How to Form a Business Partnership: 3 Types of Partnerships

A business partnership is a commercial relationship in which two or more individuals or companies form a new business entity to share profits, risks, and losses. Creating a partnership allows individuals to benefit from their partners’ experiences and expertise, pool resources, and expand their capital. Medical, accounting, or legal professionals frequently form business partnerships, but they can also involve family members.

Forming a business partnership is a relatively straightforward process; since it’s not a legal entity, it does not require the legal or formal steps needed to create a corporation, nor does it require filing a written agreement with federal or state agencies. However, business partnerships should create a partnership agreement that defines the terms of the business relationship regarding roles within the partnership and responsibilities. Unlike a corporation or limited liability company, or LLC, business partners have personal liability for debts incurred by the entire partnership, which means that their personal assets can be subject to creditors.

There are many benefits to forming a business partnership:

1. 1. Potentially subject to fewer taxes: The IRS considers a general partnership a “pass-through business,” which means that each member of the partnership must report their own income and losses on their tax returns instead of paying a corporate tax.
2. 2. A larger pool of capital: Business partners combine their resources to form a business partnership, resulting in more capital and a larger investor pool for future pursuits. As a result, a business partnership can also make it easier for partners to borrow and save funds.
3. 3. More contacts: Business partners also share their professional connections, creating a more extensive and diverse network of fellow professionals and opportunities. Having a business structure can also attract more partners and employees than separate entities because it denotes professionalism and credibility.
4. 4. Additional perspective: Business partnerships also combine the experience and expertise of their members, which can provide new strategies for existing business pursuits and greater inspiration for new ideas.

There are three main types of partnerships in business:

1. 1. General partnerships: General partnerships are the most common type of business partnership. In a general partnership, two or more parties use a partnership agreement to determine how to share the business’s day-to-day operations, profits, and losses. General partners are considered self-employed but may hire employees.
2. 2. Limited partnership: A limited partnership combines general partners responsible for the day-to-day operations and limited partners (also known as “silent partners”) whose liabilities are determined by their financial contributions to the business partnership. Silent partners are not involved in decision-making for the partnership.
   
3. 3. Limited liability partnership: Also known as an LLP, a limited liability partnership ensures that all partners can receive liability protection from legal issues resulting from the actions of other partners. There is also a limited liability limited partnership (LLLP), a newer business structure that grants even more liability to general partners. Since the LLLP is still relatively new compared to other types of partnerships, some states do not yet recognize some of the protections it affords.

While each state has its own guidelines for forming a business, here are some general steps to consider:

1. 1. Select your partnership structure. You and your potential partners should first discuss your ideas and goals for the partnership and what you collectively hope to achieve by joining forces. Contact your Secretary of State’s office to determine which partnerships are available and permitted in your location, then select the one that best suits the needs of all parties involved.
2. 2. Choose a name. Your partnership’s name should reflect your business’s focus and can include your partners’ names and any designation, such as LLP. If you choose a business name that does not include your partners’ names, you may need to register your business under a fictitious or assumed business name, also known as a trade name or “doing business as” (DBA). You can file for a DBA at the county clerk’s office or Secretary of State’s office, depending on your state’s guidelines. You may also want to register your business’s name as a federal and state trademark to protect your brand, though this isn’t a requirement.
3. 3. Create a partnership agreement. Creating a partnership agreement is one of the most critical steps in forming a business partnership. The partnership agreement should lay out vital information about the partnership and its trusted partners, including each party’s role, profit distribution, and initial costs to join the partnership, including equity contribution. The agreement should also establish voting rules for decision-making, the process for admitting new partners, contingency plans for bankruptcy or the death of a partner, and exit and expulsion strategies. Partnerships can be amended upon the agreement of all partners.
4. 4. Meet all tax and regulatory requirements. Partnerships must meet all licensing and tax requirements on the federal, state, and local levels. These requirements may include obtaining employee identification numbers (EIN) from the Internal Revenue Service (IRS) for tax purposes and a business license, depending on your type of business (such as accounting). Other regulatory requirements include zoning permits or building permits, and state tax registration for sales and use tax if your state requires it, and state employer registration to hire employees and pay unemployment. As a small business owner, you and your partners may also be liable to additional state, federal, and local taxes, such as self-employment tax and employer withholdings.
5. 5. Obtain insurance. Since all business partners are liable for debts and obligations of the business partnership, consider obtaining business liability insurance to protect both the business and your personal assets from lawsuits and other issues.
6. 6. Start a business account. Starting a business account allows all parties to keep their business and personal finances separate. To open a business account at your local bank or credit union, you may be required to present your EIN and partnership agreement.

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