Key Takeaways

  • Pre-incorporation subscription agreements are contracts made before a corporation is formally created, often involving promoters and future shareholders.
  • Promoters play a critical role but can also face personal liability if agreements are not later adopted by the corporation.
  • Such agreements help clarify ownership interests, capital contributions, management roles, and dispute resolution before incorporation.
  • Courts vary in how they treat the enforceability of pre-incorporation agreements—ratification after incorporation is usually required.
  • Pre-incorporation subscription agreements provide certainty and structure, reducing risks of disputes among future shareholders.

Pre incorporation subscriptions are pre-incorporation agreements that promoters are subject to and which state their duties and compensations.

New corporations are often created by the efforts of promoters. These promoters may also have secured capitalization for the corporation by virtue of subscriptions.

Laws Controlling Promotion Contracts

Specific statutes, as well as general fiduciary principles, control promoters and their promotion contracts. Since the corporation did not exist before its formal creation, it can't be bound by agreements that were made before its incorporation — unless it ratifies the agreements after being created.

Role and Liability of Promoters

Promoters are individuals who take the initiative in forming a corporation. They often negotiate contracts, secure funding, and recruit shareholders before incorporation. However, promoters occupy a fiduciary position and must act in the best interest of the proposed corporation and its future shareholders. Courts have held that promoters cannot personally profit at the corporation’s expense without disclosure.

Promoters may also face personal liability for contracts entered into on behalf of the future corporation. Since the corporation does not legally exist yet, it cannot be bound by these contracts unless it later adopts them. In such cases, the promoter remains liable if the corporation refuses adoption. This underscores the importance of carefully drafting pre-incorporation subscription agreements to allocate risks fairly.

Stock Subscriptions

Stock subscriptions are defined as agreements that state the number of shares (of a yet-to-be-formed corporation) to be purchased at a particular price. This term is often used in sales agreements of post incorporation stock. If there is no corporate or statutory restriction, any corporation, or natural person with appropriate power, can subscribe to shares of corporate stock.

The creation of stock subscription contracts is generally governed by the rules and statutes applicable to contract formation. A completed stock subscription contract becomes existent when the corporation accepts the subscription offer. In the meantime, the subscriptions constitute a continuing offer if it is supported by adequate considerations such as subscription promises from other subscribers.

Purpose of Pre Incorporation Subscription

A pre-incorporation subscription agreement serves as a commitment to purchase shares once the corporation is formed. These agreements assure promoters that adequate capital will be available to launch the business. Investors benefit by locking in their ownership interest early, often at a favorable valuation.

In practice, such agreements can:

  • Guarantee a minimum level of capitalization.
  • Provide transparency regarding who the initial shareholders will be.
  • Set expectations for payment schedules and methods.
  • Avoid disputes about ownership once the corporation begins operating.

Pre-incorporation Agreements?

Pre-incorporation agreements can be described as follows:

  • An agreement between individuals who contemplate the formation of a corporation in the future. Each individual designates the share volume he will take when the proposed corporation has been created.
  • An agreement between an individual and promoters of a corporation where a promise is made by the individual to the promoters stating the number and class of shares that the individual will take when the promoters create the corporation. This differs from the former case because the agreement is between the promoters and a third-party individual.
  • A transaction between an individual and an existing corporation where a designated number and class of shares are created for the individual. This occurs in cases where the delivery of a share certificate is contingent on the fulfillment of certain pre-agreed payments to be made to said individual.
  • A contract between an individual and a corporation whereby it is agreed that a certain number and class of shares will be created for the individual. In this case, the contract may be between the corporation and an individual, or the corporation and a number of individuals. The subscription list is circulated among the individuals and signed by those who desire to have the additional shares created for them at a later date.

Common Provisions in Pre Incorporation Agreements

Most pre-incorporation agreements, including subscription contracts, contain certain recurring provisions, such as:

  • Capital commitments – how much each party will contribute and when.
  • Ownership allocation – percentage of shares or membership units each person will hold.
  • Management roles – expected officer or director appointments.
  • Profit sharing – agreement on dividends or reinvestment policies.
  • Transfer restrictions – limits on selling or transferring shares to outsiders.
  • Dispute resolution – how disagreements will be settled, including arbitration or mediation.

These provisions provide stability and help reduce the likelihood of disputes once the corporation is operational.

Creation of Pre-incorporation Agreements

Pre-incorporation agreements are created by corporate promoters who then create the company by filing the articles of incorporation. The corporation is not a party to the agreement since it hasn't been created yet. If for any reason the corporation isn't formed or doesn't adopt the agreement, the corporation's promoters could be held personally responsible for a breach of the agreement.

Pre-incorporation agreements usually state the intended legal name of the corporation. To indicate the limited liability status, some states also require the attachment of a suffix to the corporation's name. Before going ahead with the incorporation process, a name availability search must be performed to determine the availability of the chosen name and whether it is already in use. This can be done by checking your state's SOC website.

For corporations that will operate using a DBA, the trade name must also be listed. Doing this helps establish the intention of the corporation to use the name in business proceedings. This is a requirement for registering trademarks that are not in use.

The state of incorporation refers to the place where the corporation has its principal business location. However, individuals can incorporate in a different state and pay the fees for doing business in their home state. For instance, many individuals choose Delaware for incorporation purposes, due to the friendly nature of the corporation's legal system.

Although the differences between a current stock subscription and a pre-incorporation subscription agreement are considered by some as an unimportant part of corporation law, to others, it serves both a practical and theoretical value. However, it is basically a vague distinction whose only difference is in the manner of interpretation.

Enforceability and Legal Considerations

Courts differ on the enforceability of pre-incorporation agreements. In many jurisdictions, such contracts are not automatically binding on the corporation unless ratified after incorporation. Some courts have treated them as binding promises, particularly if reliance or fairness is at stake.

Legal considerations include:

  • Adoption requirement – the corporation must formally adopt the agreement after formation.
  • State law variations – different states impose different statutory rules on promoter liability and enforceability.
  • Third-party reliance – courts may enforce agreements to protect investors who relied on the subscription.
  • Fiduciary duties – promoters must disclose material facts and avoid conflicts of interest.

Because enforceability depends heavily on state law and judicial interpretation, parties are encouraged to seek legal advice before entering into such contracts.

Frequently Asked Questions

  1. What is a pre-incorporation subscription agreement?
    It is a contract where individuals agree to purchase shares of a corporation once it is formed, providing assurance of initial capitalization.
  2. Who is liable under a pre-incorporation agreement?
    Promoters may be personally liable unless the corporation, once formed, adopts the agreement. Liability shifts only after adoption.
  3. Are pre-incorporation agreements legally enforceable?
    Enforceability varies by state. Generally, the corporation must ratify the agreement, but some courts enforce them to protect reliance interests.
  4. Why use a pre-incorporation subscription?
    It ensures early commitment of funds, clarifies shareholder roles, and reduces disputes about ownership once the corporation begins business.
  5. What should be included in a pre-incorporation subscription agreement?
    Key provisions include capital contributions, ownership percentages, management roles, transfer restrictions, and dispute resolution mechanisms.

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