Understanding what is a partnership is essential if you’re considering this as your business entity. We’ll outline the three most common types of partnerships.
In business, you can’t always go it alone. There are a number of complexities involved with running a business and these complexities may require strategic partnerships. In certain instances, two sole proprietors will come together in forming a partnership in the form of a joint ownership.
But, just as there are different types of business ventures there will be different types of legal partnership agreements. Herein, the three most common partnership entities will be examined – what is a partnership and what does it mean for you…
The most common partnership is a general partnership and this involves two or more individuals coming together in joint ownership of the business. Unlike LLC’s or corporations, there is no mandate that partnerships must be filed with the state.
All profits and losses will either be shared equally by the partners or in percentage amounts relative to his or her personal ownership of the company. Of course, each individual will be required to pay personal income tax on their profit earnings from the business.
There is one other area that must be understood when it comes to general partnerships: all liabilities and debts of the business are transferred to the personal assets of the partners. As such, a general partnership seeking liability protection may wish to seek one of the other types of partnership agreements available.
What is a Partnership – Limited Partnership
Then, there is the limited partnership. What this refers to is a variant on the general partnership where one or more general partners operates the business and also assumes the mantel of personal liability for the business.
The remaining partners are generally investors who do not take any active role in the management or operation of the business. In addition, the amount of personal liability the investors play in the business will be limited based upon how much they have invested into the business.
This is probably the most popular option for those looking for silent partners to share in the financing of the business while not involving themselves in the day to day operations.
Limited Liability Partnership
The third type of partnership is a Limited Liability Partnership (LLP). The LLP is basically the same as a General Partnership with the most critical difference being the fact that the partners are not personally liable for debts or negligence resulting from the operation of the business.
However, partners can be held liable for the negligence they were directly involved with or due to the negligence of employees whom they supervised. While this type of partnership does provide a number of liability protections it certainly does not provide complete liability protection.
Since limited partnerships and limited liability partnerships involve a certain degree of legal asset protection then they must be filed with the secretary of state’s office. The process for this is not difficult and it comes with nominal fees.
In terms of taxation related issues, all three of these modules involve a pass through taxation method where the income derived from the partnerships is reported on the individual income tax returns of the partners. There is no need to file a business tax return separate from the individual tax returns.
Learning what is a partnership and understanding the different types will help you make the decision whether this is the right entity structure for your business. While the decision is ultimately yours based on your business needs, the trend has been to move away from partnerships into LLC and corporate structures.