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Ontario|Business LawPartnerships 211 Partnerships: Advantages & disadvantages A partnership is an unincorporated business that is carried on by two or more people who intend to share the business profits. Partnerships have at least five important features. First, a partnership can be created by an express agreement or it can be created if the people are simply acting in a way that seems like a partnership. Second, the partners can be held responsible for the actions and business debts of the other partners. Third, all the assets of the business are personally owned by the partners. Fourth, there are two main types of partnerships: general partnerships, where all the partners share the profits and losses of the business; and limited partnerships, where the limited partners are not involved in the daily operations and are only responsible for losses up to the amount they contributed to the business. Fifth, partners are not considered employees of the business. Because of this, partners are not eligible for employment insurance if the business fails. Partners are not paid a salary, but they can take money from the business through personal drawings.
It is a good idea to put a partnership agreement in place because it will outline issues such as how the profits or losses will be divided among the partners, and it will describe any limits to the legal responsibility of the partners.
Being a partner in a partnership has several advantages and disadvantages, including important tax implications.
- Advantages
There are 3 main advantages to forming a partnership. First, a partnership allows two or more people to work together and bring different skills and resources to the business. Second, a partnership is fairly easy to establish. The actual registration of a partnership is not expensive or complicated. However, it is a good idea to decide how the partnership will be run and put it into a partnership agreement. Third, if the partnership suffers a loss but the partners have other employment income, the loss can be used to reduce their taxable income, thereby lowering the income tax payable by the partner.
- Disadvantages
There are 5 main disadvantages to forming a partnership. First, because the partnership is not considered to be separate from its owners, the partners are personally responsible for liabilities of the partnership. If the business fails, the partners will be personally responsible to pay all of the debts and obligations of the partnership. Second, because each partner is an agent for the business and for the other partners, each partner is personally responsible for the actions of the other partners. If one of the partners makes a bad business decision, or acts negligently which results in the partnership owing a debt, all of the other partners are personally responsible to pay it back.
Third, because a partnership is based on the individual partners, and it is not a separate legal entity, if one of the partners dies, the partnership ends. This means that the remaining partners have to re-establish the partnership.
Fourth, because a partnership is not a separate legal entity, it is difficult to buy or sell a partnership interest. Buying or selling a partnership interest will involve rewriting the partnership agreement and determining exactly how the partnership will change.
Fifth, although the resolution of disagreements amongst partners is generally covered under a partnership agreement or case law, it usually is very difficult. There is no Act that exists which sets out rules for settling partnership disputes. If the disagreements are not resolved by the partners themselves, they will usually have to turn to outside help which can be time consuming and costly.
- Tax implications
There are tax implications to owning a partnership interest. First, the business income of a partnership is divided between the partners and included on each partners' personal income tax form; the partnership does not file a separate tax form. Second, if the business has suffered a loss, the partners can deduct the loss from any other employment income they receive. This will lower the overall income of an individual partner and reduce the amount of income tax he or she must pay. Third, if the business has made a profit, the profits are taxed at each partners' personal income tax rate. Fourth, because the partnership is not a separate legal entity, the partners cannot take advantage of income splitting or tax deferral opportunities available with corporations.
For more information or advice about partnerships or if you are uncertain about what form of business is best for you, you should contact a lawyer.
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