Financing For Partnerships
When starting a new business, or joining businesses, there are a variety of ways to establish a legal relationship for ownership and responsibilities relating to that business. Sole proprietorships are the easiest way to start any business, which is why sole proprietorships account for 70 percent of all United States businesses today. But what if a business has more than one business owner, or wants to legally associate their business with less personal liabilities or simply desires to include another person (or persons) into their business? This is when business owners start to consider the various types of partnerships. Essentially, any business that is operated by two or more owners falls under the partnership category; some partnerships are similar to a sole proprietorship in that a partnership business is not necessarily an independent entity, but there are a variety of advantages that could benefit many business owners by choosing to have their business be a type of partnership. A partnership is a legal relationship between two or more people to co-own a business; each partner has equally invested in the business, whether that person is a general partner, limited partner, equity partner, or salaried partner.
- General Partners: General partners participate in running the business and have personal liability for all debts related to the business.
- Limited Partner: Limited partners typically invest in the business, however they do not play a role in any day to day operations or management.
- Equity and Salaried Partners: These types of partners are often paid as employees for the business; salaried partners typically only have a share in the ownership of a business.
Types of Partnerships
General Partnership: A general partnership is the simplest and easiest form for two or more business owners to create. In a general partnership, all of the owners share equal rights and responsibilities associated with the business. Each business owner in a general partnership has full responsibility of all of the business’s debts, obligations, management rights, and any other aspect of the particular business’s personal liabilities.
- Advantages: Creating a general partnership is incredibly easy to start since there is not legal state filing requirements. Because of the lack of legal filing requirements associated with general partnerships, there are low costs of operation because there are no ongoing state fees or franchise taxes. There are also no requirements associated with holding annual meetings and issuing partnership interests like there is for corporations.
- Disadvantages: Similarly to sole proprietorships, general partnerships retain full, shared liability for business owners of all business debts, decisions, and actions. Essentially, personal assets of the business owners can be used to settle these debts.
Limited Partnerships: A limited partnership allows the various business owners to have business liabilities separate from personal assets; the major caveat that side of a limited partnership is that at least one of the business owners must accept general partnership status, thus making that individual’s personal assets vulnerable to the business’s debts and obligations. The other business partners in a limited partnership assume the roles of limited partners. This means that the limited partners do not play a role in day to day management operations, but they still benefit from business profits.
- Advantages: From a limited partner’s perspective, a major advantage is the separation of personal assets from the business’s debts and liabilities. From a general partner’s perspective, having sole control over management and day to day operations is a huge plus that is not seen with a general partnership. A limited partnership is also the best option for special situations such as short term ventures (i.e. the film industry). There are also major tax benefits for this type of partnership that is discussed in more detail below.
- Disadvantages: For a general partner, having personal assets that could be effected by the business’s debt could pose potential risks and issues that some business owners would prefer to avoid. Also, some general partners might find it difficult to share profits with limited partners who do not play a role in day to day operations.
Limited Liability Partnership (LLP): A limited liability partnership is similar to the other types of partnerships when it comes to tax advantages (discussed below), however there is more personal liability protection for the individuals involved with an LLP. This is often the best form of a partnership for lawyers, doctors, dentists, and other professional businesses because a limited liability partnership protects each individual from the debts, mistakes, or malpractices of another individual in the partnership – but a partner is still responsible for their own personal acts.
- Advantages: A limited liability partnership allows every individual to be protected from the debts or malpractices of another person that is a partner. A limited liability partnership also allows for multiple general partners.
- Disadvantages: When there are multiple partners in a business, there is always room for disagreements to arise, especially when dealing with shared profits from business ventures. However, by forming a partnership agreement before setting up a limited liability partnership, there are ways to avoid this issue.
The most important aspect of setting up any partnership is to consider consulting with professional legal help to address any concerns or questions; while this is an outline for the basis of the types of partnerships for business, there are many other legal intricacies and different state requirements associated with partnerships, and whether your business would best to be structured as a corporation, sole prop or LLC.
- Forming a Partnership: When forming a partnership, business owners typically register with the particular state that they will be doing business in, however these requirements vary from state to state. It is also required by all states to establish a business name, whether it is a business owners legal name, a combination of all of the partner’s last names, a trade name, or a DBA name (doing business as). Once the business is registered, there are also business licenses and permits that must be obtained, depending on the industry, state, and locality.
- Importance of a Partnership Agreement: A partnership agreement is not mandatory when forming a partnership business, however it is highly recommended. Typically, a partnership agreement should encompass the variety of issues associated with creating a partnership to develop a legal agreement. This can include how future business decisions are made, how profits are split, how to resolve possible future disputes, how to handle ownership changes, or how to amicably dissolve the partnership if that situation ever arises – basically, a partnership agreement should address and answer any “what if” questions that could come up in the future.
- Taxes: All three forms of partnerships are taxed the same – they must file an annual information return to report to the IRS all income, deductions, gains, and losses from the business, however the business does not pay income tax. This is the biggest advantage for forming a partnership, since the individual partner (whether it is the general or limited partner) will include taxes for income or loss on his or her own personal tax return.
Why Would a Partnership Need Financing?
- Working Capital: This is one of the most important aspects to running any business. Working capitalallows a business owner to meet his or her business’s debt obligations, remain financially viable, and help cover emergency business costs. Working capital essentially encompasses all of the other important business costs outlined below.
- Technology, Social Media, and Marketing: Implementing more up to date technology is at the forefront of every business owner’s mind – it is simply unavoidable today. Depending on the industry your partnership operates in, there are endless amounts of technology being developed today, such as cloud based software and mobile sites, that can benefit any business. Social media is one of the largest growing platforms in the technological world that all partnerships need to be taking advantage of – especially when it comes to having an effective content marketing strategy that can be implemented via the internet, social media, and mobile apps is the best business move any partnership can make today.
- Hiring New Employees and Payroll: When a partnership is exploring the idea of hiring new employees, considering the variety of loan options out there can help. There is also the unavoidable, yet highly important, costs of covering payroll. If your business is not willing to consistently make payroll, your business will see a decrease in loyal, dedicated employees, thus greatly impacting your business profits.
- Inventory: While having inventory may not apply to all partnership businesses, most businesses have a need for inventory finance options. Having inventory before peak seasons, or purchasing inventory at a stellar, once in a lifetime deal is essential to many partnerships. Remembering that there are a variety of finance options out there to help cover this cost is important.
Types of Partnership Loans
|Bank||6-10%||3-7 years||14-30 days|
|SBA||6-10%||3-7 years||10-30 days|
|Line of Credit||5-15%||1 – 3 years||7-30 days|
|Alternative||6-25%||1-5 years||5-7 days|
|Cash Advance||1.16-1.55||3-24 months||1-3 days|
Partnership Bank Loans
Banks and credit unions offer traditional financing in the form of loans and lines-of-credit with the best rates and longest terms of all lenders. For partnerships applying for conventional financing, the partners must provide not only the business financial documentation, but also their own personal financials, including tax returns, personal financial statements and their professional resume.
- Rates: 5-10%
- Terms: 1-25 years
Partnership SBA Loans
SBA loans have similar rates and terms as traditional loans because SBA loans are originated by conventional lenders. An SBA loan facility is simply a conventional loan in which the government agrees to cover a portion of the bank’s losses should the partnership default on their loan.
- Rates: 6-8%
- Terms: 7-25 years
Alternative Partnership Loans
In recent years, due to the increased lending restrictions and requirements on traditional banks and credit unions, came the advent of fintech online lenders to fill a gap in the alternative space. While fintech loans don’t have bank-rates like conventional lenders, they do offer financing that is both affordable and easy to acquire.
- Rates: 9-25%
- Terms: 1-5 years
Asset Based Partnership Loans
Using an asset based loan to obtain financing is a way for company’s with strong balance sheets, or personal and/or commercial real estate to obtain financing. Asset based lender will usually use a company’s AR, or real estate as collateral in return for financing.
- Factor Rates: 1.16-1.50%
- Terms: 4 months – 2 years
Partnership Cash Advance
Cash advances aren’t loans, but instead sale of future revenue in return for cash today (at a discount to the funding company). Depending on how your partnership handles its day-to-day revenue streams, a cash advance company will provide immediate funding, and then collect repayments daily through collecting a percentage of each day’s credit card processing revenue, or through ACH each day from the company’s bank account.
- Factor Rates: 1.16-1.50%
- Terms: 4 months – 2 years