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Avoid Business-Partner Purgatory with These Helpful Planning Tips

written by: •edited by: Ronda Bowen•updated: 5/11/2011

So, you finally found a partner for that great business idea! Whether the partner is someone you know or just an investor, what things should you find out before signing that partnership agreement? Business owner Jean Scheid offers a checklist for every entrepreneur considering a partnership.

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    My Partner, My Friend

    As a business owner, I have had both friends and investors as partners—both not as great as I expected. The need for a partner is often due to lack of funds for capital startup and other business expenses. Part of planning for business partnerships may mean you need their outstanding financial credit background to enable the business to begin or move forward with business loans and credit.

    If you are about to enter into a partnership agreement to purchase an existing business or to start a new business—beware; and this guide to business partners will help you tremendously to avoid costly mistakes.

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    Know Your Partner

    Your Partner Shouldn't Be Your Friend Even if your partner is your friend or claims to be as rich as Donald Trump, what do you really know about your potential partner? Ask for and get the following or find a different partner:

    Personal Financial Statement – Any partner or investor should be willing to show you a personal financial statement that reveals his or her entire portfolio including investments.

    Recent Tax Return – Most potential partners won’t mind giving you their most recent tax return either, unless they are hiding something.

    Background Check – Get permission from the individual to run a background check. A background check can include many things such as criminal records, debts to the Internal Revenue Service, and liens on property as well as other pertinent information such as other names used in the past.

    Resume – Sure this sounds sort of non-essential if the person claims to have loads of cash for your business, but a resume can reveal items such as knowledge, experience and education. For example, an attorney may not make for the best partner if you’re opening a clothing store—what retail experience would an attorney have? This is very important as even if the partner is not a controlling partner, they may use their financial backing to strong arm you into making company decisions you feel aren’t legal or decisions that won’t benefit the company such as running personal business expenses through the company for their gain.

    Funding – Be blunt and ask the potential partner where the funds they are investing are coming from. One partner I had used his company’s pension plan to invest in one of my companies and years after the partnership was formed the IRS audited his financials including our company based on his lack of IRS reporting when it comes to investing in a business using a pension plan; this resulted in fines for both partners—me and him.

    Shell Companies – Believe it or not I had a partner who utilized a shell company to invest in our partnership. Wherever the funds are coming from, especially if they are from an unknown source, check the business out first with places such as the state Corporation Commission and Tax and Revenue Department. These places can reveal much about a potential partner’s businesses and investments.

    Beyond these initial essentials, what else should you find out when planning business partnerships?

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    Contracts

    Even if the business partner is someone you know well, never agree to use the same attorney to write the partnership agreement. The attorney you hire will have your interests at heart and will not let you sign something that is detrimental in nature. In some states, such as New Mexico, this is actually illegal if a dispute arises. Further, never try to pull a partnership agreement off the Internet. They are of the most basic kind and won’t apply to your particular partnership. It’s worth the investment to hire an attorney when planning for business partnerships.

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    Shares in the Partnership

    Share in the Partnership It’s your baby and you’ll most likely be running and managing the business so remain at a partnership share higher than your partner—even if it’s you at 51 percent and the partner at 49 percent, but often 70 percent / 30 percent with you on the positive side is even better.

    Please turn to Page 2 to learn more about what you should do before entering into any business partnership.

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    Do You Need a Business Partner? This Guide Answers the QuestionA business partner may sound like and great idea and most of the time, they can be invaluable, however, before you bring one on board, read this planning for business partnerships guide for must-have tips on choosing a partner along knowing what your rights are and how to protect your business. Here, Bright Hub's Jean Scheid tells you all the ins and outs of having a business partner.
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    Management

    Management and Partnerships Your partnership agreement should clearly state which partner will manage the business and list out what the managing partner can do alone without approval of the other partner. Often investors want to be silent partners, however, when things go awry, they step in and abuse your authority to make decisions behind your back—especially if they have more money than you do.

    If there is a dispute, the partnership agreement is usually the place attorneys (and the court system) will turn to in order to resolve disputes.

    Further, if you are the managing partner and have rights such as hiring and firing personnel, your partner will be unable to do so without your permission.

    A good partnership agreement should offer that you both sign business loans but the management of the business stays in your control, including opening and utilizing company bank accounts.

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    Retain an Attorney

    Always keep an attorney on retainer—it doesn’t cost that much to retain an attorney—the money starts if you have to utilize their services. Make sure you find an attorney that is experienced in partnership or corporate law—don’t just choose one because they ask for a very low retainer—you want your attorney on your side with the knowledge you need. In addition, if you feel your partner wants to do something and keep if off the record (or accounting books) your attorney can back you up and intervene.

    Don’t agree to have one attorney settle your disputes—this is never a good idea.

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    Befriend Your Banker

    If you are the managing partner, you need to take your banker to lunch and let them know you are the managing partner. Often bankers, especially small banks, will defer to the managing partner and not discuss bank financials unless both partners are present. Make your banker your BFF—you will need them down the road.

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    Provisions

    Make sure if you want to buy out your partner or if your partners wants to sell his or her share to someone else, that you have the first right of refusal. In other words, that you can buy out the partner first before his or her share is offered to someone you may not even know.

    An attorney can help insert provisions into the partnership agreement to protect you in circumstances that include buyouts, selling partnerships shares and dissolving the partnership.

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    Accountants

    Sure your partnership will need an accountant or CPA to ruffle through financials and file your annual tax return, but also find an accountant on your own, especially if the accountant you choose comes with your new partner’s recommendation. You can also get around this by finding an accountant neither of you are familiar with but has experience in preparing tax returns for your type of business.

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    Abide by the Law

    Abide by the Rules Many partners (especially those with many investments) often want your business to fail. Why? They can use those losses to offset gains on their personal tax return. In cases such as these, this is why partners use shell companies, want personal expenses run through the business and make overall bad business decisions to rack up business expenses. Those expenses will eat into your profits and make cash flow almost impossible to manage.

    Bad business partners are famous for avoiding placing their own name on important documents such as those filed with the Department of Labor, Corporation Commission and other state and federal agencies. Make sure they sign everything you do, including any personal guarantees for loans or credit from vendors—it’s a partnership, not a one-person-ship. If something goes wrong, no matter what the partnership share, both you and your partner will be responsible.

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    Final Thoughts

    It’s very easy to jump on board with the first individual who offers you the investment dollars you need or even their financial backing to enter into loans and other agreements. Stay on the safe side when planning for business partnerships and do use the suggestions here—you’ll be glad you did and won’t find yourself holding all the responsibility if the partner decides to walk away or attempts to man-handle the business.

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    The author has over 17 years of business experience including partnership businesses.

    Image Credits:

    Friends - mzacha/http://www.sxc.hu/photo/1193154

    Partners - arte_ram/http://www.sxc.hu/photo/1185571

    Sharing - svilen001/http://www.sxc.hu/photo/1083586

    Legaliity - acambaro77/http://www.sxc.hu/photo/762031/acambaro77