Partnerships and Corporations: What is the Supersession Doctrine?
In general, if two or more people are operating a business for the purpose of making a profit, they are operating a partnership. But, once the same people form a corporation to operate the business, then, by operation of California law, the partnership comes to an end and the former partners are now merely the joint owners of a corporation. In general, this is the “supersession doctrine.” The doctrine is called the “supersession doctrine” because the corporation supersedes the partnership.
Whether your business is a partnership or a corporate makes a huge difference with respect to personal liability for business debts. In a partnership, each partner is individually liable for any business debt or obligation; whereas with a corporation, any and all assets individually owned by any of the “partners” are shielded from being seized by creditors to pay for business debts and/or obligations. If you are running a business here in San Diego, you should seek advice and counsel from a good San Diego corporate attorney with respect to the best corporate form to use. Here is a quick discussion of the supersession doctrine.
San Diego Corporate Law: Partnerships and Corporations
Under California law, a partnership is defined by statute to be “the association of two or more persons to carry on as co-owners a business for profit …” See Cal. Corp. Code, § 16202(a). With certain exceptions, the law presumes a partnership exists if a person receives a share of the profits of a business. Furthermore, the partnership is deemed to exist whether or not the persons intended to form a partnership. See Cal. Corp. Code, § 16202(a) and (c).
By contrast, corporations must be specifically created by filing articles of incorporation with the California Secretary of State. Section 200 of the California Corporations Code states (emphasis added):
“(a) One or more natural persons, partnerships, associations or corporations, domestic or foreign, may form a corporation under this division by executing and filing articles of incorporation… (c) The corporate existence begins upon the filing of the articles and continues perpetually …”
The specific act of forming a corporation or similar corporate entity like a limited liability company puts an end to the partnership. This is based on the language of section 16202(b) of the Corporations Code which states that any sort of business association that is organized as a corporate entity is not a partnership. Thus, in the usual case, a partnership does not continue to exist after the formation of a corporation.
A good case example comes from Eng v. Brown, 21 Cal. App. 5th 675 (Cal. App. 4th Dist. 2018). In that case, in 2006, three men decided to buy a restaurant that was listed for sale called the Tin Fish Gaslamp. They three agreed that one of them — Mr. Brown — would own a majority of the business at about 57%, with another — Mr. Levy — having a one-third ownership and the remaining 10% going to the third partner — Mr. Eng. Negotiations took some time and initially fell through. However, in January 2007, the three men made a new offer to purchase of the Tin Fish Gaslamp which was made in the names of Mr. Brown and a newly-formed California corporation called B.L.E. Fish, Inc. “B.L.E. Fish” was named after the three partners. In January 2007, the three owners met and approved corporation bylaws and other matters including purchase of the Tin Fish Gaslamp. In April, the sale was finalized, and the corporation became the new owner of the restaurant.
In 2010, there was a falling out and one of the owners, Mr. Eng, sued the other two claiming that they had breached various duties owed to him. However, Mr. Eng claimed that the duties breached were duties owed by partners (which are different than the duties owed between corporate shareholders). After a trial, the jury returned verdict answers stating that the three men formed a partnership in 2006 and that, in 2007, the partners terminated their partnership with the formation of B.L.E. Fish, Inc. Based on the jury’s findings, the trial court entered judgment denying any and all claims based on partnership law. The California Court of Appeals affirmed in all respects.
Contact San Diego Corporate Law Today
If you would like more information, contact attorney Michael Leonard, Esq., of San Diego Corporate Law. Mr. Leonard can be reached at (858) 483-9200 or by email. Mr. Leonard proudly serves business owners and residents in San Diego and in the surrounding communities.