How to enter into a business partnership agreement

Introduction

If you intend to operate a business it is important to identify the most appropriate and effective legal relationship for you and any business colleagues; there are a number of different ways to structure this relationship, and different laws govern different relationships (see related article How to structure your business).

Under the partnership option, two or more parties enter into a contract to carry on business together with a common purpose. Because the relationship between the individuals is at law a contractual one, the relationship gives rise to rights and duties that are legally binding between the partners.

How does a partnership work?

Partnership involves a contract between the partners to engage in a business in order to make a profit. Assets and responsibilities are shared by the partnership. Unlike a company, a partnership is not a separate legal entity, even though the number of partners may be large. A partnership is, however, required to file tax returns.

In general, each partner contributes either property, skill or labour, although a partner may contribute nothing and still have the rights of a partner. A partner that contributes property but no labour is usually referred to as a "sleeping partner".

The term "firm" is used to refer collectively to the individuals who make up the partnership.

The PARTNERSHIP ACT 1908 sets out much of the law about partnerships, although it may be overridden on particular matters by the particular partnership agreement (see below).

Does the partnership have to registered with any government office?

Unlike a company, an ordinary partnership does not have to be registered. However, "special partnerships" must be registered with the High Court; these partnerships allow a person to be a partner on the terms that his or her liability to the firm's creditors will be limited, like that of a shareholder in a limited-liability company

The partnership agreement

It is advisable to enter into a written partnership agreement. Partnerships are usually regulated by written agreements, sometimes called "articles".

Many of the provisions of the PARTNERSHIP ACT 1908 apply only if there is no provision for the matter in question in the partnership agreement; therefore the partnership agreement may override these rules in the Act.

Even though there is a written partnership agreement, the partners may vary the agreement orally.

What should be included in the partnership agreement?

Written partnership agreements commonly include the following:

  • the name of the firm
  • a description of the business to be conducted and the place where it is to be carried on
  • whether the business is for a single venture (for a specified term) or whether it is ongoing
  • who is contributing to the capital and in what amount
  • how the profits are to be divided among the partners
  • how disputes between the partners are to be resolved, such as by arbitration
  • who the partnership's bank and accountant are to be
  • who will be entitled to sign cheques on behalf of the partnership
  • procedures for withdrawing from the partnership or admitting new partners

Husband-and-wife farming partnerships & ACC: Why you should have a written agreement

If you and your spouse operate a farm together, you may well not have a written agreement unless you have been farming for some years, because since 1983 Inland Revenue has not required husbands and wives to have written agreements for tax purposes. But the policy of the Accident Compensation Corporation (ACC) on compensation for replacement labour makes a written agreement desirable.

If you or your spouse is injured and unable to work for a period, ACC will not pay full compensation for the cost of employing replacement labour. ACC will pay only 80 percent of half of that cost, its reasoning being that the other partner (your spouse) should carry half the cost, as he or she would with other partnership costs.

But if you have a written partnership agreement, and the agreement says that an injured partner has an obligation to meet the entire cost of the replacement labour, ACC will pay 80 percent of the replacement labour costs.

Cautionary notes

  • It is essential that you seek advice from a lawyer before deciding which legal structure you should adopt.
  • If you choose a partnership, you are in a legally binding relationship with your partners, and you should obtain full legal advice as to the extent of your various rights and obligations.
  • You will need to decide if you wish to register the partnership for GST. You should take advice from an accountant about this.


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