When a partner of a partnership or a member of an Limited Liability Company (LLC) wishes to leave or withdraw, the resolution and departure of the partner or the LLC member may be resolved by reference to a dissolution agreement previously embedded in the partnership agreement or the company agreement (operating agreement).
If you and your partner(s) are on friendly terms, you may be able to work out an agreement with limited need for outside legal counsel. However, if the terms of departure are more complicated, you may need your attorneys to negotiate them.
Even an uncontested separation agreement can be complicated to draw up. But if you don’t come to an agreement, you’ll need either to go to court or to leave without an agreement, which may open you up to lawsuits from creditors and others even years down the road.
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Information to Gather Before Negotiations Begin
Our first step is to review your operating agreement, bylaws, and any other controlling documents, to determine departure requirements and procedures. If such documents are absent or vague, drafting the separation agreement could be considerably more detailed, and the negotiations are more likely to be problematic, and possibly contested.
Assuming that these documents provide guidance, our next step is to identify all of the partnership’s present assets and liabilities. We’ll need to identify these to get an idea how much your stake in the partnership is worth. You should also identify them so you can avoid walking away with any liabilities attached to you personally.
You should, then, pay particular attention to any liabilities which name you personally. These could be contracts, liens, commercial leases, mortgages, lines of credit, or any other obligatory document where you act as personal guarantor or surety. Consider also about other forms of liability, like accounts payable, contract obligations, potential lawsuits from third parties, and outstanding tax liabilities.
Finally, identify anywhere your name appears in the partnership or LLC formation documents, and determine whether your name was included on the IRS forms when the partnership’s federal and state tax identification numbers were obtained. We will want to remove your name from as many of these as possible.
What Goes Into the Separation Agreement
After gathering all of the above information, the next step typically is to prepare a separation agreement for execution by all partners or members. The agreement should address a number of questions:
- What happens to the partnership’s assets? What happens to its liabilities?
- How are you going to be compensated for your ownership interest? What is the method of payment?
- How will your name be removed from any obligatory documents? If your name cannot be removed from all such documents, how will you be otherwise indemnified?
- How will material breaches of the separation agreement be addressed? If it includes a long-term commitment, such as money paid to you over time, how will that be enforced— for example, do you have a right to audit?
The answers to many of these questions will be determined by the partnership’s controlling documents or dissolution agreement. It’s not guaranteed, however, that all of them will be resolved in this way. In particular, the details of how you will be protected from future liability can be quite tricky, and frequently require legal counsel even in an amicable separation. But however difficult, securing such protection for yourself is of paramount importance.
Protecting Yourself from Liabilities
If you’ve signed your name to any obligatory documents on behalf of the partnership, it is sometimes impossible to remove your name without causing your partner(s) significant disruption, work, and expense.
The only way to ensure you are no longer liable will be to cancel the account or contract and have the company renegotiate it in a different name. If your partner(s) refuse to do this, you may still be liable, even if you properly notify the third party that your name should be removed.
This means that you need to work with your partner(s). In the case of obligatory documents from which you’re unable to remove your name, we should evaluate the risk they pose to you and find other ways for the company to mitigate them.
This could mean an escrow account, a security interest in the company’s assets, or a personal indemnification from the other partner(s). Such steps can be a way for you to avoid future liability without causing significant disruption to the remaining partner(s)’s business. But the complexity of these arrangements mean you should consider getting legal advice.
A successful separation agreement can depend as much on your partner(s) as on you, which means we will be much better off negotiating the agreement amicably. Sometimes, however, that isn’t possible. In the case of a contested departure, the negotiations will be governed by your partnership or LLC’s controlling documents, and if these don’t specify how departures can take place, your negotiating position may be more uncertain or problematic.
This is because Texas law generally places an LLC under no obligation to buy back your ownership stake, unless you have suffered “oppression” at the hands of the majority owner(s). (For more on minority shareholder oppression, see [link].)
This makes it challenging to compel a separation without proving oppression. Sometimes this will be a necessary course of action, but sometimes you may be better off negotiating with the assistance of your lawyers rather than going to court. A negotiated agreement, even if not ideal, may be better, less expensive, and less risky than no agreement at all.
Negotiating a thorough separation agreement may seem daunting, both if you are on bad terms with your partner(s), and if you are on friendly terms and believe that they understand their obligations to you. But it’s important to secure that understanding in writing, because you don’t know how the company might change in a year or more.
You need something that can document with high certitude that you’re no longer on the hook for the partnership’s debts, torts, taxes, and other liabilities, and that memorializes any further obligations the remaining partners have to you.