CLASS 3: PARTNERSHIPS

Introduction & Nature of Partnerships

Definition: Partnerships may be defined as business associations that come

into existence when two or more persons come together in the form of a firm.
It may also be defined as a relationship which exists between persons who
carry on business in common with a view to making profit.
Section 3 of the Partnerships Act defines it as the relation that/which subsists
between persons carrying on a business in common with a view of profit.

Elements/Distinguishing Features of a Partnership

From the aforementioned definition under s. 3 of Partnerships Act and s. 4(on
rules for determining the existence of a partnership) and s.28 (on rules as to
interests and duties of partners), we get the following distinguishing features of
a partnership:
 There must be a relationship- that relationship must be brought into
existence through a process that is lawful, most commonly through a
contractual agreement.
 The relationship must involve two or more persons/members to a
partnership.
 Those two or more persons must carry on business, that is, there
should be no other reason other than carrying on of the business that
makes those persons to enter into a relationship. Business is defined
broadly to include every profession, trade or occupation.
 The business must be carried out in common. That it must be carried
on by all partners or the section for the benefit of all the others.
 The business must be carried on with a view of profit. The only reason
why partners should carry on the business is so that they may make
profit. The making of profits is so fundamental that if the partnerships
makes losses for a consecutive period of 12 months then it is liable to be
dissolved even by an order of the court.

Types of Partnerships

There are three types of partnerships

1. General Partnerships
2. Limited partnerships
 3. Limited liability partnerships

a) General Partnerships (GPs)

This is the most basic form of partnership. It is created by default, that is,
unlike a corporation, there is no need to file any documents with the state to
make your business a partnership. A general partnership has general partners
who form their business by signing a partnership agreement/deed which
governs its operations. However, this is not mandatory as it can also be
governed by First Schedule of the Partnerships Act.

When Persons Do Not Carry On Business Together

1. A person does not carry on a business with another merely because the
person—
(a) receives a payment contingent on or varying with the profits of
a business;
(b) is an agent of a person engaged in a business and has a
contract for his remuneration by a share of the profits of the
business;
(c) receives a debt or other liquidated amount, by instalments
otherwise out of the accruing profits of a business;
(d) is the beneficiary of the estate of a person who has died and
receives in the form of annuity a share of profits made in a business
in which the deceased was a partner;
(e) lends money to a person engaged in or about to engage in
a business and, under the contract for the loan, is to receive a rate
of interest varying with the profits of the business or a share of
those profits; or
(f) sells the goodwill of a business and receives, in form of
annuity or otherwise, a share of the profits of the business in return
for the sale.
2. A person does not carry on a business with another merely because
they share an interest in property whether or not they share profits
made by the use of the property.
3. A person does not carry on a business with another merely because
they share gross profits whether or not they have a joint or common
 interest in any property from which, or from the use of which, the returns
are derived.
GPs are registered under Registration of Business Names Act.
GPs source capital through the following:
 Contribution of each partner
 Loans of overdraft from the banks and other financial institution.
 Ploughing back of profit.
 Trade creditors: - Obtaining goods on credit from the sellers.
 Admission of new partners.
GPs are easy to form and dissolve. In most cases, the partnership dissolves
automatically if any partner dies or goes bankrupt.
In a GP, unless the partners have a partnership agreement stating otherwise,
each partner will have:
 The ability to actively manage or control the business. There is a lot of
power and a lot of mutual responsibility.
 Equal authority to make decisions about how the business will be run.
 Equal authority to make legally binding decisions.
 Ownership and profits are usually split evenly among the partners.
In a GP, all partners have independent power to bind the business to
contracts and loans. This opens them up to total liability, meaning, they are
personally responsible for all of the business’s debts and legal obligations. For
instance, say a general partnership has three partners and one of them takes
out a loan that the business cannot repay, all partners may now be personally
liable for the debt. The partner could lose more than his investment in the
business; if necessary, personal assets will be used to pay business debts.
Furthermore, each partner in a GP “jointly and severally” is liable for debts
of the business- each partner is equally liable for the debts of the business, but
each is also totally liable. For instance, if a creditor fails to get what he is owed
by one partner, he can get it from another partner, even if that partner has
already paid his share of the debt.

b) Limited Partnerships (LPs)

Limited Partnerships (LPs) are formal business entities authorised by the
state and governed by the Partnership deed/agreement or even the first
schedule of the Partnerships Act. LPs are registered under Registration of
Business Names Act.
It requires a partnership agreement between the partners. It has both general
partner who is fully responsible for the business and one or more limited
partners who provide money but do not actively manage the business (a
limited partner is just like an investor who invests in the business for financial
returns, lacks the authority to run the business and is not responsible for its
debts and responsibilities).
An LP is similar to a general partnership in every other way only that it offers
limited liability protection to a limited partner and none to its general
partner(s). The limited partner does not have total responsibility for the debts
of the partnership and to value of capital invested. The most a limited partner
can lose is his investment in the business and nothing more contrary to
general partners who have total liability in the partnership as discussed in 1.
Above.
Limited partners can only share in the profits but they cannot lose more than
they have invested. In instances where they begin actively managing the
business, they may lose their status as a limited partner along with its
protections.
NB:
LPs are similar to GPs all features including in formation and dissolution of
partnerships, registration form and source of capital. They only difference is in
duties and liability of partners where Limited Partners are exempt from
management of the partnership and they have limited liability for the debts and
other actions of the partnership.

c) Limited Liability Partnerships (LLPs)

A Limited Liability Partnership (LLP) operates like a general partnership, with
all partners actively managing the business, but it limits their liability for
one another’s actions. LLPs are governed by a partnership deed meant to
provide rules of governance, management and control but it is not mandatory
that it should be governed by the Partnership deed. They can be governed by
first schedule of LLP Act. LLPs are registered under the LLP Act.
It is governed by the Limited Liability Partnerships Act, Chapter 30A, passed on
16th March 2012. The regulations requisite to facilitate registration of LLPs
were published in September 2012.
A limited liability partnership is required to have at least two partners, and at
least one manager. The manager shall be one of the partners, and a natural
person who has attained the age of eighteen years and who is resident in Kenya.
In an LLP, the partners still bear full responsibility for the debts and legal
liabilities of the business, but they are not responsible for errors and omissions
of their fellow partners. An LLP thus combines some of the features of a
traditional partnership (e.g. flexibility) with the limited liability benefits more
typically hitherto associated with companies.
LLPs were introduced to give professional services firms e.g. accountants,
lawyers, surveyors etc. the opportunity to benefit from limited liability, that is,
by protecting their personal assets from any potential business creditors. It is
not required that an LLP creates a constitution/Memorandum of Articles of
Association.
However, the Partners to an LLP would (under the Act) execute a Limited
Liability Partnership Agreement/ deed to set out the agreement e.g. on profit
sharing, capital contributions, roles/duties, management or other
arrangements amongst themselves and change those arrangements as often as
they agree.
Some features unique to an LLP include: -
 being a body corporate (separate and distinct legal entity from its
partners), and
 a body sui generis (of its own kind).
Generally, an LLP is a hybrid between a partnership and a limited liability
company.
NB:
General Partnerships and Limited Partnerships are governed by the
Partnerships Act, while Limited Liability Partnerships are governed by Limited
Liability Partnerships Act.

Nature/Features of General, Limited, & Unlimited Liability Partnerships

1. All partnerships must have at least two members

2. Should be governed by partnership deed
3. Drafting of partnership deed is meant to provide rules of governance,
management and control of partnership but it is not mandatory that it
should be governed by partnership deed, they can be governed by 1st
schedule of Partnership Act and LLP Act
4. General and limited partnership are registered under the Registration of
business Names Act while LLPs are registered under the LLP Act.
5. In GP, all partners are involved in management and control while in LP it
is delegated to the General partners.
 6. Liability for all losses in general partnership accrues to all partners
without limitations but in limited partnership, liability of certain partners
can be limited to capital contributed provided that every limited
partnerships must have a general partner whose liability is unlimited.
Duties of Partners

1. Duty to act within powers

2. Partners owe each other and to the partnership a fiduciary duty to act in
good faith.
3. Duty of acting in the best interests
4. Duty not to cause harm
5. Duty to promote the business/interest of the partnership
6. Duty of disclosure; disclose any matter which is material to the
partnership or the partners
7. Duty to be frank
8. Duty of no conflict of interest
9. Duty not to make secret profits from the partnership

Liabilities of Partners

1. All partners are liable to the debts of the partnership

The liability extends when one has ceased to be a partner which accrues
within 12 months of one ceasing to be a partner.
2. If a partner has not given any notice of ceasing to be a partner, he will
continue to be liable for partnership debts

Advantages of Partnerships

a) It is less formal with fewer legal obligations as found in corporations and

other business associations.
b) Easy to get started where it only takes verbal or written contractual
agreement between or amongst the partners as opposed to the tedious
registration of corporations.
c) Sharing of burden in a partnership makes it easier to benefit from
companionship and mutual support as opposed to sole proprietorship.
d) Enables effective access to knowledge, skills, experience and contacts
where each partner brings these of their own giving it a better chance of
success than sole proprietors.
e) Combination of ownership and control in a partnership makes it easier to
run and pursue its objectives thus more flexible than a limited company,
with the ability to adapt more quickly to changing circumstances.
 f) Easy access to profits given the profits are shared between the partners,
flowing directly to the partners’ personal tax returns rather than initially
being retained in the partnership as it happens with limited companies
until paid out, whether as salaries under PAYE or, with the approval of
shareholders, as dividends.

Disadvantages of Partnerships

a) The partnership lacks independent legal status distinct from its

partners, except for LLPs. By default, unless a partnership agreement
with alternative provisions is put in place, it will be dissolved upon the
resignation or death on one of the partners. This possibility causes
insecurity and instability thus diverting attention from business
development. Independent legal status as found in corporations and
SACCOS offer stability and security.
b) Unlimited liability especially in GPs and LPs where general partners are
personally liable for debts and losses incurred which may not be case for
a limited company.
c) Limited access to capital. Combination of partners’ contribution is never
enough capital. Partnerships find it more difficult raising more money
than a limited company given banks prefer greater accounting
transparency, separate legal personality and a sense of permanence that
a limited company provides (partnerships are seen as higher risk by
banks). Furthermore, partnerships lack several other forms of long-term
finance. For instance, they cannot issue shares, or other securities in
exchange for investment in the way limited companies can.

Registration of Partnerships

Registration of the proposed business name must be in accordance with the

Registration of Business Names Act, revised 2006. Once formed and registered,
a partnership may carry out business under its firm name notwithstanding
lack of legal personality.
1. Name- name or style under which any business is carried on.
2. Firm- an unincorporated body of two or more individuals, or of one or more
individuals and one or more corporations, or of two or more corporations,
who or which have entered into partnership with one another with a view to
carrying on business for profit.
Section 6(1) provides for a statement of particulars required to be delivered to
Registrar:
  Business name proposed to be registered.
 General nature of proposed business.
 Full address of principal place of business and postal address of firm,
individual or corporation.
 Full address of every other place of business.
 In case of a firm, personal details of individuals who are partners and
corporate name of every corporation which is a partner.
 Date of commencement of the business.
Section 17- prohibited business names; names containing names which
mislead the public as to nationality race or religion of owners; words like
presidential, government, municipal; co- operative or its equivalent; names
identical to existing business or corporation; or which in the opinion of the
Registrar are undesirable.

Partnership Deed for a General Partnership & an LLP)

The terms on which the firm is established and managed may be formalised
into a legally binding partnership agreement contained in a deed or articles of
partnership.
Characteristics include:
 It must be agreed upon by partners
 It must meet requirements of contract.
 It requires a recital, which is an agreement to be bound.
 It must state the business of partnership is for a legitimate purpose and
there are no vitiating factors.
 The contract must be executed
 State date of commencing partnership; if time bound, state when it will
end
 Includes a proper cover page to identify it as a partnership agreement
 Must have the parties’ clause that lists all partners OR ‘this partnership
agreement is made between the parties whose particulars are provided in
the first schedule.

Requirements of a Partnership Deed

1. Must meet all requirements of a valid contract

 Capacity
 Intention to create legal relations
  Consideration
 Absence of vitiating factors
 Must be executed
 Certainty.
2. Parties clause
3. Recitals: intentions to be bound
4. Clauses:
 Business of the partnership
 Capital of the partnership
 Management clause ; how partners will engage in day to day business
 Meeting clause ; when (how often) how they will be convened, where will
they be held, who will preside over the meetings
 Employment of other officers ; how partnership will employ people
 Voting clause : one partner one vote unless specified otherwise,
 Partnership accounts and records; general rule under the partnerships
Cat is that all partners are entitled to free, unfettered access to all
partnership records.

Dissolution of Partnerships

A partnership breaks up or gets dissolved if (refer section 36 of Partnerships

Act): —
 A partnership is formed for a particular purpose it terminates when that
purpose has been fulfilled
 When there is a specific time period stipulated for the existence of the
partnership
 Upon agreement by all the partners
 If the number of partners falls below two;
 If the partnership is for a fixed term and the term expires;
 By order of the Court
o an order to break up the partnership is made by the Court on the
application of a partner;
o if partnership is registered for illegal or improper purpose
o on application by the registrar based on reasonable opinion that the
partnership is dormant
o where there is a breach of obligations by partners
The partnership will continue doing business subject until: —
 The dissolution of the partnership
 The winding up of the partnership by partners
  Winding up of the partnership by a liquidator
 Authority of partners and their rights and obligations continue as maybe
necessary for the dissolution/winding up.

Consequences of Dissolution
Upon dissolution the partnerships firm stops trading. The following occurs:
 The assets are disposed off
 The liabilities of the business to everyone other than the partners are
paid
 The partners are repaid their advances and current balances (advances
are the amounts they have put in above and beyond the capital)
Where a partnership is dissolved as a consequence of winding up (being
insolvent) the provisions of the Insolvency Act determines how the assets will
be distributed.

Note:
Refer to sections 35-39. A third party/successor partnership who transacts
with partnership property after break up acquire a good title- if acted in good
faith, paid valuable consideration and was an innocent party-lacked knowledge
that it was partnership property.