Signup and view all the answers

Which document is required to be provided by the franchisor before a franchise contract is signed?

Franchise Disclosure Document Signup and view all the answers

What does the term 'royalty fees' refer to in a franchise context?

Percentage of gross sales paid to the franchisor Signup and view all the answers

What consequences may arise from a franchisor's tight control over their franchisees?

Potential conflicts regarding operational methods Signup and view all the answers

What is a common practice regarding supplies in a franchise operation?

Franchisees typically must purchase specific supplies from the franchisor Signup and view all the answers

Why might franchisees be required to contribute to joint advertising costs?

To keep advertising consistent across the brand Signup and view all the answers

What must be demonstrated for a court to pierce the corporate veil of Joe's LLC?

Joe must have controlled the LLC, engaged in improper conduct, and the plaintiffs must be unable to collect. Signup and view all the answers

Which of the following best defines a joint venture?

A partnership solely for a limited purpose between two independent parties. Signup and view all the answers

What is one major characteristic of franchises?

Franchises allow the franchisee some independence while also providing support from an established brand. Signup and view all the answers

What is one potential outcome if Joe is found personally liable after the corporate veil is pierced?

Creditors could pursue Joe's personal assets to satisfy business debts. Signup and view all the answers

Which statement is true regarding the responsibility in a joint venture?

Liabilities and taxes are equally shared among all participants. Signup and view all the answers

Joe's attempt to claim the LLC has no money would be weakened if which of the following was true?

Joe used LLC funds for personal expenses. Signup and view all the answers

Which of the following is NOT a characteristic of a franchise?

Franchises operate as independent businesses without support. Signup and view all the answers

If Joe never took personal loans and only used the LLC's credit, this might best defend him against which type of claim?

Claims that he failed to maintain a separate business identity. Signup and view all the answers

Study Notes

Legal and Ethical Environment of Business (Class Nineteen: Business Organizations)

Basic Types of Business Organizations:
- Sole Proprietorships
- Partnerships (General and Limited Liability)
- Corporations (Class C, Subchapter S, Closely Held, Professional, Limited Liability)
- Other (Joint Ventures, Franchises)
Focus of Analysis for Business Organizations:
- Ease or Difficulty of Formation
- Tax Consequences
- Liability of Owners
- Length of Existence
- Ease or Difficulty of Transfer

Sole Proprietorships

Involves only one person.
Easiest to form.
No filing or registration needed.
No formal documents required.
Business is not separately taxed (pass-through).
No protection from liability; personal liability exists.

General Partnerships

Unincorporated association of two or more co-owners.
Very easy to form (default status).
Profits are reported on individual tax returns (pass-through).
Each partner is individually liable for debts and claims (even if caused by another partner).
Partners share equally profits and management duties (unless otherwise agreed).
Raising capital is more difficult compared to corporations.
Partnership interests cannot be transferred without permission from other partners.

Limited Liability Partnerships (LLPs)

Another form of partnership that limits personal liability of partners.
Maintains pass-through taxation.
Partners are not liable for the debts and claims of other partners (although the LLP itself is liable).
Regular filings are required.
Example: Joe and Bill form an LLP, but failure to file annual reports made them personally liable when sued.

Corporations

Formal organization created by the state (often Class C).
Can be expensive to form and maintain.
Shareholders/owners have no liability for the corporation's debts (the corporation is liable).
Corporations are double taxed (profits, distributed to shareholders).
Transferability of ownership is relatively easy (buying or selling stock).

Subchapter S Corporations

Best of both worlds (limited liability and pass-through taxation).
Shareholders are not liable for the corporations debts.
Profits "pass-through" to the owner/shareholder (not taxed separately).
Certain limitations on who can form an S corp (e.g. limited number of shareholders).

Close Corporations

Designed to protect small business owners.
Typically have a small number of shareholders (50 or less).
Minority shareholders are usually protected.
Transferability of shares is often more restricted or requires a unanimous vote.
Can operate without a formal board of directors.

Professional Corporations (PCs)

Provide limited liability for the actions of other members.
Only shareholders in the same profession can own stock.
Taxation is complex.
Example: Doctor 1 performs surgery on wrong foot and patient sues the corporation (not the others).

Limited Liability Companies (LLCs)

Combines the best of both worlds (limited liability and pass-through taxation).
Owners (members) have no personal liability.
Easy to create and maintain (little annual paperwork).
Must have a well-planned operating agreement.
Reasons for piercing the corporate veil of an LLC:
- Failure to observe formalities (treating LLC as not a separate entity).
- Commingling Assets (mixing personal and LLC accounts).
- Inadequate Capitalization (insufficient capital for operations).
- Fraud (using LLC to shield personal wrongdoing).
- Example: Joe forms an LLC for plant business, but fails to file annual reports. He's then personally liable when sued.

Joint Ventures

Partnership for a limited purpose.
Liability for taxes and debts is shared among participants.
Business relationship ends when the venture is over.
Allows businesses to profit by collaborating without merging.

Franchises

Not a separate business structure, but an important business concept.
Over 750,000 franchises.
Combines independent ownership with the advantages of large corporate entities (e.g., McDonald's).
Drawbacks of Franchises:
- Tight control by franchisor (negating franchisee autonomy).
- High costs (upfront and ongoing).
- Royalty fees (percentage of sales paid to franchisor).
- Required supplies and advertising.
- System standards (uniformity costs).
- Legal Requirements:
  - Franchise Disclosure Document (14 days prior to signing or payment).
  - Details on franchisor's history, litigation, costs, restrictions.

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Description

Explore the basic types of business organizations in this quiz. Topics include sole proprietorships, partnerships, corporations, and other forms like joint ventures and franchises. Understand the ease of formation, tax consequences, and liability of owners.