You and a buddy decide to go into business, but you never file any paperwork. You start making sales and things are great. Until they aren’t. But since there was no paperwork, you can just walk away, right? Not quite. Partnerships formed on the fly are called “de facto” partnerships and are still legally binding. You may have created an accidental partnership and may be on the hook for some of the business debt or other liabilities.
The Texas Business Organizations Code lays out a five-factor test to determine whether a partnership was formed between two or more people. The five factors are:
- Agreement to contribute money or property to the business
- The receipts or expectation of profits from the business
- Expression of an intent to be partners in the business
- Participation in the operation and/or control of the business
- Agreement or consent to share losses or liability of the business
While this sounds like there needs to be something “official” done to form the partnership, the bar is actually quite low. The courts look at all five factors together to determine if a partnership was created. This means that you do not have to satisfy all five to have created a partnership. In addition, these factors do not need to be in writing like a contract or other agreement. Courts will use things like the language of emails and text messages to determine if one or more of these factors were met. Saying things like “our business” or “my partner” could lead to a business being deemed a de facto partnership. They will also look at the actions of the individuals while doing business to determine if they were holding themselves out as partners to customers and suppliers. For example, do both parties have access to the bank account? Did they both sign any paperwork with suppliers? If the answer is yes to questions like this, you might have formed a partnership.
What’s The Big Deal?
So what does this all mean? Well, it means that your personal assets might be on the line if something goes wrong with your business. Because there was not a legal entity like an LLC or corporation formed, your personal assets do not receive any legal shielding. So let’s say someone gets hurt using your product or on your business’s property. If the person wins their lawsuit, they can go after things like your home or personal vehicle. You are also personally liable for the debts of the business. If the business’s assets do not cover the debts, you may have to sell off some of your personal property or file for bankruptcy to pay off the debt.
How Can I Avoid This?
Forming an LLC right off the bat is a very easy way to prevent a lot of these issues. However, you can also convert your existing sole proprietorship or partnership to an LLC. Texas charges $300 to form an LLC with the Secretary of State’s office. In addition, an operating agreement is a must to determine how the business operates. In this document, you can lay out how new partners will be added, what happens when a partner wants to leave, how much each partner will contribute and own, etc. QuestTM can do both of these things for you. Contact us today to find out how we can get your business up and running legally in just a few days and at an affordable rate. QuestTM is happy to offer payment plans for our business formation packages.
I Want Out Of My Business – Now!
This happens more often than you think. Everyone goes into business with great intentions, and then the relationship sours. You have a disagreement, someone spends too much money, or you just want to move on with your life. We get it. Getting out of a de facto partnership can be tricky. You may need a small business attorney like Allison Higgins to help negotiate on your behalf. Unlike the beginning of the relationship, you want the end of the business to be in writing and carefully drafted to avoid any surprises later.
Having a de facto partnership is never advised in the legal world. Even if things are going great, you should convert to a multi-member LLC or other legal entity to protect your personal assets. If things are going south, you should reach out to a small business attorney to help settle things as quickly and as amicably as possible.
Contact QuestTM today if you would like to speak with a Texas small business attorney about your partnership. Attorney Allison Higgins offers free consultations to all new clients. Call us at (210) 201-6145 or fill out our contact form here.