I was interviewed recently by LawFirmAmbition about the most common questions surrounding the topic of becoming a partner in a law firm.
The questions below relate to becoming a partner and the implications of moving on from, or retiring from a Law Firm. You can read the answers to previous questions here:
Trust is vital in partnership, so it should be hoped that the existing partners will put forward what they believe to be a fair offer of partnership. If you accept an offer that you later realise was not offered in good faith, that trust will be broken and the partnership will not operate as effectively as it could, harming both you and the existing partners.
That said, it is human nature to be swayed to offering financial and other terms that best suit one party or the other. This can be particularly so if the existing partners may not remain long in partnership.
It is best practice to engage external support in evaluating an offer. Full due diligence or a valuation exercise would be cost-prohibitive for many in this position. However, a ‘lifting the bonnet’ service from an experienced adviser does usually highlight risks, and provides questions for you to ask of the existing partners based on the specific circumstances.
Notice periods to leave the partnership will likely be longer than those you may have had as an employee; one to two years is typical. That extended notice period may mean that it is more difficult to move, but does not prohibit it. In many cases, bespoke individual agreements are made to release partners earlier.
Some partnerships also have a clause in their partnership deed that prevents the commencement of capital payments to more than, say, one partner in a particular year. This may not prevent you from leaving under the terms of your notice period, but may delay the point at which your capital is repaid to you.
Some partnerships also have restrictive covenants in their partnership deed that attempts to prevent an exiting partner from competing with the firm post exit. For example, this could be by reference to the geography of a new role.
Being a partner may make it more difficult to leave when you want to, but it does make you more marketable as an individual and potentially more attractive to other firms. It is far more likely that you would be able to move straight to another partnership position rather than an employed position if you do move.
A partner moving to another firm may therefore be rewarded more highly than an associate making the same move.
The partnership deed will dictate the particular implications of a partner departure or retirement. In most cases, you would be likely to be entitled for your capital and current account balances to be repaid to you over a period of time, typically anywhere between two and five years.
You may also be entitled to an additional amount of goodwill, particularly if you paid for goodwill on entry, but this is not very common now.
Most partnership capital loans are required to be repaid on retirement. If a capital and interest loan was taken out, the loan may have been repaid by the time of retirement.
If the loan has not been repaid and repayments of capital are due to take place over a period of time, it may be that a replacement loan needs to be taken out to match the period of repayment. This replacement loan could be at a higher rate of interest.
When retiring from the partnership and ceasing work as a self-employed person, overlap relief may be triggered. Depending on the year-end date of your firm and the date on which you commenced self-employment, you may have had a period of trading on which you were taxed twice. That double taxing is termed overlap profits and the relevant amount is carried forward on your personal tax returns each year until you cease self-employment.
In the final period of self-employment, you would obtain relief for the initial double counting by deducting the relevant amount from the profits in your final period. This may be welcome, although depending on the number of years of your self-employment, the time-value of money may have significantly depleted the value of the deduction.
The ongoing risks will depend on the structure of the firm. The risks are lower for limited companies and limited liability partnerships than for traditional unlimited liability partnerships.
Usually outgoing partners receive an indemnity from the ongoing partners against any future claims against the business, but this may not be the case in all situations. Even where there is an indemnity, that protection is only as good as the financial situation of the person providing it.
It is also likely that you would be released from any personal guarantees. The party required to release you may need to ensure that they are left with sufficient protection from the remaining partners before agreeing to the release.
Properly prepared retirement deeds containing appropriate indemnities and releases from obligations are commonly used to provide protection from risk.
In some cases, such deeds are not prepared. Instead, the main partnership deed may contain all of the provisions for retirement.