Are You Liable for Your Business Partner's Debts

In a general partnership, yes: each partner can be made to pay all of the partnership's debts, not just a share, and a creditor can choose which partner to pursue. For your partner's personal debts (their car loan, their credit cards, a judgment against them for something unrelated to the business) the answer is no. Their creditor can reach their share of the business's distributions and nothing of yours.

The first answer changes with the form of the business. An LLC or a registered limited liability partnership puts a wall between the firm's debts and the owners' houses. A personal guarantee, which most small business lenders and landlords ask for, takes the wall down again for that one debt. Below are the rules, with the section of the Uniform Partnership Act (1997) or the uniform LLC act that sets each. States enact these acts under their own numbering and some depart from them, so this is general information; a lawyer in your state should read your agreement and your loan documents.

"Jointly and severally" means the creditor may collect the whole debt from any one partner. The partners' agreement to split losses 50/50 binds the partners to each other; it does not bind the creditor, who never signed it.

The act does give partners one protection that is often missed. A creditor of the partnership has to go after the partnership first. Under §307(d), a judgment creditor cannot levy on a partner's own assets for a partnership debt unless a judgment against the partnership has come back unsatisfied, the partnership is in bankruptcy, the partner agreed to waive the rule, a court finds partnership assets clearly insufficient, or the partner is liable independently (a guarantee, for instance). A judgment against the partnership is also not, by itself, a judgment against any partner (§307(c)). The order is: partnership assets first, then the partners, any of them, for the rest.

A creditor of your partner personally (not of the partnership) cannot collect from you, and cannot seize the partnership's equipment or bank account either. What it can do is ask a court for a charging order against your partner's transferable interest: a lien on the distributions your partner would otherwise receive (§504(a)). The court can later order that interest sold (§504(b)); the buyer becomes a transferee with a right to distributions but no say in running the business. The act makes the charging order the creditor's exclusive remedy against the partner's interest (§504(e)), and the uniform LLC act says the same for LLC members (Iowa Code §489.503 is a typical enactment).

In practice a charging order is a nuisance rather than a disaster: distributions to that partner are diverted to the creditor, and the other partners may redeem the charged interest before foreclosure (§504(c)). Under §601(4)(ii) of the partnership act, a partner whose interest is subject to a charging order that has not been foreclosed can be expelled by the unanimous vote of the others. Two exceptions make a partner's personal debt your problem: you co-signed or guaranteed it, or the partnership itself took on the obligation.

An LLC's debts are the company's alone; a member is not liable for them "solely by reason of being or acting as a member or manager," and failing to observe formalities is not, by itself, a reason to hold a member liable (Iowa Code §489.304, following the uniform act). A general partnership that registers as a limited liability partnership gets the same result for obligations incurred while it is an LLP, "whether arising in contract, tort, or otherwise" (UPA 1997 §306(c)). Some states limit LLPs to licensed professions or give them a narrower shield; the state tables list which.

The shield has three gaps an owner should assume are open:

For two owners choosing between these forms, the Forming section sets the cost of each against the protection it buys.

No filing is needed to form a general partnership. Two or more people carrying on a business as co-owners for profit form one "whether or not the persons intend to form a partnership" (§202(a)), and a person who receives a share of the profits is presumed to be a partner unless the payments were wages, rent, interest, a loan repayment or one of the other listed exceptions (§202(c)(3)). Two friends who start trading under a shared name, split the profit and never file an LLC are general partners, with §306 liability, from the first sale.

Liability can also come from appearance alone. A person who represents themselves as a partner, or lets someone else do so, is liable to anyone who relies on that representation and deals with the business (§308). Business cards, a website listing "partners", or a lease signed as "partner" can be enough.

A new partner is not personally liable for partnership obligations incurred before joining (§306(b)). Their capital contribution is still in the business and can be lost to those old debts; their house cannot.

A departing partner stays liable for debts incurred while a partner; leaving does not discharge them (§703(a)). For two years after leaving, the former partner can also be liable for new obligations to someone who reasonably believed they were still a partner and had no notice that they had left (§703(b)). Filing a statement of dissociation with the state shortens that exposure: third parties are deemed to have notice 90 days after it is filed (§704(c)). A creditor can release a former partner by agreement (§703(c)), and a former partner is released if a creditor who knows of the departure agrees, without the former partner's consent, to materially change the debt's terms (§703(d)).

That is why a buyout agreement should do three things for the person leaving: list the existing debts, have the business and remaining partners indemnify them, and file the statement of dissociation. The steps are in how to buy out a business partner, and the exit terms are better written at the start, as in writing a partnership exit clause. If the business is closing instead, the order in which creditors and partners are paid is in how to dissolve a partnership.

The rule that surprises owners most is not joint and several liability, which most have heard of, but how little paperwork it takes to fall under it. A business with two owners and no filing is a general partnership whether or not either of them chose one, and the cheapest protection available is the state filing that makes it something else.