A general partnership, while inexpensive to set up, potentially saddles the partners with big personal liability.
Updated May 25, 2021 · 7 min read Written by Priyanka Prakash Priyanka Prakash
Priyanka Prakash is a former Fundera.com staff writer and a freelancer specializing in small-business finance, credit, law and insurance, helping business owners navigate complicated concepts and decisions.
Assigning Editor Ryan Lane
Assigning Editor | Small business, student loans
Ryan Lane is an editor on NerdWallet’s small-business team. He joined NerdWallet in 2019 as a student loans writer, serving as an authority on that topic after spending more than a decade at student loan guarantor American Student Assistance. In that role, Ryan co-authored the Student Loan Ranger blog in partnership with U.S. News & World Report, as well as wrote and edited content about education financing and financial literacy for multiple online properties, e-courses and more. Ryan also previously oversaw the production of life science journals as a managing editor for publisher Cell Press. Ryan is located in Rochester, New York.
Fact Checked
Many, or all, of the products featured on this page are from our advertising partners who compensate us when you take certain actions on our website or click to take an action on their website. However, this does not influence our evaluations. Our opinions are our own. Here is a list of our partners and here's how we make money.
Table of Contents
MORE LIKE THIS Starting a Business Business Legal Small BusinessTable of Contents
MORE LIKE THIS Starting a Business Business Legal Small BusinessThere are several types of business partnerships, but the most common is a general partnership.
Featured card placement may be affected by compensation agreements with our partners, but these partnerships in no way affect our recommendations or advice, which are grounded in thousands of hours of research. Our partners cannot pay us to guarantee favorable reviews of their products or services. Here is a list of our partners.
ZenBusiness Starting At Read ReviewA general partnership is an unincorporated business with two or more owners who share business responsibilities. Each general partner has unlimited personal liability for the debts and obligations of the business. Each partner reports their share of business profits and losses on their personal tax return.
General partnerships are common among the different types of business entities because they're simple, both in terms of getting started and filing taxes.
A general partnership is an unincorporated business, which means you don’t need to register your business with the state in order to legally operate. In fact, when two or more people go into business together with the goal of earning a profit, a general partnership exists by default.
To have a general partnership, two conditions must be true:
The company must have two or more owners.All partners must agree to have unlimited personal responsibility for any debts or legal liabilities the partnership might incur.
In a general partnership, every partner can enter into contracts or business deals that are binding on every other partner. While this can be convenient, it also means that you should really trust the person or persons with whom you launch your company. It might be fun to start a business with a friend or family member, but they might not necessarily make the best fit as a business partner. Your partner’s actions or mistakes can affect you legally and financially.
To prevent and resolve disagreements, owners in most general partnerships create a founders’ agreement or partnership agreement. The agreement outlines the governing structure of the business and each owner’s rights and responsibilities. The agreement also typically addresses partner voting rights and the division of profits.
In the absence of a partnership agreement, general partnerships dissolve when one of the partners passes away, becomes disabled or leaves the partnership. An agreement can specify what should happen in these circumstances. For example, if one partner dies, the surviving partner or partners might get the first opportunity to buy out that individual’s share.
It doesn’t take much to create a general partnership, but once a partnership is established, the consequences can be very impactful, particularly in terms of shared liability among partners. Here are more details on what you can expect from a general partnership.
The hallmark of a general partnership is shared liability for partnership debts and obligations. Every partner in a general partnership faces unlimited personal liability for three different things:
Their own actions. The actions of other partners that bind the partnership. The actions of company employees.If someone sues a general partnership, the partners have shared responsibility for any damages a judge or jury awards. This is called joint liability.
Some states take this a step further with something called joint and several liability. In that case, a debtor or legal claimant can sue any partner for actions taken by other partners. It’s then the partners' responsibility to sort out who owes what. Shared liability in a general partnership can be particularly harmful if one partner is negligent or involved in criminal activity.
Let’s say Partners A, B and C own a landscaping company together. Partner A accidentally injures a client with a lawnmower while out on a job one day. The client sues all three partners and receives a large damages award of $1 million. In court, Partner A discloses having very few personal assets. In states that follow joint and several liability, the client can then recover the damages from the personal assets of Partner B and Partner C even though they had nothing to do with the lawnmower injury.
Later, Partners B and C can sue Partner A to recover money, but it might not be worth their time if Partner A doesn’t have any assets.
Fiduciary duties can help protect owners in a general partnership. There are four types of fiduciary duties among general partners:
Duty of Good Faith and Fairness: Partners must act honestly and fairly in all activities that affect the business.
Duty of Loyalty: Partners should place the best interests of the partnership above their own interests and avoid any conflicts of interest that could hurt the partnership.
Duty of Disclosure: Partners should disclose the potential benefits and risks known to them of a prospective business decision so that the partners can make an informed choice about whether to pursue it. Partners might have to disclose information about business activities, finances, contracts, etc.
Duty of Care: Partners must use reasonable care when managing the partnership. For example, partners should document important business matters in writing and maintain books for financial transactions.
These fiduciary duties arise from the moment the partnership starts, and they continue until the partnership is dissolved. State law might specify additional fiduciary duties, but business owners can add to or modify certain fiduciary duties with a partnership agreement. If a partner breaches a fiduciary duty, the other partners can sue.
A partnership agreement can specify different areas of responsibility and different privileges for each owner.
You can distribute voting rights and profit share however you see fit. Some partnerships specify a few managing partners to take the lead on business matters.One thing you can’t change with a partnership agreement is your state’s rules on joint liability or joint and several liability.
In the absence of a partnership agreement, the majority of states follow the Revised Uniform Partnership Act , also known as RUPA or UPA. This is a model statute that provides standard rules about how a partnership should be governed and the rights and duties of each partner. Under RUPA, all partners have equal voting rights and profit shares, even if one partner contributes more resources or money to the company.
Partners aren’t considered employees, so compensation isn’t in the form of a salary. Instead, partners receive distributions from the partnership’s profits, in line with their share of profits as outlined in the partnership agreement (profits are equally distributed if there’s no agreement).
The IRS considers distributions as self-employment income, which is subject to self-employment taxes for Social Security and Medicare.
The partnership can retain any money that’s not distributed and reinvest it in the company, but partners still have to pay taxes on retained earnings.
General partnerships don’t pay business income taxes, because they are pass-through entities. This means each owner reports their share of the partnership's income and losses on their personal tax return and pays the taxes accordingly.
The partnership must complete and provide a Schedule K-1 to each owner no later than March 15 each year. Schedule K-1 summarizes each owner’s share of business income, losses, credits and deductions. Each partner uses the information in the Schedule K-1 to complete their Form 1040 tax return.
Income for general partners is usually treated as self-employment income, so the partner should attach Schedule SE to their 1040.
In addition, the partnership must file Form 1065 as an informational return with the IRS no later than April 15.
In most states, partners must pay federal, state and local income taxes. There might also be other small-business tax obligations, such as payroll taxes and sales tax collection, depending on the specific circumstances of your company.
Filing business taxes can be a multi-step process, so we recommend using a tax professional to complete your taxes.
Here are some of the pros and cons to consider for a general partnership.
Easy to start (no registration or incorporation required).The partnership doesn’t pay taxes (income and losses pass through to the owners’ personal tax returns).
Compliance is relatively easy (e.g., no annual reports). Partners can customize management and control to some extent via a partnership agreement. Partners have unlimited personal liability for the actions of other partners and employees.Disputes among partners can cause the business to fail, particularly in the absence of a partnership agreement.
This is not an appropriate business structure for raising investor money.A general partnership might be a practical way to start your business venture because it’s easy and inexpensive.
Eventually though, your business may become too large or complex for a general partnership structure. When your business is involved in several different activities, deals and contracts, the likelihood that a mistake or oversight will occur is much larger. And if it does, joint liability can be very harmful to the business.
As a business grows, consider a business structure that limits liability for owners, such as a limited partnership, limited liability company or corporation.
LLCs and corporations limit personal liability for all owners of the business.In a limited partnership, there are two types of partners — general partners and limited partners. General partners have unlimited personal liability for business debts and obligations, but limited partners are only responsible up to the amount of their investments.
Limited partnerships can be a good option when pooling the resources of multiple people or when a few partners bring capital to the table.
Whenever you start a business with multiple people, regardless of the type of business structure, it’s important to have a founders’ agreement that delineates the rights and responsibilities of each owner. This is the a good way to prevent disagreements among partners and provide clarity in uncertain situations.
This article originally appeared on JustBusiness, a subsidiary of NerdWallet.
About the authorYou’re following Priyanka Prakash
Visit your My NerdWallet Settings page to see all the writers you're following.
Priyanka Prakash is a former Fundera.com staff writer and a freelancer specializing in small-business finance, credit, law and insurance, helping business owners navigate complicated concepts and decisions. See full bio.
On a similar note.
50 Best Small-Business Ideas to Start in 2024 Business Structure: How to Choose the Right One Small-Business Grants: Where to Find Free Funding How to Register Your Small Business MORE LIKE THIS Starting a Business Business Legal Small BusinessAlthough some lenders offer business loans for startups, you may need alternative solutions to finance a new business.
Federal and state agencies, as well as private companies, offer small-business grants. Here's a list of resources.
NerdWallet Home Page Finance Smarter Credit Cards Financial Planning Financial News Small BusinessDownload the app
Disclaimer: NerdWallet strives to keep its information accurate and up to date. This information may be different than what you see when you visit a financial institution, service provider or specific product’s site. All financial products, shopping products and services are presented without warranty. When evaluating offers, please review the financial institution’s Terms and Conditions. Pre-qualified offers are not binding. If you find discrepancies with your credit score or information from your credit report, please contact TransUnion® directly.
NerdUp by NerdWallet credit card: NerdWallet is not a bank. Bank services provided by Evolve Bank & Trust, member FDIC. The NerdUp by NerdWallet Credit Card is issued by Evolve Bank & Trust pursuant to a license from MasterCard International Inc.
Impact on your credit may vary, as credit scores are independently determined by credit bureaus based on a number of factors including the financial decisions you make with other financial services organizations.
NerdWallet Compare, Inc. NMLS ID# 1617539
California: California Finance Lender loans arranged pursuant to Department of Financial Protection and Innovation Finance Lenders License #60DBO-74812
Insurance Services offered through NerdWallet Insurance Services, Inc. (CA resident license no.OK92033) Insurance Licenses
NerdWallet™ | 55 Hawthorne St. - 10th Floor, San Francisco, CA 94105
