How To Create (Or Dissolve) A Business Partnership
The ever-changing business landscape makes partnerships a go-to strategy for many entrepreneurs. However, just like marital relationships, business partnerships can either flourish or flounder. This blog aims to guide you through the legal intricacies of both setting up and terminating business partnerships.
How you start and end a partnership can determine the company’s success in the immediate future and your own financial security long after it has run its course. Crafting a proper partnership agreement is key to ensuring that you and your partners are able to focus on running your company smoothly and, once the time comes, can part ways profitably and amicably.
By walking you through the A to Z of partnership creation and dissolution, this blog will equip you with the legal know-how to both establish a strong partnership and, if necessary, exit one without falling into common legal traps.
Creating A Business Partnership
Consider the latest nighttime drama you’ve watched where one or more characters is a lawyer by trade. Invariably, a major plot point involving that character revolves around their ‘making partner’ at their firm. Rather than a simple promotion, ‘making partner’ involves that lawyer becoming an actual legal partner in the running of that firm, which means that, instead of becoming a higher-ranked employee, they become a partial owner.
A business partnership involves two or more parties owning and operating a business together and can be classified as one of several categories. General partnerships distribute liability equally between partners, limited partnerships add a category of limited partners whose liability only extends to their investment in the business, and finally limited liability partnerships, which are limited only to law, architecture, and accounting firms.
Regardless of the type of partnership you plan to form, the process will involve the same primary steps. Let’s dig in:
Step #1 – Choosing A Partnership Name (Fictitious Business Name)
To operate a business in California that is not already incorporated or organized as an LLC, you’ll need to create a fictitious business name and register it with the state if it is different than the owner’s name. In the state of California, you do not need to attach each partner’s last name with the partnership, but a name that denotes the entity being registered is needed.
The partnership must have the appropriate designation for its operation in the name. If the firm will be run as anything other than a general partnership (including limited partnerships and LLCs), you must include that designation in the business’s name.
Step #2 – Registration And Compliance
Once the name has been created, it needs to be registered with the state with a Fictitious Business Name Statement submitted to the Office of the County Recorder of the county where the business is headquartered. Though general partnerships do not require any more paperwork, it’s recommended to file a Statement of Partnership Authority regardless, and any partnership agreement outside of a general partnership will require its own special registration forms.
Here’s where it gets tricky: depending on the nature of your business and whether or not employees will be hired to help run day-to-day operations, you will need to ensure that you follow the myriad regulations and requirements set by the state and federal governments. This may mean obtaining an EIN, acquiring the necessary licenses to operate in the area, registering for state tax designation, and registering as an employer.
The number of regulations businesses may need to comply with are far too numerous to be listed in a single blog. It’s heavily recommended that you work with a business attorney to ensure that your business complies with all necessary rules and regulations to avoid hefty fines and interruptions to your operations.
Step #3 – Drafting A Partnership Agreement
While creating a partnership agreement isn’t strictly necessary, it is one of the most sensible investments you can make at the start of your partnership. Partnership agreements provide a clear template of the responsibilities and expectations of each partner, which helps prevent future disagreements and conflict and may prevent messy dissolutions of partnerships in the future.
The common elements of a partnership agreement include:
1. Each partner’s contribution to the partnership and their role within it
Each partner may bring a different skillset or resource to the business, but necessity often makes it difficult to create clear boundaries between where one partner’s work begins and another partner’s ends. Creating clear roles and responsibilities for each partner can help create solid boundaries that will help any one partner from feeling overwhelmed and resentful of others not carrying their weight.
2. Authority And Conflict Management
A clear designation of authority is necessary for partners not consistently to step on one another’s toes. Assigning responsibilities to one or more functions of the business should be clearly laid out, including what employees each partner is responsible for and who they report to.
If conflict arises that cannot be solved through informal channels, there should be a process for how that conflict is handled. If more than two partners are involved, a simple majority vote may be all that is necessary. For more serious disputes, mediation provided by a neutral third party may be necessary.
3. Allocation of profits, losses, and other financial matters
No matter how passionate someone is, the ultimate goal of forming a business is to make money. As more individuals become involved in creating, running, or funding that business, a plan for how profits (and losses) should be allocated must be created.
This process can be complicated, as each partner may bring something different to the table in terms of resources, skills, and workload capacity. Partner A may perform the majority of the work in running the business, for example, but partner B provided the majority of the startup funding, which makes determining who gets what percentage of the profits a difficult proposition. These financial agreements must be defined early and fairly, as money makes ideal kindling in the fires of anger and resentment.
4. Adding Additional Partners
Businesses add new partners for various reasons, from needing additional investment to requiring the expertise of an independent operator who demands ownership in the company. This process should be well documented and, once the new partner is up for consideration, a new partnership plan should be created to accommodate this change in circumstances.
5. Buy-Sell Provisions & Exit Strategies
Regardless of the success of a business, nothing lasts forever. Partners may have a change in their life circumstances or even have a life-altering or life-ending injury or illness that forces their exit from the company.
Creating an exit strategy, or a buy-sell provision, allows the partner or their beneficiaries to sell their portion of the business to the other partners. This provision may define what circumstances allow for a full buyout and how each partner will be liable if the company declares bankruptcy.
Part of the exit strategy should include a dissolution clause or what to do when dissolving the partnership. That brings us to part two of this guide:
Dissolving A Business Partnership
The dissolution of a partnership can occur for various reasons that may or may not involve personal enmity between two or more partners. Whatever may cause the dissolution, there needs to be a proper procedure followed that ensures equitable terms that have been previously agreed upon, less the parties are willing to participate in years of litigation.
- Draft A Dissolution Agreement Or Clause
One item that should be included in any Partnership Agreement is a Dissolution Agreement or Clause. These will set terms and conditions for the dissolution, including the distribution of outstanding debts, profits, and an allocation of any assets that the business may have been in possession of at the time of the dissolution.
This is one of the most important parts of the partnership agreement, as one or more partners may be left holding the bag after less scrupulous parties made off with the goods resulting from the partnership. It’s heavily recommended that you enlist the help of a law firm that specializes in drafting partnership agreements to help ensure that a dissolution ends equitably for all parties involved.
If you’re creating a partnership in the San Diego area, Villasenor Law Office specializes in creating airtight partnership agreements that provide a strong foundation for the company that protect every party involved. Villasenor can additionally provide mediation services if a conflict or dispute arises regarding decisions being made in how the company is run.
- Getting Affairs In Order
Once the decision is made to dissolve the partnership, the partners will need to make sure that all outstanding business is taken care of. This includes terminating any permits, licenses, registrations, contracts, and notifying tax authorities that the business entity has been terminated. Care needs to be taken to ensure any outstanding debts or obligations have been taken care of, as the government and contract holders may attempt to sue the partners for any losses from their contract breach.
Working with a business lawyer can help ensure that you follow the proper legal procedures. This can include filing a statement of dissolution and other relevant documents. The last thing you need is to receive threatening letters from the government months or even years after the dissolution of your business, long after you’ve moved on to your next endeavor.
Disclaimer: The content of this website or any blog is for information or educational purposes only. Nothing on this website or blog should be considered legal advice for any individual case or matter. This information is not intended to create, and receipt or viewing does not constitute, an attorney-client relationship.