Asset Partitioning Research Articles

The Rationales of Tax Entities

The theoretical justification of a separate tax applicable to companies and other organizations is a long-standing, though still current issue object of research. Two approaches have been taken in this respect: On the one hand, it is argued that the need for an autonomous tax draws from the early 20th century belief that certain organizations are legal entities separate from their own founders, members and third parties in general (Entity Theory). The entity's ability to provide for a separate income tax is thus due to its qualification as an entity under commercial law. On the other hand, it is argued that the introduction and preservation of a tax which applies to taxable subjects different from physical beings is legitimate only for corporate organizations and, in particular, for the purpose of advancing the taxation which, after the distribution of dividends, company members will be subject to (Substitute or Proxy Theory). The corollary to this approach is the structural need for a legal regulation resolving the problem of double taxation - of companies and their members - ensuing from two distinct taxes being applied to the same income. I shall argue that none of the above traditional approaches is convincing; rather, the logical antecedent of a separate tax on income yielded by (or through) organizations is represented by one of their structural features: patrimonial separation, as referred to by the civil law. As a matter of fact, it is patrimonial separation - and, especially, its legal consequence: affirmative asset partitioning - that renders the ability to pay incorporated in the organization's income subjectively not attributable to any tax-payer other than the organization itself. There ensues the application of a separate tax on said income, to be paid by the organization itself which produced it. Such an interpretation may explain why organizations devoid of legal personality under commercial law (such as trusts) are equally subject to a separate income tax; and may rationalize - from a strictly legal perspective - the double taxation applicable to the income of corporate organizations.

The New Business Entities in Evolutionary Perspective

The many legal forms for business organisations that first appeared in the United States during the last thirty years — the limited liability company (LLC), the limited liability partnership (LLP), the limited liability limited partnership (LLLP) and the statutory business trust — all combine the pattern of creditors’ rights, or asset partitioning, that is traditional to the business organisation with the freedom of contract among investors and managers that is traditional to the partnership. To view these new entities as partnership-like is to treat the degree of freedom of contract as the essential difference between the traditional corporation and partnership forms; to view them as corporation-like is to treat the pattern of creditors’ rights as the essential difference. While recent scholarship often takes the former view, the latter seems more accurate. History shows that much of the contractual inflexibility in the traditional corporation served merely to buttress its pattern of creditors’ rights and that this inflexibility fell away upon the development of substitute sources of investor protection. The new forms are thus better understood as part of the continuing development of the corporate form rather than as entities more akin to the traditional partnership, which has in fact been evolving in a different direction. This article first develops this argument in terms of the trade-off between contractual freedom and the form of asset partitioning that to date has received the most scholarly attention, that is, limited liability. It then explores the evolution of the new forms from a less familiar perspective, focusing on the entity shielding component of asset partitioning.

The Economic History of Organizational Entities in Ancient India

The corporation is the most popular form of business organization. Moreover, as the economies of emerging markets leap forward the popularity of the corporate form, and other kinds of business organizations, continues to grow. In light of their widespread appeal, one is naturally inclined to inquire more about business organizations and how they developed over time. Many questions can be pondered including: where did business organizations, such as the corporation, originate; how old are they; have they taken the same form everywhere or have there been local variations; and what are the pre-conditions for their development. All these questions are important not only for their own intrinsic value, but also because of the insights they provide about the development of the corporate sector in emerging markets and about the prospects for convergence, of one kind or another, in corporate governance. Indeed, a series of important papers by Henry Hansmann & Reinier Kraakman and other authors examine these questions both in Rome and in Medieval Europe. The aim of this paper is to explore a number of these questions by examining the economic history and development of organizational entities in Ancient India. The paper finds considerable evidence that urges us toward a significant revision of the history and development of business organizations and corporations. The examination reveals that business people on the Indian subcontinent utilized a variety of organizational entities from a very early period. The sreni - a complex organizational entity that shares similarities with corporations, guilds, and producers' cooperatives - was being used in India from around 800 B.C. and was in more or less continuous use since then until the advent of the Islamic invasions around 1000 A.D. This provides evidence for the use of complex organizational entities centuries before the earliest Roman proto-corporations. In fact, the use of such entities in Ancient India was widespread including virtually every kind of business, political and municipal activity. Moreover, when we examine how these entities were structured, governed and regulated we find that they bear many similarities to corporations, guilds and other kinds of business organizations. The familiar concerns of agency costs and incentive effects are both present and addressed in quite similar ways as are many other aspects of the law regulating business entities. Further, examining the historical development of the sreni indicates that the factors leading to its growth are consistent with those put forward for the growth of organizational entities in Europe. These factors include increasing trade, methods to contain agency costs, and methods to patrol the boundaries between the assets of the sreni and those of its members (i.e., to facilitate asset partitioning or entity shielding and reduce creditor information costs). Finally, examining the development of the sreni in Ancient India sheds light on the importance of state structure for the growth of trade and business organizations as well as on prospects for some kind of convergence in corporate governance.

IPO Liability and Entrepreneurial Response

This paper explores how legal liability in the IPO context can impact an entrepreneur's decision of whether and how to take a firm public. Liability under the Securities Act of 1933 effectively embeds a put option in an IPO security, where the entrepreneur must insure the shareholder against poor firm performance, which inflates the price of the security and exposes the entrepreneur to risk. This may cause IPO firms to appear to underperform relative to non-IPO firms as the option value decays, and may lead the entrepreneur to undertake strategic (but destructive) responses to minimize the put value and his exposure to risk. Because of the value-destroying characteristics of these responses - which include initial underpricing, entrenchment, lower NPV projects, asset partitioning, and reduced disclosure - this state of affairs is inefficient compared to a system where the entrepreneur can simply allocate the risk to shareholders. While the Securities Act's risk-allocation regime may provide some benefits in the form of more accurate disclosure, the availability of substitute responses by the entrepreneur makes any such benefit uncertain.

The New Business Entities in Evolutionary Perspective

The many legal forms for business organizations that first appeared in the U.S. during the last thirty years - the Limited Liability Company (LLC), the Limited Liability Partnership (LLP), the Limited Liability Limited Partnership (LLLP), and the statutory Business Trust - all combine the pattern of creditors' rights, or asset partitioning, that is traditional to the business corporation with the freedom of contract among investors and managers that is traditional to the partnership. To view these new entities as partnership-like is to treat the degree of freedom of contract as the essential difference between the traditional corporation and partnership forms; to view them as corporation-like is to treat the pattern of creditors' rights as the essential difference. While recent scholarship often takes the former view, the latter seems more accurate. History shows that much of the contractual inflexibility in the traditional corporation served merely to buttress its pattern of creditors' rights, and that this inflexibility fell away upon the development of substitute sources of investor protection. The new forms are thus better understood as part of a continuing development of the corporate form rather than as entities more akin to the traditional partnership, which has in fact been evolving in a different direction. The essay first develops this argument in terms of the tradeoff between contractual freedom and the form of asset partitioning that to date has received the most scholarly attention - that is, limited liability. It then explores the evolution of the new forms from a less familiar perspective, focusing on the entity shielding component of asset partitioning.

The Economic History of the Corporate Form in Ancient India

The corporation is the most popular form of business organization. Moreover, as the economies of emerging markets leap forward the popularity of the corporate form continues to grow. In light of its widespread appeal, one is naturally inclined to inquire more about the corporation and how it developed over time. Many questions can be pondered including: where did the corporate form originate; how old is it; has the corporation taken the same form everywhere or have there been local variations; and what are the pre-conditions for the development of the corporate form. All these questions are important not only for their own intrinsic value, but also because of the insights they provide about the development of the corporate sector in emerging markets and about the prospects for convergence, of one kind or another, in corporate governance. Indeed, a series of important papers by Henry Hansmann & Reinier Kraakman and other authors examine these questions both in Rome and in Medieval Europe. The aim of this paper is to explore a number of these questions by examining the economic history and development of the corporate form in Ancient India. The paper finds considerable evidence that urges us toward a significant revision of the history and development of the corporate form. The examination reveals that business people on the Indian subcontinent utilized the corporate form from a very early period. The corporate form (e.g., the sreni) was being used in India from at least 800 B.C., and perhaps even earlier, and was in more or less continuous use since then until the advent of the Islamic invasions around 1000 A.D. This provides evidence for the use of the corporate form centuries before the earliest Roman proto-corporations. In fact, the use of the sreni in Ancient India was widespread including virtually every kind of business, political and municipal activity. Moreover, when we examine how these entities were structured, governed and regulated we find that they bear many similarities to corporations and, indeed, to modern US corporations. The familiar concerns of agency costs and incentive effects are both present and addressed in quite similar ways as are many other aspects of the law regulating business entities. Further, examining the historical development of the sreni indicates that the factors leading to the growth of this corporate form are consistent with those put forward for the growth of organizational entities in Europe. These factors include increasing trade, methods to contain agency costs, and methods to patrol the boundaries between the assets of the sreni and those of its members (i.e., to facilitate asset partitioning and reduce creditor information costs). Finally, examination of the development of the sreni in Ancient India sheds light on the importance of state structure for the growth of trade and the corporate form as well as on prospects for some kind of convergence in corporate governance.

On the Nature of Corporations

Legal experts traditionally distinguish corporations from unincorporated business forms by focusing on such corporate characteristics as limited shareholder liability, centralised management, perpetual life, and freely transferred shares. While this approach has value, this essay argues that the nature of the corporation can be better understood by focusing on a fifth, often-overlooked, characteristic of corporations: their capacity to “lock in” equity investors’ initial capital contributions by making it far more difficult for those investors to subsequently withdraw assets from the firm. Like a tar pit, a corporation is much easier for equity investors to get into, than to get out of. An emerging school of theorists has begun to explore the implications of this idea for corporate law and practice. The idea is still novel enough to lack a uniformly- accepted label—in addition to the phrase “capital lock-in,” scholars have described this aspect of incorporation as “affirmative asset partitioning,” “the absence of a repurchase condition,” and “asset separation from shareholders.” Whatever label one chooses, the idea shows great promise for illuminating a variety of thorny problems that have long troubled corporate scholars and practitioners. In illustration, this essay considers how the idea of capital lock-in sheds light on three corporate mysteries in the United States: the sui generis nature of corporate directors’ fiduciary duties; the rise of the large modern service partnership; and lawmakers’ enthusiasm for meddling with corporate governance rules.

On the Nature of Corporations

Legal experts traditionally distinguish corporations from unincorporated business forms by focusing on such corporate characteristics as limited shareholder liability, centralized management, perpetual life, and freely transferred shares. While this approach has value, this essay argues that the nature of the corporation can be better understood by focusing on a fifth, often-overlooked, characteristic of corporations: their capacity to lock in equity investors' initial capital contributions by making it far more difficult for those investors to subsequently withdraw assets from the firm. Like a tar pit, a corporation is much easier for equity investors to get into, than to get out of. An emerging school of theorists has begun to explore the implications of this idea for corporate law and practice. The idea is still novel enough to lack a uniformly-accepted label - in addition to the phrase capital lock-in, scholars have described this aspect of incorporation as affirmative asset partitioning, the absence of a repurchase condition, and asset separation from shareholders. Whatever label one chooses, the idea shows great promise for illuminating a variety of thorny problems that have long troubled corporate scholars and practitioners. In illustration, this essay considers how the idea of capital lock-in sheds light on three corporate mysteries: the sui generis nature of corporate directors' fiduciary duties; the rise of the large modern service partnership; and lawmakers' enthusiasm for meddling with corporate governance rules.

Agency Law and Asset Partitioning

The law's recognition of a corporation as an entity separate from its shareholders permits corporate planners to partition assets in a way that often contributes to economic efficiency. That first-mover advantage, however, is not unlimited and the law regularly limits the abuse of such planning, as in non-consensual settings where the entity named as the actor lacks sufficient assets to pay harms arising out of the business. Agency law has been a traditional means by which liability has been extended beyond the corporate entity in particular circumstances. This paper explores how this traditional use of agency law has dissipated and the growing use of agency law to reinforce separateness and asset partitioning, even in non-consensual settings. The central point of discussion is the Supreme Court's decision in U.S. v. Bestfoods, an environmental case in which the Court contained liability within a corporate subsidiary. The article suggests this use goes beyond traditional agency principles, such that a deeper analysis of this context would be warranted.

The Essential Role of Organizational Law

The Role and Structure of Organizational Law In every society, the law establishes a set of standard legal entities. In the United States, these entities include the business corporation, the cooperative corporation, the nonprofit corporation, the municipal corporation, the limited liability company, the general partnership, the limited partnership, the private trust, the charitable trust, and marriage. In important respects, the number and nature of these entities is often strikingly similar from one jurisdiction to another, but at the same time, there are conspicuous variations, even among jurisdictions with similar economies. In this essay, we focus on two questions: What are the common features shared by legal entities, and to what extent do these features require specialized legal rules? Our thesis is that the essential feature of organizational law is asset partitioning -- that is, the provision of a mechanism by which creditors of the firm obtain a priority claim in the firm's assets over individual creditors of the firm's managers or HBIs. The idea that partitioning a fixed pool of assets can reduce overall costs of credit by reducing monitoring costs is already familiar. In large part, however, the existing literature focuses on devices for asset partitioning other than organizational law (for example, security interests). Our contribution here is to demonstrate the close relationship between asset partitioning and organizational law.

The Essential Role of Organizational Law

In every developed market economy, the law provides for a set of standard form legal entities. In the United States, these entities include, among others, the business corporation, the cooperative corporation, the nonprofit corporation, the municipal corporation, the limited liability company, the general partnership, the limited partnership, the private trust, the charitable trust, and marriage. To an important degree, these legal entities are simply standard form contracts that provide convenient default terms for contractual relationships among the owners, managers, and creditors who participate in an enterprise. In this essay we ask whether organizational law serves, in addition, some more essential role, permitting the creation of relationships that could not practicably be formed just by contract. The answer we offer is that organizational law goes beyond contract law in one critical respect, permitting the creation of patterns of creditors' rights that otherwise could not practicably be established. In part, these patterns involve limits on the extent to which creditors of an organization can have recourse to the personal assets of the organization's owners or other beneficiaries ? a function we term defensive asset partitioning. But this aspect of organizational law, which includes the limited liability that is a familiar characteristic of most corporate entities, is of distinctly secondary importance. The truly essential function of organizational law is, rather, affirmative asset partitioning. In effect, this is the reverse of limited liability: it involves shielding the assets of the entity from the creditors of the entity's owners or managers. Affirmative asset partitioning offers efficiencies in bonding and monitoring that are of singular importance in constructing the large-scale organizations that characterize modern economies. Surprisingly, this crucial function of organizational law ? which is essentially a property-law-type function ? has largely escaped notice, much less analysis, in both the legal and the economics literature.

Organizational law as asset partitioning

Organizational law – comprising the bodies of law that govern standard legal entities such as business corporations, partnerships, cooperatives, nonprofit organizations, trusts, limited liability companies, and marriages – serves many functions of an essentially contractual character. These contractual functions – which include most matters involving the allocation of authority and earnings among the participants in the firm – could, however, be performed relatively easily by private contracting even in the absence of organizational law. A far more important function of organizational law, we argue, is its role in partitioning property rights between creditors of a firm and creditors of the firm's owners and managers. In particular, organizational law plays a crucial role in permitting the formation of a separate pool of assets that can be pledged to bond the contracts of which the firm is the nexus. While the law's role in partitioning off these bonding assets is seldom remarked, it is far more significant than the better-studied rule of limited liability that characterizes many, but not all, legal entities.

Contract and Fiduciary Duty

During the last two centuries, courts have been adapting this duty of loyalty and its remedy to other agency relations, under the title "fiduciary" duty.1 That is adaptation, not extension. The many agency relations that fall under the "fiduciary" banner are so diverse that a single rule could not cover all without wreaking havoc. Courts have applied the term to relations as diverse as guardian-ward, attorney-client, and bank-borrower. Does anything other than the word "fiduciary" and an appeal to a duty of loyalty (in its strong form, a duty that the agent work for the "exclusive benefit" of the principal) unite these situations? Principles of ethics? Is the fiduciary morally bound to act in a particular way, perhaps? Or are the different situations wholly distinct, so that a union's fiduciary "duty of fair representation" in labor law is unrelated to a corporate manager's fiduciary obligations to investors?

Unlimited Liability and Law Firm Organization: Tax Factors and the Direction of Causation

Previous articleNext article No AccessCommentsUnlimited Liability and Law Firm Organization: Tax Factors and the Direction of CausationRonald J. GilsonRonald J. Gilson Search for more articles by this author PDFPDF PLUS Add to favoritesDownload CitationTrack CitationsPermissionsReprints Share onFacebookTwitterLinkedInRedditEmail SectionsMoreDetailsFiguresReferencesCited by Journal of Political Economy Volume 99, Number 2Apr., 1991 Article DOIhttps://doi.org/10.1086/261757 Views: 10Total views on this site Citations: 4Citations are reported from Crossref Copyright 1991 The University of ChicagoPDF download Crossref reports the following articles citing this article:Tobias H. Troeger Asset Partitioning, Debt-Equity Agency Conflicts, and Choice of Organizational Form, SSRN Electronic Journal (Jan 2007).https://doi.org/10.2139/ssrn.1068063Paul Halpern Limited and Extended Liability Regimes, (Jan 2002): 1239–1249.https://doi.org/10.1007/978-1-349-74173-1_235Frank Mathewson, Michael Smart Professional Corporations and Limited Liability, (Jan 2002): 1540–1543.https://doi.org/10.1007/978-1-349-74173-1_294Peter Newman P, (Jan 1998): 1–198.https://doi.org/10.1007/978-1-349-14286-6_1