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Liability of individual partners for partnership debts
Running a business through a traditional partnership has many advantages, including the ability to keep financial information confidential, less onerous compliance with statutory rules for companies, and transparent tax treatment where partners are only taxed on the profits they receive, not on the overall profits generated by the business.
However, one of the biggest downsides to being a partner in a conventional partnership is the joint, unlimited liability that you and the other partners will assume for all partnership debts.
The upshot of the rules on the liability of partners in a traditional, as opposed to a limited or limited liability, partnership is that where a business debt or financial obligation arises, then every partner will potentially be individually liable for the full amount owed. Each partner assumes the risk that if the partnership cannot afford to settle any sums due, they may find themselves being pursued personally to make up the shortfall.
While there would be a right to pursue the other partners for a contribution in these circumstances, and to enforce any relevant terms within a partnership agreement or other contractual arrangement – this right would only be of practical use where the other partners have the means to pay.
For these reasons, if you find yourself being asked to settle a partnership debt that the business itself cannot afford to cover, it is vital that you take legal advice to find out where you stand and to fully protect your personal assets.
Why prompt legal advice is imperative
By seeking help at an early stage, you can negotiate with your fellow partners and creditors from a position of strength, knowing in advance the extent of the liability you may face, your options for trying to reduce this, and the available routes for ensuring that all of the partners are held to account and that it is not just you (perhaps as the person with the deepest pockets) who is left to clear the debt at your own expense.
Pressure can be brought to bear on your fellow partners to ensure that they contribute fairly to whatever is due, and creditors can be asked to agree reasonable repayment or settlement terms to enable partnership debts to be cleared at a rate, and in a manner, which does not unfairly risk jeopardising the financial security of you and your family.
By taking a proactive approach, either though correspondence, a round table meeting or mediation, you stand a better chance of achieving an acceptable and workable solution and in keeping matters out of the court or a formal arbitration process.
What debts are partners liable for?
As a partner in a traditional partnership, you will generally be jointly liable with your other partners for all contractual debts and obligations incurred on behalf of the partnership.
- debts and obligations incurred by a partner while acting within the authority conferred on them; and
- debts and obligations incurred by a partner acting outside of their authority, but within the ordinary course of partnership business, unless the other party had knowledge of any limits on the partner’s authority to enter into arrangements binding the partnership.
You will also be jointly and severally liable for any losses arising from another partner’s negligence or from any wrongful act or omission committed by them.
What about debts incurred after you have retired?
Provided your clients and creditors have been given notice of your retirement, then there should be no liability in respect of partnership debts or obligations which are incurred beyond the date of your retirement. However, you may still be liable in respect of debts and obligations which arose before your departure and which continue afterwards – for example, under the terms of a commercial lease or mortgage, unless you have secured a release e.g. through a novation agreement. You may also retain some liability where you have agreed to act as a guarantor for a partnership loan or overdraft facility.
It is usual for the retirement of a partner to be advertised in the London Gazette. Where this has happened it will be deemed sufficient notice to third parties who continue to trade with the partnership that, from the point of retirement, the outgoing partner will no longer have any authority to bind the partnership and will not be liable for any post-retirement debts.
What is the position with a limited partnership or an LLP?
The liability of partners in a limited partnership will depend on whether you are classed as a general partner or a limited partner. General partners are those who are involved in the day-to-day running of the business and, like partners in a traditional partnership, will have unlimited liability for partnership debts. In contrast, limited partners are those who do not get involved in the day-to-day running of this business and whose liability will accordingly be capped at the amount of capital they have agreed to contribute to the partnership.
As the name suggests, the liability of partners in a limited liability partnership will usually be limited to the extent of each partner’s capital contribution – although additional personal liability may arise under insolvency laws if you are found guilty of any statutory wrongdoing.
To find out more, or to arrange an appointment to discuss your own concerns about liability to pay a partnership debt, please contact a member of our Dispute Resolution team in York on 01904 624185.
This article is for general information only and does not constitute legal or professional advice. Please note that the law may have changed since this article was published.