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Partnership agreements: liability of former partners to repay drawings

Business meeting at a round tableIn a recent case the High Court held that in the absence of an express provision to the contrary, the Partnership Accounts, which act as a profit and loss account, drawn up by a firm of solicitors for a particular year are binding on all former partners who left the firm before the accounts were prepared and delivered, but were partners at some time during that year.

If, based on anticipated profits, the former partners have ended up drawing profits which exceed their share of the final yearly profits subsequently outlined in the Partner Accounts, then they will be liable to repay the difference.

The decision relates to a preliminary issue raised in a claim by the law firm Hammonds. The purpose of the claim is to try and recover excessive profit shares that have allegedly been drawn by some of Hammonds’ former partners. Based on forecasted profits, the partners made their entitled withdrawals. However, the end of year Partnership Accounts proved that these early assessments were overly optimistic, and that the respective drawings of the partners were considerably larger than their allocated proportion under the later Partnership Accounts. By the time that the Partnership Accounts had been produced, they were no longer partners at Hammonds.

The former partners claimed that the relevant provision of the governing Partnership Deed, which states that the Partnership Accounts will be delivered to, and binding on all partners, subject to any objections raised within a given time period, did not apply to them. As they had ceased to be ! partners before the relevant Accounts were delivered, it was argued that the results of the Partner Accounts could not therefore be enforced against them.

Hammonds expressed the view that the Partnership Accounts for any given year were binding on all individuals who were partners at any time during that year, regardless of when they were actually prepared. The obligation to recognise and adhere to the position set out in such accounts was not removed from an individual purely because he or she had given up the position of partner before they were delivered.

The court accepted this interpretation, stating that former partners were in fact bound by the Partnership Accounts if, at some time during the relevant year, they had held the position of partner. The fact that they had ceased to be partners before the Partnership Accounts were delivered did not alter their applicability. If the true intention was for former partners to be released from the Partnership Accounts in this way, then the insertion of an express provision to this effect within the Partnership Deed would be necessary.

It has not yet been decided whether the former partners will have to repay any excessive drawings made as a result of the shortfall between the forecasted profits and the actual profits. Although it is clear that they are, in principle, bound by the Partner Accounts, these are also being challenged for their validity and accuracy for the year in question. This is due to be decided at a full hearing.

The decision highlights the need for partnership agreements to explicitly and carefully document how a partner’s entitlement to his or her share in the yearly profits will be reconciled on leaving the partnership.

Further reading: Hammonds (A Firm) v M Danilunas & 13 Others [2009] EWHC 126 (Ch)

This article first appeared in Law-Now, CMS Cameron McKenna's free online information service, and has been reproduced with their permission. For more information about Law-Now, please go to www.law-now.com.

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