California's New Entities: Benefit Corporations and Flexible Purpose Corporations

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As of January 1, 2012, two new subtypes of traditional business corporations may be organized under the California Corporations Code – benefit corporations (§§14600-14631) and flexible purpose corporations (§§2500-3503). Both free their directors from having to manage strictly for the economic benefit of shareholders, enabling them to address social objectives such as preserving the environment, promoting the interests of the underserved and improving human health. Patagonia, the outdoor apparel company, became California’s first benefit corporation on January 3rd. It remains to be seen whether the new corporate forms will be popular entity choices, whether they will be effective in promoting socially desirable goals, and whether unexpected problems will arise for early adopters as a result of their untested nature. While these types of entities are new, and as a result certain tax issues associated with their use may be unclear, there does not appear to be any obvious tax benefit to the use of either structure.

The directors of business corporations have a fiduciary duty to manage their corporations for the economic benefit of their shareholders. Corporations often make charitable contributions and take other socially beneficial actions. These are justified by the proposition that they enhance shareholder value by improving the image of the corporation and its brands. If the directors get too carried away with good works, they can be sued for violating their fiduciary duty to shareholders by wasting corporate assets to pursue social objectives. The charters of both benefit corporations and flexible purpose corporations expressly include social objectives among the purposes that they may pursue, even if the pursuit reduces the economic benefits provided to shareholders.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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