Business Partnership Agreements

Business Partnership Agreements

A partnership agreement is like an employment agreement or pre-nup between the partners. It is a framework for how the partners agree to work together and is intended to provide confidence and clarity to all partners now and in the future, including agreement on business succession.

Having an agreement, goes some way to ensure that if something changes in the partnership relationship or if something occurs that could make agreement difficult down the track, then there should be little dispute or confusion.

Two of the main events that a good partnership agreement should address include:

  1. Short term absence due to either voluntary or involuntary reasons
  2. Long term absence due to either voluntary and involuntary reasons (IE: a buy/sell agreement)

1.    Short term absences

Your business agreement should clearly state what your agreed policy is on paying an ill partner while they are unable to work due to medical reasons. The process is kind of like deciding how much sick leave you are prepared to cover for each other. Once agreement is reached on a time frame then it is important that each director have their own personal Income Protection and Trauma insurance, to cover their own risk.

With this said, the loss of a key person in the business can also have direct impact on the financial viability of the business and there are two policies available to protect your risk in this area.

Key man insurance

When a key person dies or is severely disabled, it can create immediate and long term financial problems for the business.

A drop in revenue is often inevitable when a key person is no longer there, however losses can also result while the business is searching for and training a suitable replacement.

When there is not a suitable replacement within the business, it can sometimes take a significant amount of time and money, to find and train a successor.

Key man insurance helps insure against this risk.

Business expenses insurance

Business expenses insurance provides money to meet the businesses fixed expenses, in the event that you, one of your business partners or major contributors to the business revenue is unable to work.

When a business owner is not able to actively work in the business, it will likely have a direct impact on income levels, so in order to ensure the fixed costs of the business can still be paid, Business Expenses is a must have cover.

2.    Long term absences (voluntary and involuntary)

All business partnerships should be underpinned by a clear buy/sell agreement to address the inevitable departure of a partner. This could be voluntary, such as when they want to sell down due to retirement or due to an involuntary departure, such as death or disablement.

In the case of the latter, the cheapest and most sensible way to underpin this agreement financially is usually insurance.

We have assisted many of our business owner clients to develop and prepare a buy/sell agreement and with advice on appropriate insurance protection.

We work in conjunction with Solicitor’s on the draft agreement and have solicitors we could recommend who specialise in this area. We have regularly facilitated meetings between our clients and the chosen Solicitor to ensure the end document is well considered and marries off with the chosen insurance solution.

We will help you define a suitable insurance cover level and structure it to work tax effectively for you, while providing flexibility. Each of these points are easily misunderstood or incorrectly implemented and we often find we are helping clients fix or improve aspects of their existing agreements when they think it is already in order.

Buy/sell protection

Life Insurance

Life insurance for business owners is an inexpensive way of funding the buyout of a deceased business owner’s interest. This ensures the deceased’s family is adequately paid out for their estate interest in the business and allows the surviving business partners to affordably take over ownership of the deceased partner's share.

The reality is that if you do not have Life insurance for this purpose, with a buy/sell agreement expressing shared wishes to back it up, it is often not possible for the surviving partners to raise the funds to pay for the interest. Even when it is possible, it is often not how the surviving partners would prefer to use their finite capital and can result in financial duress. Furthermore, it can stretch out the process, when negotiations on value are worked through with the estate.

In the event that capital cannot be raised, it can result in the estate (usually the spouse) taking an active interest in the business which they may have no real understanding of.

TPD Insurance

TPD insurance is an inexpensive way of funding the buyout of a permanently disabled business owner’s interest.  In this situation it is as final as life insurance from a business perspective, as the disabled partner, must never be able to work again in the business, in order to meet the definition for payment.

In this instance, the desire to sever financial relationships is usually equally sought by the disabled party and the remaining partners. For the disabled partner, they no longer have any control over the success of the business and their share in the business can represent a large portion of their wealth. Therefore, it is usually preferable for them to cash out. Coupled with this, they will likely have a lot more expenses and other priorities on account of their disability.

For the remaining business partners, the insurance provides an affordable way to fund the buyout, so they can keep on with business as usual.

In the event that capital cannot be raised, it can result in the estate (usually the spouse) taking an active interest in the business which they may have no real understanding of.

 

"GOOD FORTUNE NEEDS GREAT PLANNING"


WANT TO LEARN MORE ABOUT BUSINESS SUCCESSION PLANNING?

We're lucky to be joined by Greg Johnson at our business succession planning in Melbourne on Thursday 18th July. Come along for more tips, advice and information about how to prepare your business for sale. Click here for more info and to rsvp.


GENERAL DISCLAIMER:

The content of this presentation is intended to be general information only and has been prepared without taking into account any person’s objectives, financial situation or needs. Each person should consider its appropriateness having regard to these matters or obtain relevant professional financial advice before making any financial decisions.  Examples are illustrative only. Each person should obtain any relevant professional financial, taxation and social security advice before making any financial decisions.