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A partnership
is a form of entity, which can be formed with the minimum of
two persons, engaged in a business (with the intention of making
profit). Each person is considered a partner; one may be designated
as a general partner while the other, as a limited partner.
In the absence of a designated general partner, each partner
is severely and jointly liable for all partnership debts and
actions. There are two types of partnerships- one is a general
partnership, and the other is a limited partnership.
In a general partnership, the personal assets of each partner
are not protected from the creditors, meaning each partner is
fully liable and responsible for the debt of the total partnership.
For example, A & B form AB Partnership. If something goes wrong
A & B are separately and jointly liable for the debt of the
AB Partnership. Let us assume a worst-case scenario; the Partnership
owes one million dollars. If A files for bankruptcy and assuming
that B has substantial net-worth, and is able to satisfy the
debt of the Partnership, B is the only one on the hook. The
creditors can go after B for the claims, as he is severely and
jointly liable for the company (partnership) debt.
In a limited partnership, one person (partner) assumes all the
risks, whereas all other partners are limited partners, and
are liable only to the amount of their share in the company.
In order to create a limited partnership entity, in many states,
you are required to file for "Certificate of Limited Partnership".
Also, it is strongly advisable to have the partnership agreement
in writing.
In general, the "Partnership" does not pay any federal or state
income taxes. All partners recognize their share of income and
loss on their individual personal income tax return. The partnership
entity at the year-end issues a form called K-1 showing each
partner's share of income and losses. This form (K-1) is used
to complete the tax return.
Let us look at a hypothetical example. The partnership entity
called AB Partnership earned a net income of $40,000. The entity
would not owe any tax on this income, but the income will be
proportionately distributed to each partner. Therefore, the
partners (A&B, in our example) will pay only one time tax on
their share of income.
Just like sole proprietorship, this form of ownership is also
relatively easy. Due to the flow of income and loss to the individual
partners, there is no double taxation (as in case of a regular
corporation). With adequate insurance, general liability issues
can be handled in a controlled manner, and with proper negotiations
the partners can manage the creditor related-charges as well.
Nevertheless, all partners are open and exposed in case of a
major liability case.
Each choice of entity offers some advantages and some disadvantages;
the partnership also offers some good and bad things. These
are summarized below:
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