Partnership Agreements + Buy-Sell Provisions

Why this matters

Multi-owner service businesses operate without proper partnership documents in 60 - 80% of cases. The "handshake partnership" works until it doesn't - disagreements, divorce, death, disability, OR one partner wanting out. Without a written agreement, the resolution is messy + expensive + often kills the business. A proper partnership agreement + buy-sell costs to draft. It saves + in lawyer fees when problems arise. Critical for any business with 2+ owners.

When you need this

You need a partnership agreement + buy-sell when:

• Two OR more owners share the business
• Owners include family + non-family combination
• Equity has been gifted to children OR key employees
• Spouse is co-owner
• Multiple-LLC ownership structure
• Considering bringing in investor

You don't need it (sort of) when:

• Solo-owner business with no equity given out
• Brand-new startup where everything is informal

If 2+ people have ownership interest: you need the agreement. Period.

What partnership agreement covers

Operating Agreement (LLC) / Partnership Agreement / Shareholder Agreement (Corp) covers:

• Ownership: percentages, voting vs economic rights, share classes, capital contributions
• Decision-making: day-to-day vs major, voting thresholds, tie-breaker, manager vs member-managed
• Distributions + capital: profit splits, contributions, distribution preferences, tax distributions
• Transfer restrictions: right of first refusal, permitted/prohibited transfers, lock-ups
• Death + disability (buy-sell): triggers, mandatory vs optional, valuation, funding
• Departure provisions: voluntary, for-cause, no-cause, non-compete
• Dispute resolution: mediation → arbitration → litigation
• Dissolution: entity end, asset distribution, tax obligations

Buy-sell specifically

The "buy-sell" provision governs transfer when:

• Owner dies
• Owner becomes disabled
• Owner gets divorced (spouse's interest)
• Owner leaves the business
• Bankruptcy
• Major disability

Critical elements:

Triggering events: what events activate the buy-sell?

• Death (almost universal trigger)
• Permanent disability (definition matters)
• Divorce (spouse must sell back interest)
• Bankruptcy
• Involuntary termination

Mandatory vs optional: must other owners buy, OR may they?

• Mandatory (most common): forced buyback
• Optional: other owners can decline

Valuation method: how is the price determined?

• Pre-agreed formula (book value, multiple of earnings, etc.)
• Annual professional valuation
• Average of multiple appraisals
• Sliding scale based on cause of departure

Funding mechanism: how is the buyout paid?

• Life insurance (most common for death)
• Disability insurance (for disability)
• Cash from business reserves
• Bank loan + seller financing
• Installment over years

Timing: when does payment happen?

• Lump sum within 30 - 90 days
• Installment over 3 - 7 years
• Combination

Insurance-funded buy-sell

Most well-designed buy-sells use insurance:

Life insurance policies on each owner:

• Business pays premiums OR owners pay
• Death of owner → policy pays out
• Funds buyout of deceased owner's share
• Heirs get cash; surviving owners get business

Cross-purchase vs entity-purchase:

• Cross-purchase: each owner has policy on other owners; complex with 3+ owners
• Entity-purchase: business has policy on each owner; simpler but tax implications

Disability insurance:

• Permanent disability triggers buyout
• Disability buy-out policy specifically designed
• Funds purchase if owner can't return to work

Investment. Cheap relative to value protected.

Valuation methods in buy-sells

Formula valuation:

• Pre-agreed multiple of revenue OR earnings
• Easy to apply
• May not reflect current market

Multiple appraisers:

• 2 - 3 professional appraisers
• Average their values
• More expensive but defensible

Annual valuation:

• One appraiser updates value yearly
• Most current
• Expense each year

Right of first refusal price (if outside buyer):

• Outside buyer offers price
• Existing owners can buy at same price OR pass
• Reflects market

Choose one + document clearly.

Departure provisions detail

Voluntary departure (good leaver):

• Owner gives notice
• Sells back at agreed terms
• Often: full valuation, paid over time

Involuntary departure (cause):

• Termination for cause (fraud, theft, etc.)
• Buyback at discount (50 - 75% of fair value)
• Punitive structure

Involuntary departure (no cause):

• Owners can buy back if dispute
• Buyback at full value
• May require vote of supermajority

Death:

• Estate / heirs receive proceeds
• Business continues
• Insurance funds typically

Disability:

• Definition of disability matters
• Long-term disability (6+ months) typical trigger
• Insurance funds

Divorce:

• Spouse's interest required to sell back
• Prevents ex-spouse becoming partner
• Critical clause many forget

Non-compete provisions

Departing owner usually agrees not to compete:

• Geographic restriction (specific area)
• Time restriction (typically 2 - 5 years)
• Activity restriction (similar service business)
• Customer restriction (existing customers off-limits)

Without non-compete: ex-partner could open down the street + steal customers.

Some states limit non-compete enforceability (CA most notable). Confirm enforceability in your state.

Common partnership-agreement mistakes

Verbal-only agreement:

• "We agreed to..." with no documentation
• Memories differ when conflict arises
• Court has to decide; expensive

Outdated provisions:

• 20-year-old agreement with 20-year-old valuation
• Doesn't reflect current business
• Annual review needed

No mechanism for spouse situations:

• Spouse files for divorce
• Becomes 50% owner via divorce settlement
• You now have a partner who hates you

Funding gaps:

• Buy-sell provision but no insurance
• When trigger happens, can't fund the buyout
• Effectively unenforceable

No tie-breaker:

• 50/50 ownership
• Disagreement deadlocks
• Business paralyzed

One-size-fits-all template:

• Generic LLC operating agreement off the internet
• Doesn't address your specific situation
• Custom counsel-drafted document matters

Working with attorney

For drafting:

• Business attorney with partnership/M&A experience
• 4 - 8 weeks process
• Annual review thereafter

Don't DIY this. The savings on legal fees is dwarfed by the cost of getting it wrong.

Multi-generation considerations

When children OR family are eventually owners:

• Phased equity transfer plan
• Tax-efficient gifting
• Maintain control during transition
• Sibling fairness provisions

Family business attorneys specialize in this. Different skill set than transactional business attorney.

References

• State LLC + partnership law (varies by state)
• AICPA partnership accounting + tax resources
• Business attorney specialty in partnership / M&A
• "Founders' Pie" + similar partnership planning resources
• Manuall internal: Incorporation Choices for Service Businesses, Succession Planning for Service Business