10.2 Rights, Duties, Obligations, and Authority of Owners and Management
Key Takeaways
A general partner has apparent authority to bind the firm on ordinary-course business; a secret spending cap does not bind a third party without notice, and general partners are jointly and severally liable.
Partners and managing LLC members or managers owe duties of loyalty and care plus an obligation of good faith; RUPA's care duty is a gross-negligence floor, not ordinary negligence.
A limited partner who participates in control can lose the shield under older control-rule statutes as to persons who reasonably believed the limited partner was a general partner; RULPA 2001 largely abolishes that rule, but own torts and personal guarantees always remain.
Shareholders elect directors; directors manage; officers are agents with actual and apparent authority; the business judgment rule protects informed, disinterested decisions, not loyalty breaches or usurped corporate opportunities.
Courts pierce the corporate (or LLC) veil for undercapitalization, alter-ego domination, and commingling; unpaid creditors of a properly maintained entity do not pierce merely because the business failed.
10.2 Rights, Duties, Obligations, and Authority of Owners and Management
REG Blueprint Area II, Group E, Topic 2 asks who may bind the firm, who is liable, and what owners and managers owe one another. Authority vocabulary overlaps agency; this section is owners and managers of business entities. Formation filings and how entities end are in 10.1.
General partners: management, authority, and liability
RUPA default: equal management rights. Ordinary-course matters are decided by a majority of partners. Acts outside the ordinary course — amending the partnership agreement, disposing of goodwill, confessing a judgment, submitting a claim to arbitration, selling the business — need unanimous consent.
A partner is an agent of the partnership for apparently carrying on in the ordinary course the partnership business, or business of the kind the partnership carries on. A secret restriction the other partners imposed does not bind a third party who lacks notice. A partner does not have apparent authority to mortgage all assets, guarantee a stranger's debt, or sell the business.
Every general partner is jointly and severally liable for partnership obligations. A creditor may sue any partner for the whole. The partner who pays has contribution rights against the others. A newly admitted partner is typically not personally liable for pre-admission obligations, though that partner's interest in partnership property may still be reached.
Fiduciary duties of partners
RUPA imposes a duty of loyalty (account for partnership property and profit, refrain from dealing as an adverse party, refrain from competing before dissolution) and a duty of care (refrain from gross negligence, recklessness, intentional misconduct, or knowing violation of law — a gross-negligence floor, not ordinary negligence). Partners also owe a contractual obligation of good faith and fair dealing. Partners may not eliminate the duties of loyalty and care, though they may specify reasonable standards if the statute allows.
Limited partners and the control rule
The general partner manages and is unlimitedly liable. Limited partners are investors. They may inspect books and vote on extraordinary matters without becoming general partners.
Teach the control rule carefully. Older RULPA versions: a limited partner who participates in control of the business can become liable as a general partner to persons who reasonably believe, based on the limited partner's conduct, that the limited partner is a general partner. RULPA 2001 (ULPA 2001) largely abolishes the control rule — a limited partner is not personally liable for LP obligations even if the limited partner participates in management. REG tests the concept that limited partners who behave like general partners can lose the shield under some statutes. If the item describes a limited partner hiring, firing, and signing ordinary contracts as if a general partner, flag the control-rule risk; do not recite a section number the facts do not give you. Even under a no-control-rule statute, a limited partner is always liable for the limited partner's own torts and personal guarantees.
LLC members and managers
Member-managed (the default in many acts): every member is an agent for ordinary-course business, analogously to partners. Manager-managed: only managers are agents for ordinary-course business; a non-manager member has no apparent authority merely by being a member. Fiduciary duties attach to those who manage — members in a member-managed LLC, managers in a manager-managed LLC. Members who do not manage have more limited duties. Operating agreements commonly specify the standard; they cannot generally wipe out the obligation of good faith.
Corporations: shareholders, directors, officers
Three tiers:
- Shareholders own residual equity. They elect directors, vote on fundamental changes (merger, sale of substantially all assets, dissolution, article amendments), and inspect books for a proper purpose. They do not manage ordinary business. A shareholder who is not a director or officer has no apparent authority to bind the corporation.
- Directors manage (or supervise management of) the business. They act as a board, typically by majority at a meeting or by unanimous written consent. Individual directors, as such, are not agents of the corporation.
- Officers (president, CEO, CFO, secretary) are agents. Actual authority comes from bylaws, board resolutions, and employment agreements. Apparent authority comes from the corporation's manifestations — titles, letterhead, a course of dealing. A president ordinarily has apparent authority for day-to-day contracts; a secretary has apparent authority to certify board action, not to sell the factory. The actual/apparent split is the same doctrine as in 5.1.
Business judgment rule (BJR). Directors who make an informed, good-faith decision, without a conflict, in what they reasonably believe is the corporation's best interest, are not liable merely because the decision turned out badly. The BJR is a presumption. It does not protect uninformed decisions, conflicted self-dealing, or illegal acts.
Duty of care is process: inform themselves. Failure to attend, to read, or to ask for obvious information is the care item. Duty of loyalty forbids self-dealing without disclosure and approval (disinterested directors or shareholders) or fairness. Corporate opportunity doctrine: a director or officer may not take a business opportunity that belongs to the corporation — in the corporation's line of business, that the corporation has an interest or expectancy in, and that the fiduciary learned of in that capacity — unless the opportunity is presented to the corporation and declined.
Piercing the corporate veil
Limited liability is the default. A court may pierce and hold shareholders (or LLC members) personally liable when the entity is a sham. REG-level factors:
- Undercapitalization — no reasonable capital for foreseeable risks at formation.
- Alter ego — the owner treats the entity as a personal pocket; no separate existence.
- Commingling — personal and entity funds, assets, and accounts mixed; no records.
- Failure to observe corporate formalities (no minutes, no board, no separate bank account) supports alter ego, especially in corporations.
Piercing is exceptional. A failed business that was properly capitalized, separately accounted for, and formally run is not pierced merely because creditors were unpaid. The same doctrine can pierce an LLC.
Worked scenario: partner binds the firm on a supply contract the other partner disliked
Facts. Avery and Blake are equal general partners in a bakery. The partnership agreement says neither partner may spend more than $5,000 without the other's consent. Blake, without telling Avery, signs a $9,000 flour-and-butter supply contract with a mill that has sold to the bakery for years and has no notice of the $5,000 cap. Avery refuses to honor the invoice.
Analysis. Buying ingredients is ordinary-course bakery business. Blake, as a partner, has apparent authority to bind the partnership. The internal cap cuts actual authority as between Avery and Blake; it does not bind the mill, which lacked notice. The partnership is bound. Avery and Blake are jointly and severally liable to the mill. Avery's remedy is against Blake for exceeding the agreement, not a defense against the mill. If Blake had mortgaged the building or guaranteed a cousin's car loan, that would be outside ordinary course and would need unanimous consent. Officers of a corporation present the same apparent-authority pattern. Veil piercing would require additional alter-ego facts, not merely a partner quarrel. Drill more items at /practice/cpa-reg.
Avery and Blake are equal general partners in a bakery. Their agreement forbids either partner from spending more than $5,000 without the other's consent. Blake, without telling Avery, signs a $9,000 flour-and-butter contract with a mill that has supplied the bakery for years and has no notice of the cap. Avery refuses to pay. Which statement is correct?
Buying ingredients is ordinary-course bakery business, so Blake's apparent authority binds the partnership; Avery and Blake are jointly and severally liable to the mill, and the internal cap is not a defense against a mill that lacked notice.
The $5,000 cap destroys both actual and apparent authority, so the mill must look only to Blake personally.
Ordinary-course supply contracts require unanimous partner consent under RUPA, so the mill cannot recover from the partnership or from Avery.
Only Avery is liable, because Blake exceeded actual authority and an exceeding partner drops out of joint and several liability.
Morgan is a limited partner in an LP. The general partner is inactive. Morgan hires and fires staff, signs ordinary vendor contracts, and tells customers Morgan 'runs the place.' A vendor who dealt with Morgan seeks to hold Morgan personally liable. Which statement is the REG-level rule?
Limited partners never have personal liability, even on personal guarantees and their own torts, under every current statute.
Under older control-rule statutes, a limited partner who participates in control can be liable to persons who reasonably believed the limited partner was a general partner; RULPA 2001 largely abolishes that control rule, but Morgan remains liable for Morgan's own torts and any personal guarantee regardless of statute.
Morgan's conduct automatically converts the LP into a corporation, and veil-piercing is the only remaining theory.
Morgan is liable only if the LP failed to file a certificate; control of operations is irrelevant under every version of RULPA.
Harbor Corp.'s disinterested board, after reviewing a management study, votes to open a second location. The expansion later loses money. Director Kim, without informing the board, personally buys a warehouse Harbor had been negotiating to lease for that expansion. Which statement is correct?
The business judgment rule lets Kim keep the warehouse, because directors may take any opportunity once a business decision has been made.
The directors are personally liable for the expansion's losses solely because the project lost money.
The business judgment rule protects the informed, disinterested expansion vote from liability merely because it turned out badly; Kim's warehouse purchase is a duty-of-loyalty / corporate-opportunity problem, which the business judgment rule does not shelter.
Shareholders, as residual owners, had apparent authority to ratify Kim's purchase and thereby bind Harbor without board action.
Sections you finish are checked off in the contents.