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Partnerships: friend or foe?
The structure you choose affects everything from personal liability to tax treatment. Understanding the difference could save you from an expensive lesson.
What partnership means legally
Under the Partnership Law Act 2019, a partnership exists when two or more people carry on a business in common with a view to profit. The key word here is "exists." Partnerships can form even when you did not intend to create one.
If you and a friend start selling products together, splitting the profits and sharing the work, you may already be partners in the legal sense. This happens regardless of whether you signed anything or even discussed the arrangement formally.
Unlike a company, a partnership is not a separate legal entity. The partners are the business. There is no legal separation between you and the partnership's obligations.
Accidental partnerships
You don't need a written agreement or even an intention to create a partnership. If the legal elements are present, a partnership exists by operation of law.
The liability problem
This is the critical difference between partnerships and companies, and the reason many business owners ultimately convert to a company structure.
Partnership: Unlimited Personal Liability
Each partner is personally liable for all the debts and obligations of the partnership. Not just their share: all of them.
If your partner runs up debts the partnership cannot pay, creditors can come after your personal assets, including your house.
Company: Limited Liability
Shareholder liability is usually limited to their investment. If the company fails, shareholders lose what they put in.
Personal assets are generally protected from company creditors, with limited exceptions for director misconduct.
"Joint and several liability" explained
A creditor can pursue any one partner for the full amount owing, leaving that partner to seek contribution from the others. If your partners cannot pay, you wear the full loss. This is why the financial stability of your partners matters as much as your own.
When each structure makes sense
When partnerships work well
Professional services
Law firms, accounting practices, and medical partnerships. Liability is managed through professional indemnity insurance.
Short-term joint ventures
When two businesses collaborate on a specific project with a defined end date. Dissolves naturally when complete.
Low-risk businesses
Minimal debt, no significant assets, low-liability field. Simplicity may outweigh the risks.
Tax treatment suits
Partnership income flows through to partners individually. May offer tax advantages in some circumstances.
When companies work better
Significant business risk
Large claims, supplier debts, or lease obligations. Limiting personal exposure is usually wise.
Multiple stakeholders
Investors, different share classes, or employee share schemes. Companies provide the necessary structure.
Personal asset protection
Family home, investments, or other assets you want to protect from business creditors.
Succession planning
Selling a business is cleaner when it's a company. Shares can be sold, and the business continues.
Partnership agreements
If you do form a partnership, a written agreement is essential. Without one, the Partnership Act's default rules apply, and they may not suit your situation at all.
For example, without an agreement, each partner is entitled to an equal share of profits regardless of how much capital they contributed or work they do. This rarely reflects what the partners actually intended.
The exit provisions are particularly important. Without them, a partner wanting out can force dissolution of the entire partnership, potentially destroying a viable business.
Essential Provisions
The look-through company alternative
A look-through company (LTC) offers something of a middle ground. Legally, it is a company with limited liability. For tax purposes, income and losses flow through to shareholders as if it were a partnership.
LTCs work well when:
You want limited liability but partnership-style tax treatment
There are five or fewer shareholders (legal requirement)
Losses in early years could offset other personal income
Property investment where you want to pass through depreciation
LTCs have specific rules and are not suitable for every situation. The structure requires careful consideration with both legal and tax advice.
Key Takeaways
Partnerships can form accidentally when people carry on business together
Partners have unlimited personal liability for all partnership debts
A written partnership agreement is essential if you proceed with this structure
Companies offer liability protection that partnerships do not
Look-through companies combine limited liability with partnership-style tax treatment
Converting early is simpler than converting after taking on significant liabilities
Related Guide
Follow our step-by-step guide to choosing the right structure for your business.
Read the Business Structuring GuideRelated Reading
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