Partnerships

Another option for organizing a business is to form a partnership. A partnership is a legal association of two or more people as co-owners of a business for profit. You and your partners would share the profits and losses of the business and perhaps the management responsibilities as well. Your partnership might remain a small, two-person operation, or might grow into an international business with thousands of employees.

However, partnerships are the least used form of business organization, representing just 8 percent of U.S. businesses. Moreover, partnerships account for only 10 percent of the profits earned by U.S. businesses. They are typically larger than sole proprietorships but smaller than corporations.

There are three basic types of partnerships: general partnership, limited partnership, and limited liability partnership. A general partnership involves a complete sharing in the management of a business. In a general partnership, each partner has unlimited liability for the debts of the business. Professionals such as lawyers, accountants, dentists, and architects often join together in general partnerships.

In a limited partnership, one or more people act as general partners who run the business, while the remaining partners are passive investors (that is, they are not involved in managing the business). These partners are called limited partners because their liability is limited to the amount of their investment in the business. Popular examples are oil-drilling partnerships and real-estate partnerships.

A limited liability partnership (LLP) is a partnership in which all partners may have limited liability. LLP is essentially a general partnership in form, with one important difference that an LLP provides each of its individual partners protection against personal liability. Limited liability partnerships are distinct from limited partnerships which require at least one unlimited partner and allow others to assume the role of passive and limited liability investors. LLP is more suited for businesses where all investors wish to take an active role in management. LLP is the newest form of partnership having great prospects for businesses.

Partnerships are easy to form; when organizing a business there should be a partnership agreement – the legal document that spells out the partners’ rights and responsibilities. A key element of the partnership agreement is the buy/sell agreement, which defines what will happen if one of the partners dies.

In some respects, partnerships are superior to sole proprietorships, largely because there’s strength in numbers. When a business has several partners, it has the benefit of a combination of talents and skills and pooled financial resources. Partnerships have greater earning power and better credit ratings because the partners have more combined wealth. The diversity of skills in a partnership makes it possible for the business to be operated by a management team of specialists and professionals. Each partner can specialize in a particular area of expertise such as marketing, production, accounting, or service. All partners pay taxes at the income tax rate for individuals.

Partnerships also have a number of disadvantages: (1) general partners have unlimited liability for the debts of a partnership; (2) partners are responsible for each others’ decisions; (3) interpersonal problems often arise as each partner wants to be responsible for managing the business; (4) the death of one partner requires a new partnership agreement; (5) partnerships are difficult to dissolve.