Do You Need a Partnership Agreement?

When setting up either a general partnership or a limited liability partnership, drafting a partnership agreement is a must. While it is legally possible to create a business partnership without a partnership agreement, doing so is risky and can lead to problems between partners down the road.

Business law will tell you that a well-drafted partnership agreement should address in detail all elements of the business, including the features of the business relationship between the partners.

While a range of partnership agreement templates can be found online by a quick search, a business attorney can also be a useful resource in helping to draft this agreement.

Investment Amount and Division of Labor

The first and probably most important items to include in a partnership agreement are the individual investment amounts and the division of labor between partners. Investment in a business is not always monetary – an investment can include providing the building or other real property for the business, as well as specialized equipment for the business. It is important to itemize these types of investments in the partnership agreement.

The next step is to determine which of the partners will take on the management responsibility for the business. It may well be that the partner who invests the most does not, in fact, want to have an active role in managing the business. The partners might also decide to base the control of the partnership on the amount invested, or they may want to divide control equally, giving each partner equal voting power.

Determining the roles that each business partner will play in the business is extremely important, as the success of a business often depends on its management. Memorializing this management structure in the partnership agreement is vital.

Profit-Sharing and Financial Management

Other important elements of a partnership agreement include profit sharing and financial management. Everyone involved in the business will hope to turn a profit, but the profits may be paid out in a variety of ways. For instance, the partners may decide to invest a set percentage of the profits back into the business.

Another aspect of profit-sharing is determining if the managing partners will receive a salary. Deciding how to manage the finances of the business is equally important. The partners will need to choose a bank in which to open the business’s account, whether the business will have a line of credit, and which partners should have signing power for the business’s finances.

Managing Disagreements Among Partners

Other areas of business that may be covered in the partnership agreement include how to manage any disagreements, as well as how to deal with a partner who wants out of the business. While partnerships are often started by friends, disagreements are natural in any relationship, and it can be helpful to determine how the partners will work out these disagreements as they arise.

Many times a neutral mediator can be a good way to resolve issues. Further, if a partner decides down the road that he or she wants out of the business, it’s a good idea to state in writing how such a situation will be handled. The partnership agreement can provide details on the buy-out process, taking into account each partner’s initial investment.

Properly creating a business partnership can lead a business down the path to success. Having a partnership agreement that maps out all aspects of the partnership is an essential component of the process. For those unsure of how to begin, or simply want a “legal eye” to look over the draft of a partnership agreement, contact an experienced business attorney for help.

Case Studies: Partnership Agreements in Business

Case Study 1: Investment Amount and Division of Labor

Two partners, John and Sarah, decide to form a general partnership to start a restaurant business. They invest different amounts of money into the venture, with John providing the majority of the capital and Sarah contributing her culinary expertise.

To ensure clarity and avoid future disputes, they draft a partnership agreement that explicitly outlines the investment amounts and the division of labor between them. This agreement helps establish a fair distribution of responsibilities and investment returns.

Case Study 2: Profit-Sharing and Financial Management

Three partners, Alex, Emily, and Michael, form a limited liability partnership to launch a digital marketing agency. They agree to share profits based on the percentage of their initial investments and decide to reinvest a portion of the profits back into the business for growth.

They also outline financial management aspects such as choosing a bank, opening a business account, and determining which partners have signing power for financial transactions. Their partnership agreement ensures transparency and effective financial management.

Case Study 3: Managing Disagreements Among Partners

Two friends, Lisa and Mark, establish a general partnership to start an e-commerce business. Over time, they encounter disagreements related to business decisions and their respective roles. To address these potential conflicts, they include provisions in their partnership agreement on how to manage disagreements.

They agree to consult a neutral mediator in case of disputes and outline a resolution process. Additionally, they establish procedures for handling a partner’s desire to exit the business, including a buy-out process based on initial investments.