Advice On Structuring A Partnership

Tips On Structuring A Partnership

When structuring a partnership the biggest question that exists is: How elaborate an agreement do partners need? Most small business people resist such agreements because too many rules sap a company’s flexibility and initiative. To ensure honesty, most of us would rather rely first on a partner we know well and trust and second, on a careful system of checks and balances.

In most states, the Uniform Partnership Act is supposed to prevent such crimes such as having one partner liquidate the firm without the knowledge of the other. A second legal document, drawn up by your attorney, isn’t likely to deter a dishonest partner. Below is a list of suggestions for a relatively simple agreement, which can provide both safety and flexibility and if you need more rules later, you can add them:

1. The partnership should protect both partners, both by insurance (to prevent the company’s going down if one partner suffers death or incapacitation), and by a set of counter-checks to ensure that both partners remain honest.

2. Eliminate undue temptations. If your partner oversees the books, and if you can’t interpret them, require that they be checked periodically by an outside accountant. Also reserve your right to call for a certified audit at reasonable intervals, to be paid for by the company. Meanwhile, get yourself an accounting handbook, and start studying.

3. All partnerships should be founded with the expectation that someday they’ll be dissolved. A partnership can be amicably ended by buyout, by partial liquidation or spin-off, or by sale of the partnership. Each method has merits and drawbacks.

In a buyout, one partner buys the other’s share at an agreed upon price. Where the partnership is new – say, less than a year old – the buyout is often made at the original investment amount. If the partner put up $50,000 for his share, he now sells it back for $50,000, or a token increase. He’s had a year’s share of the profits; otherwise he breaks even on the deal. A one-year buyout clause is wise in any partnership agreement.

Where the partners have been in business longer, or where the firm has grown greatly in a short time, setting a price will be harder. You can go to an outside appraiser (bank, broker, or business attorney), or use a much older method – you flip a coin; the loser names a price for half the business, and the winner chooses to either buy or sell at that price. It sounds unimpressive, but the method has been used to sell properties as large as the Empire State Building.