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	The Business Advisor
	PARTNERSHIP: Points and Considerations by Mary Hanson

In today's litigious world, few people wish to use the partnership form of business. It is more common to utilize a legal entity that provides protection from personal liability.

1. A partner has the legal ability to create liabilities to third parties for which all partners are liable. Under the law, partners are agents of the partnership, and as an agent, each has authority to act on behalf of the partnership. A partner can enter into binding agreements, hire and fire employees, accept orders, extend credit, etc. One partner's poor business decision making, poor judgment, poor negotiation ability, or poor management ability can doom the partnership and also expose all partners to significant liability.

2. A partnership is formed, by law, when two or more persons act as co-owners of a business. The undesirable aspects of partnership apply, even where the individuals do NOT intend to operate as a partnership.

3.  Since a partnership can be formed informally, a partnership may be created without the benefit of any partnership agreement. Without a partnership agreement, the rights and obligations of the partners are unclear. Even when state partnership law sets out rights and obligations of partners, the state law is inadequate to be the basis for operation of a partnership.

4.  Under the law, a partner can be held 100% liable for a partnership liability, even if that partner's interest in the business is only a small percentage. This is because each partner is personally liable for the debts, taxes, and claims against the business. The law leaves it up to the partner to pursue the other partners for their share of the liability.

5.  Claims can be made against a partner by vendors, customers, employees, and others affected by the business, arising out of contracts, loans, employment, nonpayment of taxes, accidents, and poor products or services to customers.

6.  If one partner is mismanaging the business, the law does not enable the other partner to just get rid of the partner or take over management of the business. If the partnership is dissolved, the problems created by a mismanaging partner remain a problem for all partners.

7. The tax treatment and state laws on the rights of partners are based on partnership accounting. Few business owners are familiar with partnership accounting. If the accounting is not done following partnership accounting rules, it can be very difficult to determine what a particular partner owes to or is owed by the partnership or other partners according to partnership law.

8.  Because partners must actually define many details of the partnership structure, and must set up books to maintain partnership capital accounts, the partnership structure is often more complex, not less complex, than a corporation.

9. Without a detailed partnership agreement, partners can have difficulty insisting that a particular partner perform certain work, contribute additional capital, or split liabilities. If the only basis for a demand is the state partnership law, then the only solution may be in the courts. A partner may have to seek dissolution of the partnership in order to resolve the dispute. A partnership agreement is the appropriate place to set out the rights and obligations of partners along with management methods and dispute resolution procedures that avoid drastic legal remedies.

10.  All partners are taxed on partnership profits, according to their ownership interests, whether those profits are distributed or not. If a business is growing and profits are needed to fund growth or repay debt, the tax consequences can be very unpleasant.

       * Exactly what each partner will contribute to the partnership and when it will be contributed. The amount of money, services to be provided, and assets to be transferred must be described and valued.

       * The obligations and responsibilities of each partner. The partnership agreement can set out in detail the hours to be worked and tasks to be accomplished by each partner.

       * Division of profits among the partners, including when and how profits will actually be distributed. Partners are taxed on profits, whether they are distributed or not. Partners often insist that the agreement contain an obligation to distribute enough of the profits to cover the tax burden of the partners.

       * Sharing of losses. When and how will each partner be required to contribute additional funds if necessary? Since most new small businesses require additional infusions of funds at some time after startup, partners should anticipate the future need and agree in advance on how the need will be met.

       * Liability issues. Since partners are exposed to personal liability if the partnership does not cover its obligations, the agreement should set out procedures for a partner to obtain reimbursement from other partners, and should set out a procedure for assuring that adequate levels of insurance are maintained.

       * Management issues. Set out who will have authority to bind the partnership in contracts and who will be authorized to hire and fire personnel. Will some partners have limited authority to make commitments? It is appropriate to cover as broad a range of management issues as the partners can agree to.

       * A buyout provision. There should be a method for the partnership or other partners to buy out a partner if that partner cannot or will not perform his or her responsibilities. The events that trigger this right to buy out must be identified and the specific arrangement (terms) of the buyout defined.

       * A requirement for partnership accounting. Partnership law and taxes are based on partnership accounting, showing capital accounts for each partner. Without adequate partnership accounting, you may not get the correct tax and legal treatment during the partnership and upon dissolution. In order to avoid problems later, you need to be certain proper partnership accounting is done.

       * All agreements among the partners. The partners need to address all other issues that constitute the agreement among them. The agreement should cover procedures for holding meetings, covenants not to compete, protection of proprietary information, salary, vacation, fringe benefits, and other compensation issues, any limitation on the purposes or activities of the partnership, procedures for admitting new partners, and any other issues relevant to the particular partnership.