Key Takeaways

  • A partnership agreement between two individuals legally defines business roles, profit distribution, and decision-making authority.
  • Key elements include business name, purpose, capital contributions, responsibilities, dispute resolution, and dissolution procedures.
  • Individual-to-individual partnerships differ from company-individual agreements and often need clauses that account for equal control or shared liability.
  • It's advisable to draft a written agreement before starting business operations to avoid misunderstandings.
  • Legal counsel can help tailor the agreement to your business structure and jurisdictional requirements.

What Is a Contract?

A contract is a promise made by one party to another to do or to abstain from doing something in return for a consideration. Contracts need not be in writing, but it's always advisable to have them on paper.

A written contract should include the basic terms of the agreement and rights and obligations of each party. Meeting of the minds is an essential prerequisite of a contract; it means that both the parties meant to sign the contract about the same thing. One way to ensure this is to keep the subject matter clear.

What Is a Partnership Agreement?

A partnership agreement is a contract between two or more parties to operate a business together for mutual benefit. It's often referred to with different names like articles of partnership, general partnership agreement, and business partnership agreement.

Partnerships can be formed between two or more individuals or even businesses. The same rules apply in either case.

Normally, you should create a partnership agreement before setting up the joint business. However, you can also create it after commencing the business if you want to put down the terms and conditions of the partnership in writing.

A partnership agreement outlines the ownership structure, describes the responsibilities of the partners, spells out the provisions for profit and loss distribution, and includes other rules and procedures for managing the business. It is a critical document for running a new business together, which ensures clear communication and well-defined responsibilities.

In addition to making provisions for day-to-day operations of the business, a partnership agreement should also include contingency plans for handling situations when things go wrong.

After drafting the partnership agreement, all partners should sign the document along with the date, and keep a copy each for their records. If the partners decide to alter any of the terms of the executed agreement, they should do it in writing.

Types of Partnership Structures Between Individuals

A partnership agreement between two individuals can take several forms depending on the level of responsibility, liability, and investment each person assumes. Common structures include:

  • General Partnership: Both individuals share equal responsibility for the business's debts, obligations, and management. This is the most straightforward form and requires minimal formalities.
  • Limited Partnership (LP): One partner manages the business and assumes unlimited liability, while the other is a passive investor with liability limited to their investment.
  • Limited Liability Partnership (LLP): Common among professionals like lawyers and accountants, LLPs protect each partner from personal liability for the other’s actions.
  • Joint Venture: Used for single projects or temporary partnerships, this agreement outlines each party's role, resources, and share in profits or losses.

Choosing the right structure depends on the level of control, investment, and liability each partner is willing to assume.

The Advantages of Operating a Partnership Business

Unlike corporations, the business income of a partnership is taxed only once. The income passes through to the individual partners who then include the income in their personal tax returns. Thus, there is no double taxation involved.

The Disadvantages of Operating a Partnership Business

One major disadvantage of partnership business is that the partners cannot distance themselves from business liabilities. Each partner is personally accountable for the debt and obligations of the business.

Items Included in a Partnership Agreement

Partnership agreements usually include the following items:

  • Name of the partnership: This is the legal name for conducting the business.
  • Purpose of the partnership: It's a brief description about why the partnership is being formed. It usually describes the business that would be conducted under the partnership.
  • Partner information: This section contains the names and addresses of the partners.
  • Capital contributions: It spells out the contribution made by each partner. The contribution can be in terms of cash, property, services, or some other resources useful for the business.
  • Ownership interest: It outlines the ownership percentage of each of the partners.
  • Profit and loss distribution: The section describes the procedure for distributing business profits and losses among the partners. Usually, the distribution is based on the ownership interest or capital contributions of the partners.
  • Voting rights and management: The agreement should describe how the partnership will be managed. The voting weight of partners should be clearly spelled out, along with issues like the kind of votes required (unanimous or majority) for making important business decisions.
  • Addition and withdrawal of partners: This section contains the guidelines and procedural requirements for adding new partners in the future and withdrawal of partners, both voluntary and involuntary.
  • Dissolution of partnership: This section outlines the situations in which the partnership can be dissolved and describes how the assets of the partnership will be distributed in the event of dissolution.

Additional Clauses for Individual Partnerships

When drafting a partnership agreement between two individuals, consider including additional clauses to clarify the business relationship and minimize future disputes:

  • Roles and Responsibilities: Clearly define who manages daily operations, financial decisions, and hiring.
  • Decision-Making Process: Outline whether decisions require consensus or if one partner holds more authority.
  • Conflict Resolution: Include mediation or arbitration procedures to resolve disputes without litigation.
  • Exit Strategy: Explain buyout terms, transfer of ownership, or business sale in the event one partner wishes to exit.
  • Confidentiality and Non-Compete: Protect sensitive business information and restrict partners from starting a competing venture during or after the partnership.

These provisions ensure both parties understand their rights and obligations from the outset.

Business-to-Business Partnership Agreement

Business-to-business partnership agreements are usually created with specific business objectives. For example, two competing business owners in the same industry may enter into a partnership to increase sales opportunities and operational efficiency. The partnership can be for a short period of time or an indefinite period.

There is no standard format for a business-to-business partnership agreement. To protect the interests of both the businesses, it's advisable to consult an attorney for drafting a partnership agreement.

Partnership Agreements Between Two Individuals vs. Business Entities

While business-to-business and company-individual partnerships often involve more complex legal and tax considerations, a partnership agreement between two individuals is typically more personal and direct. However, several distinctions should be considered:

  • Ownership Simplicity: Individual partnerships tend to have clearer lines of communication and shared decision-making.
  • Liability Exposure: Unlike partnerships with a company, where corporate protections may limit personal liability, individual partners may be jointly and severally liable.
  • Tax Treatment: In both cases, profits usually pass through to the partners' personal tax returns, but individual partnerships may face fewer compliance burdens.
  • Flexibility: Two individuals can negotiate terms more informally, although a written agreement is still strongly recommended.

Despite its simplicity, individual-to-individual partnerships benefit greatly from formal documentation to prevent misunderstandings and ensure smooth operations.

Frequently Asked Questions

1. Do two individuals need a lawyer to create a partnership agreement? No, but consulting a lawyer ensures the agreement is legally sound and tailored to your state laws and business goals.

2. Can a partnership agreement between two individuals be verbal? While verbal agreements are legally binding in some cases, a written contract provides clear terms and is easier to enforce.

3. What happens if one partner wants to leave the business? The agreement should include a withdrawal clause outlining exit procedures, including buyouts and redistribution of duties.

4. How are profits and losses typically split between individual partners? They are often divided based on each partner’s capital contribution or as agreed in the contract, but this must be clearly stated.

5. Can individuals form an LLP or LP instead of a general partnership? Yes, individuals can choose to form a Limited Liability Partnership or Limited Partnership if they want to limit personal liability or designate roles.

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