There are distinct partnership advantages and disadvantages.
Before going into partnership advantages and disadvantages and especially before starting a partnership, let’s first define “partnerships” and make sure we know how they operate. The particular rules about partnerships lead to the partnership advantages and disadvantages.
Partnerships Defined and Explained
A partnership is an agreement between two or more people to finance and operate a business.
Partnerships, unlike sole proprietorships, are entities legally separate from the partners themselves. In a general partnership, however, profits and losses flow through to the partners’ tax returns.
Each general partner has equal responsibility and authority to run the business. Each partner should be involved in day-to-day operations of the business, and should make management decisions.
Any partner may represent the business without the knowledge of the other partners—the actions of one partner can bind the entire partnership. If one partner signs a contract on behalf of the partnership, the general partnership and each partner are responsible for that contract. The shared ownership concept that characterizes a business partnership gives it certain distinct advantages and disadvantages.
Partnerships are relatively easy to establish; however time should be invested in developing the partnership agreement. In a partnership agreement, the following arrangements, among others, should be spelled out:
- How the business will be financed.
- Who will do what work.
- What happens if a partner dies.
- What happens if one or both partners want to dissolve the partnership.
It is strongly recommended that an impartial attorney be contacted to write the partnership agreement. Here’s how to find the right attorney.
Business Partnership Advantages
Partnerships are relatively easy to establish.
- With more than one owner, the ability to raise funds may be increased, both because two or more partners may be able to contribute more funds and because their borrowing capacity may be greater.
- Prospective employees may be attracted to the business if given the incentive to become a partner.
- A partnership may benefit from the combination of complimentary skills of two or more people. There is a wider pool of knowledge, skills and contacts.
- Partnerships can be cost-effective as each partner specializes in certain aspects of their business.
- Partnerships provide moral support and will allow for more creative brainstorming.
Business Partnership Disadvantages
Business partners are jointly and individually liable for the actions of the other partners.
- Profits must be shared with others. You have to decide on how you value each other’s time and skills. What happens if one partner can put in less time due to personal circumstances?
- Since decisions are shared, disagreements can occur. A partnership is for the long term, and expectations and situations can change, which can lead to dramatic and traumatic split ups.
- The partnership may have a limited life; it may end upon the withdrawal or death of a partner.
- A partnership usually has limitations that keep it from becoming a large business.
- You have to consult your partner and negotiate more as you cannot make decisions by yourself. You therefore need to be more flexible.
- A major disadvantage of a partnership is unlimited liability. General partners are liable without limit for all debts contracted and errors made by the partnership. For example, if you own only 1 percent of the partnership and the business fails, you will be called upon to pay 1 percent of the bills and the other partners will be assessed their 99 percent. However, if your partners cannot pay, you may be called upon to pay all the debts even if you must sell off all your possessions to do so. This makes partnerships too risky for most situations. The answer would be a different business structure.
If you Decide on a Business Partnership…
…you should create a “business prenup” that will protect a business if someone leaves.
This “business prenup” should spell out what will happen to your company if a co-owner:
- Wants out of the business
- Wants to retirs
- Goes through personal bankruptcy
- Wants to sell his shares to someone else
- Goes through a divorce
- Passes away
You have two choices: you can have a business attorney write up your partnership agreement or you can do it yourself. If you decide to do it yourself, a good choice is “Business Buyout Agreements”, which walks you through the creation of a legal contract — a sort of “premarital agreement” for your business — that protects everyone’s interests. This document will help ensure a smooth transition following someone’s departure. Business Buyout Agreements: A Step-by-Step Guide for Co-Owners