Leaving a Partnership without an Agreement: What Business Owners Need to Know
Need to Leave Your Partnership?
Business partners separate for many reasons. Frequently, these having nothing to do with deep disagreements among the partners; for example, one partner’s circumstances may change because they need to retire, change careers, or move. Perhaps they become incapacitated or lose a family member.
Usually, these kinds of changes lead to what we call “uncontested departures,” where the other partners understand that circumstances have changed and it’s time for one person to move on. Other times, departures are contested. Sometimes irreconcilable differences in opinion about the direction of the company can become disputes of varying degrees of bitterness. One partner might—for whatever reason—cease to trust another partner’s good will or ability. In either case, we can help you protect your interests throughout the process.
Now, frequently, partners go into business without a formal partnership agreement (or without a sufficiently detailed one). In the days after college, say, they start a business, and focus on growing it rather than on the risks associated with it breaking up further down the road. If, for whatever reason, you find yourself needing to part ways without a partnership agreement detailing how, you may consider seeking legal advice.
Amicable Is Better
In general, it’s best to try to leave amicably. Partners that communicate well have an easier time making compromises, which in turn can keep you from having to go to court. Even so, even an uncontested departures requires some thought. Here are some matters we look at with clients:
- Be sure to carefully review any company documents you do have. Is there anything in the Bylaws or controlling documents?
- Be sure to have a grasp of the partnership’s assets and liabilities. You’ll need to come to an agreement about those before you can begin divvying them up.
- Be sure to know which documents name you personally, particularly contracts and other obligatory documents. If you are personally guaranteeing anything that may come back to bite you further down the road, we need to know.
After we have a grasp of the situation, you need to have yourself removed from any such documents. It may be difficult, and there are right and wrong ways to do so (for example, just contacting a client and saying you’re leaving the partnership is NOT sufficient. You also need to write a Separation Agreement, which will detail exactly who owes what. We strongly recommend you seek the advice of an attorney on how best to do this.
After this is done (and is properly executed by all the partners), make sure your name is removed from all company documents. Take care throughout to make sure that any commitments the company makes, particularly financial ones, are enforceable, and that you have an understanding of the mechanisms of that enforcement.
Protecting Yourself from Past Obligations
It can be tricky to get your name off of Partnership loans, leases, and contracts. As we said, simply leaving the partnership is almost never sufficient. Usually, you cannot remove your own liability without cancelling or renegotiating the relevant loan, lease, or contract.
We like straightforward contracts that clearly release you from any and all obligations, and will pursue those when possible. Of course, this is not always possible. In such cases, there are other means available, including setting up a company escrow account from which the obligation will be paid.
More complicated solutions include giving the departing partner a security interest in the partnership’s assets or having your partners sign documents personally indemnifying you, fully or partially. It can become fairly complicated quickly, and it is particularly important to seek advice of counsel on these matters.
The best protection, and the centerpiece of departure negotiations, is the separation agreement. Even when things are friendly, they are crucial. You can’t know exactly what will happen if the company faces an unexpected crisis or huge tax bill. And even if you’re on good terms with your partners now, partners change and partners are sometimes replaced with people you know less well. We always make sure clients’ separation agreements contain the following:
- How the company will go about removing your name from any obligatory documents (in cases when we cannot do so immediately).
- How assets and liabilities are to be distributed, and (depending on the case) how much the company owes you for your ownership.
- Formal assurance that you will not be held liable for future lawsuits or negative judgments.
- Mechanisms for ensuring debts from which your name cannot be removed are paid.
- A detailed, binding description of what happens if the partnership breaches its obligations to you.
- A right to audit the company’s books if you are owed money in the future.
As mentioned above, it’s usually better to do things amicably. When that’s not possible, the operating agreement will detail how the separation is to take place. If there is no agreement, or it’s insufficiently detailed, the laws of the state in which the company was formed are operative. You must carefully follow these statutes.
If your partners fail to do so, or if the statutes appear to result in an unfair situation, we will turn to litigation. Litigation is sometimes the best option, but it’s usually much better to get a good attorney involved long before that, if only to save the considerable time and money involved in a lawsuit of this nature.