Transferring partnership "interests"

Professor Bainbridge reports on a partnership case, Sunseri v. Proctor, 2006 WL 3206078, which he says wrongly analyzes whether an assignee of a partnership interest is a partner by looking at the indicia of partnership rather than the inherent nature of such an assignment. As Prof B says, "As a matter of law, the assignee of a partnership interest does not become a partner in the business."

As a general legal principle that's correct, but I disagree with the conclusion Prof B draws about this case.

The main problem is that it's not clear that what was transferred here was merely an economic interest in the firm rather than the whole package, including management rights. For example, as the court says,

Plaintiffs assert that because "interest" was not limited to an "income interest," the Court should construe the plain meaning of interest as transferring David's status as a partner.

In fact, to the extent that the case is interesting, it is on this often subtle distinction concerning the transfer of partnership rights. For example, in my casebook, Unincorporated Business Entities, Section 7.02, I discuss another cellular case (the issue for some reason seems to come up a lot in these cases), Sunshine Cellular v. Vanguard Cellular Systems, Inc., 1993 WL 212675 (S.D.N.Y. 1993). In my partnership treatise, Bromberg & Ribstein on Partnership, Section 3.05(c)(3), I summarize the case as follows:

the court denied summary judgment on whether partners agreed to override the rule against transfer of management right where the partnership agreement provided that “[e]ach party shall initially own the percentage interest stated in Exhibit A, in terms of profits, losses and voting.”

It was the inclusion of that word "voting" (plus the unusual procedural posture of the case) that led to the doubt.

I emphasize in my course the complex legal and drafting issues concerning characterizing various types of transfers of partnership rights. I also tell my students that they disserve their clients (and, who knows, maybe risk malpractice) if they don't confront these nuances when drafting agreements.

Alas, the "big picture" overview to which partnership law is usually relegated in "corporations" and "business associations" courses usually misses these important nuances. This contributes to the unpreparedness of this country's business lawyers and to the low quality of many partnership agreements. 

The Sunseri case might have been an interesting illustration of these issues but for the paucity of facts in the opinion on this issue.

Given the ambiguity in "interest," the court also correctly noted what I refer to as "subjective" indicia of partnership (see Bromberg & Ribstein, Section 2.05). The court notes:

Plaintiffs provided Phyllis Proctor's K-1 tax forms for the years 1991 through 1994 identifying her as a partner and correspondence from other partners in Macro referring to Phyllis as a partner.

So the court had good basis for not dismissing the partnership claims as a matter of law. Indeed, one might argue that the combination of the ambiguity of "interest" and the subjective indicia gives a slight edge to the plaintiff, though probably not enough for a plaintiff's summary judgment.

Comments

[Steve Bainbridge]

Larry writes that: "it's not clear that what was transferred here was merely an economic interest in the firm rather than the whole package, including management rights." My point is that partnership law does not permit the transfer of "the whole package." I see cases like Sunshine Cellular or Sunseri or Putnam v. Shoaf (in my casebook) as erring by suggesting that there is anything that can be transferred beyond the economic "interest" as that term is defined by statute. Accordingly, I believe, in these cases, if the parties tried to assign something beyond that interest, the court should say they failed to do so.

I agree with you that the problem could be solved by good lawyering. But it's good lawyering about dissolution and/or admission of new members, not good lawyering about assignment of an interest.

[Larry E. Ribstein]

In fact, partnership law allows the agreement to define what can be transferred up to and including the whole package. It's that flexibility that gets the parties in trouble. "Good lawyering" includes defining in the agreement what the parties can and cannot transfer unilaterally.

[Steve Bainbridge]

Conceding that you're the expert with the multi-volume treatise and all that good stuff, which deserves a certain amount of deference, that's not how I read the statute. Looking at the 1914 UPA, unless the partnership agreement otherwise specifies, under Section 18(g) no person can become a member of the firm without the unanimous consent of all other partners. A partner’s ownership interest in partnership property is that of a tenant in partnership. As such, the partner has an equal right with his or her copartners to possess and use partnership property for partnership purposes, but no right to possess or use such property for nonpartnership purposes. UPA § 25(2)(a).

Accordingly, a partner’s rights as to partnership property are not assignable except in connection with an assignment of the rights of all the partners (e.g., a sale of the partnership as a whole). UPA § 25(2)(b). Therefore a partner’s rights to partnership property can not be sold separate from a sale of the partnership as a whole.

All the partner can transfer therefore is his “interest” in the firm, which in turn is defined by statute as the partner’s share of firm profits and surplus. This interest is the partner’s personal property. UPA § 26.

Hence, I don't see how the statute allows a transfer of the "whole thing." Maybe there's caselaw allowing such a transfer, but I would regard such caselaw as a misreading of the statute.

[Larry E. Ribstein]

This is great, because it shows how even experts on business law need to be wary about making conclusions about partnership law. In the first place, the cases often are inconsistent with the statute (even the judges get confused).

That's not a problem with the specific question we're discussing here, because there's no doubt the agreement can fully control the level of assignability -- all the provisions cited are subject to contrary agreement.

So the agreement could provide that a partner unilaterally could bring in another partner -- though the agreement would have to do so clearly, because the right of selecting co-partners is important in partnership law and therefore must be waived explicitly.

Moreover, it's important to distinguish the nature of rights being transferred. Section 25 refers to rights in the specific partnership property, while Section 18(g) refers to management rights. The agreement theoretically could provide for unilateral transfer of specific property rights, but that would be rare and possibly subject to third party interests in the property. Or the agreement could provide for transfer of management rights, but that wouldn't have anything to do with transfer of the property, rights to which would remain with the partners jointly.

[Steve Bainbridge]

Now I begin to see where the problem may lie. I agree with you that the partnership agreement could "fully control the level of assignability" of p-shp interests. Or, at least, I agree that that result would be reached by statute in states that have adopted the UPA (1997), by virtue of section 103(a).

I assume you would agree, however, that the agreement by which a partner's interest is assigned to a third pary cannot "control the level of assignability."

Hence, if the partnership agreement is silent (as I believe it was in Sunseri), the statutory default rules should control and an attempt to assign the "whole thing" ought to fail. Cases allowing an assignment of the 'whole thing" in the absence of authorization so to do under the partnership agreement should be taken out into the courtyard of the law school and burnt.

[Larry E. Ribstein]

Of course, as I said all along, it has to be permitted by the partnership agreement -- the default rules are otherwise. I noted that the problem with analyzing the case was the absence of relevant facts in the opinion, including as to the agreement. So I guess we're in agreement. Except for one thing: aren't the cases are part of the law of partnership, even if poorly reasoned?

[Larry E. Ribstein]

One more thing: the partnership agreement would control in every jurisdiction, since no statute that I know of restricts waivability on this point, including UPA 1914.

[Beldar]

It's a rare blog post that gives me a chance to cite my law review note from 27 years ago! It's not immediately obvious whether, or why, it's on point, and you can't tell from this abstract: Note, "Community Property Rights and the Business Partnership," 57 Texas L. Rev. 1018 (1979), abstracted at http://www.utexas.edu/law/journals/tlr/abstracts/Volume%2057/Dyer.htm

But when it passed the Texas version of the UPA, at Prof. Bromberg's urging and through his draftsmanship, the Texas Legislature included a couple of unique sections (originally Tex. Rev. Civ. Stat. Ann. art. 6132b, §§ 28-A & 28-B, since superseded at Tex. Bus. Org. Code § 152.406) specifically designed to deal with the powerful implied-by-law partial ownership of partnership interests in community property states. Pre-UPA cases based on the "aggregate theory" of partnership had implied, and sometimes held, that spouses acquired not just rights to share profits and (to the extent of partnership property) obligations to share losses, but also management rights and liabilities beyond their proportionate share of partnership property upon dissolution.

Prof. Bromberg's custom-tailored community property provisions pushed hard the other way, toward the "entity theory," by treating any interest that a nonpartner spouse acquired by virtue of the Texas community property laws (a creature of the state constitution) to be equivalent to a transfer of a partnership interest (absent ratification, partnership by estoppel, or other agreement by the other partners to take the nonpartner spouse in as a full partner upon, say, divorce). The Texas special provisions also made clear that absent other provisions of the partnership agreement, a partner's divorce would not automatically trigger a dissolution and winding up of the partnership, and that even prior to death or divorce, any ownership by the spouse was purely passive and did not include management rights. (That also fit with the then-evolving concept of "sole-management community property" as a means for defining which spouse was entitled to control property rights even during marriage.)

Prof. Bromberg's work was, I thought, fabulously fair and clear. My law review note was mainly intended to explore the further question of how to fairly treat increases in value of a partnership interest that accrued during a marriage, since at that time (and still, absent a pre-nup or other agreement between spouses), income during a marriage even from separate property owned before the marriage became community property.

Notwithstanding these enlightened special Texas provisions, the Texas courts continued to get it completely wrong about half the time (i.e., by adhering to old aggregate-theory concepts).

Why would anyone ever WANT to write a partnership agreement that permitted one partner to effectively force the others to accept a transferee as a full-fledged partner?