There are two kinds of partnerships: General partnerships, and Limited partnerships. General partnerships are created when two or more individuals agree to create a business. Each partner contributes money, property, skill, or labor to the business and equally shares the business assets, profits, and losses. Limited partnerships are created by following the specific procedures set out by state statutes. Furthermore, many states and localities require businesses to obtain business licenses or permits before they can begin operation.
In a general partnership, partnership agreements dictate the percentage of the business and profits each partner owns. If an agreement does not exist or if the agreement fails to specify ownership, each partner will own an equal share of the business profits and liabilities.
Partnership agreements should also designate who controls and manages the business. If no agreement exists or if the agreement does not specify control, all the general partners will share equal business control and management rights. That is, all partners must consent and agree to partnership business decisions.
However, with respect to contracts and legal obligations, any partner can bind the partnership and the individual partners without their approval.
In a limited partnership, the general partners handle the management and business decisions. However, to protect the limited partnership, state law limits the amount of control and managerial discretion each general partner has.
While a general partnership can conduct business as a separate legal entity, the general partners are still jointly and severally liable to the partnership. This means that all the partners are liable together and individually for all the partnership liabilities and debts. Thus, a creditor could collect business debts on an individual partner. However, the individual partner can seek reimbursement from the other partners for their share of the debt if they can financially afford to pitch in.
Limited partners do not have personal liability to the partnership business. Limited partners only risk their contributions to the partnership that were previously agreed upon.
Continuity and Transferability
If a general partner dies or leaves the partnership, the partnership dissolves. Assets are sold to satisfy business creditors and the remains are distributed among the partners.
However, a partnership agreement may contain provisions permitting the partnership to continue when a general partner dies or leaves. In this case, the agreement should provide how a partner is to be paid for his share of the partnership. The general partner that leaves is still entitled to an accounting of his share of the business assets and profits.
The partnership agreement should also state whether a partner can sell his partnership share to another person. Many states require the consent of all partners before any sale can take place. However, when a partner transfer his share of the partnership, that partner is still personally liable for the business losses incurred before the sale was made.
A partnership does not pay taxes on the income generated by the business. Instead, each partner pays taxes on his share of the business income. A partner may be restricted in using partnership losses to offset income of an individual partner not generated by the partnership. It is possible for a partner to pay taxes on partnership income even though he did not receive any of that income. Partners are also required to pay self-employment tax on their partnership income.
Pros and Cons
A partnership's primary advantage is that they can have more than one owner. Furthermore, a partnership avoids the double taxation on profits that some other business structures may face. However, the largest disadvantage is that the general partners are personally responsible for all business losses and debts.
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Last Modified: 03-15-2011 11:42 AM PDT