A significant number of LLPs do not have an LLP agreement (or, in the case of an unincorporated partnership, a partnership agreement). A smaller but still notable proportion have a written agreement that, crucially, is unsigned.

This article is written from a purely financial point of view and highlights some of the key areas of conflict that arise when firms do not have an up-to-date, signed LLP agreement.

1. Profit-sharing arrangements can be unclear

At a practical level, LLP agreements are not re-drawn every time profit allocations change. Instead, allocations are typically agreed between partners during the year, and final shares are calculated once the partnership’s accounts have been finalised. In a good year, when the firm’s reported profit is generally as expected, this method works well and is administratively straightforward. However, in a bad year when profits are low, the absence of a signed LLP agreement can lead to conflict. We have seen scenarios where there are insufficient profits to cover fixed share partners’ shares. In the absence of an LLP agreement, fixed share partners might assume their remuneration should come from the equity partners reducing their own share (this can result in equity partners earning zero profit), whereas the intention might have been for all partners to receive a correspondingly reduced share.

2. Overdrawn current accounts can be immediately repayable

LLP agreements usually specify how and when overdrawn accounts should be repaid. They also commonly state when interest should be charged and outline any potential tax liabilities where the overdrawn sum is classed as a loan. In the absence of an agreement, an overdrawn partner might assume they can repay the sum gradually with no consequences. They might not appreciate that an overdrawn account can require disclosure in the partnership’s financial statements and may breach bank covenants.

3. Tax obligations can be unclear

A common problem we encounter is when firms retain tax reserves on behalf of partners, but a partner’s tax liability exceeds the sum held. An LLP agreement will usually address this scenario including how to pay the excess liability, whose responsibility it is and how to avoid it happening in the first place.

4. Exiting can be problematic

Without an LLP agreement, problems can arise with the amount and timing of final profit allocations, repayment of undrawn profits and capital. We explored this in more detail in our Spring Insight.

Get in touch

If you would like any advice on the financial clauses in your LLP agreement, please contact Claire Watkins (Partner and Head of Professional Practices Group) on 020 7556 1482 or email watkinsc@buzzacott.co.uk.