The Small Business Association: General and Limited Associations

After sole proprietorships, general partnerships are the easiest type of business structure to form. Unlike corporations or limited liability companies (LLC), partnerships do not have formal requirements or paperwork that needs to be filed.

The Small Business Association as a Legal Structure of a Business

All you need to form a partnership is a business and a profit sharing (there is no such thing as a non-profit corporation). Partnerships are a unique business relationship because they are so easy to form and, as you will see below, potentially difficult to manage and dissolve.

Types of partnerships

There are three types of partnerships that companies can choose from: general partnership, limited partnership, or joint venture. In a general partnership, the partners evenly divide the management responsibilities as well as the profits.

Joint ventures operate like joint ventures, but are formed specifically for a limited purpose or a single project. However, if the joint venture recurs, it can be labeled as a general limited partnership, at which point you must follow the rules for dissolving a general limited partnership.

In a limited partnership, there are managing partners and limited liability partners (who are essentially passive partners who only invest money). Managing partners run the business and take full responsibility for the success or failure of the business, while limited partners can only lose the money they have invested. Limited partnerships are more complex and generally require paperwork that formally acknowledges the structure.

For this article, we will focus on general partnerships as they are the most common, with some references to limited and joint venture partnerships where relevant.

The basics

Because partnerships are so easy to create, you will want to choose your partners carefully and, whenever possible, enter into a partnership with a written document that guides the behavior of all parties. Without a written agreement, partners are required to follow certain rules for partnerships.

Another reason to choose partners wisely is that all partners share the same authority to bind the partnership to business agreements and debt obligations.

Liabilities to creditors

Probably the most important thing to know about partnerships is that the owners are personally responsible for all of the partnership’s obligations. Creditors can go after partners’ personal assets, including bank accounts, cars, and houses. It’s a gruesome proposition and it’s the main drawback of partnerships.

There is an exception to personal liability in the case of limited partners, who have only invested money in the partnership. Limited partners must present a limited partnership certificate that includes the names of all general partners. Without such a document on file, even if the intention of all parties is to have general partners who run the business and limited partners who only invest money, the limited partners can be personally sued by creditors.

Any debt owed to creditors can be collected from a single partner. The legal term is joint and several liability, and it means that each partner is individually liable for all debt. It is a legal method that avoids passing the dollar between defendants (or, here, couples). Of course, if one partner ends up paying the debt in full, he can sue the other partners to collect his fair share.

Responsibilities towards other partners

As in any marriage, you must fulfill certain duties and assume responsibilities to your partner (s). These responsibilities include:

  • A duty of loyalty and fiduciary duty
  • Equal profit sharing (unless there is an agreement that says otherwise)
  • Equal control and no salary (unless there is an agreement)

The fiduciary duty and the duty of loyalty that all partners owe to each other simply means that a partner must act in the best interest of the partnership and cannot act primarily to enrich himself or herself. Partners must provide proper financial accounting for their actions, and the partnership can sue individual partners for any financial wrongdoing.

Taxes

Because the partnership is not a special corporate entity (such as an LLC), income taxes are paid through the personal income tax of the partners. The corporation reports its earnings to the IRS (although it does not pay taxes on them), and in this way the IRS can be sure that it collects the appropriate amount.

Ending a partnership

In the absence of a written agreement, a partnership ends when a partner gives notice of his express wish to leave (dissociated). When there is a written agreement, the partnership ends when an event stipulated by the agreement occurs or when a majority of the partners decide to terminate the partnership after a single partner dissociates.

Whether there is a written agreement or not, it is easy enough to leave a partnership, although you will remain responsible for the obligations the partnership entered into while you were there. The termination of a partnership is more of a process than a single moment in time, because there are usually businesses that need to be canceled (ie, debts to pay, obligations to fulfill).

Advice:

Depending on the type of partnership you are pursuing, you may want to consult with a legal professional to ensure the best possible outcome. An attorney can help you determine what type of business organization will best meet your needs and help you avoid costly mistakes.

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