Partnership Agreement – Why?
28 July 2015 by Ashton Carter
Unlike when setting up a limited company, there is no registration process to observe or formal requirements to follow in order to create a partnership. A partnership is simply formed as soon as two or more people operate a business together with a view to making a profit. So if this is the case, why should you go to the time and expense of drawing up a partnership agreement?
If there is no agreement in place between the partners, the terms of the partnership will automatically be determined by the provisions of the Partnership Act 1890 (PA 1890). You may think that this will save you time and money but, unfortunately, the provisions of the PA 1890 are now slightly outdated (as you may expect from an Act passed 125 years ago) and may not be in the best interests of you or your business.
For example, under the provisions of the PA 1890, all partners will share the profits and losses of the business equally. While this seems fair at first glance, it may be unfair to a partner who has invested significantly more capital into the business than the other partners. In this scenario it may not be unreasonable for this partner to receive a larger share of the partnership’s profits; however this will not be possible without a partnership agreement in place.
Furthermore, a simple majority is ordinarily all that is needed in order to make decisions regarding the partnership, unless the decision relates to a change of the nature of the business or the introduction of a new partner. Therefore, you may want to tighten or relax the decision-making process depending on the decision being made.
For example, you might want a decision to borrow money from a bank to require unanimous consent of the partners due to the potential consequences of default. Conversely, individual partners alone may want the ability to make a routine purchase of stock. Detailed provisions such as these relating to decision-making are only possible through the creation of a partnership agreement.
Another matter which will benefit from the formation of a partnership agreement relates to the dissolution of a partnership. Under the PA 1890, a partnership without a specified duration is able to be dissolved by any of the partners giving notice to the others. The notice can have immediate effect and does not usually even need to be in writing.
This creates a high level of uncertainty for the business and can easily be avoided through provisions in a partnership agreement relating to the duration and procedure for dissolution of the partnership.
These are but a few of the countless benefits of a partnership agreement but hopefully you now have a taste of the issues that an agreement will cover and have a glimpse at why they are so important!
If you would like any further information regarding a partnership or are interested in getting a partnership agreement drawn up, please contact our Corporate and Commercial Department on 01245 584515 or [email protected]