- A business partnership agreement is a legally binding document that outlines details about business operations, ownership stake, financials and decision-making.
- Business partnership agreements, when coupled with other legal entity documents, could limit liability for each partner.
- Business partnership agreements should always be written and/or reviewed by legal counsel prior to any signatures.
- This article is for business partners who want to formalize their partnership with an airtight business partnership agreement.
A business partnership agreement establishes clear rules for the operation of a business and the roles of each partner. Business partnership agreements are put in place to resolve any disputes that arise, as well as to delineate responsibilities and how profits or losses are allocated. Any business partnership in which two or more people own a stake of the company should create a business partnership agreement, as these legal documents could provide key guidance in more difficult times.
What is a business partnership agreement?
A business partnership agreement is a legal document between two or more business partners that spells out the business structure, responsibilities of each partner, capital contribution, partnership property, ownership interest, decision-making conventions, the process for one business partner to sell or leave the company, and how the remaining partner or partners split profits and losses.
"I highly suggest formal partnership agreements are put in place as businesses evolve from solo practices into a partnership or ensembles," said Rich Whitworth, head of business consulting for Cetera Financial Group. "The biggest reason is that it establishes the 'rules of engagement' between the business and its owners … and lays out a road map on how to deal with entity-level issues."
While business partnerships seldom begin with concerns about a future partnership dispute or how to dissolve the business, these agreements can guide the process in the future, when emotions might otherwise take over. A written, legally binding agreement serves as an enforceable document, rather than just an oral agreement between partners.
Key takeaway: Business partnership agreements are legally binding documents that partners agree to abide by throughout the life of the business at the start of their partnership.
Why do you need a business partnership agreement?
A business partnership agreement is a necessity because it establishes a set of agreed-upon rules and processes that the owners sign and acknowledge before problems arise. If any challenges or controversies do arise, the business partnership agreement spells out how to address those issues.
"A business partnership is just like a marriage: No one goes into it thinking that it's going to fail. But if it does fail, it can be nasty," said Jessica LeMauk, attorney at Voxtur. "With the right agreements in place, which I'd always recommend be written by a qualified attorney, it makes any potential problems of the business partnership much more easily solved and/or legally enforceable."
In other words, a business partnership agreement protects all partners in the event things go sour. By agreeing to a clear set of rules and principles at the outset of a partnership, the partners are on a level playing field developed by consensus and backed by law.
Key takeaway: Business partnership agreements can help settle disputes and clearly define internal processes across various circumstances.
What should a business partnership agreement include?
Business partnership agreements are necessarily broad, touching virtually every aspect of a business partnership from start to finish. It is important to include all foreseeable issues that could arise regarding the co-management of the business. According to Whitworth, these are some of those issues:
Ownership stake: A business partnership agreement clearly spells out who owns what percentage of the business, making each partner's stake in the company clear.
Business operations: Business partnership agreements should explain which activities the business will engage in, as well as which activities it will not.
Decision-making: A business partnership agreement should outline how decisions are made and the responsibility of each partner in the decision-making process. This includes who has financial control of the company and who must approve the addition of new partners. It should also include information on how profits and losses are distributed amongst the partners.
Liability: If the business partnership is set up as an LLC, the agreement should limit the liability each partner faces. To do so effectively, a partnership agreement should be paired with other documents, such as articles of incorporation. A business partnership agreement alone is likely not enough to fully protect the partners from liability.
Dispute resolution: Any business partnership agreement should include a dispute resolution process. Even if partners are best friends, siblings or spouses, disagreements are a natural part of doing business together.
- Business dissolution: In the event the partners choose to dissolve the business, a business partnership agreement should outline how that dissolution should occur, as well as continuity or succession planning should any of the partners divest from the business.
To ensure that your business partnership agreement adequately covers each of these areas, closely involve your business's legal counsel in the development and review of the agreement.
Key takeaway: Business partnership agreements should be wide-ranging in scope and detailed in how they articulate internal processes, financial considerations, dispute settlements, liability and dissolution.
Steps to implement a business partnership agreement
A business partnership agreement does not have to be set in stone, especially as a business grows and develops over time. There will come opportunities to implement new elements of a partnership agreement, especially if unforeseen circumstances occur.
According to Whitworth, there are four major steps in implementing a business partnership agreement.
Initial partnership: This is when two or more partners first enter into business together. It involves drafting an agreement that governs general operation of the business, the decision-making process, ownership stakes and management responsibilities.
Addition of limited partners: As a business grows, it might have the opportunity to add new partners. According to Whitworth, the original partners might agree to a "small carve-out of minor equity ownership" for the new partner, as well as limited voting rights that give the new partner partial influence over business decisions.
Addition of full partners: Of course, sometimes the addition of a limited partner will lead to their inclusion as a full partner in the business. A business partnership agreement should include the requirements and process of elevating a limited partner to the status of full partner, complete with full voting rights and influence equal to that of the original partners.
- Continuity and succession: Finally, a business partnership agreement should take into account what happens when the founders retire or leave the company without initiating dissolution. It should be clear how ownership stake and responsibilities will be distributed among the remaining partners after the departing partners take their leave.
"Partnership agreements need to be well crafted for a myriad of reasons," said Laurie Tannous, owner of law firm Tannous & Associates Inc. "One main driver is that the desires and expectations of partners change and vary over time. A well-written partnership agreement can manage these expectations and give each partner a clear map or blueprint of what the future holds."
Key takeaway: A business partnership agreement should anticipate the future of a business as well as the current state of the partnership.
Free business partnership agreement templates
If you're looking for a free template for business partnership agreements online, these resources could help you draft your own partnership agreement. You can find dozens of free business partnership agreement templates at the links below:
While these free online business partnership agreement templates are great to help you get started and think about what to include in your agreement, it is always best practice to have legal counsel review your draft agreement and help you revise and finalize the document before signing. Once a lawyer confirms that your business partnership agreement is thorough and legally binding, you and your partners can sign it to make it official.
How a business partnership agreement levels the playing field
A well-crafted and airtight business partnership agreement clarifies each partner's expectations, duties and obligations. In business, things are everchanging, so it is important to establish a business partnership agreement that can serve as a grounding document in turbulent or uncertain times. A business partnership agreement also serves as a guideline for how the business should grow and governs the addition of new partners to the business.
If you are going into business with a partner, establish a business partnership agreement while incorporating as an entity. Even if it seems unnecessary today, you might be glad you have an agreement in place later.