16.1 Agency Relationships, General Partnerships, LPs & LLCs

16.1 Agency Relationships, General Partnerships, LPs & LLCs

Agency and unincorporated business entity law govern the relationships, authority, fiduciary obligations, and liability allocations between principals, agents, business co-owners, and third parties. On the Multistate Essay Examination (MEE), agency and partnership questions frequently appear as integrated essay prompts testing whether an agency relationship was formed, whether an agent possessed authority to bind the principal in contract or commit a tort within the scope of employment, and how liabilities are apportioned across general partnerships, limited partnerships (LPs), and limited liability companies (LLCs).

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1. Agency Formation & Core Mechanics

Under the Restatement (Third) of Agency § 1.01, an agency relationship is a fiduciary relationship that arises when one person (the principal) manifests assent to another person (the agent) that the agent shall act on the principal's behalf and subject to the principal's control, and the agent manifests assent or otherwise consents so to act.

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|                     THREE ESSENTIAL ELEMENTS OF AGENCY FORMATION            |
|                                                                             |
|   1. ASSENT (Consent):        Principal and agent must both manifest mutual |
|                               consent (expressly or impliedly by conduct).  |
|                                                                             |
|   2. BENEFIT:                 Agent agrees to act primarily for the benefit |
|                               and on behalf of the principal.               |
|                                                                             |
|   3. CONTROL:                 Principal retains the right to control the    |
|                               agent's objective and general manner of       |
|                               performance (physical control not required).  |
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Capacity and Formalities

• Principal's Capacity: A principal must possess contractual capacity (i.e., must be of legal age and mentally competent). A minor or incapacitated person cannot be a principal; contracts entered into by agents of incapacitated principals are voidable.
• Agent's Capacity: An agent requires only minimal mental capacity to understand the task. A minor or an individual lacking contractual capacity may serve as an agent and bind a competent principal.
• Consideration: Consideration is not required to form an agency relationship (gratuitous agents are legally recognized and owe fiduciary duties).
• Writing & The Equal Dignities Rule: Agency agreements generally require no writing. However, under the Equal Dignities Rule, if the contract the agent is authorized to execute falls within the Statute of Frauds (e.g., conveyance of real property), the agent's grant of authority from the principal must also be in writing.

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2. Authority Taxonomy & Principal Contractual Liability

A principal is bound to a third party on a contract entered into by an agent only if the agent possessed actual authority, apparent authority, inherent authority, or the principal subsequently ratified the transaction.

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|                        AGENCY AUTHORITY COMPARISON MATRIX                   |
|                                                                             |
|   AUTHORITY TYPE       SOURCE / MANIFESTATION       KEY LEGAL STANDARD      |
|   -------------------  ---------------------------  ----------------------  |
|   Actual Express       Principal -> Agent           Oral or written express |
|                        (Direct communication)       instructions granted.   |
|                                                                             |
|   Actual Implied       Principal -> Agent           Reasonable belief based |
|                        (Custom, necessity, conduct) on custom, past dealing|
|                                                     or incidental tasks.    |
|                                                                             |
|   Apparent             Principal -> Third Party     Principal's words or    |
|                        (Holding out / manifestations) conduct create 3rd-   |
|                                                     party reasonable belief.|
|                                                                             |
|   Inherent Agency      Status / Role of Agent       Equitable doctrine to   |
|                        (Customary commercial role)  protect innocent 3rd    |
|                                                     parties from undisclosed|
|                                                     internal restrictions.  |
|                                                                             |
|   Ratification         Principal Post-Act Adoption  Full knowledge of facts |
|                        (Affirmance / benefits kept) + express/implied assent|
+-----------------------------------------------------------------------------+

1. Actual Express Authority

Actual express authority exists when the principal explicitly grants authority to the agent in oral or written words. The agent reasonably believes they have authority based on the principal's direct manifestations.

2. Actual Implied Authority

Actual implied authority exists when the agent reasonably believes they have authority based on the principal's words or conduct, including:

• Incidental Authority: Authority to execute all incidental acts reasonably necessary to achieve the main objective of the express grant;
• Custom and Usage: Authority to perform acts customary in the agent's trade, profession, or business position;
• Past Dealings: Authority inferred from the principal's prior acquiescence in similar past conduct;
• Emergency Powers: Authority to take reasonable protective measures when unforeseen emergencies arise and the principal is unreachable.

3. Apparent Authority

Apparent authority arises from manifestations made by the principal directly to a third party (or to the public), which lead the third party reasonably to believe that the agent possesses authority to act.

• Agent Cannot Create Apparent Authority: An agent's self-serving representations of authority to a third party cannot create apparent authority without some manifestation traceable to the principal.
• Lingering Apparent Authority: When actual authority is terminated, apparent authority continues with respect to third parties who previously dealt with the agent until they receive actual notice of termination. For third parties who knew of the agency but had not dealt with the agent, constructive notice (such as publication in a newspaper of general circulation) suffices.

4. Ratification

Even if an agent acted without any prior authority, the principal becomes fully bound if they ratify the unauthorized contract.

• Requirements for Valid Ratification:
  1. The principal must possess full knowledge of all material facts regarding the transaction;
  2. The principal must accept the entire transaction (a principal cannot ratify the benefits while disclaiming burdensome obligations);
  3. The principal must possess contractual capacity both at the time of the agent's act and at the time of ratification; and
  4. Ratification must occur before the third party withdraws from the contract.

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3. Principal and Agent Contract Liability Matrix

Contractual liability to the third party depends upon whether the principal's existence and identity were disclosed at the time of contracting:

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4. Principal Tort Liability & Respondeat Superior

Under the doctrine of respondeat superior, a principal is vicariously liable for torts committed by an employee (servant) acting within the scope of employment.

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|                   VICARIOUS TORT LIABILITY ANALYSIS FRAMEWORK               |
|                                                                             |
|   STEP 1: EMPLOYEE VS. INDEPENDENT CONTRACTOR                               |
|   - Did the principal have the RIGHT TO CONTROL THE PHYSICAL MANNER AND     |
|     DETAILS of the agent's performance?                                     |
|     * Factors: Tools supplied, method of payment, skill level, distinct     |
|       business, duration of employment, intent of parties.                  |
|     * If Independent Contractor -> Principal generally NOT liable.          |
|     * If Employee -> Proceed to Step 2.                                     |
|                                                                             |
|   STEP 2: SCOPE OF EMPLOYMENT                                               |
|   - Was the employee performing assigned work or engaging in conduct        |
|     actuated, at least in part, by a purpose to serve the employer?         |
|     * Detour (Minor Deviation): WITHIN scope -> Principal is LIABLE.        |
|     * Frolic (Major Departure for personal ends): OUTSIDE scope -> No Liab. |
|                                                                             |
|   EXCEPTIONS: PRINCIPAL LIABLE FOR INDEPENDENT CONTRACTORS                  |
|   [1] Non-delegable duties (e.g., duty of commercial premises safety).      |
|   [2] Inherently dangerous or ultrahazardous activities.                    |
|   [3] Negligent hiring, retention, or supervision of the contractor.        |
|   [4] Apparent agency / Estoppel (holding out contractor as employee).      |
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Intentional Torts

Principals are generally not liable for intentional torts committed by employees because intentional violence is typically outside the scope of employment.

• Exceptions where Principal is Liable for Intentional Torts:
  1. The use of force is authorized or inherent in the nature of the work (e.g., bouncers, security guards, debt collectors);
  2. The employee was motivated by a desire to further the employer's business; or
  3. The tort was specifically ratified or authorized by the principal.

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5. Agent Fiduciary Duties to Principal

Agents owe strict fiduciary duties to their principal, breach of which subjects the agent to damages, disgorgement of profits, and rescission:

• Duty of Loyalty: The agent must act solely for the benefit of the principal in all matters connected with the agency. Sub-duties include:
  • No Secret Profits / Kickbacks: Must account for and disgorge any financial benefit obtained without principal consent;
  • No Self-Dealing: Cannot deal with the principal as an adverse party without full disclosure and consent;
  • No Usurping Business Opportunities: Cannot take business opportunities belonging to the principal;
  • No Competition: Cannot compete with the principal during the agency relationship.
• Duty of Care: The agent must perform agency tasks with reasonable care, competence, and diligence (special skills heighten this standard).
• Duty of Obedience: The agent must obey all reasonable, lawful instructions issued by the principal.
• Duty of Disclosure / Information: The agent must disclose all material facts relevant to the agency.

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6. General Partnerships (RUPA Framework)

Under the Revised Uniform Partnership Act (RUPA) § 202(a), a general partnership is an association of two or more persons to carry on as co-owners a business for profit, regardless of whether the persons intended to form a partnership.

Formation Principles

• No State Filing Required: A general partnership forms automatically upon satisfaction of the statutory definition. No writing is required unless the partnership agreement cannot be performed within one year under the Statute of Frauds.
• Presumption from Profit-Sharing: A person who receives a share of the profits of a business is presumed to be a partner, unless the profits are received in payment of a debt, wages to an employee, rent to a landlord, annuity/retirement benefits, or interest on a loan (RUPA § 202(c)(3)).
• Partnership by Estoppel: A person who represents themselves (or consents to being represented) as a partner to a third party is liable to that third party if the third party relied on the representation to their detriment.

Default Financial & Management Rules under RUPA

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|                        RUPA DEFAULT STATUTORY RULES                         |
|                                                                             |
|   FINANCIAL ALLOCATIONS:                                                    |
|   - Profits: Shared EQUALLY among all partners (regardless of capital).     |
|   - Losses: Shared in the SAME PROPORTION AS PROFITS.                       |
|     * Example: Agreement says A gets 70% profits, B gets 30%. Silent on     |
|       losses -> Losses are split 70% to A and 30% to B!                     |
|   - Remuneration: Partners are NOT entitled to remuneration for services,   |
|     except for reasonable compensation during winding up.                   |
|                                                                             |
|   MANAGEMENT AND GOVERNANCE:                                                |
|   - Voting Rights: EQUAL management rights (one partner, one vote).         |
|   - Ordinary Business Decisions: Decided by a MAJORITY of the partners.     |
|   - Extraordinary Decisions / Amending Agreement / Admitting New Partners:  |
|     Requires UNANIMOUS consent of all partners.                             |
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Partner Fiduciary Duties & Liability

• Duty of Loyalty (RUPA § 404(b)): Non-waivable fiduciary duty to account for partnership property, refrain from dealing with the partnership as an adverse party, and refrain from competing with the partnership. The partnership agreement may identify specific categories of activities that do not violate the duty if not manifestly unreasonable.
• Duty of Care (RUPA § 404(c)): Limited to refraining from engaging in grossly negligent or reckless conduct, intentional misconduct, or a knowing violation of law (ordinary negligence does not breach partner duty of care).
• Joint and Several Liability (RUPA § 306): All partners are jointly and severally liable for all obligations of the partnership arising in contract or tort.
• Exhaustion Rule (RUPA § 307(d)): A judgment creditor cannot levy execution against the individual assets of a partner to satisfy a partnership debt until the creditor has first exhausted partnership assets (or obtained a court order dispensing with exhaustion due to entity insolvency).

Dissociation vs. Dissolution under RUPA

• Dissociation (RUPA Article 6): A partner ceases to be associated in the carrying on of the business (by express will, death, bankruptcy, expulsion). Dissociation does not automatically terminate the partnership. The partnership must buy out the dissociated partner's interest at fair market value and indemnify them against partnership liabilities, unless an event causing dissolution occurs.
• Dissolution & Winding Up (RUPA Article 8): Triggers liquidation of partnership assets. The order of distribution is:
  1. Outside and inside creditors (non-partner and partner creditors ranked equally);
  2. Partner capital account reimbursements; and
  3. Partner surplus/profit distributions.

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7. Comparative Business Entity Taxonomy (GP, LP, LLC, Corporation)

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8. Limited Liability Companies (LLC Mechanics)

An LLC combines the limited liability shield of a corporation with the pass-through tax treatment and structural flexibility of a partnership.

• Formation: Requires filing Articles of Organization (or Certificate of Formation) with the state. An internal Operating Agreement governs member relations and management.
• Management Structure:
  • Member-Managed (Default): All members have equal management authority, actual/apparent agency authority to bind the LLC in ordinary business, and owe fiduciary duties of care and loyalty.
  • Manager-Managed: Management is vested in designated managers (who may or may not be members). Non-managing members have no agency authority to bind the LLC and owe no fiduciary duties to the entity or other members.
• Creditor Remedies & Charging Orders: A personal judgment creditor of an individual LLC member cannot seize LLC property or force liquidation of the entity. The creditor's sole statutory remedy is a charging order—a court-ordered lien upon the debtor-member's distributional (economic) interest, entitling the creditor to receive only the cash distributions the debtor-member would have received, without voting or management rights.