Series 22 Exam Lesson 13 Fiduciary Responsibilities: 2021

Lesson 13 Fiduciary Responsibilities:

Fiduciary Responsibilities
A statement must be disclosed that lists the fiduciary obligation of the general partner. The specific language is set down by the SEC. If there is an exculpation or indemnification provision, additional disclosers are required. Exculpation means that the general partner may not be liable to the partnership for errors in judgement or other ommissions that do not amount to willful misconduct or gross negligence. Indemnification means they cannot provide indemnification of the general partner for liabilities he or she incurs when dealing with third parties while fulfilling official duties.

Risk Factors
Certain risk factors have to be disclosed in the prospectus, including the following.
The risk of auditing by the IRS if applicable. The auditing can also come to an investor’s individual tax return.
The risk of losing their current tax status with the IRS and thus losing benefits.
The risk that their tax liability may exceed their cash distributions in the later years.
The risk that their tax liability may result in an out of pocket expense for the investor.
If the management has a lack of experience with this kind of partnership.
That the proceeds of the offering may not be enough to meet the objectives of the partnership.
The risk of having a lack of liquidity.
The legislative risks that can occur because the laws and regulations change.
There is a greater risk if a large portion of the proceeds are not committed to specific properties, because this introduces a certain amount of uncertainty.

Prior Performance of the General Partner/Affiliates

The prospectus must include the 10-year performance record of the general partner and affiliates, including:
The sponsor’s experience with all other public and private programs.
The number of programs they have sponsored and the total amount of money raised.
The number of investors in these programs.
The number of properties purchased and their locations/regions.
The percentage of residential/commercial properties purchased. The types of commercial properties broken down by type.
The number of properties sold.
A list of any major adverse business developments/conditions that would be considered material facts.
Historical use of proceeds by prior programs.

These should be broken down in public and non-public programs. It should also include the most recent annual report filed with the SEC.
It also needs to be disclosed if the program is going to rely on the management of a non-affiliate.

Tax Implications
The purpose of included a tax disclaimer section is so that every investor knows how the program is going to affect them. It helps them understand that they will have to report their gains/losses on their individual tax return. These disclosures should detail the following:

That the investor can only deduct his or her share of the partnership losses.
How any loans taken out by the partnership can impact the investor.
How the debt level of the partnership can affect the investor.
Any deductions that may be disallowed by the IRS.
The method of depreciation being used for tax purposes and a disclaimer that the IRS may challenge this.
How first-user status is ascertained if this is used.
The fact that tax rates can change on the partnership depending on circumstances.
The partnership can be audited, which can cause adjustments to occur and that this can affect both partnership income and income outside the partnership.
A person is not allowed to enter into a partnership simply to reap the tax benefits. They cannot try to take losses simply so they can be written off on their taxes. You have to be able to prove this even if the partnership itself has a genuine motive.
If you gift someone your interest in a partnership, it may result in tax liability for the donor.
The information about the operations of the partnership is reported to the IRS, using form 1065. All the names and addresses of the partners and their share of the income must be disclosed. The partnership itself does not take deductions or pay taxes, but the member do. The IRS fills out form K-1 for each person, and this form is listed on the individual’s returns.
The following are not considered partnerships for tax purposes:
Legal corporations
Joint-stock companies
Insurance companies
Some banks,
Government organizations
Some foreign organizations
A tax-exempt organization
A real estate investment or some other trusts

Member Private Offerings
Sometimes FINRA member broker-dealers want to raise money in order to pay operating expenses and to expand. They can try to do this through a member-private offering or MPO, which are subject to certain guidelines.
For private offerings, they need to create a private placement memorandum/term sheet that must be given to every prospective purchaser. It must disclose the intended use of the proceeds and the expenses of the offering, including compensation to those working on it.
For an MPO, at least 85% of the proceeds much be used to operate the business. The member cannot use these proceeds to offer costs, commissions or any non-cash incentives to anyone who is connected to the offering.

Dissolving a Limited Partnership
A limited partnership usually ends when certain events happen or on a certain date that was set down in the initial agreement. It can also dissolve if the partnership agreement allows for the members to vote to do so. These regulations have to comply with any state requirements. If the partners wish to dissolve the partnership, they should all be called together as outlined in the agreement, usually with about 30 days written notice. All the limited and general partners should then vote to see who is in favor of dissolution. All the general partners and a majority of the limited partners must vote in favor of dissolution in order for it to pass. The votes should all be recorded and kept in records. If the vote passes, the general partner may be appointed to handle liquidation or they can hire an outside agency to do this.
The general partner should file a certificate of partnership cancellation with the state that includes an effective date. They then liquidate the assets and pay any outstanding taxes, wages, or other liabilities.
The initial capital is then returned to the investors and anything above that is distributed as well. Any non-liquidated assets are also distributed among the partners.
All interested parties connected to the partnership, such as vendors/suppliers, should be notified.
The final IRS form 1065 should be filed so that a final K-1 form can be given to all partners.