About Me

My photo
Rachel Kosmal McCart is a lifelong horsewoman and the founder of Equine Legal Solutions, PC, an equine law firm based in the Portland, Oregon area. Rachel is a member of the New York, California, Oregon and Washington State bars and is admitted to practice before the U.S. District Court for the District of Oregon and the U.S. District Court for the Central District of California. Rachel currently competes in three-day eventing.

Monday, April 30, 2012

Horse Partnerships: Minimizing Risk, Maximizing Return

In today's economy, horsemen and women are more likely than ever to pool their resources to purchase horses for resale.  Trainers and clients frequently partner on resale horses, with the client providing the purchase money and the trainer providing the labor. Whether the partners intend to resell the horse quickly or they're planning to take the time to train a young horse and bring it along, the partners' goals are the same: Minimizing risk and maximizing return.  

Why Partnership is a Dirty Word

For horse co-owners who don't have a partnership agreement or co-ownership agreement that effectively limits their personal liability, each partner has unlimited personal liability for the other partners' actions.  What that means:   Partners A and B co-own a horse.  Partner A is a trainer and Partner B is trainer's client.  Partner A takes the co-owned horse to a show.  Due to Partner A's negligence, the horse kicks someone in the warm-up area, seriously injuring them.  Like many trainers, Partner A has a lot of debt and not much income.  The injured party sues both Partner A and Partner B.  The injured party could collect the entire judgment from Partner B, even though Partner A was at fault.  More information about horse partnerships and liability

Liability Insurance Can Help, But...

There are several ways to limit horse co-owners' personal liability.  Horse partners can limit their personal liability associated with the horse by purchasing horse owners' liability insurance.  This type of insurance policy will protect the co-owners from liability associated directly with the horse, such as in the example above.  However, horse owners' liability insurance won't cover debts incurred by the horse partnership.  What this means:  Without Partner B's knowledge or permission, Partner A buys a custom saddle for the co-owned horse and then pays the saddle maker with a bad check.  Knowing that Partner B co-owns the horse and is likely to have more money than Partner A, the saddle maker sues Partner B for the cost of the saddle.  The saddle maker could collect the debt from Partner B, even though Partner B didn't know about the saddle, because Partner A incurred the debt on behalf of the partnership.  More information about horse owners' liability.

Contracts are Helpful, Too, But...

Like any well-drafted contract, a horse partnership agreement or co--ownership agreement, such as ELS' Equine Co-Ownership Agreement form, serves some very important purposes.  It helps minimize the potential for conflict among the co-owners or partners by putting everyone's expectations in writing before anything happens (bad OR good!).  Who pays for what?  Where will the horse be kept?  Will the horse be shown, and if so, at what shows, by whom and who will pay for it?  What happens if one of the partners needs to exit the partnership, or the majority of the partners want to eject another partner from the partnership?  Can the horse be sold, and if so, how will the partners decide when to sell the horse, how much to ask for it, and who will have responsibility for showing the horse to prospective buyers?  What happens if the horse dies or becomes disabled?  A good horse partnership agreement or co-ownership contract will cover all of these terms and more.

While a horse partnership agreement can allocate liability among the partners, this allocation is only as good as the partners' pockets are deep.  For example, a horse partnership contract might state that if one of the partners is sued in connection with the co-owned horse (and the other partners are not), that partner can seek pro rata reimbursement from the other partners.  However, if the partners who weren't sued don't have any money, the partner who was sued is left paying his or her own legal expenses.

Limited Liability Company Ownership is Often the Best Solution

Instead of forming a general partnership to purchase an investment horse, Equine Legal Solutions typically recommends that the co-investors who would otherwise be partners form a limited liability company (LLC), have the LLC own the horse, and have the would-be partners own the LLC.  The principal advantage of this arrangement is to limit the investors' personal liability to the amount of their investments in the horse.  If the investors happen to be sued personally in connection with the horse, they have a ready legal defense:  They don't own the horse; rather, the LLC does.  More about limited liability companies and what they do.

At the same time, the LLC's governing document, the operating agreement, can set forth all of the same types of terms and conditions typically included in a horse partnership agreement, such as those discussed above.  Like a well-drafted horse partnership contract, a well-drafted LLC operating agreement can help reduce misunderstandings and set the investors' expectations appropriately. To cover its exposure to legal claims connected with the horse, the LLC can take out a liability insurance policy and make sure that the policy also covers the investors (as owners of the LLC).

Are there Drawbacks to Forming an LLC?

There is, of course, cost associated with forming an LLC.   The investors will have to pay the Secretary of State a filing fee to form the LLC, and unless they form the LLC themselves, they will have to pay an attorney to form the LLC for them. Because most horse investors don't have the experience and legal training necessary to draft a comprehensive LLC operating agreement tailored to their specific needs, it's generally a false economy to try and save money by using a cheap online filing service to form an LLC for a horse partnership.  The filing services only do the easy part, which is filing the formation document with the Secretary of State, and they leave the hard part, drafting the operating agreement, to the investors.  ELS offers LLC formation for a reasonably priced fixed fee.  

The LLC will also have to file a state and federal tax return each year.  This means, in most states, that the LLC will have to pay a minimum state franchise tax, whether the LLC makes a profit that year or not.  Franchise taxes range from expensive ($800 in California in 2011) to not-so-expensive ($150 in Oregon in 2011).  The investors will also have to pay a CPA or licensed tax preparer to prepare the LLC's tax returns, or take the time to do it themselves (if they have the requisite skills and experience).

When the LLC's purpose has been completed, the investors will also have to dissolve the LLC.  The cost associated with dissolving an LLC is typically quite minimal, however, and it may not be necessary to dissolve the LLC for years or even decades.

No comments: