Every person with business experience will tell you that it’s not all rosy. No matter how successful they are, most business people have an ugly experience to share. These experiences are not shared to deter anyone from going into business, but as with other mistakes, they are opportunities for learning. I have gone into different businesses in my adult life, but one stands out in terms of the lessons I learned.
A couple of years ago, I went into business with a family member and it was at once the most rewarding experience, and the costliest business experience of my life so far.
Doing business with family can be very rewarding, but when things go wrong, family relationships can break down and lead to generations of bad blood.
So, what’s my story? A couple of years ago, it seems like a lifetime ago now, I entered into a business partnership with a family member. And although we formalized the partnership by registering a business entity, we missed many steps in the formation of a business partnership and those missed steps cost me money.
Here are some things to consider when forming a business partnership.
While the business was advising others on the legal structures for their lives and businesses, my partner and I were not taking our own advice. A classic case of do-as-I-say-not-as-I-do. So, between us there was no partnership agreement, neither was there a buyout agreement.
What is a partnership agreement and why is it important?
A partnership agreement, simply put, is an agreement between parties jointly engaging in business, that defines the terms of the relationship between the parties. It defines everything from how the business is funded to how profits are shared and how decisions are made in the business. The partnership agreement defines financial matters, management, and determination or transfer of the partnership.
A partnership agreement is important because it clearly defines the relationship between the parties and acts as a reference document for an arbiter if a dispute arises between the partners. A partnership agreement also gives legitimacy and clarity to the partnership. There have been cases where family members have been cheated out of their investment in time and money in a business enterprise because there was no express partnership agreement. In these cases, the losing partner is viewed as a volunteer in the business and not entitled to rewards as a partner. When a partnership agreement is executed, there is no confusion as to the roles of the parties in the business enterprise.
What is a buyout agreement and why is it important?
A buyout (or buy-sell) agreement governs what happens when one partner in the business dies or becomes incapacitated or chooses to leave the business or is forced out of the business. It is sometimes referred to as a business will. The agreement controls matters such as who can buy the departing partner’s share of the business, what instances will trigger a buyout, and what price will be paid for the exiting partner’s interest in the partnership.
A buyout agreement is important for a partnership just as a will is important for an individual. Things happen in life. Some of these things we have no control over so we plan and prepare for when these things inevitably happen. If a partner becomes incapacitated or dies, for instance, the last thing the remaining partner wants is to go into forced partnership with the surviving relations of the exiting partner. These surviving relations may or may not have the required expertise to run the business. But as we know, expertise is not the only ingredient for a successful business partnership.
The recommended way to finance a buyout agreement is through a life insurance policy on the lives of each partner.
From the title of this post, it is probably clear to you that my partner and I did not have either of these documents for our business. The business was duly registered, but it had no internal operating structure to define and hold up a partnership. And then life happened. My partner passed away suddenly and I was in the worst-case scenario situation. To make matters worse, my partner died intestate, so you can imagine the confusion all around.
Death leaves confusion and grief in its wake and the possibility of inheriting property left behind by the deceased can bring out the worst in the people left behind. This was the situation I found myself in when my business partner passed away. Because we had not taken care of these important partnership issues, there was conflict over the ownership and operations of the business after the death of my partner. How was it resolved? I decided to cut my losses and walk away from the situation with the lessons that I had learned. Sometimes when you are in conflict with people that you consider family members, you don’t fight as hard as you would fight against strangers. Conflict on top of grief was a little overwhelming for me, as I am sure it is for many people.
When I entered into that partnership, I did not have a child. Now I have a son and desire to leave him a legacy, not only in name but in wealth, so you can bet that I will not make the same mistakes again. I am more mindful of the financial decisions that I make and putting in legal structure to support those decisions. It is important to plan for the inevitable. Your heirs and survivors will thank you.
