Why you need a partnership agreement when taking on a business partner

- July 11, 2022 2 MIN READ

Business partnerships can be a huge boon to your business, but Rolf Howard, Managing Partner at Owen Hodge Lawyers, explains the pitfalls of not having a formal partnership agreement in place.

In the first flush of enthusiasm in setting up a new business with a business partner, or taking on a business partner in your existing business, it may be that a partnership agreement is seen as unnecessary. Often, business partners are also life partners or friends, and formal agreements may seem superfluous. After all, you’ve trusted each other for years, right?

Just because you trust someone, doesn’t mean you won’t require a formal agreement. Without one, even if you part ways from the business on good terms, you won’t have clear parameters in place for when you or your partner exit the business, including how assets will be divided.

What should a partnership agreement cover?

It is best practice to have a properly crafted partnership agreement, to specify certain legal aspects of the arrangement:

  • Financial contributions
  • Profits and losses
  • Obligations and rights
  • Decision making: majority vote, unanimous vote, or can a single partner decide?
  • Dispute resolution processes
  • Exit – what happens should a partner decide to leave?
  • Term – a finite time, or the life of the partnership?
  • Termination – what process will apply when the partnership or business is wound up?

Financial contributions noted above may be 50:50, but may not always be so. Sometimes a silent partner will be taken into an established business, bringing with them some funds in order to improve the financial status, possibly with a view to arranging finance for expansion.

A further complexity may arise where a partner brings an asset into the partnership for business use, but either does or does not transfer title of the asset. Such transactions need to be carefully considered and documented. At a later date, should that partner exit the arrangement, there will then be no doubt as to whether the partner still retains full ownership, or the business/partnership has title. In the latter case, the value of the asset would be apportioned appropriately.

Best laid plans

Partners leave partnerships for many reasons. Perhaps a business partnership that was also a life partnership ends when the couple part ways. It is not compulsory for the business partnership to end and will depend upon individual relationships, but this is a common reason business partnerships break down.

Perhaps there have been disagreements, and what started amicably has become unworkable. Possibly the partnership was only intended to serve as security in the establishment phase, and now, with the business on a steady trajectory, the partnership is being amicably dissolved.

Whatever the circumstances, the terms and processes should be followed in line with the partnership agreement, and the partnership valuation amount that the partner takes will likewise be properly defined.

By putting this agreement in place early it reduces any confusion and takes the headache out of an eventual exit.

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Now read this:

Taking on a co-founder? Six key steps for preparing your partnership agreement

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