One post tagged with "general partnerships"

Starting a business with a partner can be an exciting venture, but choosing the right business structure is crucial for your success. One of the simplest and most common structures for multi-owner businesses is the general partnership. This guide will walk you through everything you need to know about general partnerships, helping you decide if this business structure is right for you.

What Is a General Partnership?​

A general partnership is a business arrangement where two or more individuals agree to share ownership, responsibilities, and profits of a business. Unlike more complex business structures, general partnerships are straightforward: each partner typically has equal say in business decisions and shares equally in both the profits and the liabilities of the business.

The beauty of a general partnership lies in its simplicity. You might already be in one without realizing it. If you and a friend started offering freelance services together, or if you and a colleague launched a consulting practice, you've likely formed a general partnership by default, even without formal paperwork.

Understanding Partnership Liability​

Before diving into a general partnership, it's essential to understand the concept of liability. In legal terms, liability refers to the financial and legal responsibility each partner has for the business's debts and obligations.

In a general partnership, liability is shared among all partners. This means if your partner makes a poor business decision that results in debt, you're personally responsible for that debt too. Your personal assets, including your home, car, and savings, could be at risk if the business faces financial troubles or legal action.

This shared liability is perhaps the most critical factor to consider when evaluating whether a general partnership is right for you.

How to Establish a General Partnership​

The Basics​

Technically, forming a general partnership is remarkably simple. In most jurisdictions, you can create a partnership through nothing more than a verbal agreement between partners. Two people agreeing to go into business together can constitute a partnership without filing any paperwork with the state.

However, simple doesn't always mean smart.

The Importance of a Partnership Agreement​

While a handshake agreement might seem sufficient when you're partnering with a trusted friend or family member, it's a recipe for potential disaster. Even the strongest relationships can face strain when money and business decisions are involved.

A written partnership agreement is your safeguard. Think of it as a roadmap for your business relationship that clarifies expectations and provides a framework for resolving disputes.

What Should a Partnership Agreement Include?​

At minimum, your partnership agreement should address:

Essential Elements:

• The official name of your partnership
• How profits and losses will be divided among partners
• The contribution each partner will make (money, time, expertise, or resources)
• Procedures for admitting new partners or removing existing ones
• What happens when a partner wants to exit the business

Additional Provisions:

• The specific nature and scope of your business activities
• The duration of the partnership (if it's not intended to be indefinite)
• Decision-making processes and voting rights
• Rules for resolving disagreements between partners
• Procedures for dissolving the partnership if necessary
• Management responsibilities and authority of each partner
• Rules about taking on additional debt or making major purchases

Getting Legal Help​

While templates are available online, it's wise to have an attorney review or draft your partnership agreement. A lawyer familiar with business law can help you anticipate potential issues and ensure your agreement complies with state laws. This investment upfront can save you thousands in legal fees later if disputes arise.

How General Partnerships Differ from Other Business Structures​

Understanding how general partnerships compare to other business entities can help you make an informed decision.

Limited Partnerships​

A limited partnership includes at least one general partner who manages the business and assumes full liability, plus one or more limited partners. Limited partners invest money in the business but don't participate in day-to-day management. Their liability is restricted to the amount they've invested. If you invest $5,000 as a limited partner and the business fails, creditors can only pursue that$5,000, not your other personal assets.

Limited Liability Partnerships (LLPs)​

Limited liability partnerships offer partners protection from personal liability for the negligent actions of other partners. This structure is particularly popular among professional service firms like law practices, accounting firms, and medical groups. While you're still liable for your own actions and the business's contractual obligations, you're protected from liability arising from another partner's malpractice or negligence.

Corporations​

Corporations provide the strongest liability protection. In a corporation, the business is a separate legal entity from its owners (shareholders). If the corporation faces debts or lawsuits, the owners' personal assets are generally protected. However, corporations are more complex and expensive to form and maintain, requiring more paperwork, formalities, and often higher taxes.

Advantages of Forming a General Partnership​

Simplicity and Low Cost​

General partnerships are incredibly easy to establish. There's no need to file articles of incorporation, pay formation fees to the state, or comply with complex regulatory requirements. You can start operating immediately once you and your partner(s) agree to work together.

Tax Benefits​

General partnerships enjoy "pass-through taxation." The partnership itself doesn't pay income taxes. Instead, profits and losses pass through to the individual partners, who report them on their personal tax returns. This avoids the double taxation that corporations face, where the business pays corporate tax on profits, and then shareholders pay personal tax on dividends.

Pass-through taxation can also be advantageous if your business has losses in its early years, as you can use those losses to offset other personal income on your tax return.

Flexibility​

General partnerships offer significant flexibility in how you structure your business arrangements. Want to split profits 60-40 instead of 50-50? No problem. Want to give one partner more decision-making authority in exchange for less financial contribution? You can negotiate that. As long as all partners agree, you can customize your arrangement to fit your specific situation.

Pooled Resources and Expertise​

Partnerships allow you to combine financial resources, skills, and networks. One partner might contribute capital while another brings industry expertise. This pooling of resources can help your business grow faster than if you went it alone.

Disadvantages and Risks of General Partnerships​

Unlimited Personal Liability​

This is the biggest drawback. As a general partner, you're personally liable for all business debts and obligations, including those created by your partners. If your partner signs a lease, takes out a loan, or makes a poor business decision that results in debt, you're equally responsible. Creditors can come after your personal assets to satisfy business debts.

Joint and Several Liability​

Not only are you liable for business debts, but you can also be held responsible for your partner's negligent actions or wrongful acts committed in the course of business. If your partner causes an accident during a business delivery, gets sued for malpractice, or commits fraud, you could be held liable even if you had no involvement.

Potential for Conflict​

Disagreements between partners are common, especially under the stress of running a business. Conflicts about business direction, financial management, work ethic, or personal issues can threaten the partnership. Without a solid partnership agreement and good communication, these disputes can destroy the business.

Shared Profits​

Every partner has a claim to the profits. Even if you feel you're doing more work than your partner, you'll need to split profits according to your partnership agreement. This can lead to resentment if partners don't contribute equally.

Difficulty Raising Capital​

Investors and lenders may be hesitant to invest in or lend to general partnerships because of the unlimited liability issue. Banks might require personal guarantees, and outside investors often prefer the clearer structure and liability protection of corporations or LLCs.

Is a General Partnership Right for You?​

A general partnership might be the right choice if:

• You're starting a low-risk business with one or more trusted partners
• You want to test a business idea without significant upfront costs
• You need flexibility in how you structure ownership and profit-sharing
• You're comfortable with shared liability
• You want to keep administrative requirements to a minimum

However, you should consider other business structures if:

• Your business involves significant liability risks
• You want to protect your personal assets from business debts
• You're partnering with people you don't know extremely well
• You plan to seek outside investment or loans
• You want your business to continue indefinitely regardless of changes in ownership

Protecting Yourself in a General Partnership​

If you decide a general partnership is right for you, take these steps to protect yourself:

Get Everything in Writing: Never rely on verbal agreements. A comprehensive partnership agreement is essential.

Consider Insurance: General liability insurance, professional liability insurance, and other business insurance policies can provide some protection against common risks.

Keep Business and Personal Finances Separate: Open a business bank account and keep meticulous records. This separation can help protect personal assets in some situations.

Stay Involved: Even if one partner handles day-to-day operations, stay informed about all major business decisions, contracts, and financial obligations.

Communicate Regularly: Hold regular partner meetings to discuss business performance, challenges, and strategic direction. Address conflicts early before they become major problems.

Plan for Exit Scenarios: Your partnership agreement should include clear procedures for what happens when a partner wants out, becomes incapacitated, or dies.

Moving Forward​

A general partnership can be an excellent way to start a business with partners, offering simplicity, tax advantages, and flexibility. However, the unlimited personal liability and potential for conflict mean it's not the right choice for everyone.

Take time to carefully evaluate your business concept, your partners, and your risk tolerance. Consult with an attorney and accountant who can provide personalized advice based on your specific situation. Whether you proceed with a general partnership or choose a different structure, making an informed decision now will set your business up for success in the future.

Remember, you're not locked into a general partnership forever. As your business grows and evolves, you can always transition to a different business structure that better serves your needs.