Liability of Outgoing Partners

Partnerships are favourable business models because there are no formalities in setting one up and partnership accounts are not public records. However, a disadvantage of the partnership business model is that all the partners are liable for the firm’s debts, which means that a creditor can come after each individual partner to pay it off.

The rules and regulations that govern a partnership are derived from the Partnership Act 1980, unless the parties have drawn up a partnership agreement, in which case that document will govern the partnership. Where a partnership agreement has been drawn up but is silent on a particular area then that gap will be filled by the Partnership Act or common law.

A partnership agreement will usually outline things like:

  • The contributions of each partner;
  • Profit sharing;
  • The role of each partner including how decisions are made;
  • What happens when a partner wants to leave; and
  • How to dissolve or admit new partners to the partnership.

Rules on Outgoing Partners

The general rule is that if the debt or liability has been incurred after the partner in question has left the firm or business then that partner will not be liable for the same. In the same way, if a debt or liability has been incurred before a partner joins then he or she will once again not be liable for it.

There are however some circumstances in which the usual rules will not apply:

Holding out

Holding out occurs where a member of the partnership has held themselves out as being a member in the firm or business and has made representations in that capacity, thereby giving credit to the partnership. The representation does not have to be made in any prescribed manner and an oral representation will suffice as will written representations and any representations based on conduct. The representation does not have to come directly from the partner and could be made by someone who is making the representations with the knowledge of a partner.

Failure to give appropriate notice

A firm’s debt can be enforced against any individual partner (if the debt or liability was incurred during their tenure) even after that person has left the partnership. Therefore, when a partner leaves the partnership he or she, in the interest of clarity and for the avoidance of any doubt, should notify any creditor or potential creditor about his or her retirement and should attempt top ensure that a clear agreement is in place to terminate the partnership and appropriate indemnity given by any remaining partner(s). In the absence of appropriate notice, the former partner may find that they have become liable for the act(s) (or omissions) of the other partners even after having left the firm.

This notice should be made to anyone who has dealt with the partnership and should ideally be advertised in the London Gazette. A creditor who is unaware of the partner leaving and can establish that appropriate notice was not given may still be able to pursue the former partner. The only exceptions to this rule are upon death and upon bankruptcy; in these circumstances no notice of the event is required and the estate of the deceased or the bankrupt partner will not be held liable for any subsequent events.

Unlike holding out, a creditor does not have to rely on a representation at the time the debt or liability was incurred.

Novation

A novation agreement is an agreement between three parties: a creditor of the partnership, the partner at the time of the contract with the creditor and an incoming party. Through a novation agreement a creditor can agree that the liability of an outgoing or previous partner is to cease and is to be taken up by a new incoming partner.