November 2021

• Regardless of the type of entity you are forming, you should always have an operating/partnership agreement.

• The agreement will help dictate the rights and responsibilities of all the partners/members of the entity.

• And when setting up the agreement, its essential to have some specific clauses that govern important parts of the entity.

A few weeks ago in this blog, I wrote about the importance of having written vendor agreements. And I wrote that there is so much important information to include in the agreements that I would have to re-visit the details in a later article. Well guess what? Is today that day? No. No it is not.

But I am writing about a similar topic. Once again I’m going to stress the importance of having a written agreement. But this time, instead of a vendor agreement, it’s the importance of having a written partnership agreement to govern the details of your relationship with your partners.

I don’t currently have any partners at Bukowski Law, but even without any partners, I still have a written operating agreement. Because when setting up a company or partnership*, we always think that that entity is going to last forever along with the good times. But unfortunately, that is not always reality. Things happen and partnerships break up. And when they do, you definitely want to know what everyone’s rights and responsibilities are. So its vital to have a written partnership agreement to spell those out.

Why is a Partnership Agreement Important

I have had lots of conversations with real estate investors about what is required in a partnership agreement and why it is important. Typically the most push back happens when the investor is just investing with one or two other people – especially when they are close friends or family. But this is often when it is most important to have a written partnership agreement.

When a client is investing in real estate, for slight tax benefits, we generally recommend setting up a limited partnership as the single purpose entity (SPE) to own the property. In a typical structure, we often then recommend a limited liability company as the general partner and/or investment entity for our client. And with all of those entities, we of course strongly recommend having an operating agreement.

The partnership/operating agreement is vital because if anything does go wrong, the terms of the agreement will dictate the rights and responsibilities of all of the partners. It will help resolve disputes, divide up the ownership, and hopefully avoid costly litigation. And while there are some rules under Texas statutes, owners generally have the flexibility to dictate the partnership terms when drafting the agreements.

Important Partnership Agreement Clauses

While you can generally include any clauses in a partnership agreement that you want, there are some important categories of clauses that all agreements should contain. Some of those are:

• Rights and powers of the general partner – Its important to dictate what controls the GP has on a daily basis, what it needs approval to do, when the limited partners can step in and remove the GP if necessary, etc.

• Limitations on the limited partners – Limited partners have limited liability precisely because they do not control the day to day activities of the partnership. But that should be spelled out clearly in the partnership agreement – along with any authority they have to vote for special powers, remove the GP, etc.

• Tax issues – Its important to set out the tax implications of the cash flows from the deal. We often consult with a tax accountant on these issues.

• Contribution/ownership – The agreement must contain the contributions from each partner and the resulting ownership of the entity that each partner has.

• Distribution of proceeds – This may be the most important part of the partnership agreement – how does everyone get paid? When the deal is sold, what are the waterfall payments? That should be included in the agreement.

As you can see, the partnership agreement is essential to keeping an orderly and functioning entity. Even with just a couple of partners, its extremely important to have an agreement that dictates the rights and responsibilities of all parties. So if you are putting together an entity and need help with the operating agreement, give us a call and let us help.

*In this article, I’m writing about partnership agreements because that is the usual entity form we use when setting up a single purpose entity for investment purposes. But the same principles work for any other type of entity – LLC, corporation, etc. In these instances, you can just substitute operating agreement or company agreement for partnership agreement.

• With the rapid growth of Texas, we have seen a lot more property owner/contractor disputes lately.

• It is EXTREMELY important, therefore, to make sure your contractor agreements are in writing.

• The definition of a written agreement can be very broad and encompass a lot of different types of writings.

Lately, we have been seeing a lot more disputes between property owners and contractors than we normally do. I have some theories about why this is true. Texas is basically a tinderbox for contractor/property owner disputes because –

• Texas is growing at a rapid pace and, as a result, developers and property owners are working hard to try to meet the increasing demand for housing, office space, retail, etc.;

• That increased demand has allowed unqualified general contractors to get hired for bigger jobs; and

• The overall labor shortage has hurt contractors looking for subs.

As a result, people are calling our office on a weekly basis to ask us to help resolve their contractor disputes. Now don’t get me wrong – I always appreciate the work. Its why we are here, after all. (On a work basis – not an existential one).

But if we can help you avoid some of the frustration of fighting with contractors, we certainly would like to do so. And then you can get back to hiring us to help you buy more properties.

So that’s what this week’s blog entry is about – contractor agreements and what is important to help avoid disputes. Now, we are not going to cover everything – there’s just too much. So we will have to circle back to this issue in a few weeks to finish our discussion.

Write that Stuff Down

I have lived in Texas all but two years since 2001. So I get it. I understand how a lot of people like to do business here. A handshake was good enough for your grandfather and its good enough for you. Except its not.

I cannot stress this enough – please make sure all of your agreements are in writing. PLEASE MAKE SURE ALL OF YOUR AGREEMENTS IN WRITING.

First, its quite possible that your contractor agreements are not enforceable unless they are in writing. If you are not familiar, most states (including Texas) have a Statute of Frauds (“SoF”). Under the SoF, certain agreements HAVE to be in writing and signed by the person against whom they are to be enforced. There are two specific contracts that are covered that may affect property owners –

• Contracts that will not be completed within one year; and

• Sales of real estate (though not contracts that are just incidental to real estate).

So its entirely possible that your vendor agreement is not even enforceable unless it is in writing.

But, of course, even if a verbal agreement is enforceable, its still a terrible idea. Its way too easy for two sides to disagree on what is required from the contractor if the agreement is verbal. And there is no very difficult to determine a) if there was a breach of the agreement and b) if there was a breach, what is the remedy?

So once again, please make sure your contractor agreements are in writing.

But What is a Writing?

If you do not have a ten page explicit agreement with your contractor, do not panic. You may have more of a contract that you think.

Texas has adopted the Uniform Electronic Transactions Act. That means that electronic signatures are valid and enforceable. I’m sure you already knew that – you probably use something like Docusign all the time.

But it also means that there are other electronic documents that can constitute a written agreement. For example, Texas Courts have interpreted the UETA to mean that emails are sufficient to constitute an agreement. And it is certainly possible that text messages could form the basis of a written agreement. And for both emails and text messages, they do not have to be in a single place. Multiple emails or texts could theoretically make up a written agreement.

A contract only needs three things –

• Offer by one party;

• Acceptance by the other; and

• Consideration (which is an entire separate topic that I will cover at some point).

And because electronic signatures are accepted in Texas, we can look to a lot of different areas to determine whether there was an offer, acceptance, and consideration.

Well we didn’t get very far into the details of what is important in a contractor agreement. But I hope its clear now that – at the least – they should be in writing.