The pro and cons
Forming a partnership business structure with another sole trader or company is a great way to take your business to the next level.
There are also drawbacks so you should discuss your business needs with an accountant and a financial adviser before making a decision to form a partnership.
What are the benefits?
- Leverage the resources and skills of each partner to reach a level of synergy that can be difficult to reach as a sole trader.
- You have the opportunity to set up as a ‘limited’ liability partnership so partners only contributing capital and not involved in business decisions are only liable for their proportional business share.
- Really simple to set up with the Australian Taxation Office (ATO) and at a minimal cost (it varies from state to state so speak with an accountant and solicitor).
- Limited yearly reporting requirements with the ATO. You simply need to file a partnership tax return and then your own personal tax return.
- You don’t need to register for a business name with the Australian Securities and Investments Commission (ASIC) if you’re operating under your name or that of any of your partners.
- Profits (and losses) aren’t split down the middle, 50/50. Your share will be dependent on your share (capital investment) in the business. You can negotiate all of this in the partnership agreement.
- Each partner can claim a deduction for personal super contributions.
- Unlike a sole trader business structure, you can raise capital by having more partners join the business structure and pool more resources.
- Revenue splitting is available.
- You can employ staff.
- A partnership is not a separate legal entity so you can get certain tax benefits. For example, one partner can offset business losses (based on their share in the company) with income they earn elsewhere, such as an investment property.
What are the drawbacks?
- Like a sole trader, there is unlimited liability (joint and several) between you and the other partners (unless you there is a limited liability arrangement in place).
- You can’t claim tax deductions for money drawn from the business.
- You’re owning earning half the profits or less if there is more than two partners in the ownership structure.
- You really have to trust that your partner will do the right thing because you’re both joint and severally liable.
- Certain decisions may need to be shared by the partners which can cause delays and even disagreements.
- It can be difficult to switch from a partnership to a new legal structure. The partnership itself will actually need to be dissolved and a new partnership agreement made every time there is a change in membership.
- Capital Gains Tax (CGT) is payable each time a partnership is dissolved or ended so it’s not as beneficial as say a trust in relation to holding assets.
Why set up a partnership?
The decision to come together with one or several partners depends on what you’re trying to achieve through the agreement.
Firstly, a partnership business structure is a great ownership structure if you’re a small-to-medium enterprise (SME) generating revenue between $50,000 – $100,000.
It also works with enterprises with limited liability, like an owner-occupied retail store.
If you fit this description, the next step is the toughest.
You’ll need to ask yourself fundamental questions as to whether a partnership will support your mutual business goals.
Is it simply a matter of pooling or leveraging resources, with one or more of the owners providing much of the working capital and the other directors involved in the day-to-day operations of the business?
Or are you really striving for a collaborative approach where each owner has a particular set of skills and experience to add to the future direction of the business?
What are the set-up requirements?
As mentioned previously, you can set up a partnership business structure quite easily and at a relatively low cost.
The first step is deciding whether you’re going to operate under your name or that of your partner’s.
If you’re operating under a business name, you’ll need to apply for an Australian Business Number (ABN).
You’ll then need to decide on the number of people in the partnership, whether it’s 2, 10 or anywhere up to 20 business partners.
Once this is decided, you’ll need to set up a partnership agreement to specify the rights and responsibilities of each partner and the limits on their personal liabilities as per their capital investment.
There are actually three different types of partnerships that you can register with the ATO:
- General partnership: This is where you and your partner/s have unlimited liability on business debts, losses and liabilities i.e. you’re both joint and severally liable.
- Family partnership: The same as a general partnership except two or more members are related to one another.
- Limited partnership: This structure consists of both general partners and one or more partners whose liability is limited to the proportion of their investment or share in the company. There is no maximum number of limited partners.
All of these requirements are regulated under the Partnerships Act 1982 so it’s essential you speak to a financial and legal professional before making a decision to trade under a partnership business structure.
Paying tax in a partnership
It’s actually more straightforward than say a company or trust business structure arrangement.
At the end of each financial year, the business will file a partnership tax return via the TFN or ABN, depending on whether the business is operating under a business name or not.
Once the tax return is assessed, the profits are separated between the partners as per the partnership agreement and then each partner add their share of the profit (or loss) to their person tax return for assessment.
Do I have to pay GST?
You’ll only need to register for the Goods and Services Tax (GST) once the business is turning over $75,000 or more annually.
Superannuation and employment requirements
Because you aren’t an employee of the partnership business structure for tax purposes, each partner is responsible for their own super payments.
Similarly, if you employ staff, you will need need to meet certain requirements including collecting PAYG tax from employees, paying entitlements, payroll tax and making super contributions.
Do you receive Personal Services Income (PSI)?
If you and your partners are medical doctors, financial advisors, engineering consultants or some other type of industry professionals, you’re actually being paid for your skills and expertise.
This is known as Personal Services Income or PSI and it will be treated as your individual income for tax purposes.
Because of this, there are fewer tax deductions that you can claim so check out the ‘Companies, partnerships and trusts’ page on the ATO website for more information.
Other tips on partnerships
Limiting your liability
In most cases, a partnership is formed between two companies or trusts so the unlimited liability attached falls within an entity that has unlimited liability.
If the other company folds, the only thing at risk is your company which you would try and keep as empty as possible (no income-producing assets).
The partnership agreement
If profits and losses aren’t being distributed equally between partners, drafting up a fair partnership agreement is crucial.
No matter whether you’re dealing with a close friend or even your own family members, relatives or spouse, speak with a solicitor.
The fundamental you’ll want to ask include:
- Will profits be shared based on capital input?
- Who will be involved in running the business?
- How can the partnership wrap up amicably should one partner decide to leave?
- How do you deal with business disputes?
Above all, it’s essential you seek out professional legal and financial advice before making the decision to set up and start trading under a partnership business structure.
Speak to a mortgage broker
Although we can’t provide with legal and tax advice, we can assist with getting a commercial loan to buy business premises.
Whether your current business premises are too small or you’re operating from you or your partner’s home, we can support your next growth phase by helping you qualify for finance to buy a commercial property.
We have relationships with a number of commercial lenders including the major banks and are in unique position to negotiate larger Loan to Value Ratios (LVRs) and reduced interest rates.
It all comes down to choosing the right lender and our extensive experience in putting together a strong application.
To speak with one of our commercial property loan specialists, call us on 1300 889 743 or complete our free assessment form today.