The Partnership - A Business "Marriage" With Rules
General Business News
The Partnership - A Business "Marriage" With Rules
Even with all the similarities between the two, there is one very important difference - marriages are born of love and business partnerships are a union of financial needs. Because business partnerships owe their lives to more material motives, partners could be more inclined to seek their own good above the interests of the business. To minimize conflicts, all business partnerships should be based on written agreements.
Partnership agreements set down the basic terms of how the business operates. At first glance, that may seem simple, but there are so many situations you and a partner may find yourselves in, you need a comprehensive agreement on the rules that will govern your relationship. This article will review a few of the basics to be covered when drafting an agreement.
A partnership agreement normally names the individuals who are involved in the business - and the business name. This can be as simple as combining the names of the parties involved or selecting another (fictitious) name entirely. Caution: be careful in choosing a name - if your business is a professional services entity, or is regulated by some other licensing board, you may be limited in what name you can use.
A partnership agreement should spell out the initial responsibilities of the partners for capitalizing the union. Often, the parties wish to have equal contributions of cash (or cash and property). Sometimes, however, one partner or group of partners puts in cash and/or property while another partner or partners primarily contribute expertise. Regardless of the initial contributions to capital, it is important that the agreement sets forth each partner's obligations.
Another very important provision is the allocation of profits and losses. Some partnerships choose to allocate profits equally amongst the partners, but more often than not, these allocations are more complicated. In order to prompt individuals to work for the good of the business, it is sometimes necessary to base the division of income on the factors that drive the profitability of the company (example: you may wish to reward the partner responsible for business relationships more than the partner responsible for administrative duties). Whether you choose to make the allocation of business profits simple or complicated, the best way to protect your relationship and company is to have a clear understanding of how proceeds will be allocated at the outset.
How is each partner going to pay his or her own living expenses throughout the year? Will it require periodic withdrawals of partnership funds - or is the partnership other than the main source of income for a partner? Is the agreement designed to pay profits only at year-end? While allocation of profits among partners is extremely important, it is also essential to specify how each party will realize those profits in cash. Be sure to spell this out at the inception of your relationship rather than wait for a conflict to make the decision for you.
What are the duties of each partner? Just as in marriage, each person enters a partnership with his or her own set of expectations. One partner may be very effective at marketing and another may be a financial whiz. Having a clear understanding of duties could limit conflict over the roles of each owner.
How will you make partnership decisions? Some partners prefer to vote on everything, while others only wish to vote on "significant" issues. For this reason, it is important to identify and state those issues on which a vote is required and those where the individual partner has discretion. If you choose to vote only on significant issues, you need to spell out what constitutes a "significant" issue. This area should also address the authority of the individual partners to act on behalf of the partnership. Can a partner act unilaterally to commit the partnership to contracts or agreements - or does it take more than one to do so?
Admission of a new partner is another key item in drafting an agreement. Hopefully, the business you are starting will grow to the point where you might want to add a new partner, but what will be required for the person to advance to that rank? Will it take a certain level of business? Will the level of business be based on the prospect's customer servicing - or will it simply result from an overall increase in the company's business volume? How many of the existing partners must vote in favor of admitting a new member? The life of your business after you retire could depend on the answer to these questions.
As important as admitting a new partner is, the provision of a mechanism for partners to withdraw or retire from the business is equally so. Putting a withdrawal and/or partner buyout strategy in the body of the agreement will make life much easier, when the time comes, by spelling out the major terms for each partner's withdrawal from the company.
Partnerships are a lot like marriages - they put two people in a close relationship that will govern their lives during the term of their union. If you are looking into starting a new business, or have a business without an agreement covering the terms of your partnership, now is the time to create a document that spells out the rights and responsibilities of each partner. Give us a call if you need help determining what should be in that partnership agreement. We can help you determine the best way to protect your Business Marriage.
Here's hoping that you have a wonderful Saint Patrick's Day.
These articles are intended to provide general resources for the tax and accounting needs of small businesses and individuals. Service2Client LLC is the author, but is not engaged in rendering specific legal, accounting, financial or professional advice. Service2Client LLC makes no representation that the recommendations of Service2Client LLC will achieve any result. The NSAD has not reviewed any of the Service2Client LLC content. Readers are encouraged to contact their CPA regarding the topics in these articles.