ARTICLES

The Accidental Partnership - Do You Know Your Partner?

What is a partnership?

A partnership is generally described as two or more persons carrying on business for profit. A partnership can be comprised of any combinations of natural persons (living breathing humans) or legal persons (corporation, limited liability company, etc.). A legal partnership is not to be confused with shareholders of a corporation or members of a limited liability company, who often refer to the other shareholders or members in every day business as a “partner.”

How is a partnership formed?

Partnerships are formed in many ways. Most commonly, partners will make a concerted effort to come to some agreement, whether written or oral, regarding their business relationship and an allocation of responsibilities and the manner in which profits and losses will be shared. Even so, Minnesota law provides that a partnership includes any two persons carrying on business for profit, even if they did not intend to form a partnership.

Under Minnesota law a person is deemed a partner if that person shares in any way in the profits of a business unless it is accomplished through 1) payment on a debt 2) payment for services rendered as an employee or independent contractor 3) payment of rent 4) payment of an annuity or other retirement or health benefit to a beneficiary, representative, or designee of a deceased or retired partner 5) payment of interest or other charge on a loan or 6) payment on the sale of goodwill of a business or property by installment. Thus, a simple “side deal” can easily fit into the rubric of a Minnesota partnership.

What are the risks of having a partner?

Unless otherwise allocated in writing, partners of a partnership are presumed to be equal. Thus, they are each entitled to their proportionate share of profits and losses and management responsibilities. If the partners intended to structure the businesses financial and governance mechanisms differently and failed to reduce it to writing, the partners or their estates may find themselves embroiled in a tangled controversy.

A greater risk to a partnership is the unlimited exposure to personal liability. For example, if a partner damages another’s property in the course of the partnership’s business, the damaged party may look solely to another partner’s personal assets to pay for the damage. In fact, all of the partners are jointly and severally liable for this damage.

In addition to the exposure to liability, some persons may be surprised to learn that they are not an employee and are partners of a partnership. This may forestall claims against lost wages or benefits because a partner cannot be compensated for services to the partnership, rather the claim is reduced to a share of the profits of the business. Thus, “employment” relationships that involve a percentage of the businesses profits, rather than commissions on sales, salaries or hourly wages, may carry a double edged sword – an owner that didn’t want a partner or an “employee” that wants to get paid before any profits are calculated by the business.

Partners owe other partners a duty of loyalty and a duty of care. A partner’s duty of loyalty requires a partner 1) to account to the partnership for any property, profit, or benefit derived by the partner in the conduct the partnership business or derived from use by the partner of partnership property, including the appropriation of a partnership opportunity; (2) to refrain from dealing with the partnership as or on behalf of a party having an interest adverse to the partnership; and (3) to refrain from competing with the partnership. A partner’s duty of care requires a partner to refrain from engaging in grossly negligent or reckless conduct, intentional misconduct, or a knowing violation of law. Thus, self-dealing and competition with a partnership and its partners is forbidden. This severely limits a person’s freedom to seek separate business pursuits – a difficult realization to handle when one of the partners never intended to create a partnership.

How can I ensure I don’t have an accidental partnership?

The attorney’s drum beat is “get it in writing!” Nothing could be truer for someone desiring to avoid an “accidental partnership”. Clear, concise agreements set the expectations for all involved. Make sure that anytime sharing of profits is involved, that a partnership is actually intended. If employing someone, an employment agreement setting wages on standards other than business profits is a must. The most effective weapon to combat the accidental partnership is to incorporate or organize your business into a corporation or limited liability company or enter into written employment or contractor agreements. This will provide for a defined written relationship that cannot be created inadvertently and will limit other owners’ liability for acts performed in the scope of business.