Starting a business doesn’t have to be a solo affair. If you’re looking to build a new business, a partnership structure might be the ideal situation for you.
A partnership structure offers the ease and flexibility to run your business as individuals, eliminating the need to create a company structure and avoiding rigid reporting obligations.
But while it’s a great way to pool expertise and resources, creating a partnership also comes with its challenges.
Liston Newton Advisory is here to help you navigate the world of running a partnership.
An overview of the pros and cons
[td]Simple and flexible to operate[/td]
[td]Decisions are never made equally[/td]
[td]Opportunity for partners to bring different skills and expertise to the table[/td]
[td]Disagreements in management may occur[/td]
[td]Less financial burden on the individual when starting out[/td]
[td]Difficult to add or remove partners[/td]
[td]Less paperwork to fill out when starting[/td]
[td]All profits must be split between both parties[/td]
[td]No financial reporting obligations[/td]
[td]Unlimited personal liability[/td]
[td]Easy to include on your tax return[/td]
[td]Each partner is taxed at an individual tax rate[/td]
[td]Individuals can claim business losses on their personal tax return[/td]
[td]Partnerships can become complex when the number of partners gets higher[/td]
[td]No access to government grants[/td]
A quick guide to business structures
You always need to make sure you’ve considered all your options when starting a business. Each structure has its own advantages, which may become more obvious as your business progresses.
The most common business structures are:
- Sole trader: Suits individuals who want complete control over their business.
- Partnership: Ideal for two or more individuals looking to operate a business together.
- Company: The most common structure for businesses looking to achieve high growth, and protect their assets with limited liability.
- Family Trust: We suggest this structure for business owners who want to distribute income to their family in a tax-effective way, while ensuring their family assets are protected.
- Unit Trust: Ideal for multiple business owners who want to start a trust structure, but aren’t family.
What is a partnership?
A partnership is a business entity formed by two or more people. It operates in a similar way to a sole trader business structure. It follows a simple registration process and you don't have the same financial or reporting obligations that a company does.
Interestingly, no paperwork is actually required to be filled out that states the natures of the partnership. All you need is some form of agreement between all parties. However, we recommend creating a written partnership agreement which highlights:
- Business details
- Operational outline
This way, you're protected from potential complications down the line.
The three types
- The most common type of partnership is a general partnership. This sees the business’ management responsibilities, liability, and any profits divided among all partners as per their established agreement. Liability is also divided equally among the partners.
- A limited partnership sees each partner’s input and liability based on the percentage of their investment in the business. Given the scaling nature of this structure, it’s best suited to short-term agreements.
- A joint venture is essentially a short-term general partnership, with an agreed start and end date.
Cheap to set up
General partnerships require less paperwork and fewer fees to start up, especially when compared to other partnerships, or companies. This is ideal for businesses who are starting from scratch, with limited capital.
Opportunity for diverse skill sets
One of the benefits of a partnership, when compared to a sole trader, is that it allows each partner to bring a different skill set to the table.
It also allows the partners to pool their resources, which has the opportunity to create more capital to start off with – more so than if you were operating on your own.
Simple and flexible to operate
Partnerships operate in a similar way to the sole trader structure, as there are no management or reporting obligations to follow. How they work is up to the partners themselves.
Each partner can be equally involved in the business decisions, or it can come under the central management of one designated partner.
We recommend having a written agreement in place that governs how the partnership operates, and manages all expectations for each party.
Straightforward tax situation
Individuals operating a partnership structure are taxed at an individual tax rate.
General partnerships see each partner assume unlimited personal liability, which means that if the business gets into trouble, their personal assets are put at risk. If you’re worried about shouldering the liability, consider a limited liability partnership, a company, or unit trust structure instead.
Profits must be shared
This isn’t necessarily a bad thing. But it is important to remember that a partnership involves more than just one person, so you’ll never receive the full fruits of your business’ labour.
If this is going to be an issue, you should consider operating as a sole trader, or creating a company, instead.
Increased chances for disagreement
When operating in a partnership it’s crucial that all partners agree on business decisions, otherwise complicated and unpleasant situations can arise. In a worst-case scenario, these can lead to business and personal relationships failing.
If you think you won’t be able to work with another person, then a sole trader or company structure may be more suited.
Difficult to add or remove partners
When adding a new partner to the business, or when an existing partner exits, you need to dissolve the existing partnership and begin a new one. This can be a costly process.
No access to Government grants
Operating your business as a partnership means you’re unable to take advantage of many government grants and tax concessions, such as the research and development tax concession, or early stage investor concessions. If you want to be able to access these options, consider operating your business under a company structure instead.
The tax requirements
A business partnership itself doesn’t pay tax on its income. However, you are required to lodge a partnership tax return that declares the income earned through the partnership, as well as any deductions. This also identifies the distribution of income between the partners.
Each person involved in the partnership declares their individual share of the partnership’s income on their personal tax return, and lodges this under their individual tax file number.
Business partners can also deduct losses from the business on their individual tax return.
The final word on partnerships
When looking to start a partnership, it’s important to make sure it’s the right decision for your business. There are a number of things to take into account. Start by asking yourself these questions:
- Do I have complete trust and faith in the people I’m partnering with?
- Am I willing to seek approval and agreement on all business decisions?
- Do I expect more people to join my business in the future?
- Am I expecting anyone to exit the business?
- Am I comfortable shouldering unlimited personal liability?
- Am I comfortable with a rigid tax structure?