When starting a business, you might have other individuals working as partners. For that reason, you will want to establish guidelines for how the new venture will operate. This is where an operating or partnership agreement can help.
Whether you have an operating agreement (for limited liability companies) or a partnership agreement (for partnerships), this contract outlines the business’s rules and regulations.
At GDH Law, we have helped hundreds of clients start their own businesses, and we recommend that they have these agreements in place. Let’s examine the importance of operating agreements/ partnership agreements.
Benefits Associated With These Business Agreements
According to recent data compiled by the Maryland Marketing Partnership, a state government initiative, there are 239,131 businesses operating in our state. Many of them are either partnerships or limited liability companies.
Depending on the structure of your business, you will either have an operating agreement or a partnership in place. If you establish the company as a limited liability company or LLC, then you will need an operating agreement. Whether you work solo or have a partner, this document functions similarly to a partnership and its agreement documentation.
On the other hand, if your business is designated as a partnership, then you need a partnership agreement. Tax liabilities and other factors will determine which structure you want to use.
A partnership or operating agreement clarifies the roles and responsibilities of each partner involved. You may want to think of this document as a roadmap for the business to ensure that all partners are on the same page. Some benefits of a partnership or operating agreement include:
Define Responsibilities
One of these agreements’ most essential aspects is defining roles and responsibilities. This can help determine who handles day-to-day operations, manages finances, and makes business decisions. Having clearly defined roles can also help prevent misunderstandings.
Along with that, you can make sure that each partner is aware of their obligations. If someone does not live up to those expectations, then there could be consequences for their actions or lack thereof.
Outline Ownership Percentages and Capital Contributions
Most parents have contributed some financial means to the business. You can specify each partner’s ownership percentage and initial capital contributions in the agreement. The ownership percentage is the amount that each person has a stake in the business. Many times, that is directly proportional to the amount of money they invested through capital contributions.
When everyone knows exactly their portion in the business, it can help to quell any disagreements. It can also be used to determine each individual’s profits, losses, and voting power in the business.
Determining Profit and Loss Distribution
With any business, the goal is to be profitable. However, profits and losses are not always equally distributed among partners. The agreement will outline how profits and losses will be divided based on ownership percentages or a different arrangement. For example, some may distribute profits based on each partner’s level of involvement and contribution.
Handling Departing Partners
When it comes to running a business with partners, a plan needs to be in place for handling unexpected situations that may arise. Some scenarios that need to be addressed in a partnership agreement are a partner’s departure and unforeseen events such as incapacitation or death.
If a partner wants to leave the business, your agreement needs to have a clearly defined buyout procedure and valuation method. In these cases, the value of the departing partner’s share in the company can be easily determined without any questions. Along with that, you can ensure that the transfer of ownership is handled without causing any disruption to the business.
Also, addressing unforeseen scenarios, such as the incapacitation or death of a partner, will have a plan in place for how the business will continue to operate in those tragic events. Provisions outline how ownership will be transferred, how the company will be managed, and how profits will be distributed in the interim.
With that, you will know that a business is protected if something unexpected happens.
Adds Credibility to a Business
Without a solid partnership or operating agreement in place, your business could raise eyebrows among investors, lenders, and potential clients. When you have a deal, it shows stakeholders that your business is operating with a clear understanding of responsibilities, liabilities, and expectations.
These agreements ensure stakeholders that the business is not just a casual arrangement but a professional endeavor that is being taken seriously. You need these agreements, especially when seeking investment or financing from investors and lenders.
Operating agreements and partnership agreements are essential tools for business success. They can affect the stability and growth of your venture.
With these agreements, everyone will know their roles and responsibilities so they can be prepared for any events in the future.
While you may want to create these documents on your own, remember that a business law attorney can make sure that all your agreements are legally compliant and thoroughly addresses the needs of your partnership or LLC.
