Business Law & Compliance
To deed or not to deed – seven reasons you need a partnership agreement
6 min read
12 January 2018
The start of a new venture, particularly a joint one, is an exciting time. Often the formalities of how the business should be set up are forgotten in lieu of getting it off the ground. But there are reasons why you need a partnership agreement from the get-go.
No one wants to consider what might happen if times are tough or there is a falling out between those involved. So many new joint ventures run along without a written partnership agreement.
At a very early stage in a business’ life, even before money is made, it is possible that a partnership has already been formed. Most likely it will be a “partnership at will” under the Partnership Act 1890 (the “Act”).
There is a very broad definition of “partnership” under the Act:
• More than one person;
• Carrying on business together; and
• With a view to profit.
If there is a dispute in the future, without any partnership agreement setting out the precise terms relating to how the partners will deal with each other, the default provisions in the Act will automatically dictate the relationship between them. Partnerships in which some people provide the money and others the time, present particular problems. Those default provisions may be far from what the partners actually want, they include:
1) Equal contributions in capital, profits and losses
What if one partner invested (or subsequently invests) more than the others in time or money? Unless there is a partnership agreement stating what happens in such a circumstance, that partner will not get a share of the profits that reflects their larger investment. Should a higher level of investment give that partner a casting vote or right of veto that prevents them from being defeated by a simple majority of the other partners in decisions affecting the partnership business?
2) All partners may take part in management of business
There is no such thing as a “silent partner” or “sleeping partner”. Unless there is a partnership agreement to the contrary, all individuals get a vote. If you have invested, you have a say – subject to being overruled by the majority.
3) No partner is entitled to remuneration for acting in the partnership business
They are only entitled to an (equal) share in the profits. This may not be suitable if one partner is doing more work/introducing more business than the others and wants to be rewarded for that or is engaged full-time working in the business while others only work part time.
4) Dissolution is always a threat
Any partner may end the partnership at any time. This can be particularly problematic if there is a dispute and one partner uses the threat of dissolution as a lever. It may not be a good time to bring the relationship to an end, for example, if the project for which the partnership was established has not reached its conclusion. There is no way for a disenchanted partner to retire other than to dissolve the partnership unless it is agreed otherwise.
5) There is no power for the majority to expel a partner unless agreed between them
This can be a game changer for the business. If one partner underperforms or there is misconduct then the only way to remove them would be to dissolve the partnership. If there is an otherwise successful business this may not be what the other partners want at all and can decimate the good will the business has built up over time.
6) There are limited restrictions on the conduct of former partners unless agreed to in writing
If there is an agreement, more onerous restrictions can be placed on exiting partners, for example to prevent the leaver setting up in competition or poaching customers or staff of the business.
7) Partners are jointly liable for debts and obligations incurred
If there is misconduct by one partner that leads to an obligation for the business, there is no automatic right for the other partners to pass that liability on to the partner who has behaved wrongly.
Similar (although not identical) considerations can apply to all forms of joint enterprise, whether it is a partnership, a limited liability partnership (LLP) or a Limited Company. It is always best to consider at the outset what the aims of the business are and what the responsibilities of those involved should be and record them, whether through a partnership agreement; or a members agreement (for an LLP); or a shareholders’ agreement (for a limited company).
Spending a little bit of time on this issue at the beginning can avoid the potential for real trouble in the longer run.
Nina Ferris is legal director at Hill Dickinson LLP