Successful business partnerships usually feature good working relations between the partners. These relationships, like any relationship, don't always last. In some cases, you may end up in a situation where some of the partners decide they want to expel a particular partner.
Getting expelled from a partnership is like being permanently expelled from school—you’re kicked out and can’t come back. However, partners need to take care when they expel one of their own. The expelling partners can be legally liable for a wrongful expulsion, as we cover below.
Grounds for Expelling a Partner
Ideally, the grounds for expelling a partner from the partnership will be set forth in detail in the partnership agreement. The agreement might provide that a partner may be expelled upon the vote of the other partners for any reason or no reason. Or, it might specify certain reasons for expulsion, such as:
- breaching the partnership agreement or otherwise failing to carry out the partner’s obligations under the agreement
- being charged with, or convicted of, a crime
- professional misconduct, or
- filing for bankruptcy.
The agreement should also specify how the decision to expel is to be made—for example, whether a majority vote is enough or a unanimous vote (not counting the partner to be expelled) will be required.
When There’s No Partnership Agreement to Turn To
Unfortunately, not all partnership agreements address expulsion; some partners don't even have a written partnership agreement. In such cases, state partnership law will say whether a partner can be expelled and what happens upon the expulsion of a partner.
Most states have adopted a version of the Revised Uniform Partnership Act of 1997 (RUPA). Under RUPA, even if expulsion isn’t authorized by the partnership agreement, the partners may expel a fellow partner by unanimous vote if:
- the partner transfers substantially all of their partnership interest (other than as security for a loan)
- circumstances make it unlawful to carry on the business with that partner
- a partner that’s a corporation stops being a corporation in good standing
- a partner of the partnership that is itself a partnership has been dissolved and its business is being wound up, or
- the partner’s interest in the partnership becomes subject to a charging order.
In addition, in most states, the partnership itself, or any individual partner, may go to court and obtain a court order expelling a partner if:
- the partner engages in wrongful conduct that adversely and materially affects the partnership business
- the partner materially and willfully breaches the partnership agreement, or
- the partner’s conduct makes it not reasonably practicable to carry on the partnership business with that partner.
If your partnership agreement doesn’t specify the ground rules for expulsion, or if you don’t have a partnership agreement, check your state’s partnership laws for the default rules.
What Happens After a Partner Is Expelled?
Unless the partnership agreement states otherwise, the expulsion of a partner doesn’t trigger the automatic dissolution of the partnership. A majority of the remaining partners can elect to continue or dissolve the partnership.
If a majority of the partners vote to dissolve the partnership, the business will have to be wound up and terminated. (See Winding Up Business and Distributing Assets.) In a dissolution and winding-up after an expulsion, all partners will obtain a share of whatever’s left after the partnership debts are paid.
Buying Out an Expelled Partner
If the partnership business is continued by the remaining partners, they’ll need to buy out the expelled partner. First, the expelled partner must be provided with a complete accounting of the partnership (balance sheet and income statement). Then the expelled partner will have to be paid for the value of their partnership interest.
A good partnership agreement will address partner buyouts, including how partnership interests will be valued. Partnership valuations can be complicated, but they fall into two main categories:
- Liquidation value (what would be left after a hypothetical sale of all partnership assets and payment of all partnership debts), and
- Value as a going concern (usually involving a formula, such as a multiple of past or current year profits, or based on the current value of projected profits or cash flow).
The partnership agreement should also state whether any outside professionals, such as business appraisers or CPAs, will be engaged in a valuation. It should additionally specify how the purchase price will be paid (such as in cash, with a promissory note, or by a combination of the two).
If the partnership agreement doesn’t address partner buyouts, or if there’s no partnership agreement, state partnership law will control. State laws tend to require that the expelled partner be paid the fair market value of their partnership interest without dictating how that value should be determined.
Unlawful Expulsions
If a partnership agreement exists, partner expulsions must follow the terms of the agreement. Even if an expulsion is permitted by the partnership agreement or by state law, it must still be done in good faith.
Partners have a fiduciary relationship with each other, meaning they must always act in good faith and refrain from taking any advantage of one another. (See General Partnership and Fiduciary Duties.)
Bad Faith Expulsions
One example of bad faith is expelling a partner for economically predatory reasons—that is, kicking out a partner because it economically benefits the other partners, not because that partner did anything wrong. Another example is expelling a partner because they complain about wrongdoing by other partners.
Discriminatory Expulsions
In addition, an expulsion is generally unlawful if it involves discrimination against a partner on the grounds of:
- sex
- gender reassignment
- disability
- religion or belief
- sexual orientation
- age, or
- race.
Consequences of an Unlawful Expulsion
A partner can fight to remain in a partnership by bringing legal action to prevent their expulsion. A partner who feels that they have been wrongfully expelled can bring a lawsuit for wrongful expulsion.
If you’re contemplating expelling one of your partners, consider consulting a business attorney before acting. By the same token, if you’re a partner facing the threat of expulsion or if you feel that you’ve been wrongfully expelled, consider consulting a business attorney to assess any recourse you might have.