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What is a partnership?

A LLP incorporation form. Stock photo by Getty Images

A partnership is an unincorporated business operated by two or more people who share and control the assets. Partnerships carry many of the same — or similar — advantages and disadvantages of a sole proprietorship.

Potentially the most important feature of a partnership is the liability. Unlike a corporation, a partnership and the individuals behind it are not separate legal entities. This means each partner’s personal assets could be seized to pay off any debts.

However, you can limit that impact depending on the type of partnership you build. There are three classes of partnership:

General: this is the most common type and also the easiest to set up. A general partnership holds all partners equally liable for debts.

Limited: in this structure, limited partners can invest money with a general partner, who still faces unlimited liability. Limited partners, however, are only liable to the firm or creditors for an amount equal to how much they invested. Limited partners are restricted to investing and can’t take any part in management, or else they lose that protection.

Limited liability: this is a relatively new type, and provincial laws may restrict it to certain types of businesses, such as lawyers, accountants or doctors. In this structure, all the partners enjoy limited liability. If the business is sued, liability is limited to the specific partners who caused problem.

Other advantages:

A partnership is fairly easy to establish. The actual registration, though, is not fairly simple and inexpensive. However, it’s a good idea to decide how the partnership will be run and put it into a partnership agreement.

Partnerships don’t require any legal structure and they don’t undergo the same heavy regulation as corporations do.

Start-up costs and capital are shareable between partners.

Disadvantages

Partnerships don’t endure if a partner leaves or dies, since a partnership is based on the participating individuals, who aren’t separate legal entities. If a partner departs, those remaining have to re-establish the partnership.

It is difficult to buy or sell a partnership interest because a partnership is not a separate legal entity. Buying or selling a partnership interest involves rewriting the partnership agreement and determining exactly how the partnership will change.

Although the resolution of disagreements among partners is generally covered under a partnership agreement or case law, it can be 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.

Partners are not considered employees, so are not eligible for Employment Insurance if the business fails.

Tax impact

Partnerships also carry tax implications, both positive and negative.

If business was bad, you can deduct those losses from other employment income and potentially pay less tax.

If you turned a profit though, those earnings are taxed at your personal rate and could affect your income bracket.

Partners can’t take advantage of any income-splitting or deferral advantages that corporations enjoy.

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