General part­ner­ships: freedom and risks for merchants

So, you want to start your own business? If you set up a trading business with at least one other person, the general part­ner­ship is a quick way to get started, since general part­ner­ships do not need share capital like cor­po­ra­tions do. The general part­ner­ship structure also offers some ad­van­tages when it comes to day-to-day business op­er­a­tions. In most cases, all partners are active in man­age­ment and have full decision-making authority.

The history of the general part­ner­ship structure goes back to the start of the twentieth century. The first piece of leg­is­la­tion proposed for the governing of business part­ner­ships in the USA was the Uniform Part­ner­ship Act, first put forth in 1914. The Act has been revised many times, most recently in 1997.

The Uniform Part­ner­ship Act (UPA) and the sub­se­quent Revised Uniform Part­ner­ship Act(s) (RUPA) are uniform acts, which means it is up to each state to decide whether or not to adopt and implement the laws. The first act was adopted by 49 states, while the most recent is in place in 37 states. The biggest change in the revised acts came in the 1997 RUPA in that it allows partners to modify rules in their contracts and also defines a part­ner­ship as an entity rather than a group of in­di­vid­u­als.

A general part­ner­ship is a part­ner­ship, i.e. an en­ter­prise founded and operated by at least two legal and/or natural persons who are liable to the full extent of their assets.

General part­ner­ships do not have strict pre­con­di­tions for their formation. Unlike cor­po­ra­tions, they do not require any share capital. However, partners do need to have some com­mer­cial skills to keep on top of their ac­count­ing oblig­a­tions (or they can hire a tax con­sul­tant). Overall, the barriers to entry are com­par­a­tive­ly low, and this also opens the way for less wealthy founders to become self-employed.

All partners in a general part­ner­ship can make business decisions on their own (provided the articles of as­so­ci­a­tion do not state otherwise). This naturally requires trust between the partners, but you should nev­er­the­less plan and determine the dis­tri­b­u­tion of tasks within the company in advance. According to current legal opinion, only share­hold­ers may take over man­age­ment of a company. Engaging an external managing director is not permitted within a general part­ner­ship structure.

• Legal form: Part­ner­ship
• Legal basis: Uniform Part­ner­ship Act 1914 and Revised Uniform Part­ner­ship Act
• Share­hold­ers: At least two persons (natural or legal)
• Man­age­ment: Freedom of in­di­vid­ual action and oblig­a­tion to be a self-governing body; in addition, man­age­ment can be freely struc­tured, e.g. with procu­ra­tion
• Rep­re­sen­ta­tion: By non-partners, au­tho­rized sig­na­to­ries in par­tic­u­lar are possible
• Articles of as­so­ci­a­tion: No legal struc­tur­al oblig­a­tions; does not require written form (although highly rec­om­mend­ed)
• Company (company name): Personal names, fictional names and subject names are all allowed. If the name is not the same as the company’s legal name, your state may require to file the company name under “Doing Business As” (DBA).
• Location: USA, worldwide
• Ac­count­ing oblig­a­tions: Inventory and balance sheet
• Share capital required: No
• Legal entity: Yes
• Legal capacity: Yes
• Liability: Partners are entirely liable with both business and private assets
• Tax liability: Flow through entity (share­hold­ers are taxed through their income tax rather than business as a whole)

If you decide to found a general part­ner­ship, you just have to conclude an informal part­ner­ship agreement with your partners. This can be done orally or in writing. While there is no oblig­a­tion for a written part­ner­ship agreement, it is nev­er­the­less strongly rec­om­mend­ed to draw one up, so that essential matters for later business op­er­a­tions are clearly laid out.

The articles of as­so­ci­a­tion should outline the purpose and aims of the general part­ner­ship, as well as the names of the partners involved. The official location of the company should also be included. By law, all partners have the same rights and duties. The articles of as­so­ci­a­tion should provide in­for­ma­tion on how the different partners will par­tic­i­pate in the business, whether in kind, money, or work. This will help break down how the share of profits or losses should be measured.

Partners may, but are not obliged to, sit on the board of man­age­ment. It is also possible to be rep­re­sent­ed by a proxy. Powers like decision making when it comes to taking out credit or the use of company assets requires reg­u­la­tion. Ex­tra­or­di­nary contracts with high per­for­mance sums require a previous arrange­ment.

It may also be worth outlining the timeframe of the company in the articles of as­so­ci­a­tion, limiting business relations to a certain time, for example. If share­hold­ers leave pre­ma­ture­ly, severance payments should be already decided upon and be ready to implement. Even more im­por­tant­ly for the company is the question as to what form it will continue to take if a share­hold­er decides to leave the company. It may also be worth drawing up a no-com­pe­ti­tion clause in the contract for partners and share­hold­ers.

Some cir­cum­stances may require a formal drafting of the articles of as­so­ci­a­tion. This may be the case if, when a company is founded, there are certain processes initiated that require formal notation. For example, if a partner wants to provide a property as a con­tri­bu­tion towards a business, it must be trans­ferred to the company. Then the articles of as­so­ci­a­tion con­tain­ing this point must also be available in writing and certified by a notary public.

There is no minimum for seed capital if you are starting a general part­ner­ship. In practice, however, the business will not work if it has no assets. You will need suf­fi­cient funds to build up your business and to bridge the time until you make your first profits. All company property (material assets and capital con­tri­bu­tions) ul­ti­mate­ly belong to all the share­hold­ers equally. This is called the total assets.

The founders of a general part­ner­ship need to select a name for their business and ensure that their business is reg­is­tered with their local Secretary of State and any other relevant au­thor­i­ties. Business owners have a great deal of freedom when it comes to naming their company. Both personal names (names of the share­hold­ers) and subject names (referring to the type of business) are allowed, as well as entirely fictional names. Any names that deviate from the legal names of the founder will have to be reg­is­tered as “Doing Business As” names with the Secretary of State.

Once you have reg­is­tered with the Secretary of State, you are free to begin doing business. It may also be worth your while to consider patenting the name of your company to ensure that there are no name disputes with other busi­ness­es in the future.

In addition to reg­is­ter­ing with the Secretary of State, you will need to register with the Internal Revenue System (IRS). It may also be useful to you to register with local Chambers of Commerce, or trade and industry groups in your locality.

In a general part­ner­ship, all partners are au­to­mat­i­cal­ly involved in company man­age­ment, unless the articles of as­so­ci­a­tion designate specific in­di­vid­u­als to the task. If this is the case, then all other partners are excluded from man­age­ment.

When it comes to general part­ner­ships, the principle of in­di­vid­ual man­age­ment applies. According to this principle, each member of man­age­ment may act on their own authority in day-to-day business and represent the company ex­ter­nal­ly. However, if another member of man­age­ment objects, the trans­ac­tion in question will not take place. You can also change this in­di­vid­ual man­age­ment in the articles of as­so­ci­a­tion – for example, in such a way that the managing directors always have to conclude contracts together.

Book­keep­ing for a general part­ner­ship depends on the size of your business. If your general part­ner­ship is a small business with few partners, double entry book­keep­ing is not required. Small general part­ner­ships may follow the same basic ac­count­ing struc­tures as a sole pro­pri­etor. On the other hand, if your general part­ner­ship is larger with numerous partners, you will be required to provide a balance sheet with your tax return which will ne­ces­si­tate double-entry book­keep­ing. To provide clear and con­sis­tent records, you should also keep regular in­ven­to­ries and balances.

Since all share­hold­ers are re­spon­si­ble for the general part­ner­ship, they are also jointly liable for taxes and other levies incurred by the company. However, it is important to note that general part­ner­ships are not liable for federal income tax. Instead, they are known as “flow-through” entities, which means that the part­ner­ship’s income, losses, credit, and de­duc­tions fall to the partners them­selves, who file and pay these taxes through their personal income tax return. Part­ner­ships are not liable for cor­po­ra­tion tax.

Thanks to the straight­for­ward structure of a general part­ner­ship, it is assumed that all profits and liability will be split equally among the share­hold­ers in the event of profit or loss. If partners wish to split the profits in a different ratio, this will need to be outlined in the articles of as­so­ci­a­tion.

A sig­nif­i­cant aspect of being in a general part­ner­ship is the share­hold­er’s liability towards company creditors. As pre­vi­ous­ly mentioned, you are also liable with your private assets if you operate a general part­ner­ship. These are not only savings, but all at­tach­able funds including real estate or valuables. This applies up to the legally stip­u­lat­ed seizure limit.

In most states, the con­tin­gent liability is char­ac­ter­ized as unlimited, personal, and joint liability. This means that, if necessary, each in­di­vid­ual share­hold­er is liable for the entire debt towards third parties – this cannot be re­strict­ed or excluded by the articles of as­so­ci­a­tion. However, in this instance, the share­hold­er can demand com­pen­sa­tion from the other share­hold­ers.

It makes it all the more important to take out liability and/or com­mer­cial insurance. There are liability risks towards co-share­hold­ers and a general risk in the re­spec­tive industry.

In the articles of as­so­ci­a­tion, however, share­hold­ers may limit their internal liability to the amount of the share­hold­ers re­spec­tive con­tri­bu­tion, for example. However, this does not affect liability towards third parties. Even if a partner forms a contract and then becomes insolvent, the remaining partners will be liable to pay.

Example: In a fictional general part­ner­ship, the articles of as­so­ci­a­tion state that share­hold­er Mr. Smith bears 40 percent of all li­a­bil­i­ties, and share­hold­er Mr. Jones holds 60. However, if Mr. Smith creates a contract with a supplier for $10,000 and then becomes insolvent, Mr. Jones must pay the total debt of $10,000. The supplier is not affected by internal business agree­ments, instead he is entitled to the entire amount owed to him by the general part­ner­ship.

New share­hold­ers bear all the li­a­bil­i­ties that the general part­ner­ship has ac­cu­mu­lat­ed to date.

There are several instances where a general part­ner­ship may cease to function. Possible reasons include:

• The lifespan of the company is limited according to the articles of as­so­ci­a­tion
• The share­hold­ers jointly decide to dissolve the general part­ner­ship
• A judicial decision de­ter­mines the dis­so­lu­tion
• In­sol­ven­cy pro­ceed­ings are initiated without a con­tin­u­a­tion plan (partner dies or decides to leave with no articles of as­so­ci­a­tion in place to protect the business)

The end of a general part­ner­ship generally has three steps. A res­o­lu­tion to dissolve the company for any reason is only the first step. Before the company is com­plete­ly dissolved, liq­ui­da­tion and company ter­mi­na­tion must still take place.

During liq­ui­da­tion, the general part­ner­ship processes its current business trans­ac­tions, settles li­a­bil­i­ties, and collects its own re­ceiv­ables. Once all assets have been dis­trib­uted, the dispute ends. The last step, full ter­mi­na­tion, takes place once the business has been de-reg­is­tered from all relevant state and/or federal bodies.

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