Guest Article:
Types of Business Entities in Texas

by James J. Burnett
Attorney at Law

The following guest article on Types of Business Entities in Texas was written by James J. Burnett of Brownhill, Burnett & Associates, P.C. You can visit his web site at http:\\www.jamesburnett.com.

Types of Business Entities in Texas

NOTE: This article discusses business law matters of current note in the State of Texas according to Texas law. The author is not licensed to practice law in states other than Texas, and the following should not be taken as statements of what the law is outside that state.

The General Partnership

A general partnership is exactly that: An enterprise between two or more partners. It is perhaps the simplest of business entities. In Texas, two statutes are especially important concerning partnerships; The Texas Uniform Partnership Act and the Texas Revised Partnership Act. On this page, the term "partnership" means a general partnership. Different rules apply for limited partnerships.

Forming a partnership is easy. All that one has to have is an association between two or more partners that they will associate for a common enterprise, and share the profits and losses from that enterprise. A partnership does not have to use a special name, and it does not have to file anything with the Secretary of State of Texas to begin its existence. A partnership may exist even when there is no written or oral agreement to form one; the mere association and sharing of profits and losses can create a partnership. A partnership may be perpetual in nature, although typically the partnership agreement limits its term.

Because of the foregoing, one can see how easy it is to get into sticky situations without realizing it. Therefore, a written partnership agreement that sets out the partners' responsibilities and ownership interests and the way the partnership is going to work is probably a vitally necessary document to have.

A partnership is not its own "person" under the law. It is merely a vehicle for its owners to use to accomplish their business purposes. This means that all profits and losses will be passed directly to the owners, either in equal proportions (if there is no agreement providing for different ownership interests) or in proportion to their respective ownership interests (if there is such an agreement). It also means that the partners are personally responsible for the partnership's debts and for claims against the partnership. General partners have joint and several liability for those debts and claims.

The owners of a partnership are its general partners. A partnership must have at least two partners, but beyond that there is no restriction on the number or type of owners it may have. It can be owned by any number of individuals or business entities. There may be different classes of ownership interests in the same partnership. Partners may transfer their interests, but there is fully substitution of the transferee only if the partnership agreement provides for substitution.

All partners must make a contribution to purchase their interest in the partnership, but there are no limitations on what kind of property may be contributed. Partners may, and usually do, participate in the partnership's management. The withdrawal, death, or retirement of a partner triggers an "event of withdrawal," which may or may not lead to a winding up (that is, a closing down) of the partnership.

Generally, partnership interests are not subject to the provisions of the Securities Act of 1933. However, the Act may apply to a partnership interest if the partner lacks the power or ability to participate in the partnership's decisions. You should consult with an attorney experienced in securities law if you have any questions in this area.

Because profits and losses pass through the partnership to its owners, income is taxed at the partners' level. Special allocations of tax items are permitted if the entity is a partnership for tax purposes. Contributions on the formation of the partnership are not taxable unless there is a disguised sale or the partnership is relieved from debts. Partners may deduct their shares of partnership losses subject to their basis limitations, but the partnership debt is included in calculating the basis. The IRS's "at risk" and "passive activity" limitations apply to a partnership. Distributions are not taxable to the extent of a partner's tax basis in the partnership interest. earnings and profits. The liquidation of a partnership is not taxable to a partner to the extent of the partner's tax basis in the partnership interest. Partnerships are not subject to the Texas franchise tax.

Typically, there is no mechanism for a partnership to qualify to conduct business in another state. If you plan to have your partnership do business outside of Texas, you should speak with an attorney in that state who is experienced with its laws and regulations concerning foreign partnerships.

If you decide to form a general partnership, you should stay alert to these important points:

1. Remember that the partnership laws in Texas are quite broad, and it is easy to take on more than you intended. The best way to define everyone's rights, privileges, and duties in your partnership is to have a written partnership agreement. Depending on how extensive your business is going to be, drafting that agreement might be expensive, but the money you spend at the beginning of your venture could save you much more money later on, particularly if disagreements arise between the owners.

2. Remember that a general partnership offers no shield from personal liability; the owners are jointly and severally liable for the debts it incurs, and for any claims that are made against it.

3. Remember that one partner has as much authority and responsibility as any other partner. The word is taken literally; partners share the profits, the losses, and the consequences of their decisions. It is just as important for all the owners to know what is going on in a small partnership as it is in a big corporation.

To look at the other kinds of business entities that are available, click on one the following:

The Sole Prorietorship

The Subchapter C Corporation

The Subchapter S Corporation

The Limited Partnership

The Limited Liability Company