Facing the consequences of not having an LLP agreement

Justin Cumberlege, partner in Hempsons healthcare team, explains why an LLP agreement is essential.

First published in Independent Practitioner Today April 2020

As an individual doctor, your assets (including your house) are at risk if a claim is made against you. Some risks are not covered by insurance, such as breach of contract. For example, if you fall ill, you may not have sufficient insurance cover to pay for the rent and other outgoings for the consulting rooms. Those losses would be the personal, uninsurable, liability of the doctors. A contract may seem innocuous, until things go wrong, and a claim for the provision of services may include not only financial loss, but damage to reputation.

One way of protecting personal assets is to incorporate, and, by forming a limited liability partnership (LLP), you are able to do so. Medical accountants may also recommend LLPs to gain some tax advantages.

What is often overlooked is having a partnership agreement. This comes into sharp focus when the doctors in partnership have a dispute. Expelling a partner is not going to be done using the force of law, as there is no law to assist in normal circumstances.

What happens when a partner is to be expelled depends on the partnership agreement, otherwise there may be very little option but to dissolve the partnership and suffer the consequences, costs, a possible tax hit, and losses which follow.

Unlike unincorporated partnerships, an incorporated one cannot be dissolved by one partner, so the only option is to retire and leave all the assets and goodwill you have built up with your partner to them.

This article focuses on limited liability partnerships (or “LLPs”) which are partnerships with limited liability. The partners are referred to as ‘members’ in the legislation. LLPs have only been possible since the Limited Liability Partnership Act 2000, which was a response to pressure from the solicitors and accountants wanting the benefits of individual taxation enjoyed by a partnership and the limited liability enjoyed by a company.

They are corporate entities, and therefore a legal entity, like a company, and are registered at Companies House with a number pre-fixed with “OC” (which confusingly stands for “other company”). As such, they are able to deal in property, employ people, enter into contracts, pursue claims and be sued in their own name. This contrasts with partnerships, which are not legal bodies, and therefore each individual partner is jointly and severally (individually) liable.

As well as the way that they are taxed, the other similarity with partnerships is that LLPs have very little statutory corporate structure. When a company is formed, not only will many of the 1000 sections of the Companies Act apply to it, but also it will have articles of association. These may be bespoke or the statutory model articles which contain a number of provisions as to how the company is to operate.

With an LLP, the opportunity to have a members’ agreement is possible, but there is no compulsion, and without one the members fall back onto the very brief provisions of section 5 of the LLPA, which states:

5. Relationship of members etc.

(1) Except as far as otherwise provided by this Act or any other enactment, the mutual rights and duties of the members of a limited liability partnership, and the mutual rights and duties of a limited liability partnership and its members, shall be governed—

(a) by agreement between the members, or between the limited liability partnership and its members, or

(b) in the absence of agreement as to any matter, by any provision made in relation to that matter by regulations under section 15(c).

(2) An agreement made before the incorporation of a limited liability partnership between the persons who subscribe their names to the incorporation document may impose obligations on the limited liability partnership (to take effect at any time after its incorporation).

Therefore, it is possible to have an unwritten LLP agreement, but like any contract which is not in writing, proving what the terms are, and that they favour your desired outcome in any dispute, is often not possible. If a custom and practice of doing something in a particular way in your practice or in your accounts can be shown, then that may be sufficient evidence as to what was agreed for that one thing.

In the absence of an agreement as to any matter, then the members have to rely on the regulations made under section 15(c) which were passed as the Limited Liability Partnership Regulations 2001.

Regulation 7 gives 10 requirements, including that every member of the LLP may take part in the management of the LLP (regulation 7(3)). If the members were to seek to exclude a member, this could result in that member bringing a claim for unfair prejudice.

Setting up a similar neighbouring business, and cutting the difficult member out, is not a solution either as regulation 7 (9) states that a member cannot set up a business in competition with the LLP.

Furthermore regulation 8 prohibits the expulsion of a member, even if all the other members agree, unless there is an LLP Agreement to the contrary.

Without an agreement, there is no way out, so having one in place, which actually reflects what you are, or intend to do, is vital, but often forgotten.

Without an agreement, any disagreement between the members connected with the LLP’s business may be decided by a majority of the members. Any proposed change to the nature of the business of the LLP requires the consent of all members (regulation 7(6).

If you were to set up another business, then regulation 9 states that you must account for profits from the competing business, which means that you must account for and pay over to the LLP all profits made in that other business.

There is no duty of good faith between the members. The members may decide to provide for fiduciary duties in the LLP agreement itself.

Having an agreement in place before the LLP starts trading is essential for peace of mind, as well as ensuring that it meets everyone’s expectations. It is highly unlikely this is an off the shelf document, and it would be wise to have one written to meet your primary concerns, including the way decisions are made. Otherwise be prepared for many arguments with your fellow doctors, or face losing everything.