A partnership is a common and relatively inexpensive way to set up a business. It involves 2 or more co-owners (the partners) participating together in a business operation. In order for a partnership to exist the partners must have the intention of making and sharing profits, as well as an understanding that they will each act on behalf of the other in all business dealings.
When establishing a business under a partnership structure, a formalised partnership agreement spelling out the rights, responsibilities and obligations of each partner is a good idea, although it is not necessary for the partnership to exist. In the absence of a partnership agreement The Partnership Act of 1891 sets out the various rules that govern the conduct of partners. The act places joint liability on all partners for debts and obligations incurred by the business during their involvement in the partnership. Partners are obligated to keep their co-owners properly informed.
While a partnership is a separate business operation to the partners involved, having its own Australian Business Number (ABN) and Tax File Number (TFN), all the business profits are taxed in the hands of the partners at their respective marginal tax rates.
Pro’s and Con’s of Partnerships as a Business Structure
Advantages of a Partnership:
- Easy and inexpensive to establish and maintain;
- Fewer reporting requirements;
- Any losses incurred by the business may be offset against other income earned (such as investment income or wages) subject to satisfying certain conditions; Partners are not considered an employee of their own business and are free of any obligation to pay payroll tax, superannuation contributions or workers’ compensation on income drawn from the business;
- Relatively easy to change your legal structure if the business grows, or if you wish to wind things up.
Disadvantages of a Partnership:
- Unlimited liability which means all personal assets are at risk if the business operation gets into trouble; Some of the control of business assets and decisions is relinquished;
- Business debts and losses cannot be shared with anyone except the partners;
- Requirements to pay preliminary tax on business income which may not have been earned;
- Limited access to additional capital for business growth;
What do we think of Partnerships?
While a partnership can allow a business access to additional capital and knowledge (if the partners are both individuals rather than companies and trusts), each partner exposes their personal assets to an unlimited level of business risk. We recommend business owners avoid operating partnerships, especially involving two or more individuals. If you are currently considering a partnership as a business structuring option we recommend you read our later articles in this series that look at companies and trusts, or contact Inspire CA for assistance.