How to manage a business partner's early retirement

How to manage a business partner's early retirement

There can be many reasons why a business partner needs to retire earlier than expected. This can be because of ill health, family matters or they have simply lost the love for the day to day running of the business.

How you manage business partner's early retirement, will depend on business structure, number of partners in the business and the financial means & plans of other partners. Retirement of an equity partner of a LLP or partnership may not be an easy process and will need collaboration and planning.

The exit process will vary based on the operating structure of the business. Leaving a limited company set-up will involve disposing of shares, whereas, exiting a partnership will involve either dissolving the partnership or following the exit strategy in the partnership agreement.

In this blog, we look at the consequences of early retirement of one of the partners from a partnership only (not a limited company), how to deal with this and the options open to the remaining partners and business generally.

Is a partner able to retire from their business?

The answer to this will depend upon the partnership agreement in place. If there is no agreement to the contrary, retirement from partnership cannot occur under a general partnership. Instead, the individual must serve a notice to dissolve the entire partnership. If there is more than one remaining partner, they can then reform the partnership.

If you have allowed for provision for a partner’s retirement in the partnership agreement, then the partnership may be able to continue following the retirement of a partner. Having clear details about the retirement of partners in your partnership agreement can make sure that retirement from partnership is a more straightforward process.

For help and advice on how to manage the early retirement of a business partner contact our team in Chester, Wirral or Liverpool.

Review your partnership agreement

Knowing what is in your partnership agreement around early retirement (if this was written into the agreement) is important. Many partnership agreements do allow for early retirement maybe from a specific age for example, from 55-60 and if the partner has a specified number of years of service as a partner.

If a partner does choose to take an early retirement option, the partnership agreement should include a substantial notice period for early retirement (for example, two years) to allow for transition. It is common for the partnership agreement to levy penalties if a retiring partner fails to give the requisite notice or fails to prepare and adhere to a transition plan.

So, checking your partnership agreement is key to the outcome and negotiation with a partner around early retirement.

Developing and revisiting a succession plan

Developing an effective partnership succession plan should start early before you are facing an issue around early retirement. Partnerships with only two partners will often be at greatest risk from retiring partners and succession planning.

If you feel partners may want to retire from the partnership soon, then you should develop a clear succession plan.

The succession plan should come from understanding the key individuals in the company, their roles and responsibilities and what the consequences might be if one of them leaves.

Building a pipeline of future partners can be key to ensuring the retirement plans of one partner won't jeopardise the future of the company.

Reviewing and updating succession plans and partnership agreements should be a core part of the company's strategic planning process.

Agreeing notice periods or limiting the number of partners that can retire in any one year, can make succession planning easier, but cannot help when circumstances such as ill-health happen and a partner needs to retire earlier than expected or at short notice.

Communicate with the partner about a potential buyout

Often people don't broach the subject of retirement early because they expect there may be conflict. This is a shame as a lack of time to prepare is often the reason for the conflict.

Discussing retirement plans as early as possible may give remaining partners more time to buy out the retiring partner, in accordance with the terms set out in your partnership agreement.

If it's a partnership with more than two partners and one partner decides to retire, the partnership will remain intact.

If it’s a partnership with two partners, the retirement of one partner will result in the end of the partnership. As you can't remain a partnership with only one partner. To avoid this in a two-person partnership and if you have time, you can admit a new partner prior to the current partner retiring to ensure the partnership is not reduced to only one partner at any stage.

Assess the financial implications

The following financial implications need to be considered:

Business capital: Retiring partners can remove their capital from the partnership. The partnership agreement should determine how and when this will be repaid to the retiring partner.

Debts: The retiring partner and remaining partners remain liable for the debts of the old partnership unless the remaining partners agree to take on the debts of the retiring partner. The partners can use partnership property to pay outstanding debts, and to split what remains between them in accordance with the partnership agreement.

Profits: These will need to be distributed as per the partnership agreement.

Overlap relief: If your firm’s year end isn't the same as the tax year (i.e. 31 March or 5 April) then a partner's retirement may trigger the unlocking of overlap profits. These are profits on which you will have paid tax twice in the early years of partnership. This can be relieved against the retiring partners final profit share and may lead to a lower final tax payment for the partner.

Seek professional advice early

Tell your accountant and solicitor as soon as you know your partner is considering early retirement to seek advice from them on the financial, tax and legal consequences of the changes. You should also inform your bank and seek advice if there are any guarantees provided by the partners.

Contact us today, for help and advice regarding exiting a business.

Reporting changes to limited and LLP partnerships

For limited partnerships and limited liability partnerships (LLPs), you will be required to inform Companies House when a partner leaves.

The retiring partner must give notice in writing of their retirement where the partnership was created by a deed.

HMRC will also need to be notified. When a partner leaves you must record the changes in the partnership tax return and in each partner's Self-Assessment tax return. If your partnership is VATregistered, you must tell HMRC when a partner leaves within 30 days. If you don't you could face financial penalties.

Will a retiring partner have to sell out their share of the business?

Selling ownership in a partnership can be relatively straightforward from an accounting standpoint if the partners have a buyout agreement and the person buying the ownership share can afford to pay for it.

A retiring partner cannot force you to buy them out. They can serve notice of dissolution which would have the same effect. Following notice of dissolution assets and liabilities will be dealt with as well as any profits that need to be distributed.

Redistribute business responsibilities and consider consultancy

Preparing yourself and the rest of the business for taking on the responsibilities of the retiring director is also important. You could explore the options such as the retiring partner staying on maybe in a part time role for a transition period. This will allow you to better prepare to redistribute responsibilities and decide the future of the business.

It is not uncommon for a partner to become a consultant on their retirement for an agreed period. A consultancy agreement can be drawn up and this will detail how they will be remunerated for that period.

Conclusion

Handling the early retirement of a partner may not be a simple process. It is important to check your partnership agreement, keep communication with the retiring partner open and seek professional advice from accountants, solicitors and your bank on the consequences of the retirement. All these things can ensure a smoother process, and a final outcome is best for all involved.

For further reading, check out these opinion posts here:

• All about company reorganisation
• Using acquisitions as a business growth strategy
• How to sell a business