TexLawThursday: Know the legalese when drafting your own formation documents

Recently the federal Small Business Association published an article stating that it wasn’t necessary to consult an attorney when putting together your formation documents.  This may be good advice if your business only involves one owner and a simple business structure, if you have a complex business structure or more than one owner, I’d advise seeking an attorney’s assistance . . . do you really want to discover that your partnership or buy-out agreement isn’t as solid as you thought it was when you’re in the middle of a partnership dispute?

My cautions aside . . . if you’re going to take on drafting your own formation documents and agreements, even if you’re simply filling in forms from an online legal service or the secretary of state’s office, you should familiarize yourself with the Texas Business Organizations Code definitions section because misunderstanding of the applicable statutes’ language or inadvertent/incorrect use of a defined term could lead to unintended consequences later on.  At the very least make sure that you gain an understanding of the various entity types (LLP, LLC, LLLP, etc.), how they are formed (keep in mind some entities are formed by default), and the tax opportunities, obligations, limitations, and implications of each entity type.

Some important definitions to know are:

“Affiliate” – a person who controls, is controlled by, or is under common control with another person.

“Associate” – when used to indicate a relationship with a person, means: (A) a domestic or foreign entity or organization for which the person: (i) is an officer or governing person; or (ii) beneficially owne, directly, or indirectly, either individually or through an affiliate, 10 percent or more of a class of voting ownership interests or similar rites of the entity or organization; (B) a trust or estate in which the person has a substantial beneficial interest or for which the person serves as trustee in a similar fiduciary capacity; (C) the person’s spouse or a relative of the person related by consanguinity or affinity who resides with the person; or (D) a governing person or an affiliate or officer of the person.

“Association” – an entity governed as an association under Title 6 or 7, the term includes a cooperative association, nonprofit association, and professional association.

“Close Corporation” – means a for-profit corporation that elects to be governed as a close coorporation in accordance with Subchapter O, Chapter 21 (of the Bus.Org. Code).

“Interest Exchange” – means the acquisition of an ownership or membership interest in a domestic entity as provided by Subchapter B, Chapter 10 (of the Bus. Org. Code).  The term does not include a merger or conversion.  (NOTE: the code also defines “Merger” and “Conversion.”)

“Parent” – means an organization that, directly or indirectly through or with one or more subsidiaries: (A) owns at least 50 percent of the outstanding or membership interests of another organization; or (B) possesses at least 50 percent of the voting power of the owners or members of another organization.

“Subsidiary” – means an organization for which another organization, wither directly or indirectly through or with one or more of its other subsidiaries: (A) owns at least 50 percent of the outstanding ownership or membership interests of the organization; or (B) possesses at least 50 percent of the voting power of the owners or members of the organization.

That’s just a few of the many definitions that you’ll find in the code.  Follow this link to an online copy of the Bus. Org. Code. To access formation information on the Texas Secretary of State’s Office, click here.

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