Forming an Inadvertent Partnership

You intentionally form a Texas corporation, limited liability company or limited partnership by filing a Certificate of Formation with the Texas Secretary of State.

How do you form a Texas general partnership?

Sometimes … without intending to form it at all.

A general partnership is created upon the “association of two or more persons to carry on a business for profit as owners” (Texas Business Organizations Code Section 152.051) “regardless of whether … the persons intend to create a partnership [emphasis added]”!

“Inadvertent partnerships” are created frequently — and their “founders” often wind up in courtrooms arguing about whether they are legally partners with each other or not. Serious consequences can depend upon the answer, because general partners owe each other fiduciary duties, the violation of which can cost one partner dearly and benefit the other partner handsomely.

It is not a question of having a written agreement; an oral agreement can suffice. It isn’t necessary to prove that the agreement constitutes a legally enforceable contract. And it isn’t necessary to establish any agreement at all.

What matters in Texas is whether the relationship of the persons exhibits all — and sometimes less than all — of the five factors listed in TBOC Section 152.052(a):

receipt or right to receive a share of profits of the business;
expression of an intent to be partners in the business;
participation or right to participate in control of the business;
agreement to share or sharing losses of the business or liability for third party claims against the business; and
agreement to contribute or contributing money or property to the business.

There were many “inadvertent partnership” cases decided under Texas common law before Texas adopted its first general partnership statute, and there were many cases decided under the versions of that statute which preceded Chapter 152 of the TBOC. But in 2009, the Texas Supreme Court in Ingram v. Deere, 288 SW 3d 886, rendered an important decision in “a matter of first impression for this Court” : “how many of the [five statutory] factors are required to form a partnership”? The Supreme Court adopted a “totality-of-the-circumstances test” in part at least because the statute does not specify whether there must be proof of all or only some of the factors to establish that a partnership exists, and announced the current test in Texas:

— “an absence of any evidence of the factors will preclude the recognition of a partnership” ( “Even conclusive evidence of only one factor normally will be insufficient to establish the existence of a partnership”)

— “On the other end of the spectrum conclusive evidence of all of the …factors will establish the existence of a partnership as a matter of law.”

— “The challenge of the totality-of-the-circumstances test will be its application between these two points on the continuum.”
And that is why you can find dozens of cases since 2009, because Texas courts have to analyze the many various arrangements people get into with one another and then measure them against these five factors. Find all five: partnership! Find none or just one: no partnership! But find two: maybe a partnership, especially if the two are the sharing of profits and business control (the two elements given the greatest weight). Find three: likely a partnership; but if none of them are profit sharing or shared business control, likely not a partnership. Find four: almost certainly a partnership, especially if the missing factor is the sharing of losses or liabilities (the element afforded the least weight).

That’s also why you can find cases that don’t seem reconcilable with each other, where one court determines that a partnership definitely was formed but another court confronting similar facts concludes there was no partnership.

But that story is for another post.

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