BUSINESS
STRUCTURE
A
curious paragraph in many songwriter contracts proclaims:
Nothing contained herein shall be deemed
party shall make representations to the contrary...
Of
all the "miscellaneous" clauses, this one generates the most questions
among my clients. Why are we going
out of our way to disclaim the existence of a partnership?
The answer lies in the law of business organizations.
A business usually operates as a sole proprietorship, a partnership, or a
corporation. If music is your
business, you are probably conducting that business in one of these formats,
even if you have made no conscious decision about which form you are using.
Each form has its own advantages and disadvantages.
Assuming it is preferable to make a conscious
decision about which business format to use, you should consider the following
factors:
formation: How easy and
expensive is it to create?
control: How
will the business be managed?
taxation: What
are the tax implications for both you and the business?
liability: Are
you personally liable for claims against the business?
capacity: How
does the business hold property and defend itself or sue in court?
continuity: What is
the life expectancy of the business?
SOLE
PROPRIETORSHIP
The
sole proprietorship is the most common form of business enterprise.
Formation. The sole
proprietorship is the simplest and cheapest form.
No grant or charter from the state is required.
Think of it as the non-form or anti-form.
Just do business. Whether
you are setting up a lemonade stand or a publishing business, if it is just you,
it's a sole proprietorship. You may
need to obtain a sales tax license, a license for a particular occupation, a tax
ID number, and an assumed name certificate, but that would be true regardless of
your business form.
Control. The owner has
complete control and may operate the business as he or she chooses.
(Legally, of course.) Things
can be as flexible or formal as you want. This
is the main advantage of the sole proprietorship format.
Employees may be hired for assistance.
Taxation. The individual is
taxed personally for all business income, but also gets the benefit of the
business expenses and losses.
Liability. The individual is
personally responsible for all business liabilities.
This is the major drawback of sole proprietorships.
You may limit your exposure through insurance and contracts expressly
relieving you of liability.
Capacity. The owner may hold
property and act in court individually.
Continuity. The business
terminates when the owner ceases doing business.
GENERAL
PARTNERSHIP
A partnership is a relationship between two or more competent entities
joining together to own and carry on a trade or business.
For instance, a sole proprietorship with more than one owner is a
partnership.
Formation. Two or more
people working together, sharing expenses and profits are deemed to be a
partnership. A written partnership
agreement is preferred, to spell out the various duties and interests of the
partners, but an oral agreement will suffice.
The dangerous thing is that even with no agreement, written or oral, you
may have a partnership, and the liabilities that come along with it.
Keep this in mind whenever someone is "helping" you on a
project. The project you thought
was yours may be deemed to be a partnership.
Band members, take note.
Control. Who can make what
decisions for the partnership is usually governed by the written partnership
agreement, or by the provisions of the Uniform Partnership Act.
The UPA provides for shared control, profits, and expenses between the
partners. Generally, any partner
can bind the partnership to agreements with third parties.
Taxation. Individual
co-owners are taxed on their share of the partnership's profits, whether or not
they ever received a distribution of those profits.
The partnership files an informational return.
Liability. Individual
partners are personally liable for partnership debts and claims against the
partnership. One partner's interest
in a partnership can also be sold to satisfy personal liabilities of that
partner. It is this liability
factor, coupled with the danger of being in a partnership without realizing it
that is the chief disadvantage of the partnership form.
Capacity. Suits may be
brought and defended and property may be held in the partnership name.
Continuity. When one partner
dies or otherwise withdraws from the business, the partnership dissolves and
terminates.
LIMITED
PARTNERSHIP
A limited partnership consists of one or more general partners who
actively manage the business and one or more limited partners who have no active
role in the business. General
partners supply business acumen while limited partners supply investment
capital. Many real estate
investment partnerships take this form. It
is also a common way for musicians to raise money for a recording project. In
the beginning, the general partner has all the experience and the limited
partners have all the cash. In the
end, it's the other way around.
Formation. You must file a
certificate of limited partnership with the Secretary of State.
The filing fee paid to the state, (not the legal fee), is $750.
As a practical matter, your wealthy friends will not invest as limited
partners unless there is a written limited partnership agreement spelling out
the expected return on their investment.
Control. The general partner
usually has total control. The
partnership is governed by the terms of the written partnership agreement and
the Revised Limited Partnership Agreement.
Taxation. Same as general
partnership.
Liability. Here's a
nice improvement on the general partnership.
In a limited partnership, the general partner continues to be personally
liable for all partnership debts, but the limited partners are shielded, and can
only lose their investment in the partnership.
Their personal assets are not at risk.
Capacity. Same as general
partnership.
Continuity. A limited
partnership usually dissolves on the death or withdrawal of the general partner,
but limited partners may come and go over time and the partnership will live on.
CORPORATION
A corporation is a separate legal entity that comes into existence
through a charter granted by the Secretary of State.
Created by statute, it must abide by the corporate statutes of its state.
The owners of the corporation are called shareholders.
Shareholders elect directors, who in turn elect officers, who hire other
employees to handle the day to day affairs of the business.
Formation. File Articles of
Incorporation with the Secretary of State.
The filing fee In Texas is $300. Pay
$10 more for expedited service.
Control. A chief drawback,
corporate management is often too formalized and paper intensive for many
people. Bylaws adopted by the
directors govern the business, along with your state's Business Corporation Act
and various other corporate statutes. Shareholders
and directors meet at least annually, voting on proposals and passing
resolutions, which are documented in Minutes, and then implemented by the
officers. There are many ways to
structure the bylaws regarding voting rights, rights to purchase additional
shares, etc.
Taxation. The corporation is
taxed on corporate earnings. If
those earnings are distributed to the shareholders in the form of dividends, the
individual shareholders are taxed on the dividend income. (This is sometimes
thought of as a "double tax", which can be limited by a "Sub
S" election, but that is beyond the scope of this article.)
Liability. This is the chief
advantage of the corporate form. The
business owners are not personally liable for corporate debts.
Capacity. The corporation
sues, defends, and holds property in its own name.
Continuity. The life of the
corporation can be perpetual. Owners
may change as stock changes hands over time.
Texas
has recently introduced a new business form, the limited liability company, but
at this writing the vast majority of businesses continue to be operated as
either a sole proprietorship, partnership,
or corporation.
The importance of the "No Partnership" clause in most music contracts becomes clearer in light of the formation and liability considerations discussed above. If a reasonable third party (or, more importantly, a court) perceives the relationship between you and your publisher or record company as a joint enterprise, your relationship may be deemed to be a partnership. If that is the case, either party may legally bind the partnership with debts and can be held personally liable for claims against the partnership. For that reason, these contracts seek to clarify that you are not in a partnership relation, even though you may be working as a team on some joint project. Your publisher doesn't want to get a bill from the music store where you buy your guitar strings and you don't want to get a bill from your publisher's interior decorator.