What Is the Purpose of a Partnership Agreement?

by Jeremy Slaughter; Updated September 26, 2017
Two businessmen shaking hands

Partnership formation is simple and provides each partner with the benefit of larger pools of capital, expertise and other resources. But partnerships can also be a source of legal frustration and issues. Whether you intentionally form your partnership or your actions and activities imply partnership, a partnership agreement prevents internal legal issues and disagreements.

The Partnership Agreement

Partnership agreements are a supplemental document used in addition to any state's legal forms required for partnership formation. Although your partnership agreement is a very important document, you do not file it with your state. Partnership agreements spell out the defined terms of ownership, partnership shares, profit investments, company management and operation details.

Agreement Importance

Common elements of the agreement include the calendar period of the agreement and the nature of business to be conducted. Beyond these basics, partnership agreements delineate the ownership shares for each partner, it defines the positions held by individual partners, partnership payments, business management, accounting methods and the actions taken in the event of a partnership buyout or the death of a partner. If certain items are not addressed in your partnership agreement, state law intercedes by default. A partnership agreement allows partners to control how to address complex matters within the arrangement while protecting each partner's overall interests.

Partnership Documentation

The more information included in the agreement, the better prepared each partner is for events that might occur, as long as the information defined complies with state statutes and federal laws. For example, you cannot state that each partner is only liable for decisions he individually approves. According to the Uniform Partnership Act, each partner is liable for his own actions, but is also liable for the actions of the other partners and employees. For assistance with composing a partnership agreement, contact an attorney or download a template from a legal website.

Agreement Misconceptions

Individuals and businesses alike often make the mistake of not creating a partnership agreement before doing business together. Because of an existing strong relationship, partners cannot imagine the future holding anything different. Even family-owned businesses rarely realize the need for a partnership agreement. But families, as with any other business partner relationships, are not immune to disagreements or even legal action against each other. A partnership agreement can eliminate these issues by clearly defining individual partner roles and the specifics of the business relationship.

Expert Insight

Partnership agreements have a profound impact on taxation of both the partnership and the individual partners. The partnership agreement determines the amount of tax partners pay and the type of payment and distributions of capital. The Internal Revenue Service does not require a copy of this document, although if a partner or the partnership's taxes are audited, a copy will be required.

About the Author

Jeremy Slaughter began writing business and hobby articles in 2009 after completing his master's degree in accounting at the Keller Graduate School of Management. As a tax, accounting and small business expert, Slaughter co-founded an accounting and tax firm where writing plays a daily role.

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