Formation of a General Partnership
In Post 1 of this series, we talked a little about general partnership and one of their most dreaded characteristics. So if general partnerships exist, how do courts and others know?
Statutes often state that a partnership is an association of two or more persons to carry on as co-owners of a business for profit. Unlike other business entities such as corporations or LLCs, which require filing of certain forms with the secretary of state, no formalities are required to form a general partnership. Moreover, a partnership agreement need not be in writing and may be either express or implied by conduct of the parties. Thus, a general partnership can be created inadvertently when the parties do not necessarily intend it to be a partnership. A joint venture, for example, is a form of general partnership (or in some states a legal entity virtually indistinguishable from a general partnership), with legal consequences almost identical to those of a partnership.
So if looking for a written partnership agreement or asking the purported partners if they are partners does not lead to a definitive answer, how do we know if a partnership exists? Generally speaking, if a person receives a share of the profits, that is usually sufficient evidence that he or she is a partner in the business. Of course, no such inference can be made where profits were received as payment, such as debts, wages, rent, interest on a loan, etc. Likewise, not all situations where persons share profits are deemed to be a partnership. For example, co-ownership of property is not, by itself, a partnership, even if the co-owners share profits from the use of the property; sharing of gross returns or revenues does not, by itself, establish a partnership, regardless of whether the persons sharing the returns or revenues have a joint or common interest in such property. Instead, what matters is the intent of the parties. And if the intent is not written the courts will look at how the parties acted.
Here are some examples of factors that help determine whether a partnership exists:
- receipt or right to receive a share of profits;
- expression of intent to be partners;
- right to participate in control of the business;
- sharing of losses or liability for claims by third parties against the business; and
- contributing money or property to the business.
For example, in Howard Gault and Son v. First National Bank, an old Texas case, the parties entered into a written farming agreement that expressly said that it was not a partnership. At the same time, the agreement provided for a sharing of both profits and potential losses, as well as expenses, equally. The court said that the statement denying a partnership was not conclusive on the question of whether a partnership was formed, but it was the intent to do what in law constitutes a partnership, regardless of their expressed purpose. In other words, it is not the label that controls. Thus, based on the receipt of a share of profit and other factors, the court concluded that the farming operation was indeed a partnership.
But didn’t the partners say they weren’t partners? This is why it is important for business owners to understand what a general partnership is, as well as its legal implications. Our next post will look at some of the consequences of forming a general partnership, starting with liability of partners to third parties.
This posting is intended to be a planning tool to familiarize readers with some of the high-level issues discussed herein. This is not meant to be a comprehensive discussion and additional details should be discussed with your transaction planners including attorneys, accountants, consultants, bankers and other business planners who can provide advice for your circumstances. This article should not be treated as legal advice to any person or entity.
Steps have been taken to verify the contents of this article prior to publication. However, readers should not, and may not, rely on this article. Please consult with counsel to verify all contents and do not rely solely on this article in planning your legal transactions.
About the Author
Shawn McBride – R. Shawn McBride is the Managing Member of The R. Shawn McBride Law Office, P.L.L.C. which helps clients in legal issues related to starting companies, joint ventures, raising capital from and negotiating with investors and outside General Counsel functions. Shawn can be contacted at: (214) 418-0258; firstname.lastname@example.org, or www.mcbrideattorneys.com.
 Howard Gault and Son v. First Nat’l Bank, 541 S.W.2d 235 (Ct. App.—Amarillo 1976, rehearing denied).