Law guide: Business start-up

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Dissolving a partnership

Dissolving a partnership

Dissolution of a partnership can happen because the partners have decided to go their own way, or because the partnership was set up for a fixed time and that has ended. If one partner leaves a partnership, the remaining partners can still carry on running the business as before, but technically the old partnership is dissolved and a new one has formed (assuming there are at least 2 partners left).

Dissolving a partnership where there is no partnership agreement

In the absence of a partnership agreement, or where the partnership agreement doesn't deal with dissolution, the Partnership Act 1890 will apply.

Under the Act, a partnership will be automatically dissolved if any of the following happen:

  • a partner dies or becomes bankrupt;
  • the court orders the partnership to dissolve;
  • it's illegal to carry on the business of the partnership;
  • the partnership was formed for a pre-agreed fixed term and that term has come to an end;
  • the partnership was created to do a specific thing or for a specific objective, and the project is complete; or
  • a partner gives notice to dissolve the partnership to the other partners. The notice doesn't need to state a reason and it can have immediate effect. This notice doesn't have to be in writing (unless in England, Wales and Northern Ireland, the partnership agreement was made by a legal document called a deed.)

Dissolving a partnership under an agreement

If the partners have a partnership agreement, they can set out the circumstances in which they want the partnership to be dissolved. They can also set out how to keep it going if one partner leaves, dies or is made bankrupt. An agreement allows the process to be clearly defined and reduces the likelihood of disputes.

Disposing of a business after dissolution

If a partner dies, is made bankrupt or serves a notice to dissolve the partnership, and the other partners don't want to buy the share of the outgoing partner, the partnership will generally be dissolved. The business will then need to be sold.

It's better to sell it as a going concern (i.e. as an ongoing business that's still trading). This way, the partnership will be able to sell the goodwill as part of the business. Goodwill is the value of the business while it's trading, because of its trade reputation and customer base. If the business stops trading, it'll lose the value of its goodwill. If the other assets are then sold separately, the partners will end up with less money than if the business had been sold with its goodwill while it was trading.

Unless there is a partnership agreement providing otherwise, the proceeds of sale of the business or its assets will be used in the following order:

1. Creditors of the firm must be paid in full. If the money from the sale of the assets isn't enough to pay all the creditors, the partners must pay the balance from their private assets.

2. Partners who have lent money to the firm must be repaid the outstanding loan plus any interest due on it.

3. Partners must be paid the amount of capital they're entitled to.

4. Any money left over will be shared between the partners in the same proportions as their share of profits.

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