What is a partnership agreement?
A partnership agreement is an essential legally-binding document. It sets out the agreement between two or more persons or entities involved together in a business venture. It describes the relationship between the parties, and can be structured in many ways to best address the needs and requirements of the parties.
If a formal partnership agreement is not entered into, then the relationship may still be subject to the common law and applicable legislation. In Victoria, the Partnership Act 1958 (Vic) is the primary governing legislation.
What are the different types of partnerships?
A general partnership
This is the most common and only type of partnership that does not require registration or a written agreement. It is frequently the most suitable and cost-effective type of partnership for individuals looking to run a business together using a simple structure.
General partnerships are not required to be registered with Consumer Affairs Victoria. All of the partners in a general partnership are liable for all of the debts of the partnership, but only to the extent that those debts were incurred while they were a partner.
A limited partnership
Limited partnerships may consist of both general partners and limited partners. They can have any number of limited partners, but can only have up to 20 general partners. Such a partnership must be registered with the Consumer Affairs Victoria.
The liability of a limited partner to pay for the partnerships’ debts is limited to a particular amount specified in the register of limited partnerships kept by Consumer Affairs Victoria. Limited partners are barred from taking part in the management of partnership’s business. On the contrary, general partners have control over the partnerships’ business, but are liable for all the debts of the partnership. In this way, limited partnerships are much more flexible than general partnerships because each partners’ participation can be adjusted to suit their preference.
An incorporated limited partnership
Incorporated limited partnerships are a special kind of limited partnership that are created to provide an efficient business structure for venture capital projects. Incorporated limited partnerships need to be registered with Consumer Affairs Victoria.
They must have at least one limited partner and one general partner, but no more than 20 general partners. Furthermore, unlike the other kinds of partnerships, there must be a written partnership agreement entered into between the partners, setting out the rules on how the partnership will be managed. This type of partnership is usually adopted by investors who can invest in another person’s risky business project, without taking on risk themselves.
A joint venture
A joint venture (‘JV’) involves two or more persons or entities joining together in a particular project as opposed to a partnership, where the individuals join together for a combined business. It can be best described as a contractual arrangement between two or more entities that aims to undertake a specific task. Although not a requirement, it is highly recommended that a written agreement is entered into when parties decided to be involved in a joint venture relationship.
Although very similar to a partnership, a JV is generally more limited in scope and duration. A joint venture is generally considered to be a partnership for a single transaction. The rights and liabilities of joint venturers are governed by the principles applicable to partnerships.
Why consider a partnership agreement?
The very nature of partnership is the collaboration of people or entities wishing to do business together for a common purpose or interest. There are various reasons why a formal partnership agreement should exist, including the following:
- To provide clear processes in the event of an internal or external dispute between the partners;
- To set out expectations of the partners, who may bring different contributions to the business;
- To try to avoid disputes that may result in lengthy and costly legal proceedings;
- To provide clarity in relation to capital contributions, payments of costs, finance repayments and profit distributions;
- To ensure common understanding of processes for leaving the partnership, adding new partners and dealing with the business upon the death or incapacity of one of the partners.
What are the drawbacks of a partnership?
While partnerships are common and have some advantages, a partnership arrangement has its share of drawbacks, some of which are as follow;
- The partners in a partnership agreement are jointly and severally liable for each and every partner’s debts. As such, if the liability has been caused by one partner, the repercussions will be shared among all other partners;
- Even though the partners involved share a common goal, they can have conflicting ideas for the operation of the business, and this presents a risk of disagreements arising between the partners;
- Profits of the partnership are generally shared in the agreed proportions between the respective partners, regardless of actual contribution or effort. This can often give rise to dissatisfaction and disagreement, particularly if one of the partners feels that others are not “pulling their weight”.
- A partnership is generally created at the beginning of the relationship. Therefore, it may not be possible to simply add or remove a partner during the operation of the partnership. In both scenarios, the existing partnership may need to be dissolved and a new partnership formed, with potentially-significant tax and stamp duty implications.
Seeking legal advice
A well-drafted partnership agreement can provide clear guidance on the rights and responsibilities of each partner in a business. Such agreements may also include dispute resolution policies which could be crucial in the event of a disagreement.
The best time to make a partnership agreement is at the beginning of the relationship, while trust and cooperation are strongest. Trying to formalise an agreement after the relationship has deteriorated will have limited prospects of success.
An experienced lawyer can provide you guidance on your rights and obligations, and provide in-depth advice on preparing a partnership agreement.