Partnership governance - Common provisions in partnership agreements

Learning Outcomes

After studying this article, you will be able to identify and explain the main provisions commonly found in partnership agreements for English law. You will understand how partners can vary default rules under the Partnership Act 1890, draft effective clauses on capital, profit sharing, decision-making, expulsion, and asset ownership, and apply these principles to SQE1-style problem questions.

SQE1 Syllabus

For SQE1, you are required to understand how partnership agreements operate in practice and how they can modify the default statutory rules. In your revision, focus on:

• The default rules of the Partnership Act 1890 and how they may be varied by agreement.
• The main provisions typically included in partnership agreements, such as capital contributions, profit and loss sharing, management, expulsion, and asset ownership.
• The legal and practical consequences of including or omitting certain clauses.
• How to apply partnership agreement provisions to problem scenarios and MCQs.

Test Your Knowledge

Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.

1. Which default rule under the Partnership Act 1890 applies if there is no express agreement on profit sharing?
2. Can a partner be expelled from a partnership without an express expulsion clause in the partnership agreement?
3. What is the effect of failing to specify ownership of assets contributed by partners in the partnership agreement?
4. In the absence of agreement, how are decisions made regarding changes to the nature of the partnership business?

Introduction

When two or more people carry on business together, they may form a partnership. The Partnership Act 1890 (PA 1890) provides default rules, but most partnerships will want to tailor their arrangements by entering into a written partnership agreement. Such agreements are essential for clarifying rights and obligations, reducing disputes, and ensuring the partnership operates as intended. This article examines the most common provisions included in partnership agreements and explains their legal effect for SQE1.

Capital Contributions and Profit Sharing

The PA 1890 states that partners share profits and losses equally unless agreed otherwise. However, partners often wish to reflect differences in capital, effort, or skill.

Key Term: capital contribution
The amount of money, property, or other assets each partner invests in the partnership, either at the outset or during its operation.

Key Term: profit sharing ratio
The agreed proportion in which partners share the profits (and usually losses) of the partnership.

Worked Example 1.1

Scenario: Three partners form a partnership. Partner A contributes £50,000, Partner B contributes £25,000, and Partner C contributes no capital but will manage the business full-time. There is no express agreement on profit sharing.

Answer: In the absence of agreement, profits and losses are shared equally under s.24(1) PA 1890. However, this may not reflect the partners' intentions. A partnership agreement could specify a different profit sharing ratio to reward capital or effort.

Decision-Making and Management

By default, all partners may take part in management, and ordinary matters are decided by majority. However, changes to the nature of the business, admission of new partners, or changes to the agreement require unanimity.

Key Term: management clause
A provision in the partnership agreement setting out how decisions are made, who manages the business, and any special roles or voting rights.

Worked Example 1.2

Scenario: A partnership agreement gives Partner X a casting vote on all management decisions. The partners disagree on a major contract. Partner X uses the casting vote to approve it.

Answer: The agreement overrides the default rule of equal management. The casting vote provision is valid and the decision stands, provided the clause is clear and all partners agreed to it.

Expulsion and Retirement

The PA 1890 does not allow expulsion of a partner unless expressly agreed. Without an expulsion clause, partners cannot remove a problematic partner, even for misconduct.

Key Term: expulsion clause
A provision in the partnership agreement allowing the partnership to remove a partner in specified circumstances and following a set procedure.

Worked Example 1.3

Scenario: Partner D is persistently absent and damaging the firm's reputation. The partnership agreement contains an expulsion clause for serious misconduct, requiring a majority vote and written notice.

Answer: The partners may expel D by following the procedure in the agreement. If there were no expulsion clause, D could not be removed unless all partners agreed to dissolve the partnership.

Exam Warning

The absence of an express expulsion clause means a partner cannot be expelled, even for serious misconduct. This can force dissolution of the partnership if the other partners cannot work with the problematic partner.

Dissolution and Continuation

Under the PA 1890, a partnership dissolves on death, bankruptcy, or notice by any partner in a partnership at will. Many agreements include clauses to allow the partnership to continue despite these events.

Key Term: continuation clause
A provision allowing the partnership to carry on after the departure, death, or bankruptcy of a partner, rather than dissolving automatically.

Capital and Asset Ownership

Disputes often arise over whether assets used in the business are partnership property or belong to individual partners. The agreement should specify ownership and procedures for withdrawal or valuation.

Key Term: partnership property
Assets owned by the partnership as a whole, used for partnership purposes, and shared among the partners according to the agreement.

Key Term: personal property
Assets owned by an individual partner, not by the partnership, and not subject to division on dissolution.

Revision Tip

Always specify in the agreement which assets are partnership property and which remain personal property. This avoids disputes if a partner leaves or the partnership dissolves.

Indemnity and Restrictive Covenants

The PA 1890 provides that the firm must indemnify partners for payments made in the ordinary course of business. Agreements may clarify or expand indemnity provisions and include restrictive covenants to protect the business after a partner leaves.

Key Term: indemnity clause
A provision requiring the partnership to reimburse partners for liabilities incurred on behalf of the firm.

Key Term: restrictive covenant
A clause restricting a partner's ability to compete with the partnership or solicit clients after leaving, provided it is reasonable in scope and duration.

International and Tax Considerations

Where a partnership operates in more than one jurisdiction, the agreement should specify the governing law and address tax implications for each partner.

Key Term: governing law clause
A provision specifying which country's law applies to the partnership agreement and disputes.

Key Point Checklist

This article has covered the following key knowledge points:

• The Partnership Act 1890 provides default rules, but most partnerships use written agreements to vary them.
• Common provisions in partnership agreements include capital contributions, profit sharing, management, expulsion, dissolution, asset ownership, indemnity, and restrictive covenants.
• Expulsion of a partner is only possible if expressly provided for in the agreement.
• Asset ownership should be clearly defined to avoid disputes on exit or dissolution.
• Indemnity and restrictive covenants protect the partnership and its partners.
• International partnerships should address governing law and tax issues in the agreement.

Key Terms and Concepts

• capital contribution
• profit sharing ratio
• management clause
• expulsion clause
• continuation clause
• partnership property
• personal property
• indemnity clause
• restrictive covenant
• governing law clause