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5 partnership points that cause more than the usual headaches

It’s the partnership wonder. Many, many firms, from the smallest to the most sophisticated and well known, don’t have partnerships agreements.

Without an agreement, every facet of the practice is a potential battleground, says Arthur J. Ciampi of Ciampi LLC, a Manhattan company that represents law firms in partnership disputes. Ciampi is also coauthor of a book entitled Law Firm Partnership Agreements.

Every partnership is different, he says, but the five elements they all need to cover in their agreements are management, capital contributions, the profits, retirement, and what to do about unfinished business when the partnership dissolves.

1. Who has the final say?

First is how the partners want to manage themselves.

“There are as many ways as there are lawyers,” he says, but whatever structure the partners want to have needs to be spelled out exactly in the agreement.

In a small firm, for example, the choice might be to give each partner an equal vote on management matters. Or it might be to appoint a managing partner who oversees the day-to-day operations.

A mid-size to large firm usually has an executive committee to deal with the management issues.

There can also be a multi-tiered arrangement where a partnership committee makes the big decisions, a management committee implements the decisions, and smaller committees address issues related to the practice of law.

Voting also needs to be addressed. The firm might want to be democratic and count each person’s vote the same, or it may want to weight the voting by percentage of ownership.

Whatever the choice, it needs to be on paper before friction arises over who has the final word on how the firm is run.

2. The capital contributions

The second element is the capital contribution requirement.

The agreement needs to say whether contributions are required at all. And if they are, the amount.

It also needs to say whether the payment has to be made in full up front or can be stretched out over a specific period of time.

The decision depends on the firm’s financial position, Ciampi says. A start-up firm that needs capital to cover initial costs usually requires up-front payments. On the other hand, an established firm that doesn’t need operational money may view the contribution more as a membership fee and stretch it out.

Another point to cover here is what financial support – if any – the firm will provide for making the contributions. Some firms, for example, allow the partners to have the contribution taken out of their bonuses. Some back personal bank loans.

There’s also the big question of how capital contributions will be returned when a partner leaves or retires or dies.

The agreement can require an immediate payback, he says, but it’s safer to defer some of it. A common safety provision is that any amount over X% of the annual profit can be paid out over time. That will be a lifesaver if several partners leave at the same time. Without it, they could all demand their money immediately and thereby force the firm out of business.

3. Dividing the profits

Next is the division of profits.

The options here are many, and every firm has its own procedure, Ciampi says. Some divide the profits equally among the partners. Some give a greater share to the rainmakers or to the founding partners. Some determine the division according to percentage of realized revenues.

“There’s nothing right or wrong” about any of those options. It’s the firm’s choice.

The point is that there needs to be a written agreement that lays it out so there are no surprises when payout time comes and the profits are lower or higher than expected.

4. Will retirement be mandatory?

Then there’s the question of whether the firm will have mandatory retirement and if so, at what point it takes effect.

The argument in favor of it is that it eliminates the risk of being forced to carry an aging partner whose skills are diminishing.

However, Ciampi says, the argument against it is equally strong. Forced retirement “really impacts human beings” financially, and unless there’s a good pension plan to support the retiring partners, the provision will likely be challenged. He also notes that the ABA opposes it.

His advice is to leave it out.

Far more palatable for everybody is to address failing capability as a performance issue without reference to age.

5. Fees for unfinished business

The fifth element that has to be in writing is what happens with the fees for unfinished business when a partner leaves.

That’s the number-one issue in partnership disputes, Ciampi says.

When the membership of a partnership changes, the partnership is usually considered dissolved. That can happen when a partner is added or when a partner is ousted or dies or leaves. The new group is a new partnership.

The problem occurs when a partner leaves and the firm is technically dissolved. Under the Uniform Partnership Act, fees for legal matters in progress at the time of a partnership dissolution go to the former partners.

And that requirement applies to contingency as well as hourly fees.

That’s a thorn in the side of a departing partner carrying unfinished work, because no new firm wants to take on an attorney who will be spending time on work it won’t get paid for.

To avoid the dispute, give all the partners the option of leaving without carrying a financial albatross, he says.

Add a provision that should the partnership dissolve, the partners waive any claims to fees for unfinished business.

The time to make that provision is “when everybody is thinking calmly and pulling in the same direction,” he says. Leave it uncovered, and expect trouble when somebody leaves.

Related reading:

For long-term survival, watch for the downfalls that cause partner splits

Measure your associates’ satisfaction to keep them on board

How to hold on to clients when a partner retires

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