Monday, August 29, 2011

Small Business Introduction (3) – The General Partnership

Previously, I discussed the Sole Proprietorship and the Single Member LLC. Although it might seem natural to discuss the Multimember LLC next, I’m going to talk about the General Partnership instead. The reason is that if I were to discuss the MM-LLC, I would have to mention partnerships.

General Partnership
A General Partnership (GP) is a joint business venture between two or more persons or entities.  Normally, a GP does not have to be registered with the state; it is automatically formed when two or more persons conduct a for profit business together.  Ownership and control of a GP is generally determined by how much capital is contributed. If there are 4 partners in a GP, and each one contributed equally to its formation, everyone would be a 25% owner. Partners share in the profits and losses of the GP according to their ownership interest. Although not required, there should be a written partnership agreement. The agreement should spell out the rights and responsibilities of the partners.  A lawyer may be required to draft thorough partnership agreement, but there are templates available that may serve your purpose.

Sometimes friends or relatives engage in an informal partnership where they might buy a duplex or co-own some other property together.  This is generally referred to as a co-ownership.  Although there are obvious advantages to sharing upfront expenses, this type of relationship can have many, sometimes disastrous, consequences.  Co-owner disputes can erupt early, or down the road as personal situations change. You should strongly consider engaging an attorney produce a co-owners agreement for you at the start of your relationship.
Each partner is jointly and severally liable for the partnership’s obligations. Each partner’s personal assets are at risk and can be seized in order to satisfy the partnership’s obligations. In a way, this is similar to the liability of a Sole Proprietorship, except a partner has potentially more exposure to risk. 

Income Tax Reporting
Partnerships must file IRS Form 1065, Return of Partnership Income. The partnership itself should have an accountant to keep track of partnership income and expenses, as well as the partner’s basis. Preparing Form 1065 is a task that should be left to a tax pro. The partnership then issues a Schedule K-1 (Form 1065) to each partner.  Anyone receiving a K-1 must report the K-1 items on their individual tax return.   Unfortunately, this may require tax preparation knowledge beyond the expertise of most individuals. K-1 entries can flow into many unfamiliar tax forms, so use a tax professional like an Enrolled Agent to prepare your tax return.

Additional Taxes
There are no taxes unique to a GP, but depending on the partnership’s activities, partners may have to report income from rentals, royalties, capital gains, ordinary, interest, etc.

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