Partnerships offer many benefits and remain among the most popular business structures today. Individuals pool their resources and strengths, increasing the likelihood of the venture's success. In addition, the partners share liability.
However, before any individual enters a partnership, they should consult with a business entity formation attorney in Texas and have a partnership agreement
drawn up. What are the benefits of a written partnership agreement? Why is this written agreement essential today?
The Importance of a Partnership Agreement
A partnership agreement is a legally binding contract that outlines each partner's roles and responsibilities. It includes critical elements to avoid common disputes and address unforeseen events. This document details what will happen if one partner cannot fulfill their duties and may override state laws that could harm the partners. A well-crafted partnership agreement helps minimize the risk of legal, tax, and liability issues.
The Handshake Agreement
Handshake agreements have existed for centuries and rely on the partners' integrity. While these agreements may be legally binding if they meet specific criteria, enforcing them may be challenging. Transactions have become more complex, and disputes are more commonplace, leading to the need for document-based agreements that offer protection against misunderstandings and fraud. Furthermore, globalization has brought about the need for documents that address different legal systems and cultural expectations. A formal agreement provides the structure and legal backing missing in a handshake agreement.
The handshake agreement lacks the detailed terms of a written contract, making it difficult to enforce. Furthermore, while the partners may agree on the terms of the deal, this handshake agreement doesn't provide a roadmap for executing the contract. Inefficiencies, missed deadlines, and other issues often arise following a handshake agreement. A written contract eliminates these concerns.
The Benefits of a Written Agreement
A well-drafted written agreement ensures there is no ambiguity in terms. It is also enforceable in a court of law and covers contingencies. When a written contract is in place, partners' expectations are aligned, and relationships are strengthened. It reduces the risk of a partner's reputation being harmed when they fail to abide by the terms of a handshake deal.
A written partnership contract is enforceable and, if well drafted, minimizes the risk of partners being drawn into a lengthy and costly legal battle. This document includes critical details to prevent misunderstandings or faulty memories and addresses leadership changes. A written agreement is essential in international partnerships, as differing legal systems and cultural misunderstandings can result in confusion and conflict.
Furthermore, specific industries have strict regulations regarding transactions. Transactions are considered valid with formal contracts and invalid without them. The written agreement does more than this, however.
A well-drafted partnership agreement outlines the responsibilities and expectations of partners. When this agreement is in place, everyone knows where they stand, so there are fewer misunderstandings. This document represents the due diligence of those named in the agreement, which potential investors appreciate. The investors understand their level of involvement in the partnership and what steps will be taken if problems arise.
Common Disputes and How Proper Formation Can Prevent Them
Disputes often arise in the business world. Handshake deals remain precarious because they are difficult to enforce in court, and the lack of detailed terms and conditions leaves partners vulnerable. One partner may exit the handshake agreement if they get a better deal, or cultural differences may lead to issues. One partner might see the handshake as a sealing of the agreement, while the other views it as a preliminary gesture.
A handshake deal's lack of clarity can lead to partners' different understandings. In addition, this agreement doesn't consider future changes that could occur, leading to conflicts. Fraud and misrepresentation are also concerns seen with handshake agreements. A written contract protects all partners from situations such as these.
Essential Elements to Include in a Partnership Agreement
The move from a handshake deal to a written partnership agreement is a significant undertaking. This document demonstrates the mutual understanding of all partners regarding their obligations and rights and is binding in a court of law. Every person entering a partnership agreement should require this document before progressing with the collaboration. Doing so will protect their interests while fostering trust. The contract outlines the boundaries of the business relationship.
Though the partnership agreement may be drafted by the partners themselves, the implications of a poorly drafted partnership agreement warrant the assistance of an attorney familiar with business entity formation and contract drafting. This attorney must thoroughly understand the legal framework used when drafting this the agreement. This knowledge and attention to detail ensures all elements are included to reduce the risk of future conflicts. What should be included in every partnership agreement?
Name of the Partnership
Partners must agree upon the name of the new venture. An attorney ensures this information appears in the document. Individuals may assume this information is common knowledge and omit it, which can lead to problems.
Parties Involved
A partnership document must name each individual or legal entity entering into the agreement. Again, this information may appear common sense as the partners sign the document. However, it needs to be included to ensure clarity.
Terms and Conditions
Each partner will have specific duties, rights, and obligations and contribute to the business. The document must outline these duties, rights, obligations, and contributions to prevent misunderstandings.
Percentage of Ownership and Division of Profit and Loss
Partners receive compensation for their contributions to the venture. This compensation is often tied to the individual's percentage of ownership which should be defined in the partnership agreement. While compensation is usually in the form of money, agreements can allow for contributions to be made in the form of services as well.
The agreement must also define each partner's consideration and how profits and losses will be allocated. Some partnerships share profits and liability equally among all partners, while others align profits and losses with percentage of ownership or degree of control over the business. This division of gains and losses must appear in the agreement to prevent conflicts and to create protections for those partners who are more silent in the business’s operations. The agreement should also outline when a partner or partners may withdraw profits.
Duration of the Agreement
Many partnerships begin with no anticipated end date. However, there are situations in which an agreement is created with a specified end date. The document must specify an end date or state the agreement will remain in effect for an unspecified period. It must also outline the partnership's start date, often when the last partner signs the deal.
Confidentiality
Every partnership agreement needs a section on confidentiality. This inclusion ensures sensitive information remains protected throughout the partnership. It also benefits the partners if the relationship ends, as the contract can outline the division or handling of the information when this happens.
Dispute Resolution
Decision-making challenges often lead to disputes between partners. The partnership agreement should outline the decision-making process to ensure checks and balances. In addition, it needs to provide information on dispute resolution and how this will be handled. A mediation clause remains a popular option to avoid court intervention. Of course, arbitration and court intervention may still be needed, but the agreement can define how these should be handled.
Representations and Warranties
Every agreement should include representations and warranties that each partner makes to the other partners of the agreement. Representations and warranties provide guarantees that each partner can rely on when entering into the partnership. For instance, each partner should represent that they have the required authority to sign on behalf of the partner either as an individual partner or as an agent for the entity partner. Or the partner should warrant that they are entering into the agreement freely and voluntarily and have had the chance to have an attorney review the agreement. There are many different representations and warranties that partnership agreements can include, and each partner should strongly consider which of these is important to the partnership.
Binding Power
Partners must agree on who will handle contractual agreements and take on debt. This authority is known as binding power. As these actions affect all partners, the contract must state how this process is handled.
Termination of the Partnership
Partners may elect to end their arrangement. The agreement should outline the steps and any conditions that must be met when doing so. Furthermore, the contract must provide information on what will happen if a partner dies. The document must detail the valuation process and any requirements for establishing a life insurance policy, if desired, where other partners are named beneficiaries.
Signatures
Every legal contract must have the signatures of all parties to show their consent and agreement to be bound by its terms. The document should state clearly that the signature shows the person willingly agreed to the terms and conditions.
An agreement that treats all partners fairly will outline the partners' mutual intentions while laying out their expectations. However, each agreement can differ based on the type of business and the parties involved. Robust partnership agreements anticipate and address potential problems so partners can focus on other matters and grow the organization.
A Final Word
Ultimately, when the details of a partnership are laid out on paper, they become more evident to all parties and provide the highest degree of protection while reducing litigation risk. And while it is not necessary to have an attorney draft the agreement, it is always strongly advised that each partner have their own attorney experienced in business entity formation and contract drafting review and advise them on the agreement so that the partnership gets off on the right foot! With the aide of a well-drafted partnership agreement, the partnership can navigate complex issues with confidence and integrity right from the beginning.
Disclaimer:
Ruelas Andino Law, PLLC makes no claims as to the accuracy of the information contained within the external links in this blog article nor does it endorse any of the businesses contained in the links. Information contained in this blog is for informational purposes only and may not be construed as legal advice.
