If you’re starting in business or thinking of taking your existing business to the next level, you’ll probably be asking yourself how to set it up, and what form your business should take.
Depending on the size of your operation, there are various choices open to you, from operating as a sole trader to going public and becoming a PLC. However certain types of business are most suitable to be run as partnerships since they’re relatively simple to set up, offer tax advantages and you can generally keep your business affairs out of the public eye.
Partnerships are formed by individuals who want an equal share in the running of the business. The most common types of partnerships are building firms, lawyers, medical practices and accountants.
There are different types of partnerships in England, general partnerships, limited partnerships and limited liability partnerships (LLPs).
While they all share similar characteristics, they’re slightly different in practice. In this article, we look at the questions we’re often asked about partnerships, from their tax arrangements to how you set one up.
Jump to:
- What is a partnership?
- What is a partnership agreement and why do you need one?
- What are the different types of partnership?
- Is a partnership a separate legal entity?
- How do you set up a partnership and what’s the paperwork involved?
- How long does a partnership last?
- How long does a partnership last?
- How many partners do you need and who can be a partner?
- Are partners’ liability for losses unlimited?
- How do you share partnership profits and losses?
- How is a partnership taxed?
- How does a partnership manage its business?
- How do partners agree how much capital they’ll contribute?
- How do you admit a new partner?
- Can a partner retire or withdraw?
- Can I restrict my partners’ ability to compete with the business in a partnership agreement?
- How does a partnership end?
- Can partners be unfairly dismissed or bring discrimination claims?
- What happens if there is a partnership dispute?
What is a partnership?
In simple terms, a partnership is where two or more people in business decide to join forces and work together. The only essential component is that the partners are working together to make a profit – you can’t run a charity or club as a partnership for example. While you don’t need to put anything in writing to form a partnership, we strongly advise that you do so, as this article will explain.
What is a partnership agreement and why do you need one?
A partnership agreement is a contract between business partners that sets out the rules by which the partnership will be organised and run. As partnerships can be set up without one, the general law lays down certain key aspects of partnership administration, unless the partners otherwise agree. This is one of the main reasons it’s crucial to have a written partnership agreement, as you may want to run the partnership differently.
For example, in law, partners share profits equally. In practice, many partnerships want to allocate profits differently depending on how long each partner has been with the business, or how much initial capital they’ve contributed.
A partnership agreement can override the general law, so each partner knows where they stand. What’s more, unlike companies, partnership agreements are private, so the partners can keep their business affairs confidential.
Even if you’re going into business with a friend or relative, you should still have a partnership agreement. Ideally, you’ll never need to refer to it, but unfortunately, disagreements can arise, and a partnership agreement can help to resolve the conflict quickly.
We recommend you take legal advice when drawing up a partnership agreement.
What are the different types of partnership?
In English law, there are three different types of partnership, general, limited and LLPs.
The main difference between a general partnership and the others is that the liability of the partners for business losses of a general partnership rests entirely with the partners. With an LLP, the liability of the partners is limited to the capital they’ve brought into the business. In a limited partnership, the liability of the ‘limited’ partner is limited.
Unless specifically set up as a limited partnership, a partnership will be a general one. Partners pay tax on the profits they receive on a personal tax basis, and each partner takes on responsibility for the business. They can’t protect their assets from legal claims and losses.
A limited partnership is like a general partnership except that one or more members may be ‘silent’ investors who don’t take part in the running of the business.
Is a partnership a separate legal entity?
Until relatively recently, and unlike a limited company, partnerships were not legal entities. They couldn’t own assets, raise a mortgage or enter into contracts – rather, the partners owned those assets as individuals. However, there is now a type of partnership known as an LLP that is a legal entity, just like a limited company, but with certain key differences.
For general partnerships and limited partnerships, the partners or general partner act as the partners’ agent so they can sign documents that bind all the partners. A single limited partner can’t enter into documents or arrangements on behalf of the limited partnership.
How do you set up a partnership and what’s the paperwork involved?
| General partnerships | Limited partnerships | LLPs |
| No formal paperwork or filings are needed to set up | Must be registered at Companies House | Must be incorporated at Companies House |
| No ongoing need to file documents or returns | Limited ongoing filing requirements | Various ongoing filing requirements |
| Partnership agreement is highly recommended | Limited partnership agreement highly recommended | LLP agreement highly recommended |
| Partnership agreement is a private document | Partnership agreement is a private document | Partnership agreement is a private document |
As you can see, general partnerships don’t need to file their accounts or even maintain formal records stating the identity of the partners. Limited partners also don’t need to file accounts, but they do need to let Companies House know if they make certain changes to the way they are run, and who the members of the partnership currently are.
On the other hand, an LLP’s financial records are public documents that they need to file annually at Companies House. They also need to notify Companies house if they admit or retire partners and tell Companies House who has significant control of the business.
With all types of partnerships, their business communications and other documents must show the names of the partners, and where they can be inspected.
How long does a partnership last?
You can set up a partnership to last indefinitely, for a limited number of years, or a specific project. You’ll need a partnership agreement to set out the terms, and how the partnership will terminate or be dissolved.
How long does a partnership last?
A partnership may be set up to last indefinitely, for a fixed term or for completion of a specific project. Termination or dissolution of the partnership should be dealt with in the partnership agreement.
How many partners do you need and who can be a partner?
You need at least two partners, but there’s no maximum number unless you’ve set a maximum in the partnership agreement. The partners must be legal entities, i.e., a person, a company, an LLP or a combination of these.
A minor or an undischarged bankrupt can’t be a partner. In addition, if someone is disqualified as acting as a director of a company, they may not be able to be a partner of an LLP.
Whether a partner’s liability is limited will depend on the type of partnership and in the case of limited partnerships, on the type of partner:
| General partnerships | Limited partnerships | LLPs |
| At least two partners | At least two partners comprising: at least one general partner; and at least one limited partner | At least two partners (members), two of which are ‘designated’. Failure to name two designated members will result in all of the partners being deemed designated members |
Are partners’ liability for losses unlimited?
Whether a partner’s liability is limited will depend on the type of partnership and in the case of limited partnerships, on the type of partner:
| General partnerships | Limited partnerships | LLPs |
| All partners have unlimited liability | The general partner has unlimited liability (and as a result, is often a limited liability entity), while the limited partner has limited liability | All partners have limited liability (except in certain situations) |
Note that partners in limited partnerships will lose their limited liability status if they get involved in the management of the limited partnership.
How do you share partnership profits and losses?
Partners share equally in partnership profits unless the partnership agreement says otherwise. Losses are also shared equally, except that LLP partners aren’t liable to third parties since they have limited liability.
A partnership agreement will often allocate profits and losses between the partners differently. This may reflect a partner’s seniority, financial contribution to the partnership, the amount of business brought in by a partner, and so on. Sometimes, partners in an LLP may either be equity members who contribute capital to the business and get a profit share, and fixed share members who don’t get a share of profits but receive an annual payment like a salary.
How is a partnership taxed?
All three partnership types tax their partners on a ‘pass through’ basis – this means that the partnership itself isn’t taxed, tax is paid by each partner on their share of the income of the partnership.
Each partner is self-employed for tax purposes, so they’ll pay income tax and national insurance contributions.
How does a partnership manage its business?
This depends on the type of partnership:
| General partnerships | Limited partnerships | LLPs |
| Partners manage the business | The general partner runs the business, with the limited partner having no say in it. Any involvement by the limited partner will mean they lose limited status | Partners manage the business although at least two designated members need to be appointed to deal with administrative tasks, such as filings with Companies House, signing the accounts, and so on |
If you need to set out in detail how the business will be run, you’ll need a partnership agreement to accomplish this. Having said that, a limited partner should never get involved with the management of a limited partnership business.
Things that a partnership agreement can cover are how partner meetings are run and how often they’re held, whether there will be special committees, and so on. They can also determine each partner’s voting rights and require that certain decisions should need a majority voting in favour, or even unanimity, for example, changing the nature of the partnership’s business.
Deciding how you manage your business will depend on its size, why you set it up, and what it does. For example, a general partnership with two partners running a local plumbing business will be conducted very differently from a national law or accountancy firm with fifty partners. Similarly, partners in a partnership set up for a specific project are likely to require unanimous consent when making decisions, as opposed to partners in a small business.
How do partners agree how much capital they’ll contribute?
Like any business, a partnership needs a certain level of cash to be able to operate. For this reason, partners often make a capital contribution to the partnership when they become a partner. How much they give may be the same for each partner, or as specified in the partnership agreement.
Partners may also contribute assets to the partnership like premises. You need to make clear whether this property will continue to be owned by the individual partners or is partnership property. This will become relevant in the case of insolvency or bankruptcy or if the assets’ value increases.
General partnerships
There’s no legal obligation for a partner to provide capital, although the partnership agreement may provide otherwise.
Limited partnerships
Limited partners do have a statutory obligation to provide capital, although given that their liability is limited to the amount contributed, this is often a nominal amount and any additional amounts provided as a loan. The partnership agreement should deal with how any such loans are to be repaid.
LLPs
There is no statutory obligation on members of an LLP to provide a capital contribution although the LLP agreement will usually provide otherwise.
How do you admit a new partner?
General partnerships
With a general partnership, all partners must agree before a new partner can be admitted to the partnership. Unless this happens, the old partnership is effectively defunct. That’s why you need a partnership agreement covering admission of new partners.
Limited partnerships
A general partner in a limited partnership may admit a new general partner or a new limited partner without the consent of the existing limited partners. Given the need for a general partner to manage the limited partnership’s business and that admitting a new partner will affect the existing limited partners’ interests, the partnership agreement will usually provide that the limited partners must also agree to the admission of either a new general partner or new limited partner.
LLPs
To admit a new partner to an LLP, you need unanimous consent from the existing partners. However, this can be amended in the LLP agreement.
All partners need to be bound by the partnership agreement.
Can a partner retire or withdraw?
A partner can retire or withdraw from a partnership, and the formalities depend on the type of partnership:
General partnerships
A partner may leave a general partnership if all the other partners agree, or if the departing partner dies or goes bankrupt. It’s common for the partnership agreement to also provide for voluntary (and sometimes, compulsory) retirement.
Limited partnerships
Subject to what’s in the partnership agreement, a general partner can retire from a limited partnership by giving notice to the other partners, unless the partnership is for a fixed term in which case it needs to continue until the end date is reached.
If the general partner retires, this means that the limited partnership is dissolved, so you need to have in place a partnership agreement that describes when and how a general partner can retire. A limited partner may withdraw from a limited partnership by transferring their partnership interest to someone else, with the consent of the general partner. Again, this can be modified in the partnership agreement.
LLPs
A partner of an LLP can leave if they die, if they no longer exist (if they’re a company or another LLP for example), if the partners agree or if they give the other partners reasonable notice.
More generally, your partnership agreement may give other ways a partner can retire or leave, such as voluntary retirement or withdrawal if they’re medically incapable, or bankrupt for example.
If you simply would like a partner to leave, this isn’t allowed unless you provide for it in a partnership agreement – this is one of the reasons we highly recommend that you set up a formal document.
A partnership agreement will describe the withdrawing partner’s financial rights and obligations, as well as their duty to keep things confidential. It should also detail whether a partner who’s withdrawing can transfer their partnership share to someone else, whether that be another partner or a third party.
Can I restrict my partners’ ability to compete with the business in a partnership agreement?
It’s generally a good idea to restrict your partners’ ability to compete with you should they decide to leave. While partners in a general partnership and in a limited partnership each owe a duty of good faith to each other that might preclude them competing after they leave, this isn’t the case for partners in an LLP, unless it’s specified in the partnership agreement.
You can limit a partner’s ability to compete via a ‘restrictive covenant’ in the partnership agreement. This will prevent partners who’ve left the partnership from soliciting clients, poaching employees, working for competitors and so on. These kinds of clauses need to be drafted by a professional to make sure they’re enforceable. Unreasonable restrictions will not be valid.
How does a partnership end?
General partnerships
A general partnership will automatically come to an end if:
- All the partners agree
- One of the partners has been fraudulent or seriously dishonest
- A project has come to an end
- If a partner lets the others know they want to leave
- A partner dies or becomes bankrupt
- There’s some illegality involved or a court order
- If the partnership agreement says so
Limited partnerships
A limited partnership can be dissolved by:
- The partners agreeing
- Fraud or misrepresentation by one of the partners
- The end of the fixed term of the partnership or completion of the project for which the partnership was originally set up
- The general partner giving notice (subject to the partnership agreement)
- There being no general partner
- There’s some illegality involved or a court order
The partnership agreement may go into more detail about how the partnership can be dissolved.
LLPs
Because an LLP is a legal entity, you need to comply with certain legal formalities to dissolve or terminate it, including making filings at Companies House.
The LLP can be dissolved:
- If the majority of partners agree
- By unanimous agreement if there are only two partners, or if there is only partner, by that partner alone
Can partners be unfairly dismissed or bring discrimination claims?
Yes, a partner can be discriminated against and bring a legal claim against the other partners, even if they’re not strictly an ‘employee’.
If you want to remove a partner, you need to take legal advice.
What happens if there is a partnership dispute?
One of the most important reasons to have a partnership agreement is to include a way in which partnership disputes can be resolved, without having to resort to dissolving the business. For example, the partners can agree a procedure whereby their differences be resolved by a neutral third party, by way of mediation or arbitration.
Whatever the type of partnership, it is crucial that a legally-sound, comprehensive partnership agreement is put in place so that all involved understand their rights, duties and obligations and provide certainty. We have experienced corporate solicitors who are more than happy to prepare such an agreement for you and/or to discuss any partnership-related queries or issues that you may have. Phone us on 0800 689 1700 or fill out our short enquiry form below.
