Partnership Agreements

Partnership Agreements:
A Comprehensive Guide (2020)

A written partnership agreement is essential when conducting business with a partner.

To settle down the conflicts on later stages, business partners do need to have rights and responsibilities sort out in an agreement to avoid the minor misunderstanding that may lead to full disputes. A partnership agreement helps in devising a relationship structure with the business partners according to the requirement and nature of business. The partners decide on establishing the shares of losses and profits between them, the responsibilities on each partner's side, outcomes if one partner wishes to leave, and other similar important information.

An agreement between the business partners is called a business partnership agreement. There are no definitive requirements that are necessary to be included in the partnership agreement or certain specific issues to deal with. It is a general document that contains a set of obligations and partners right, which is tailored according to the business.

Aim of a partnership agreement

The aim of a partnership agreement are the following:

  • To carefully describe the partner's intentions for the partnership business,
  • To govern and record the relationship between partners,
  • To protect the sum of business partners
  • To protect the business property of both partners
  • To promote the smooth running of the partnership business

To achieve the above aims, the business partnership will require a comprehensive and extensive agreement which must contain specific provisions to meet all these aims, and these provisions are those which govern:

The induction and exit of partners

A partnership agreement will usually set-out and define the criteria for the new partner's induction, the conditions in which a partner may voluntarily or willingly leave the partnership, and circumstances in which they are compelled to leave.

Property investment by business partners

This is one of the important provisions where partners invest their property into the partnership or allow the use of their property in partnership business.

Each partner share from the partnership business

The partnership agreement usually defines the criteria of losses and profits share among the business partners and also how partners can draw their income at which time of the year. These provisions are based on various factors like property, time, and capital invested by the partners.

Decisions of partnership

These provisions deal with decisions involving the partnership and its business that include partnership liability concerning the commitments individual partners agreed on.

Is the partnership agreement necessary?

Partnership agreements are not necessary, and it is not required for partners to enter into the agreement. In such cases where there is no written agreement, the state laws are applicable, which define the default set of laws, obligations, and rights to proceed with the business partnership and partner relationship. The agreement between partners about the business is voluntary. This is to provide a clear-cut understanding of the partner's relationship and to protect the investment made by partners in the business. This is the reason why a written business partnership agreement is especially important so that there is mutual clarity between the partners. By entering into such agreement, capital investment and property disputes have been resolved in advance and can be avoided in the future.

Partnerships and the business of the partnership

Partnerships are formed when two independent parties want to work together on a business venture. There is no separate legal identity that represents the company or limited partnership. Similarly, the partnership cannot own any assets. This means that all the assets must belong to partners. Unless partners agreed on sharing their assets as partnership assets in which each partner owns share in partnership assets and holds that share on trust for partnership benefit, this is commonly known as ownership.

Who can be a partner?

Partners in partnership business can be companies, individuals, or other entities of legal nature. The inclusion of a new partner in the partnership must be a collective decision of the other already present partners. This is essential for partnership growth. The one decision or majority of partner consent is suitable in this regard. This also is the case in which the partners who invest more have more weightage in deciding the appointment of new partners.

Promoting business and investing time in partnership

Every partner has the right to take a role in the matters of the business in partnership. This specific designation may not be workable in the case of partners investing a large sum in the partnership, and other partners do not want to have an opinion in running a business. A partnership agreement should clearly state these rights, including information on exactly how much time partners agreed to devote to their partnership.

Partnership financing

Drawings of income from profit in the business partnership are permitted to partners throughout the year. A partnership business agreement should set out obligations and rights for drawing the income and their accounts treatment. All the partners are obliged to share the business loss and profit equally. This is applicable on income profits and as well as capital. The partners may want a large share in business profits or different capital treatment or income profit treatments, and they may also demand different treatment for the business losses than profits or gains. The small business partnership agreement should include the calculation ways for-profit and losses, including expenses claims by partners, prior drawing of their share, etc. The finance accounts like bank accounts of the partnership are also controlled by specific rules mentioned in the agreement, like opening and closing bank accounts, change of bank used in partnership, nominating a person who has the permit to write the cheques, and also set the limits.

Decisions by partners

According to the partnership agreement, all partners may have the right to participate in the management of the partnership. Generally, important decisions must be taken by the majority of partners. Sometimes, decision votes are distributed based on the capital investment by the partners. Unanimous agreement may be required as per the general agreement concerning certain decisions of fundamental nature in partnership. In a larger partnership, the case will be different or where different amounts are invested by partners on capital, property, time, and expertise. Some situation requires special majority decisions of partners as allowed by the partnership agreement, like reducing the unanimity to at least 75 percent of agreement between partners. Rules are also applied for the admission of a new partner or the exiting of a partner.

The binding commitment of the Partnership

Each partner is the agent of the other partner. This is the fundamental principle of partnership. Please refer to our partnership agreement checklist for more details on forming a partnership.

Each partner in the business has the full right to form binding commitment in the business. In business partnerships, partners are liable for commitments with their fellow partners. This right of partners in the partnership agreement is like restricting employees from incurring credits, financial limit commitment, and giving a guarantee. This doesn't mean that such restrictions can hinder partners from entering into a binding agreement based on partnership. This partnership agreement will also give the right to other partners to hold a partner account for exceeding his authority under the circumstances of the partnership agreement.

Exiting partnership

Here are some ways of exiting a partnership:

  • To specify the time when the partnership begins, it's duration and how it varies is usually mentioned in the partnership agreement.
  • The partnership agreement prevents dissolution of partnership on notice.
  • The agreement defines retirement rules, and compulsory retirement must also prove and justified
  • The partnership agreement provides rules for the partnership to continue in cases where the partner dies or goes bankrupt.
  • A partnership agreement also allowed the clause and event that may cause the expulsion of a partner, but that power must be used in good faith and is not the case of a personal dispute.
  • The partnership business agreement also implements on partners to share capital and profits of the partnership equally and will also have to contribute towards any losses in business equally.
  • The partnership agreement should also deal with the capital repayment on the partner expulsion, retirement, or death.
  • The business partnership agreement also specifies that the property used in partnership is either owned by the partnership collectively, or by an individual partner.

Defining the ownership of property as assets is essential, especially in the event where partnership becomes invalid or a partner wishes to leave, or a partner declares bankruptcy. The partnership property is used first to meet the liabilities of the partnership, and it should be secured by the partners assets as well.

The information in the partnership agreement contains the set of partnership accounts, including the leaving date of the partner. The partnership accounts are used for calculating the share of income and capital of the leaving partner. The leaving partner is usually paid in instalments to ease the burden on the remaining partners. The extensive partnership agreement provisions should include rules regarding the preparation of accounts when the partner exits from the partnership, and the agreement must contain that the assets should be re-valued or goodwill included.

Protecting the investment of partners

In a business partnership, the partners are aware of everything about the business. To protect the business in partnership, the partnership business agreement must include provisions for the non-compete. The agreement also permits partners to agree on a certain time duration, after which if partner leaves, then he is not permitted to start a business or compete with the partnership business. This restriction and limitations are applied to certain territorial areas and for a definitive time duration when a partner leaves.

The business partnership also has certain provisions to protect the partnership business, and it also prevents the partners from:

  • Induction of staff employed by the partnership
  • The hiring of customers of the partnership
  • Interference with the suppliers of the partnership

These provisions should be applied to all the partners still in the partnership and for a reasonable period after they leave.

The partnership agreement also impose rules for confidentiality on the partners to ensure the retention and protection of critical information of the business.

This information includes:

  • Data about the customers and suppliers of the partnership
  • Data of terms of the business and the partnership itself
  • The privacy terms of the partnership agreement

This confidentiality remains intact even if a partner is no longer part of the partnership.

Formal winding up of Partnership

The dissolution of a partnership occurs when the partners agree on terminating the partnership as a whole. The dissolution of partnership means the winding up of all business affairs. If the case is that in which the dissolution is assumed to occur because of the partner, which leaves at a point where the partnership cannot continue, but if remaining partners want to, then they can continue the business partnership.

The laws govern by partnership agreement provide the rules for the dissolution like:

  • The collective decision of partners to dissolve the partnership
  • The fixed-term partnership expiry
  • Partner death or partner bankruptcy

The partnership agreement is an extensive document that may include a clause that can be amended for the circumstance in which the partnership can be dissolved, or other dissolution events information is also provided.

The dissolution of business partnerships usually ends up in winding up. The winding-up includes the assets to be sold, the payment of the debts of the partnership, and any surfeit to be distributed to the partners per their entitlement.

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