One of the most important decisions you’ll be making when starting a business is the one relating to taxes. As a result, it will involve choosing the right type of business structure for your organization.
The business structure of your organization not only affects the amount of taxes you pay, but it will also play a key role in how much paperwork your business has to put in, your personal privacy and liability, and your ability to attract investors.
There are basically four major types of business structures: Sole Proprietorship, Corporation, Partnership and S Corporation. According to recent trends in the business world, a partnership is one of the best types of business structures to pursue, thanks to the various tax benefits it offers. Even if your business is currently owned by many individuals, you can reorganize it as a partnership very easily; however, make sure to notify the IRS and other state tax authorities before the reorganization.
What is a Partnership Business Structure?
A partnership is created when two or more persons (up to 20) go into business together as co-owners. All partners can act on behalf of other co-owners in a partnership business structure. Unlike sole proprietorship, a partnership considers all the co-owners as a single group. Business partnerships can be of two types: general or limited.
A general partnership is wherein all the partners have equal responsibility for managing the business, and each partner has unlimited liability for the losses, debts and obligations that may occur. A family partnership is a type of general partnership, but two or more partners are related to one another.
A limited partnership is wherein the liability for debts and other obligations is limited for one or more partners. This business structure also contains a few general partners, whose liability is unlimited, but the rest of the partners share a limited liability proportional to the size of their investment. The limited partners serve only as investors and have no control over the functioning of the business. A special type of this partnership structure is incorporated limited partnership, which is usually formed by businesses involved in high-risk capital projects.
Advantages of Partnership Business Structure
One of the best advantages of having a partnership business structure is the various tax benefits it enjoys. In a partnership business structure, the organization doesn’t have to pay any tax on its income. All the profits and losses are passed on to the individual partners, who report their share of income while filing their own tax return forms. However, the business does have to file an annual tax return to the Internal Revenue Service (IRS) to report them about its deductions, profits and losses.
A partnership is also very easy and less expensive to set up. Combining the expertise, knowledge and experience of many members, a partnership can contribute greatly to the success of a business. Also, if the partners belong to the same family (e.g. husband and wife), then they can claim additional tax benefits on their income returns.
In a limited partnership business structure, it is very easy to attract investors from the outside, thanks to the prospect of having limited liabilities and obligations. Moreover, partnership structure offers greater privacy for the business and all the parties involved, as it is not required to disclose the profits and losses to the public under the law.
Disadvantages of Partnership Business Structure
In a partnership, every partner is liable for the business’ debts and losses. Even if one partner is solely responsible for the debts incurred, all others should have to face the brunt too. This is known as unlimited liability. However, a limited partnership business structure can be employed to circumvent this restriction.
Also, all the partners hold equal responsibility in managing the affairs of the business (unless the contract stipulates otherwise). As a result, personal conflicts are bound to crop up now and then, which can have a serious effect on the profitability of the business. Moreover, if a partner wants to sell his share of the business to someone outside the organization, then all the other partners have to agree to that; otherwise, the sale or transfer of ownership cannot go through.
Partnership Business Structure in Major Economies
While the core tenets of a partnership business structure are the same all over the world, they do have a few subtle differences varying from country to country. In the United States, partnerships are usually set up based on individual trust, rather than public filings. The United Kingdom follows the United States closely as far as setting up a partnership is concerned; however, partnerships require a legal contract to operate. As far as Australia is concerned, the Corporations Act 2001 covers all the laws relating to partnerships. Being the largest corporations statute in the world, it dictates everything relating to companies and their day-to-day functioning. However, the partnership business structure in Australia is much more strict than it is in the US or the UK. Nevertheless, when compared to a corporation or sole proprietorship, a partnership still benefits from major tax breaks in all the major economies around the world.
A Partnership – The Most Promising Business Structure
Despite all the various disadvantages, a partnership structure still offers many advantages and benefits to the business. It is very easy to set up a partnership, and it is also less expensive than setting up a company. The business will also be enjoying many tax benefits under a partnership structure. Additionally, a limited partnership business structure makes it extremely feasible to attract large investors. As a consequence, the chances of your business thriving are more in a partnership than in a company or a corporation. Hence, it can be safely said that a partnership is the most promising business structure in the world.