Crafting a Partnership Agreement: Key Considerations and Elements
Considerations When Drafting a Partnership Agreement
The purpose of a Partnership Agreement is to regulate the operation of the partnership business. It predominantly determines the rights and duties of the partners towards one another and the business itself.
A Partnership Agreement is not a legal necessity when running a business as a partnership. This is because a partnership is created and persists for so long as it meets the statutory definition of a Partnership:
“s1(1) Partnership is the relation which subsists between persons carrying on a business in common with a view of profit.”
The Partnership Act 1890 will apply in its entirety in the absence of a Partnership Agreement. If it is silent on fundamental matters, then the relevant provisions of the Partnership Act 1890 will apply in default.
Section 24 Partnership Act 1890 contains the main provisions that will apply to a partnership in the absence of an express partnership agreement. For example, partners are not automatically entitled to either a salary or any interest on their initial capital contribution, but they are entitled to interest at 5% per annum on capital contributions made thereafter.
Name
Stating the trading name of the partnership adds certainty to any goodwill that attaches to that name. It may be desirable to include a mechanism for changing the name if all partners agree etc.
Place and Nature of Business
Outlining the geographical area where business takes place and describing the nature of business (legal, accounting, etc.), is another way of creating certainty for the partners about the business they are involved in.
Duration
Establishing the duration of a partnership is critically important, given the default position under the Partnership Agreement 1890.
If the partnership has no fixed duration, it is considered a partnership “at will”. The Partnership Act 1890 enables any single partner to bring this type of partnership to an end (dissolution), by simply serving notice on the others.
It is usually desirable for the agreement to restrict this right, so that the partners do not have the constant insecurity and instability of knowing that their business could be brought to an end on a whim.
The restriction could take the form of a notice period for dissolution (perhaps several months), which would give the remaining partners time to make arrangements to buy the outgoing partners share.
The restriction could also take the form of a fixed term duration. By stating that the partnership will exist until a specified future date, the partnership is not considered a partnership “at will”, and so can’t be dissolved in the way mentioned above.
The most flexible solution is for the agreement to state that the partnership will continue for as long as there are two partners on board. This has the advantage of not committing any of the specific partners to a fixed term in the business.
Roles
Depending on the nature of a business, each partner may have a different function which relates to their skills and expertise. The Partnership Act 1890 confers a right for all the partners to participate in the management of the business. This may not be the most efficient way to manage a partnership business.
Defining roles deters partners from encroaching on areas of the business that they are not intended to be involved in. Should a partner act outside of their assigned role, the others could sue them for breach of contract.
Decision Making
The Partnership Act 1890 provides for day-to-day decision making to take place by majority vote, with one vote per partner.
If each partner has their own responsibilities (perhaps defined in the agreement as their “role”), then it may be more suitable to delegate decision-making in different areas of the business to a particular partner or group of partners.
Asset Ownership
A partnership asset is an asset where beneficial ownership of that asset rests with all the partners, although not necessarily in equal shares. Unlike a company, a partnership cannot own property in its own right.
Disputes and confusion about partnership property can therefore arise. This is particularly true when property is owned by an individual partner but brought into the partnership for use.
It can be avoided by listing what the assets of the partnership actually are; usually this will be within a schedule, attached to the main partnership agreement.
Profit/Loss Sharing
This will usually be stipulated as either an equal share or a fixed percentage of profits. The latter is typically expressed as a ratio, which is applied to partnership profits after salaries and interest on capital have been deducted.
The agreement will need to deal with potential losses separately if the partners wish to apply a different formula to the profit-sharing ratio.
Drawings
A partnership can face cash flow and other problems if it fails to maintain a healthy bank balance.
To avoid this, it may be prudent to place limits on the annual amount that each partner is entitled to draw from the partnership’s business bank account for personal use.
Capital Gains/Losses
The default position under the Partnership Act 1890, is for the proceeds of any capital assets sold by the partnership to be distributed equally between the partners.
If there is a disparity between the capital contributions of the partners, they may feel it is fairer for gains and losses in capital assets to be shared accordingly. Any alternative kind of capital profit sharing arrangement will need to be reflected in the agreement.
Author: Edward Bennett-Gibbon -
Author: Edward Bennett-Gibbon -
In partnership with
DISCLAIMER
This article has been written by law students for the sole purpose of providing informative insight. The information in this article is intended for educational purposes only and does not constitute legal advice, nor should the information be used for the purpose of advising clients. You should seek independent legal advice before relying on any of the information provided in this article.
Sources
Mavrikakis A, “14,” Business law and practice (College of Law Publishing 2022)
Author Craig Hollingdrake 23rd Jul 2021, “Partnership Agreement Law & Practicalities: RNLLP” (Richard Nelson LLPApril 4, 2022) <https://www.richardnelsonllp.co.uk/guides/partnership-agreements-law/> accessed March 28, 2023
Asquith A, “What Is a Partnership Agreement?” (Alston AsquithMarch 1, 2021) <https://www.alstonasquith.com/insights/partnership-agreement/> accessed March 28, 2023
Sillar S, “The Importance of Having a Properly Drafted Partnership Agreement - Frettens Solicitors in Christchurch, Ringwood, Bournemouth” (Frettens) <https://www.frettens.co.uk/site/library/frettensnews/property-drafted-partnership-agreement-solicitors-bournemouth> accessed March 28, 2023
