By: Kristy DeSmit | July 15, 2014
While starting a business with a partner can be exciting, sometimes things don’t work out. Whether the business doesn’t do as well as expected, or a partner has involuntarily or voluntarily decided to withdraw, it’s important for partners to plan a smooth exit in order to avoid any conflict or legal entanglements.
Voluntary and Non-Voluntary
A voluntary withdrawal means the partner merely wants to move on for personal reasons, such as they are retiring or they feel they can’t remain dedicated to the partnership. In other words, they have decided to voluntarily give up their share of the business.
A non-voluntary withdrawal means a partner was forced to withdraw without his consent. For instance, he may have passed away, become incapacitated or was incarcerated for a crime. Other involuntary examples include bankruptcy, critical illness or breach of partnership duties.
Planning an Exit
The complexity involved with exiting a partnership depends on the size and success of your business, as well as its structure and the partnership agreement.
General partnerships are partners who take part in the daily operations and are jointly liable for the debts of the business.
Typically, in general partnerships, you can simply write a notice of withdrawal to your partner and any other clients regarding your exit. However, for partnerships that involve more complex assets, moving on tends to be less clean cut. In these instances, it’s important to review your partnership agreement to determine your options for leaving the business.
If you and your partner created a partnership agreement, you likely addressed issues of withdrawal, dissolution and transfer of interest.
Before devising an exit plan, you must review the dissolution or withdrawal provisions as agreed to in the partnership agreement. Such provisions may specify a prohibited period of time in which you are not allowed to withdraw.
Prohibition times prevent a partner from exiting prematurely by ensuring he or she is committed for a set period of time and that the company does not suffer financial loss as a result.
There may also be a notice period for withdrawal, in which you have to provide advanced notice for withdrawal, such as 3 months, 6 months, or one year.
If your withdrawal violates terms in your partnership agreement, you may incur financial liability for any damages suffered by other partners as a result.
In a two person partnership, if one partner leaves, the operation becomes dissolved unless the remaining partner wishes to operate a sole proprietorship. In a partnership with more than two partners, the exiting partner may choose to assign their interest to a third party partner or to dissolve the business, which means to simply end the business relationship.
Terms regarding dissolution should also be covered in your partnership agreement, including whether there is a vote required to dissolve, whether withdrawal of a partner results in dissolution and how the assets of the partnership will be distributed after a partner leaves. If the partnership does not dissolve, the assets can either be distributed according to the profit and loss ratios as laid out in the agreement or according to the partner’s initial capital contributions to the business, referred to as their capital account. Most often, a partner will sell his or her shares to the remaining partners if the business is not dissolved.
In a partnership with more than two partners, the exiting partner may choose to assign their interest to a third party partner, as well as the remaining partners. In this instance, the partner will be transferring not only their share but also their managerial duties and responsibilities.
It may also state in the partnership agreement that after a partner leaves, he or she should not participate in competing ventures for a designated period of time.
If you are making a voluntary exit, clearly communicating your intent to move on is the best and most respectful way to leave the business. If you had a disagreement, refer to your agreement for how to handle any disputes. So long as you make an amicable exit, there will be less grief for both you and your partners.
For more complex partnership withdrawals, consult with a lawyer before exiting the partnership to make sure you are not violating your agreement.