So you want to have a better grasp of what a partnership is in business. In this post, we take a deep dive into the concept of business partnerships and their different types.
At the end of reading this post, you’ll be fully enlightened on this topic and be able to make a more informed decision for your business.
Let’s get started.
What Is Partnership? – What Is Partnership in Business
A partnership is any formal arrangement between two or more people or groups to operate and manage a business and share its gains and losses.
It is also referred to as a business with two or multiple owners.
In most cases, business partnerships don’t require to be registered with the state and don’t have a legal entity.
The parties involved in a partnership can be businesses, private individuals, or governments.
General Features of Partnership – What Is Partnership in Business
As you will learn later in this discussion, business partnerships are different.
Hence, they have their distinct features and whatnot.
However, generally, all types of business partnerships have the following features:
A business partnership is an association of more than one person.
It might not be registered with the state but requires a contract or agreement.
This agreement, also called an accord, lays the foundation for the association of the partners.
In other words, it states how the business will operate, the role of each partner, and how they will share profits and losses among them.
A partnership agreement can either be in written or oral form.
However, it is best to have it in written form to prevent controversies and for each partner to own a copy of it.
Two or More Parties – What Is Partnership in Business
Obviously, a business managed by one person is not a partnership.
A partnership can only become one if up to 2 people with similar visions and interests come together to own a business.
So, the lowest number of partners in a partnership is two, but there is no restriction on the highest number of partners.
Another significant feature of every partnership is profit and loss sharing.
Businesses or organisations run by two or more people but don’t involve profit sharing are not a partnership.
Likewise, teaming up with your employees doesn’t make them your partners, as they would not share in the profit or loss.
They’re only entitled to their salary.
The Partnership Act stipulates that business associates are to share in the profit and loss of the business.
Business Motive – What Is Partnership in Business
A partnership needs to have a business motive.
In other words, every partnership should have a business that they operate and manage with the aim of making profits to become a partnership.
Types of Partnership – What Is Partnership in Business
Partnerships are categorized into four groups based on agreement, operation, and other factors.
Here are the four major types of partnership:
1. General Partnership
A general partnership is an agreement between two or more people to establish, operate and manage a business.
It is the simplest form of partnership that every other type of partnership branches out from.
The partners in this type of partnership are all equally responsible and liable for the business debts and liabilities.
Key Features of General Partnership – What Is Partnership in Business
The following are the key features of a general partnership that will help you to understand it better.
It’s a Partnership’s Default Structure
General partnerships serve as the default structure for businesses owned by multiple owners.
Every other partnership type and other businesses with multi-owners take their foundation from general partnership.
This is one reason it is the simplest form of partnership, as other partnership types take its structure and build on it to make it more complex.
Partners are Liable – What Is Partnership in Business
Partners of a general partnership are not protected from their business’ debts and liabilities.
Instead, they are personally responsible for them.
Partners can decide to adjust the sharing of liabilities and profits to not be equal in their agreement.
However, the default split is done equally.
Partners pay tax only once according to the profits they make from their business.
Compared with other business entities where owners pay taxes based on their profit and also from their business taxes, general partnerships have the better deal.
Duties of Partners in a General Partnership – What Is Partnership in Business
When people form a general partnership, they put themselves in the same boat.
That is, they are tying their business and finance together.
Hence, they need to treat the business and each other well to ensure they don’t bear a loss.
These are some of the duties partners of a general partnership are to carry out to ensure success in their partnership:
Care and Loyalty – What Is Partnership in Business
In a general partnership, partners owe care and loyalty to each other.
This means that every partner should care for the best interest of their fellow partners and the partnership.
They should not put their interest above that of the partnership.
Partners should not use the assets of the partnership for their gain.
Partners are expected to deal fairly with one another.
This means they shouldn’t secretly participate in activities or operations that can hurt the business partnership.
For instance, going behind your partners and acquiring a property your partnership planned to purchase is wrong.
Disclosure of Information – What Is Partnership in Business
Every partner is expected to disclose information concerning their business and its operations to one another.
Even when information isn’t favourable to a partner or the partnership, it has to be disclosed.
For example, let’s assume you, as a partner, discover a possible threat to the business sales.
You shouldn’t keep it to yourself but share it with your partners.
Obedience to the Partnership Agreement
The partnership agreement or any decisions the partnership makes should be obeyed by all partners.
This ensures that fallouts don’t occur and everybody remains on the same page.
Advantages of General Partnership – What Is Partnership in Business
The following are the advantages of general partnership:
Easy to Establish and Dissolve
Establishing general partnerships is as easy as establishing sole proprietorships.
This is because, in this type of partnership, there is no need to file any document with your state.
You only need a partnership agreement, which could either be written or verbally communicated.
Also, you can easily dissolve the partnership if it does not work out.
However, you would have to notify your tax authorities, customers, creditors, and vendors.
Flexibility – What Is Partnership in Business
In general partnerships, you and your partners negotiate the terms of operations, profits and losses allocation, and transfer of interests.
What this means is that you get to decide the roles of each partner in the business, the business structure, payments, salaries, and more.
Disadvantages of General Partnership – What Is Partnership in Business
Although general partnerships have great advantages, there are still some downsides, which are:
Your Assets Will Be At Risk
General partnerships do not protect partners from liability for the business’s debts.
They are not incorporated and, as such, don’t have a separate legal entity.
As a result, partners are at risk of losing their personal assets should be business fold up due to indebtedness.
Lack of Structure – What Is Partnership in Business
General partnership tends to lack structure as partners can renegotiate and easily change things in the business.
Lack of structure often causes issues in business and leads to its downfall.
2. Limited Partnership – What Is Partnership in Business
A limited partnership is a partnership with two groups of partners; general and limited.
The limited partners’ liability is only limited to the investment they made in the business.
That is, they are not personally responsible for any debts or liabilities outside their investment in the business.
Meanwhile, general partners are fully responsible for every debt and liability of the business.
So, they are responsible for the management and decision-making of the business.
The limited partners are only responsible for making investments, so they are often referred to as silent partners.
The general or limited partners in a limited partnership can be a business or an individual.
Pros of Limited Partnerships – What Is Partnership in Business
Here are some of the pros of limited partnership:
In limited partnerships, limited partners are only liable for the debts gotten from the property or money they invested in the partnership.
So, an individual or a business can invest in a limited partnership and not be responsible for the business’s liabilities and debts.
Managed By General Partners – What Is Partnership in Business
Limited partners invest financially in limited partnerships.
However, they have no right or responsibility for running and managing the business.
The responsibility falls on the general partners.
So, as a general partner, you still get to decide how your business is run, even without the interference of your limited partners.
Just as with general partnerships, creating limited partnerships does not require a lot of paper works.
Nonetheless, writing out and filing partnership agreements in the state where a partnership business is located is important.
This will help to avoid several issues.
No Issues with Turnover – What Is Partnership in Business
Unlike general partnerships, the partners of limited partnerships are not tied together.
This means that a business can continue functioning even when the limited partners leave or die.
Hence, there are no issues with turnover.
Investment Opportunities – What Is Partnership in Business
Limited partnership provides an amazing investment opportunity for people and businesses.
Anybody or business can become a partner of a limited partnership and share in its profits and losses but will not be responsible for running it.
Cons of Limited Partnerships – What Is Partnership in Business
As there are advantages of limited partnerships, there are also disadvantages.
The following are some of the cons of limited partnerships:
General Partners Carries the Risks
In limited partnerships, the silent partners are only liable for the debts from the investment in a business.
Meanwhile, the general partners don’t enjoy this benefit as they have unlimited liability.
So, the risks of running the business fall on them.
For instance, if a business becomes bankrupt, the general partners are the ones who will personally sort out the debts of the business.
Compliance Challenges – What Is Partnership in Business
Due to having investors (limited partners) in limited partnerships, general partners might face the challenge of having them comply with the rules.
So, they often have to hold meetings annually to create detailed compliance and partnership agreements that every partner is expected to follow.
As a result of this, limited partnerships have more paperwork than general partnerships.
Limited Partners Have No Power
In limited partnerships, the general partners are the ones who control the whole affairs of the business.
If you are a limited partner in a partnership, you have no power to manage the business.
No matter your opinion, you have no power to push it.
Additionally, although limited partners have limited liability, they risk becoming liable due to their actions.
As a limited partner, you should avoid getting drawn into the business’s operations and behave accordingly to avoid liability for your actions.
3. Limited Liability Partnership
Limited liability partnerships are the type of partnership where the owners of a business have limited liability.
This business entity type protects its owners (partners) from bearing the debts and liabilities of the business.
Partners are only liable for the investment they make in the business.
If a limited liability partnership should fail, creditors can’t pay their debts with the personal income or assets of the partners.
This type of partnership is commonly used for professional businesses such as accounting firms, law firms, wealth managers, and medical practices.
Features of Limited Liability Partnership – What Is Partnership in Business
To better understand limited liability partnerships, let’s take a look at some of their features:
Separate Legal Entity
Limited liability partners have a separate legal entity from their business.
As a result, LLP businesses incur liabilities and own assets in their names.
Also, they can sign contracts, sue, and be sued.
These businesses are responsible for all these things without risking the owners’ assets, income, and names.
Limited Liability – What Is Partnership in Business
The limited liability of all partners in a limited liability partnership is one of the main features of this partnership type.
The owners have a separate legal entity from their businesses and are not responsible for personally paying up the business debts and liabilities.
However, partners of limited liability partnerships are liable for their actions.
In other words, they will be responsible if they should personally commit any illegal or wrongful act.
Limited liability partnership partners can be an individual or a business.
However, before an individual can become a partner in an LLP, they need to be of sound mind and should not be insolvent.
Furthermore, the minimum number of partners in an LLP is two, while there is no limitation to the maximum number of partners.
If the number of owners of an LLP becomes one, and the business keeps operating like that for six months, then it becomes a sole proprietorship.
And the owner’s liability becomes unlimited.
Pros of Limited Liability Partnership:
- The partners’ limited liability protects their assets.
- Members can either be individuals or companies.
- Flexible terms for management and profit sharing.
- LLPs have separate entities from their owners.
- Great Tax benefits.
- Partners can decide their level of contribution to the operation of the business.
Cons of Limited Liability Partnership:
- The partnership’s financial positions and accounts are accessible to the public.
- LLPs are more costly to establish than general partnerships.
- Several filing requirements and other accounting.
4. Limited Liability Limited Partnership – What Is Partnership in Business
Limited Liability Limited Partnership (LLLP) is the newest type of partnership.
It is a mixture of different business types, and it is also a form of limited partnership and has similarities with LLP.
LLLPs are partnerships of two groups of partners: general and limited.
However, unlike LLPs, the general and limited partners have limited liability.
In other words, all LLLP partners are personally protected from liabilities.
Also, just as with LLPs, the general partners of LLLPs are responsible for the daily operations and management of the business.
Meanwhile, the limited partners’ or silent partners’ only duty is to invest financially in the business.
Advantages of Limited Liability Limited Partnership – What Is Partnership in Business
LLLP’s main advantage is providing its general partners with limited liability, which an LP or LLP does not.
So, in an LLLP, if the business is sued or incurs a debt, the general partners will not be personally responsible.
Also, if a general partner should have any misconduct, the other general partners will not be responsible for that partner’s misconduct.
Just as sole proprietorships, LPs, LLCs, and other business entities can buy and sell stocks, bonds, mutual funds, and other actions, LLLPs can also take them.
Disadvantages of Limited Liability Limited Partnership – What Is Partnership in Business
Although limited liability limited partnership provides liability protection to its general partners, it still does not offer comprehensive protection like corporations or LLCs.
Also, not every state recognizes LLLP yet.
So, before you can consider establishing an LLLP, you would need to check if your state recognizes it.
Conclusion on What Is Partnership in Business `
A partnership is a business entity where two or more parties establish, run, and manage a business.
There are four main types of partnerships in business.
This article has discussed all of them.
The information shared will help you to know the best type of partnership for you if you decide to form one.