Scottish Law Commission (Reports)

PART XIV

TRANSITIONAL PROVISIONS

Introduction

14.1     In this Part we deal with the means by which the provisions of a new Partnerships Act may be introduced. There is a risk that some parties' contractual arrangements may be altered by the implementation of our recommendations which would change both the obligatory rules of partnership and the default rules which govern partners' relations with each other. There is also a need to adapt the rules relating to limited partnerships, including the requirements of registration, to the new law. We therefore require to address the issue of transitional arrangements.

Our provisional proposals

14.2     In the Joint Consultation Paper we suggested that the introduction of continuing legal personality by operation of law would be a clear change from the existing position in English law.^[1] We set out three options.
14.3     The first was to introduce legal personality and a default rule of continuity of partnership to all partnerships from the commencement of legislation implementing the reforms. The second option was to delay the introduction of both legal personality and the default rule of continuity of partnership until a fixed date some time after the commencement of the legislation, to allow partnerships which wished to do so to organise their affairs in the light of the proposed reform. The third option was to apply the new provisions only to partnerships created after the new law came into force.^[2]
14.4     We examined each of the options. The first option had the drawback that it would involve retrospective legislation which would re-write parties' contracts and possibly affect third parties who let land and buildings to a partnership. Our provisional view was that the new law should not be introduced in this manner.
14.5     The second option, which we provisionally favoured, was to provide a transitional period of two or three years for the application of the new law to partnerships. This option avoided the instantaneous alteration of parties' rights and had the advantage of creating a degree of certainty, as after a fixed date the new legislation would apply to all partnerships. This was the approach adopted in RUPA.^[3] We recognised that it might not be possible for partners to reach consensus on the re-negotiation of the terms of their partnership agreement and that, as a result, there was a risk that some partnerships might be dissolved during the transitional period. We asked consultees whether a partner in a partnership which exists at the date of commencement of the legislation should have the option during the transitional period to elect that the partnership should not have continuity of partnership.^[4] A partner could exercise the option and avoid having to dissolve an existing partnership.
14.6     The third option, to apply the new law only to partnerships created after the new law came into force, avoided re-writing parties' contracts. But there could be doubt as to when a partnership was formed or reformed after a change of partner. There was thus a risk of uncertainty as to whether a partnership was subject to the new rules. We were not sure if the uncertainty would be sufficiently widespread as to give rise to practical difficulties but invited comments on all of the options.

Consultation

14.7     In both jurisdictions there was general support for our provisional view in favour of a transitional period (the second option).^[5] There was only limited opposition to the proposal. One consultee opposed the imposition of new rules on existing partnerships. Another consultee favoured a modification of option 3 so that the new default rules would not apply to a partnership until it chose to adopt all or any of the new rules. There was only limited support for option 1, which one consultee suggested would be practicable if there were a delay between enactment and implementation and publicity in the interim.
14.8     The APP supported a modified version of option 3 as they were concerned about altering the rights of partners who had deliberately chosen to be governed by the existing default code which allowed a partner to seek a winding up of a partnership on death or withdrawal. They suggested that separate legal personality should be introduced to all partnerships after a transitional period but that the new default rules should apply only to new partnerships formed after the commencement of the legislation. They recognised that their approach created problems and suggested solutions to those problems. The first problem was to identify when an old partnership had become a new one and thus subject to the new default rules. The solution which they suggested was that the old default rules should continue to apply until either (a) the partners decided that the new rules should apply or (b) the business carried on by the partners ceased and a new business commenced (even if carried on by the same partners). The second problem was how to ascertain whether a pre-existing partnership, which had acquired separate legal personality, had continuity of partnership after it had acquired legal personality. The solution which the APP proposed was that on a change of partners a partnership would have continuity of partnership unless the partners decided that there should be a change of personality. Third parties dealing with a partnership could treat the partnership as continuing unless they had notice of a change of personality.
14.9     In Scotland, the Faculty of Advocates preferred option 3 as they thought that the difficulties created by the uncertainty which we apprehended would be very limited. If option 3 were not preferred, they supported option 2. Another consultee opposed option 3, arguing that the old default rules required to be replaced as soon as possible. He favoured option 2 but suggested that there required to be some protection for a partner or third party who was materially prejudiced by the introduction of the new rules but who was unable to reach agreement with the other parties as to the alteration of the relevant contractual arrangements. If option 2 were adopted, both the Faculty of Advocates and David Guild supported the idea of giving a partner in an existing partnership the right to elect that the partnership should not have continuity of partnership.^[6]
14.10     There was general support for a transitional period of two years if option 2 were adopted. The Partnership Advisory Group of the Scottish Law Commission suggested that the court should have power to make an order during the transitional period to extend the two-year period by one year where a partner would suffer severe prejudice as a result of the introduction of continuity of personality as a default rule.
14.11     Since the end of the consultation period we have had the benefit of further views in the partnership law conference in London in June 2001 and in the seminar in Manchester in December 2001. We have also discussed the issues with Roderick Banks and with representatives of the APP. Those views and discussions have alerted us to the need to provide a mechanism to protect the interests of partners who have deliberately adopted the existing default code as their partnership agreement so that they can dissolve and wind up a partnership on death or withdrawal from the partnership. It is not just the issue of continuity of partnership but also other rules of the proposed default code which alter the rights of existing partners. In particular, the restriction on the right of an outgoing partner to insist on the winding up of a partnership, which is an important component of our recommendations for continuity of partnership, may be contrary to the wishes of an existing partner and contrary to his existing contractual rights. Where partners have entered into a partnership contract which opts out of the existing default code, the rules of that partnership agreement will prevail over the new default code. There no problem arises. The mischief is where the parties have knowingly adopted the existing default code but have not entered into an agreement contracting out of it.
14.12     There was therefore considerable support for the idea of allowing a partner to elect to preserve the existing terms of the default code of the 1890 Act as the contractual terms which govern inter-partner relations within a partnership. This would allow a partner, who had not been able to reach agreement with other partners on the express terms of a new partnership agreement before the end of the transitional period, in effect to veto the alteration of his rights and obligations which the imposition of a new default code would entail. As the election would merely preserve the status quo of the internal regulation of the partnership, there would be no need to keep the 1890 Act on the statute book. Its terms would be preserved as a matter of contract between the partners to govern their relations with each other.

Reform recommendations

14.13     We recognise the advantage of allowing parties to review their contractual arrangements before the introduction of separate legal personality and a new default code which provides for continuity of partnership on changes of partners. While it may be only rarely that partners deliberately adopt particular provisions of the existing default code without entering into a written agreement which sets out the terms of their contract, it is necessary to cater for such circumstances.
14.14     In the Joint Consultation Paper we had treated the introduction of continuity of partnership as the main issue which transitional provisions required to address; but consultees have persuaded us that that is only one aspect of the problem. The issue which appears to have caused certain consultees the greatest concern is the possible loss of the existing default right of a partner to insist on the winding up of a partnership on his withdrawal. It is an integral part of our recommendations encouraging continuity of partnership that that right should be curtailed in a reformed default code. We believe that most partners will not be alarmed by our recommendations in relation to the right of the outgoing partner as these reflect what many partners sign up to in their partnership agreements.^[7] But we see force in the suggestion that we should not impose the new default code on partnerships or individual partners who do not wish their affairs to be regulated by that code.
14.15     To protect the interests of such partnerships and partners we think that there should be a transitional period of two years^[8] after the commencement of legislation before the new rules contained in the legislation apply to all partnerships.^[9] This period should be sufficient to give partners an opportunity to consider the changes to the rules of partnership law which the legislation will introduce and to amend their partnership agreements. Partnerships formed after the commencement of the legislation and before the end of the transitional period will be subject to the new rules from their formation, except in so far as they contract out of the default rules.
14.16     For the purposes of the transitional provisions we recommend that a partnership will not be treated as being formed after the commencement of the legislation merely by a "technical dissolution" during the transitional period. In other words, if the "new" partnership comes into being during the transitional period merely as a result of the withdrawal of a partner from a pre-existing partnership or any other change in membership of that partnership, such as the assumption of a new partner, the new provisions should not apply during the remainder of the transitional period. This can be done by providing that, if on a change of membership during the transitional period, the "new" partnership (a) has substantially the same membership and (b) succeeds to the whole or substantially the whole business of the "old" partnership, the new provisions should not apply to the "new" partnership until the end of the transitional period. There is a precedent for using the concept of "substantially the same" membership and business in relation to the technical dissolution of a partnership in the Financial Services and Markets Act 2000.^[10] We think that the concept, although vague, is satisfactory, particularly where it will be effective only during the transitional period.
14.17     Existing partnerships may elect, by unanimous decision, to be governed by the provisions of the new Act during the transitional period by altering their partnership agreements. For the sake of certainty we think that the election should be in writing and signed by the partners. At the end of the transitional period the provisions of the new Act will apply to all partnerships, except in so far as partnerships contract out of the default rules.^[11] This will promote certainty; after the transitional period the 1890 Act will cease to govern partnerships and parties can look to the new legislation both for obligatory rules of partnership law and for the default code.^[12]
14.18     We think that it is important to protect the partner who wishes to preserve his rights under the existing default code but who is not able to persuade his partners to agree to terms on which to contract out of the new default code. We are not persuaded that it is necessary to adopt a complex scheme such as that suggested by the APP.^[13] It is sufficient if a partner is given a veto against the adoption of the new default rules. We therefore recommend that a partner should have the right during the transition period to elect to preserve the existing rules of the default code of the 1890 Act which govern internal relations within the partnership. If the partnership has an agreement which supplants the existing default code, the terms of that agreement will supplant the new default code. In that circumstance the partner will not need to act to preserve his existing rights. It is only where the partner wishes to preserve rights which he has under the existing default code that he requires to make the election. The effect of the election would be to keep in being the default rules of the 1890 Act as terms of the agreement which governs the internal relations of the partnership in question.^[14]
14.19     We are not aware of circumstances which suggest that similar protection should be given to third parties who have transacted with partnerships on the understanding that there is no continuity of partnership. In theory, an owner of land or buildings who granted a lease to a partnership could be prejudiced if the partnership obtained continuity of partnership and thus continuing separate legal personality during the currency of the lease. The possible mischief is as follows. Under existing English law (and possibly Scots law) a change of partners would dissolve the partnership and, depending on the terms of the lease, could bring the lease to an end. Continuity of personality would (in Scots law) preserve the partnership as tenant and thus keep the lease in existence. But we doubt whether this is a significant practical problem as a landlord who wished to terminate the lease on a change of partners would be likely to include a provision to that effect in the lease. We also see no need to make special provision for farming partnerships in Scottish agricultural holdings, which we discussed in the Joint Consultation Paper.^[15] If (as we recommend) the right to elect to preserve the default code is given to a partner (whether a general partner or a limited partner) in a limited partnership as well as to a partner in a general partnership, this should provide sufficient protection to landlords who enter into agricultural partnerships with farmers.
14.20     The draft Bill contains clauses^[16] enabling the Secretary of State to make transitional provisions, consequential amendments and savings by statutory instrument. We outline below the structure of the transitional provisions which we consider to be appropriate and the provisions of the draft Bill which empower the Secretary of State to make the relevant regulations.
14.21     We therefore recommend that:

(1) There should be a transitional period of two years starting with the commencement date of the new Partnerships Act; (Draft Bill, cl 79(4))

(2) During the transitional period a partnership formed before the commencement date ("an old partnership") will, subject to (3) below, continue to be governed by the mandatory and default rules of the 1890 Act; (Draft Bill, cl 79(1))

(3) If during the transitional period an old partnership decides, by unanimous decision which is signed and in writing, that the provisions of the new Partnerships Act should apply to it before the end of the transitional period, the new provisions will apply from the date of, or provided for in, that decision; (Draft Bill, cl 79(3)(b))

(4) At the end of the transitional period the provisions of the new Partnerships Act will apply to all partnerships whenever formed; (Draft Bill, cl 79(3)(a))

(5) A partner in an old partnership may, during the transitional period unilaterally elect that the partnership shall after the end of the transitional period continue to be governed by the default rules of the 1890 Act. The election must be in writing and be signed by the electing partner; (Draft Bill, cl 79(3)(d))

(6) Partnerships formed after the commencement date, whether or not during the transitional period, will, from their commencement, be subject to the provisions (including, where applicable, the new default rules) of the new Partnerships Act; (Draft Bill, cl 79(1) and (2))

(7) A "new" partnership, which is created during the transitional period merely by a change in membership of an old partnership, will not be treated as formed after the commencement date (for the purposes of (6) above) provided (a) its membership is substantially the same as the old partnership and (b) it succeeds to the whole or substantially the whole of the business of the old partnership. This rule applies also to subsequent "new" partnerships so created during the transitional period; (Draft Bill, cl 79(3)(c))

(8) Neither the default scheme under the 1890 Act nor the default scheme under the new Partnerships Act will apply to a partnership whose agreement provides for different terms.

Partnership property: transitional provisions

14.22     There may be circumstances, particularly in England, in which an existing partnership has arranged that partnership property is held in trust for named partners. Such property, which is partnership property under the 1890 Act, would not be partnership property under the draft Bill because it is held in trust for persons other than the partnership entity.^[17] We think that it is necessary therefore to have a transitional provision to allow such property to be treated as partnership property.
14.23     As there is an adequate mechanism in the draft Bill for holding property as partnership property in the future, we need a provision only for property which is presently partnership property but which would not be partnership property under the draft Bill. We think that the appropriate mechanism is to provide that property of an old partnership which is partnership property on the date when the new Partnerships Act first applies to that partnership will remain partnership property under the new Partnerships Act. We think that the power of the Secretary of State in the draft Bill to make transitional provisions is wide enough to include such a provision.
14.24     We therefore recommend that there should be a transitional provision that the partnership property of an old partnership on the date when the provisions of the Partnerships Act first apply to that partnership will be treated as partnership property under the new Partnerships Act for so long as it would have been treated as partnership property under the 1890 Act. (Draft Bill, cl 79(2))

Limited partnerships and special limited partnerships: transitional provisions

14.25     We propose that limited partnerships (which we discuss in parts XV to XVIII of this report) should have the benefit of a similar transitional regime to that which we propose for general partnerships in paragraph 14.21 above. Thus, for example, pre-existing limited partnerships may continue to be governed by the 1907 Act in the two-year transition period but may opt to be governed by the new law before the expiry of that period. All new limited partnerships, including pre-existing general partnerships which decide to become limited partnerships, will require to register under the new law after the commencement date of the Partnerships Act.
14.26     In addition, we require to allow pre-existing limited partnerships to use the "LP" suffix during the transitional period.^[18]
14.27     As we propose to change the information relating to limited partnerships which must be contained in the register of companies, we require to empower the Registrar of Companies to take the necessary steps to amend the register in relation to pre-existing limited partnerships and to issue registration certificates to pre-existing limited partnerships which opt to be governed by the new law. We also propose that the registrar should be empowered to note on the register that a pre-existing limited partnership has opted to be governed by the new law.
14.28     We will also require transitional provisions for special limited partnerships.^[19] In particular, there has to be a mechanism by which existing limited partnerships which wish to register as special limited partnerships may do so during the transitional period and provisions to enable the registrar to register them as such and issue new registration certificates.
14.29     Again, the draft Bill contains clauses enabling the Secretary of State to make the necessary transitional provisions by statutory instrument.^[20]

Note 1    In this context we were concerned not only with the issue of separate legal personality which we envisaged would be a mandatory characteristic of all partnerships but with continuity of personality which would be a default rule.    [Back]

Note 2    Joint Consultation Paper, paras 4.46 – 4.56.    [Back]

Note 3    RUPA, s 1006.    [Back]

Note 4    The issue of legal personality is separate from that of continuity of personality. The first will be mandatory; the second will be a default rule. In the Joint Consultation Paper we addressed the particular problems of landlords and tenants in Scottish agricultural holdings and concentrated on the issue of continuity of personality. As a result of the consultation exercise and further advice we have broadened our proposals to include all of the default rules. See paras 14.11 – 14.12 below.     [Back]

Note 5    Eleven out of fourteen consultees in England and Wales who responded to the questions supported option 2; the equivalent figures in Scotland were seven out of eleven.    [Back]

Note 6    While there was no support for this proposal among English consultees, the City of Westminster Law Society and Holborn Law Society and Nick Openshaw suggested that a partner should have the right to require the partnership to opt out of the new default rules. Further discussions and advice after the end of the consultation period disclosed wider support for this proposal. See paras 14.11 – 14.12 below.     [Back]

Note 7    See Part VIII above.    [Back]

Note 8    States which have adopted RUPA have selected transitional periods of various lengths ranging from 21 days in West Virginia to 5 years in Texas. But several states, including Florida, have adopted a two-year period.     [Back]

Note 9    The default rules will apply only to the extent that the partners have not agreed otherwise or a partner has elected to preserve the existing default rules.     [Back]

Note 10    Section 32 of the Financial Services and Markets Act 2000 provides that an authorisation is not affected by a change in the membership of a partnership and that if an authorised partnership is dissolved its authorisation continues to have effect in relation to any firm which succeeds to the business of the dissolved firm. Section 32(3) provides that a firm succeeds to the business of another firm only if (a) the members of the resulting firm are substantially the same as those of the former firm and (b) the succession is to the whole or substantially the whole of the business of the former firm.    [Back]

Note 11    If the partners in an existing partnership have entered into a partnership agreement which contracts out of the default rules of the 1890 Act, that agreement will continue to have effect. The terms of the partnership agreement will displace the new default rules to the extent that they are inconsistent with those default rules.    [Back]

Note 12    The 1890 Act will remain relevant to those partnerships which have adopted the terms of that Act to govern the rights and obligations of partners in relation to each other. But that will simply be a question of contract and the 1890 Act can be repealed in Great Britain (but not Northern Ireland) with effect from the end of the transitional period.    [Back]

Note 13    See para 14.8 above.    [Back]

Note 14    We think that such a veto is consistent with principle. It reflects the fact that all the partners originally agreed (tacitly or expressly) that their internal relations should be governed by the 1890 Act default code. In the absence of a like agreement that the new default rules should apply (evidenced by the partner’s veto) the original agreement must continue.     [Back]

Note 15    Joint Consultation Paper, paras 4.49 and 4.54.    [Back]

Note 16    Clauses 78 and 79.    [Back]

Note 17    See the draft Bill, cl 17.    [Back]

Note 18    Otherwise the pre-existing limited partnerships, which are not governed by the new law during the transitional period and which used a suffix “limited partnership” or “LP”, might be guilty of an offence under cl 64 of the draft Bill. See para 15.78 below.    [Back]

Note 19    Draft Bill, cl 73 and Sched 10.    [Back]

Note 20    Draft Bill, cl 79(3)(e).    [Back]