UNDERSTANDING PARTNERSHIPS by BPE Attorneys Matthew Kirkpatrick and Keith Dunnagan
In the last article, we introduced the series on entity formation and selection. One of the most common, if not the most common, business entity is the Partnership. These entities are generally governed by the California Corporate Code under either RUPA (General Partnerships) or Re-RULPA (Limited Partnerships).
A partnership as an entity is nothing more than an association of two or more persons to carry on as co-owners of a business for profit. They can be formal in the sense that the partnership is registered with the state and the partners have entered into a formal written agreement. The partnership could be informal and merely be individuals conducting business without any form of written agreement. There is also the Ostensible Partnership which is determined not based upon the express will of the partners but rather the appearance of a partnership to an outsider, which can be dangerous for the participants.
Partnerships can provide many benefits to the principals. Most notably is the fluidity with which the partnership can be managed. All general partners are agents of the others and have the ability to bind the partnership in the ordinary course of business. The ability for seamless management and lack of rigid formality of other entity types makes the general partnership attractive to business owners. Additionally, the general partnership allows for flexible models of compensation rather than the rigid distribution models under the corporate structure. Additionally, partnerships provide favorable tax treatment in that the partners can avoid
The downside is that a general partnership provides no third party liability protection. The risk of the general partnership model is that each general partner is jointly and severally liable for the obligations of the partnership. This means regardless of origination of the debt, if it was incurred in the ordinary course and scope of the business every general partner is equally liable.
As liability is a problem and the reality is that some partners are not active participants in the business ventures, the “Limited Partnership” was established as an alternate business structure within the partnership world. The premise behind the limited partnership is that there are two classes of partners, those who are general partners and those who are limited partners. General partners still have all the management control and liability exposure as they would in a general partnership. However, the limited partners are more passive participants in the business, they do not engage in the day to day management and operations of the business, they are merely profit participants. Consequently, they are insulated from the liabilities of the business. This can be a good model for an investment type business.
One critical component in any partnership is the duty that is owed by the general partners. As this is a for profit business model, self dealing is not allowed and each general partner owes the highest fiduciary duty to the other general and limited partners. These fiduciary duties generally cannot be contracted around as California policy is to preserve the fiduciary responsibilities of the partners.
Partnerships are a useful business model in the right business with the right contracted for obligations. The key to a successful partnership outside of selecting the right partners is creating a comprehensive partnership agreement to govern the management of the partnership.
If you are contemplating a partnership business model, the attorneys at BPE Law have significant experience in counseling business owners on partnership structures and governance. We would welcome the opportunity to assist you in your business endeavors and selecting your structure is your first step. If you have any further questions, please feel free to contact us at firstname.lastname@example.org or, if you need help now, please call our office at (916) 966-2260 to set up a consultation.
This article is not intended to be legal advice, and should not be taken as legal advice. Every case requires review of specific facts and history, and a formal agreement for service. Please feel free to contact us if you need legal advice and are interested in seeing if we can help you.