Drafting a partnership agreement can be tricky. One major hurdle? Making sure everyone's roles and expectations are crystal clear. If they're not, misunderstandings can spiral, leading to conflicts that disrupt the business.
In this article, you will get a straightforward guide on how to address this challenge effectively.
We will cover what to include in your agreement, why it's vital for safeguarding your partnership, and how following just a few best practices can make the whole process a breeze. Not just that, we’re also giving a free template for you to download, customize, and use for your own organization.
What is a partnership agreement?
A partnership agreement is a legal contract that sets out the terms and conditions between partners in a business. It includes details on contributions, profit sharing, roles, and how disputes are handled.
Can you change or modify a partnership agreement?
Yes, because businesses evolve, and a rigid partnership agreement template can cause more problems than it prevents. A partnership agreement is not set in stone; it should grow with your business, adjusting to new challenges, opportunities, and realities.
Why do you need a partnership agreement?
Because nothing wrecks a good business relationship (or friendship) faster than unclear expectations.
A partnership agreement lays out the rules so that everyone knows where they stand. It keeps things fair, smooth, and legally sound. Without a partnership agreement, you’re leaving key decisions up to chance. And in business, chance is a terrible strategy.
Here is why every partnership needs a solid agreement:
#1 To set clear expectations from day one
Before you and your partners start running a business together, you need to make sure you’re on the same page about, well, everything. A partnership agreement helps you sort out:
- Who does what? Clearly defined roles - no stepping on toes (or egos)
- Who’s the boss? Decision-making authority laid out before the power struggles begin
- What if someone wants out? Outlines exit procedures to ensure business continuity
#2 To prevent financial and legal nightmares
Disagreements over money and decision-making aren’t just awkward—they can kill a business. Your partnership agreement should cover:
- How are profits and losses split? No room for “I thought we agreed on…” debates
- What if someone disagrees with a big decision? Voting rights and approval processes make sure no one hijacks the business
- How do you handle disputes? Mediation, arbitration, or other agreed-upon methods to avoid expensive legal battles
#3 To protect the business from partner drama
People leave, things change, and, worst case, someone might pass away. A partnership agreement helps keep the business stable no matter what happens:
- What if a partner quits? There’s a structured exit process when there’s a partnership agreement
- What happens if someone gets sick or dies? Succession plans keep operations running
- How do buyouts work? Valuation methods and payment terms prevent messy financial battles
#4 To avoid decision-making chaos
Nothing slows a business down like partners stuck in endless debates. A partnership agreement helps avoid that by answering:
- Who has the final say? Leadership roles and voting rights spelled out before the arguments start
- How are big decisions made? Clear processes for financial, operational, and strategic moves
- What if there’s a deadlock? A tiebreaker system (because flipping a coin isn’t exactly best practice)
#5 To stop state laws from running your business
If you don’t set your company’s own rules, the law will do it for you—and you might not like the results. A partnership agreement makes sure:
- Your business operates how you want instead of letting generic state laws decide
- Profits and losses are split as agreed instead of default legal formulas
- Disputes are handled on your terms instead of getting tangled in courtroom drama
#6 Because verbal agreements = business landmines
A handshake might feel like trust, but in legal terms, it’s about as solid as a sandcastle at high tide. A written partnership agreement:
- Clarifies partner responsibilities so there’s no “I never agreed to that” later
- Locks in financial terms so no one suddenly remembers things differently
- Protects you in court instead of leaving everything up to memory and good faith
Also read: Managing Contract Terminations: The Ultimate Guide
Understanding common clauses in a partnership agreement
When you're setting up or reviewing a partnership agreement, it's crucial to understand the common clauses that form the backbone of these documents. Here's what you should look out for:
- Identification of partners: Clearly states who is involved, their legal names, and often outlines their roles within the partnership
- Business purpose: Defines what the business aims to do. This clause sets the stage for the partnership's objectives and activities
- Capital contributions: Specifies what each partner is bringing into the partnership, which could be cash, property, or other resources
- Profit and loss distribution: Describes the formula for dividing profits and losses among partners, which might be equal or proportional to each partner’s contributions
- Management and decision making: Details who manages the partnership and how decisions are made, whether through majority votes or unanimous decisions
- Salaries and drawings: Determines if partners will receive regular salaries and how money can be drawn from the partnership profits
- Meetings and voting: Establishes procedures for meetings and voting, including what constitutes a quorum for making decisions
- Authority and representation: Sets the extent to which each partner can make decisions on behalf of the partnership
- Admission of new partners: Outlines the process for adding new partners, including approval processes and contribution requirements
- Withdrawal or death of a partner: Provides procedures for a partner's exit, whether due to withdrawal, death, or incapacity, including how their share is valued and transferred
- Dispute resolution: Includes methods for resolving disagreements among partners, aiming to handle conflicts internally before resorting to litigation
- Dissolution and liquidation: Specifies conditions under which the partnership may be dissolved and how the assets will be distributed among partners
- Non-compete and confidentiality: Protects the partnership's interests by preventing partners from engaging in competing businesses and disclosing confidential information
Also read: How to Review Business Partnership Agreements
When to use a partnership agreement
A partnership agreement is not just a formality—it's a crucial tool for clarity and security in various business scenarios. Here’s when when you should have a customized partnership agreement or consider drafting one:
#1 When starting a new business venture
A partnership agreement is ideal when two or more individuals come together to start a new business.
This ensures clarity from the start about business structure, capital contributions, ownership interest, and how profits and losses are distributed. This foundational clarity helps prevent future disputes and misunderstandings.
#2 When formalizing informal partnerships
The agreement is useful when informal business arrangements, like those between friends, need a formal structure.
You need it to establish clear roles, responsibilities, and equity stakes, turning casual agreements into binding commitments. This formalization helps safeguard the business's future and the personal relationships involved.
#3 When ringing in new partners
Partnership contracts are often recommended when expanding the business and introducing new business partners for additional skills or capital.
#4 When restructuring a business
This applies when a business undergoes significant changes in management, focus, or ownership.
You simply need to update the agreement to reflect new business directions and partner responsibilities, maintaining operational clarity and continuity.
#5 When planning for succession
The agreement is important for planning the future of the business when a partner leaves, retires, becomes incapacitated, or passes away.
Also read: How to Review Joint Venture Collaboration Agreements
Advantages of a partnership agreement
A partnership agreement is the playbook that keeps your business running smoothly. Here's why having one is essential:
#1 Defining Roles and Responsibilities
Without clear guidelines, partners might step on each other's toes. A well-drafted agreement spells out who does what, preventing confusion and conflict.
For instance, in the case of Procter v. Procter, the lack of a detailed partnership agreement led to disputes over partner duties, highlighting the need for clear role definitions.
#2 Financial clarity
Money matters can strain relationships. An agreement outlines how profits and losses are shared, ensuring everyone knows where they stand.
In Dawson v. White & Case, the partnership agreement specified that pension payments could only come from profits and were capped at 15%, providing financial clarity and preventing misunderstandings.
#3 Dispute resolution
Disagreements are inevitable. Having a predefined method to resolve them can save time, money, and relationships.
#4 Decision-making authority
Who gets the final say? An agreement establishes decision-making processes, so the business doesn't stall due to indecision.
In Dixon Coles and Gill v. Bishop of Leeds, the partnership faced issues because one partner acted without the others' approval, emphasizing the need for mutual consent clauses.
#5 Exit strategies
Partners may leave or new ones may join. A partnership agreement provides a roadmap for these transitions, ensuring the business continues seamlessly.
Limitations of partnership agreements
While partnership agreements aim to provide structure and clarity, they aren't without their pitfalls. Here are some limitations to consider:
#1 Potential for disagreements
Even with a detailed agreement, partners may clash over business decisions. Differing visions or management styles can lead to conflicts that the agreement might not fully address. For instance, in the case of Karrick v. Hannaman, disputes arose despite the existence of a partnership agreement, leading to legal battles over management and financial responsibilities.
#2 Shared liability concerns
Partnership agreements often mean shared liability. If one partner makes a poor decision, all the other partners might bear the consequences, potentially putting personal assets at risk. This shared responsibility can be daunting, especially if the agreement doesn't clearly delineate the extent of each partner's liability.
#3 Difficulty in amending terms
Once set, modifying a partnership agreement can be cumbersome. All partners typically need to consent to changes, which can be challenging if disagreements exist. This rigidity can hinder the business entity's ability to adapt to new circumstances or opportunities.
#4 Potential for unequal workload
Even with roles outlined, one partner might end up shouldering more responsibilities. This imbalance can lead to resentment, especially if profit sharing doesn't reflect the disparity in effort. Such situations can strain relationships and impact business operations.
#5 Challenges in dissolving the partnership
Ending a partnership isn't always straightforward. The agreement might lack clear exit strategies, leading to prolonged disputes. In Congel v. Malfitano, the absence of explicit dissolution terms resulted in legal complications when a partner sought to exit, underscoring the importance of detailed dissolution clauses.
How to write a partnership agreement
Now that you know why you need one, here’s how to make sure yours actually holds up when it matters.
Step #1: Start with the basics (define the business structure)
Before anything else, lay the groundwork for the general partnership agreement. Your agreement should spell out exactly what the partnership is and how it will operate.
Include:
- Partnership name and registered business address
- Business purpose: what you do and what you don’t do, and what industries you serve
- Duration: is this partnership indefinite, or does it have an expiration date?
Step #2: Decide who’s bringing what to the table (Partner contributions)
No one likes that one friend who never chips in for dinner—same goes for partnerships. Be crystal clear on what each partner is contributing upfront.
Include:
- Initial investments: cash, property, intellectual property, or even sweat equity
- Future funding rules: who’s expected to pitch in when extra money is needed?
- Ownership percentages: because hoping for the best isn’t a business plan
Step #3: Set the money rules (profit and loss allocation)
Money makes people weird, so don’t leave this to chance. Set up clear rules for how profits and losses are split before things get awkward.
Include:
- Profit-sharing model: equal split, percentage-based, or something custom?
- Loss-sharing rules: because things won’t always go up and to the right
- Payment schedules: are profits reinvested, or do partners get payouts?
Step #4: Define who’s doing what (roles and responsibilities)
Nothing derails a business faster than unclear roles. Your agreement should define who’s in charge of what.
Include:
- Partner responsibilities: daily operations, strategic decisions, and authority levels
- Limits on individual actions: can one partner sign contracts without approval?
- Decision-making hierarchy: who has the final say on critical calls?
Step #5: Prepare for inevitable disagreements (Dispute resolution)
Disagreements are inevitable. Plan ahead for how you’ll handle it professionally.
Include:
- Preferred resolution method: negotiation, mediation, arbitration, litigation)
- Steps for handling financial and operational disputes: before things escalate
- How breaches of agreement will be handled: because “trust me” isn’t a legal defense
Step #6: Create an exit strategy (Partner departures and succession)
People leave businesses all the time—make sure it doesn’t wreck yours when it happens.
Include:
- Buyout terms: what happens if a partner wants out?
- Ownership transfer rules: can partners sell their stake to anyone, or is there a process?
- What happens if a partner dies or goes bankrupt?: yes, this needs to be in writing
Step #7: Plan for the worst-case scenario (Dissolution terms)
Nobody likes talking about breakups, but if the business shuts down, it should be on your terms—not the state’s.
Include:
- Conditions for dissolution: when and how can the partnership be ended?
- How assets and debts are divided: because someone will ask
- Steps for wrapping up business operations: so the IRS doesn’t come knocking
Step #8: Protect the business from loose lips (confidentiality & non-compete clauses)
The last thing you want is an ex-partner starting a rival business with your playbook.
Include:
- Confidentiality rules: so trade secrets don’t walk out the door
- Non-compete clauses: limits on starting a competing business right after leaving
- Who owns intellectual property: because “we both worked on it” is a lawsuit waiting to happen
Also read: Contracting in Business: Everything You Need to Know
Best practices to draft and manage a partnership agreement
Drafting a solid partnership agreement is key to laying a strong foundation for any business venture. Here are some best practices to ensure your agreement is clear, comprehensive, and effective in managing your business partnership.
#1 Engaging all partners
When drafting a partnership agreement, getting everyone involved is crucial. Here's how you can do that:
- Set up meetings: Regular meetings are essential. They allow every partner to share their thoughts and contribute to the agreement. This way, everyone feels their input is valued
- Keep a consistent schedule: Having these discussions regularly keeps everyone involved and informed
- Use a neutral facilitator: Sometimes, it helps to have someone from outside the partnership guide the discussions. This can keep the focus on the main issues and ensure everyone gets a fair say
- Focus on clear communication: Making sure everyone understands each other is key to a good partnership agreement
- Keep records: Write down what you agree on in these meetings. These notes can help later if there's a disagreement
- Use simple language: Avoid complex legal terms. Make sure the agreement is easy to read and understand for everyone
“Avoid unnecessary complexity and shoot for short sentences. Always ask yourself if what you wrote down is clear – could a judge or jury understand the section if there was ever litigation? If not, rework it. For example, think about this statement, ‘This Agreement will terminate on August 31, 2021.’ Does this mean that it terminates when the day starts? When the day ends? And when does the day end? At the end of the business day, at midnight, and in what time zone? The better sentence is ‘This Agreement will terminate on August 31, 2021, at 11:59 p.m. Central Time.’ Be precise and concise!”
~Sterling Miller, CEO, Hilgers Graben
Ten Things: Making Contracts Easier to Sign
Also read: 10 Tips to Maintain Clear Contract Language
#2 Defining clear roles and responsibilities
To avoid confusion and ensure everyone knows their part in the partnership, you must define roles and responsibilities clearly in your partnership agreement.
- List specific duties: Assign specific tasks and responsibilities to each partner. This prevents overlap and ensures that all critical areas of the business are covered
- Detail decision-making powers: Specify who has the authority to make decisions in various areas of the business. This helps in managing operations smoothly and prevents conflicts
- Establish accountability: Make it clear who is responsible for each aspect of the business. This accountability helps keep the partnership running efficiently
- Update as needed: Business needs can change, and so might the roles within your partnership. Plan to review and update these roles periodically
- Hold review meetings: Schedule regular check-ins to discuss roles and any needed changes. This keeps the agreement up to date with the partnership’s needs
- Adapt roles to growth: As your business grows, roles may need to expand or shift. Be flexible and adjust responsibilities as required to fit the business’s evolving needs
#3 Listing all document contributions
You need to accurately record what each partner brings to the table in a partnership agreement. This includes money, resources, or expertise.
- List all contributions: Clearly document the initial contributions from each partner. This could be cash, property, technology, or specific skills that each partner contributes to the startup and operation of the business
- Specify contribution types: Be detailed about the type of contributions (monetary, physical assets, or intellectual property) and their estimated value
- Record ongoing contributions: Sometimes, partners contribute more than just at the start. Make sure to keep records of any additional contributions as the business progresses
- Link contributions to equity: Clearly define how these contributions affect each partner’s share in the business. This clarity helps prevent disputes about ownership and profit sharing later on
- Outline terms for changes: Set terms for what happens if partners want to increase their stake through additional contributions
- Review contributions regularly: As the business grows, the nature and size of contributions might change. Regular reviews of what everyone is contributing can keep the partnership agreement fair and up-to-date
- Adjust as needed: Be prepared to adjust the terms of the agreement if the balance of contributions and the value they bring to the business change over time.
#4 Designing decision-making processes
Establishing clear decision-making processes is crucial in a partnership agreement to ensure smooth operations and resolve disagreements effectively.
- Define voting rights: Clarify who gets to vote on what issues. Typically, decisions are either made unanimously or by a majority vote. Specify which decisions require which type of vote
- Major vs. minor decisions: Distinguish between major decisions that may require unanimous consent (like taking on new debt or selling the business) and more routine decisions that can be made by a simple majority
- Outline procedures for meetings: Describe how meetings will be conducted where decisions are made. Include how often meetings occur, how they are called, and what constitutes a quorum for making decisions
- Remote participation: Consider including provisions for partners who cannot be physically present to participate via phone or video calls
- Dispute resolution: Clearly outline what happens if there is a disagreement among partners
- Mediation or arbitration: Include steps for mediation or arbitration to resolve disputes before resorting to legal action. This can save both time and money
- Special voting arrangements: In some cases, you might establish a tie-breaker mechanism or appoint an external advisor for deadlock situations
- Document decision outcomes: Keep records of all decisions made, including who voted and the outcome. This documentation is vital for transparency and can be crucial in resolving any future disputes over what was agreed upon
Also read: Finding Common Ground: How to Resolve Contract Disputes
#5 Using technology to automate the partnership agreement process
If you think you can manage contracts without tech, you’re right. You can.
But do you want to spend weeks upon weeks creating them, getting redlining done, chasing people for approvals, only to get stuck in execution later? Wouldn’t you rather focus your energy on something more productive?
This is why it's best to embrace technology because SpotDraft makes this all a cakewalk! Here’s how:
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So, dive in and give SpotDraft a try!
Also read: Use SpotDraft Templates to Create Contracts in Minutes
Partnership Agreement FREE Template
If you're ready to draft a partnership agreement, we’ve got a free partnership agreement template to help you get started. It’s designed to be flexible and easy to customize to your needs.
Click on the download link or button to get your free template.
Using this template can save you time and ensure you cover all essential aspects of your partnership agreement. Remember, while the template provides a strong foundation, it’s important to tailor it to your specific situation.
Also read: 6 Tips to effectively write business contracts
Get ready to draft your partnership agreement in minutes
A well-crafted partnership agreement sets clear expectations, outlines responsibilities, and provides a roadmap for resolving potential disputes, all of which are essential for the smooth operation and longevity of your partnership.
Don't miss out on the chance to streamline this process. Use the free template in this post to get started on your agreement. It's designed to be flexible and comprehensive, making it easier for you to adapt to your specific needs.
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