The majority of small businesses are structured as sole proprietorships, while larger manufacturing, retail and technology industries tend toward corporate structures. Business partnerships, however, tend to apply almost exclusively to companies that trade in human capital such as law firms, medical, investment banking, architecture, accounting and advertising. In a successful partnership, two or more people with specific skills and abilities each contribute something to the business, whether it's ideas, money or property. Each individual's contribution should be unique but essential to the success of the business, and it's important that all partners clearly understand their responsibilities to the partnership.
Types of Partnerships:
There are three basic types of modern partnerships. Each has it's own characteristics, advantages and disadvantages:
- The General Partnership – Under a general partnership, two or more owners share equal responsibilities and have equal rights and obligations in carrying out the activities and management of the business. Each partner assumes full responsibilities for all the debts and contractual obligation of the business. A single partner can bind the entire partnership to agreements and contracts. The tradeoff is a tax advantage that allows the business purpose to avoid being taxed separately. In a general partnership tax obligations pass through to the individual partners who include profits as gains on their individual tax returns at an often significantly lower tax rate than with a corporation.
- Limited Partnership – A limited partnership limits the personal liability of some of the partners exchange a reduced exposure to personal liability for the business's debts and obligations for a reduced role in management decisions. At least one partner must assume a general partner status and the concomitant personal liability of a general partnership. Both the general and limited partners share in the business profits and tax advantages. Limited partners have no legal say in the management of the business.
- Limited Liability Partnership – A limited liability partnership (LLP) retains the tax advantages of the general partnership, but is structured so that the individual partners aren't personally responsible for debts, obligations or wrongful behavior of other partners in the company. This feature of an LLP costs businesses that take this structure some tax advantages. Some states subject LLP's to nonpartnership tax rules, though the IRS still allows taxation to pass through to the individual partners. States usually require some form of formal registration through an appropriate state agency for LLPs.
Types of Responsibilities
Within any partnership, each partner must act in concert with the other partners for the good of the company. Two factors, the profit earned by the company and the professional ethic of each member are the primary incentives that drives partners to carry out their responsibilities to the best of their ability. Those responsibilities include, but are not limited to:
- Act in Good Faith – Partners are responsible to carry out their duties to the best of their ability in such a way that every other partner may count on him or her not to take advantage of the other partners, to misrepresent or conceal critical information from other partners for personal interests.
- Be Transparent – A partner must conduct his business in the open. The partner may not promote a competitor to the detriment of the partnership. He or she may not make secret profits at the expense of the firm or use property belonging to the company for personal benefit without the full knowledge and approval of the partnerships. He may not make contracts or agreements on behalf of the company without the full knowledge of all of the partners.
- Respect the Partnership Agreement – Partners are bound by limitations as to their ability to conduct business on behalf of the company. Each partner is bound to obey the restrictions, rules and limitations laid out in the partnership agreement.
- Exercise Reasonable Due Diligence – Each partner is expected to conduct business with due diligence and reasonable care for the reputation, financial health and success of the business.
- Participate Equally – Each partner is entitled to an equal share in the profits of the partnership and to full participation in the transacting of the business of the partnership, no matter his financial contributions or whether he's a founding member or later addition to the firm. As such, each partner is also expected to participate fully in the conduct of the business, unless the partnership votes to allow him or her a reduced or expanded role in the business (an emeritus partnership for a retiring member or the granting of a sabbatical for a member with medical issues, for instance).
- Inspect the Books – Each partner is entitled to inspect the books of the partnership. If he or she discovers problems, it is his or her responsibility to report those problems to the other partners. No attempt may be made to hide knowledge or evidence of financial impropriety by a member from other members of partnership.
- Share the profits – Partners in the firm will generally share in the profits equally without regard to the amount of capital or services the partner contributes to the firm. The partnership agreement may, however, provide for unequal proportioning of profits. Partners are responsible to inform new partners who may receive an unequal share in profits when they are made partner. Junior partners or limited partners may fall under an unequal proportioning of profits, for instance.
- Work Without Compensation for Services to the Partnership – Partners receive a share of the profits of the company. If they provide services to the partnership, no additional compensation is to be expected unless agreed to by the other partners. One partner may, for instance, be named managing partner and receive a salary from the firm in addition to his share of the profits for taking a full time job handling the business affairs of the company in addition to his professional practice. Other compensation such as bonuses, benefits or considerations may be offered by the partners to one of their number for some extraordinary service or contribution to the firm.
- Repay Loans – Partners who are advanced funds by the firm to cover costs related to their practice, travel expenses or personal loans are obligated to pay back those funds or present receipts for deductible expenses as the case may be.
- Cover Company Losses – Should the company experience a loss, damages or levies as a result of a lawsuit or injury, partners are obligated to contribute to covering those costs. Should one partner contribute more than his or her share to covering the loss, he or she has a right to recover that over-payment from the firm in due course.
- Share Liability - Partners share joint liability for misconduct by one of the partners if such misconduct falls within the scope of the partnership agreement. When the company is sued all partners share jointly in the cost of defending the suit. All partners are jointly liable for upholding the company's agreements on all contracts between the company and a third party. Each partner's assets can be attached to recover a judgment against the partnership to the full amount of the judgment.
- Assume Liability for Outstanding Debts – If the partnership is dissolved, each partner remains jointly liable for any outstanding or unreleased indebtedness or unfulfilled responsibilities of the company until all debts, judgments and contracts are concluded or released.