A curious paragraph in many songwriter contracts proclaims:
Nothing contained herein shall be deemed to create a partnership and neither 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 aconscious 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.