Potential Drawbacks and Benefits of Partnerships in Business

Exploring the ‘Benefits of Partnerships in Business’ is key when embarking on the entrepreneurial journey.

At the heart of any new business venture lies the pivotal decision to select the right legal structure. This choice not only influences your business’s management approach and tax implications but, more importantly, it plays a central role in asset protection—a factor that should be paramount in every entrepreneur’s strategy. 

Among the various types of business structures available, partnerships stand out for various reasons. In this article, we will delve deeper into these advantages as well as when this structure may not be the ideal choice for your business endeavour.

Choosing a Business Structure

Choosing the appropriate business structure in Australia is pivotal as it directly impacts liability, tax obligations, decision-making processes, and operational flexibility. The structure determines how much personal risk you’re exposed to, the tax efficiency of your operations, the control you have over decisions, and the ease with which you can adapt to future business needs. 

Making an informed choice not only safeguards personal assets but also ensures efficient business operations and adaptability to changing circumstances.

There are four main types of business structures in Australia, including the following: 

• Sole Trader: This is the simplest form. As a sole trader, you’re the only person responsible for all aspects of the business. You have full control, but you’re also personally liable for all business debts.
• Partnership: Involves two or more people who run a business together. Each partner is responsible for the business’s debts and liabilities. There are different types of partnerships, which we discuss further in the article.
• Company: A company is a separate legal entity, meaning it has its own legal rights separate from its owners. This provides shareholders (the owners) with limited liability, but it also means the company is subject to company tax rates.
• Trust: A trust is an entity that holds property or income for the benefit of others. In a business context, a trust structure can be used to group assets together, protect them, and provide a mechanism for distributing income to beneficiaries.

Understanding a Business Partnership

As previously mentioned, a business partnership is a legal form of business operation between two or more individuals who share management and profits. The partners become jointly and severally liable for the debts of the business. This means that each partner is both individually and collectively responsible for the business’s financial obligations.

Types of Partnerships

There are three main types of partnerships:

• General Partnership: Generally speaking, this type of partnership is one where all partners share equal responsibility for managing the business, sharing profits, and bearing losses.
• Limited Partnership: In this type, one partner has unlimited liability (the general partner), while the other partners have limited liability up to their investment in the business.
• Joint Venture: A short-term partnership established for a specific project or for a defined period.

Key Benefits of Partnerships in Business

Business partnerships can be a powerful venture, enabling you to pool resources, share risks, and collaborate on business strategies. It offers a great avenue for individuals with complementary skills and resources to come together and create something bigger than they could on their own.

Here are a few benefits.

Enhanced Capital and Resources

One of the primary benefits of a strategic business partnership is the ability to pool resources. Partners can contribute capital, property, or skills to the business, which can greatly enhance business opportunities and its ability to operate and grow. The shared investment also helps reduce the financial burden on any single individual.

Diverse Skills and Expertise

Having a prospective business partner allows for the blending of diverse skills and expertise. Each partner can bring their unique knowledge, experience, and perspective to the business, which can lead to more innovative solutions and strategies.

Shared Risks and Liabilities Among Business Partners

In a partnership, the business risks and liabilities are shared among the partners. Taking this approach can make it easier to handle financial losses, as they are spread across multiple individuals rather than falling entirely on a single person.

Flexibility in Operation and Management

Partnerships offer a great deal of flexibility in terms of operation and management. Partners can decide how they want to run their business and can modify their roles and responsibilities as needed.

Ease of Formation and Dissolution

Partnerships are relatively easy to form, with fewer legal formalities and lower costs compared to corporations. Similarly, partnerships can be dissolved without much hassle, making them a flexible form of business ownership.

Navigating the Challenges of Having a Business Partner

While partnerships offer several benefits, they also come with unique challenges that you must consider:

Potential for Conflict

Partnerships involve more than one person, and therefore, there’s always the potential for disagreements and conflicts. Partners need to communicate effectively and make decisions collectively, which can sometimes be challenging.

Shared Profits

In a partnership, all profits must be shared among the partners. This means that you won’t receive the full fruits of your business’s labour.

Unlimited Liability

In a general partnership, partners face what is termed ‘unlimited personal liability.’ At its core, this means that there is no distinction between the partners’ personal assets and the assets of the business.

 If the business incurs debts, faces lawsuits, or encounters other financial setbacks, the partners’ personal assets—like their homes, cars, and savings—can be used to settle those obligations. This lack of separation can be particularly concerning for asset protection. 

In other business structures, such as companies or trusts, there’s a protective barrier between the owners’ personal assets and the business’s liabilities. 

So, for those running businesses with higher risk factors—be it due to the nature of the industry, the volatility of the market, or the potential for legal disputes—a partnership might not be the best choice. 

Difficulty in Changing Partnership Structure

Adding or removing partners requires the dissolution of the existing partnership and the formation of a new one. This process can be time-consuming and expensive.

Tax Implications of Partnerships

One of the unique aspects of a partnership is its tax structure. A partnership itself doesn’t pay tax. Instead, each partner has to pay income tax on their share of the partnership’s income. Partners are also allowed to claim their share of the business’s losses on their personal tax returns.

However, partnerships do need to lodge an annual partnership tax return, which shows the income earned and deductions claimed by the partnership.

Is a Partnership Agreement Right for Your Business?

While partnerships offer several benefits, they may not be the right fit for every business. You must weigh the pros and cons and consider your specific business needs and circumstances before deciding on a partnership structure.

If you’re considering forming a partnership, it’s recommended that you consult with a professional advisor or a business lawyer. They can provide invaluable guidance and help you navigate the complexities of business structure and tax laws, ensuring you make the best decision for your venture.

Key Takeaways

• The chosen business structure, whether it’s a sole trader, partnership, company, or trust, significantly impacts liability, taxation, and operational dynamics.
• Partnerships involve multiple individuals collaborating in business. They can take forms like general, limited, or joint ventures, each with its own characteristics.
• While partnerships provide pooled resources, shared risks, and diverse expertise, they also come with challenges like potential conflicts, shared profits, and unlimited liability for general partnerships.
• In partnerships, individual partners are taxed on their income share. Given the intricacies of business structures, seeking professional advice is crucial

Disclaimer

Please note that every effort has been made to ensure that the information provided in this guide is accurate. You should note, however, that the information is intended as a guide only, providing an overview of general information available to property buyers and investors. This guide is not intended to be an exhaustive source of information and should not be seen to constitute legal, tax or investment advice. You should, where necessary, seek your own advice for any legal, tax or investment issues raised in your affairs.