Before you start a business, whether it is based on your passion or even a hobby you are looking to monetize, apart from acquiring knowledge of the business you want to venture into, it’s important to decide on the legal structure of your business. The law plays a major role in how your business would be run which is why it’s necessary you carefully evaluate which legal structure works best for your business.
There are many ways a business can be structured legally; the three most common forms are sole proprietorship, partnership and corporation. But most times, independent business owners form partnerships with other small medium enterprises (SMEs) for the sole purpose of pulling together a large capital that will sustain the business in the long run. Of course, there are many ways a business can source for capital through crowdfunding, borrowing, investor’s fund or grants. But for business owners who don’t mind sharing equity, they might consider partnerships. However, there are no good or bad structures, the choice of organizational legal structure and solely depends on your personal situation and what you desire to achieve with your business. The key is carefully analyzing each structure and deciding on which structure is best suited for your business needs.
What is a partnership?
Partnership is a business owned and operated by several individuals. A partnership is a formal arrangement by two or more parties to manage and operate a business and share its profits. In a broad sense, a partnership can be any endeavor undertaken jointly by multiple parties. The parties may be governments, non-profits enterprises, businesses, or private individuals. The goals of a partnership also vary widely. And also, each partner has equal share in the net profits and losses of their business.
Partnerships come in two forms: general partnerships and limited partnerships. General partnership is when two or more people who decide to be in a partnership manage the company and take the responsibility for the debts incurred during the course of the partnership and other obligations. While a limited partnership is a combination of both general and limited partners. The general partners own and operate the business and assume the liability for the partnership, while the limited partners come into the business to act as investors; they have no control over the company’s day-to-day operations and are not subjected to the liabilities of the business. The limited partner is also known as silent partners, contributing money to the venture but without any right to directly run the business daily.
How to structure your organizational legal structure (partnership)
If you are establishing your business as a partnership, it’s essential that your partnership agreement outlines all business decision possibilities, including succession or exit plans. This is because a partnership agreement when not well thought out has its long-term implications on the business. The first step you need to take in forming a business partnership is to figure out who you are going to partner with. Although partnerships can be formed with two or more partners, however a partnership of more than 10 people can become difficult to manage. There are few things to note as a business owner if you intend to enter into a partnership agreement:
Choosing a Name:
The first step in starting a partnership usually involves choosing a name. The right name would describe what the business is about or the fact if the business is a partnership. Choosing a name that incorporates your name and your partner’s, and while it’s not required, it’s often a good idea to gain legal protection for your partnership in the form of a trademark. After you have chosen a business name, you are required to register to seal the legality of the partnership. Partnership is to be registered as a business name with the Corporate Affairs Commission.
Having a Business Plan:
In shaping your organizational legal structure, you will need a business place. Although, a business plan is not necessarily compulsory. But it serves a roadmap for your business and highlights the responsibilities of each partner for the business, including who would bear the most risk or who should be more involved in the day-to-day operations. It’s useful in helping you navigate different aspects of your business and to implement necessary actions that will lead to the growth of your business.
Understanding your Tax Obligations:
When your business is a partnership, you don’t have to pay taxes on incomes. Therefore, each individual partner has to pay tax on their distributive share of partnership income passed through to them. Taxation of partners is governed by the Personal Income Tax Act (PITA). Under PITA, partners are taxed as individuals with chargeable incomes derived from the partnership business and other sources. You will be taxed according to their profit shares from the partnership income.
Obtain a License or a Business Permit:
To operate a legal partnership, like every other business structure you will be required to obtain a license or a business permit. The license gives you the right to do business under the partnership laws.
You need a Partnership Agreement:
Partnership agreements can be informal, oral arrangements on how each partner will share profits and losses of their business venture. However, business owners who intend to go into partnerships are advised to use a formal, written partnership agreement to outline how the income, deductions, gains, losses, and credits will be split.
When drafting a partnership agreement, there are some key elements to note:
· It’s important to list the name of the partnership, location, when it was formed and the purpose of the business, who the partners are and their capital contributions. And then detail what the partners are putting into the partnership; it could include money, intellectual property, customers, machinery, vehicles, etc.
· The agreement should have each partner’s “distribution percentage” – showing their share of partnership profits and losses If a partner contributes 50 percent of the start-up money, then he/she should be entitled to 50 percent of the profits.
· In the partnership agreement you need to determine the voting rights of each of the partners, the partner who is going to manage the partnership, the one who can sign contracts, and to indicate whether partners are going to be receiving salaries for their labor or services.
· Another important thing to detail in the partnership agreement is to detail the exit strategy; on how the partnership can be dissolved , the circumstances under which partners can withdraw, how much notice they must provide, how the assets will be distributed, and what happens if one partner retires, goes bankrupt, becomes disabled, or dies.
Benefits of partnership organizational legal structure
- A business partnership is flexible. Business owners have full authority to make their own rules and run their companies in whatever manner they think is right for the business.
- Partnerships give you the leverage to share risks between two or more people. While each partner can share profits, it is the same way they can share losses.
- In partnerships, you can benefit from the expertise, skill and capital provided by each business owner. Most business partners bring a particular set of skills that helps in the achievement of the company’s goals.
- Limited liability companies significantly eliminate business exposure to liabilities. A business partnership legal structure protects the personal assets of the business owners if a lawsuit or debt obligation threatens the livelihood of the business.
Partnerships offer business owners the opportunity to raise sufficient capital for the growth of the business. When a business has more than owners, the potential of raising larger funds will be increased. Although this business structure adds longevity to business, there are some liabilities to this business structure which may hinder expansion or create larger business risks that can’t be shouldered by the partners.