QUESTION #1
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QUESTION #2(i): Define Partnership and discuss the rights and duties of Partners.
Ans: Definition: A legal form of business operation between two or more individuals who share management and profits. The federal government recognizes several types of partnerships. The two most common are general and limited partnerships.
If your business will be owned and operated by several individuals, you'll want to take a look at structuring your business as a partnership. Partnerships come in two varieties: general partnerships and limited partnerships. In a general partnership, the partners manage the company and assume responsibility for the partnership's debts and other obligations. A limited partnership has both general and limited partners. The general partners own and operate the business and assume liability for the partnership, while the limited partners serve as investors only; they have no control over the company and are not subject to the same liabilities as the general partners.
Unless you expect to have many passive investors, limited partnerships are generally not the best choice for a new business because of all the required filings and administrative complexities. If you have two or more partners who want to be actively involved, a general partnership would be much easier to form.
One of the major advantages of a partnership is the tax treatment it enjoys. A partnership doesn't pay tax on its income but "passes through" any profits or losses to the individual partners. At tax time, the partnership must file a tax return (Form 1065) that reports its income and loss to the IRS. In addition, each partner reports his or her share of income and loss on Schedule K-1 of Form 1065.
Personal liability is a major concern if you use a general partnership to structure your business. Like sole proprietors, general partners are personally liable for the partnership's obligations and debts. Each general partner can act on behalf of the partnership, take out loans and make decisions that will affect and be binding on all the partners (if the partnership agreement permits). Keep in mind that partnerships are also more expensive to establish than sole proprietorship because they require more legal and accounting services.
If you decide to organize your business as a partnership, be sure you draft a partnership agreement that details how business decisions are made, how disputes are resolved and how to handle a buyout. You'll be glad you have this agreement if for some reason you run into difficulties with one of the partners or if someone wants out of the arrangement.
The agreement should address the purpose of the business and the authority and responsibility of each partner. It's a good idea to consult an attorney experienced with small businesses for help in drafting the agreement. Here are some other issues you'll want the agreement to address:
How will the ownership interest be shared? It's not necessary, for example, for two owners to equally share ownership and authority. However, if you decide to do it, make sure the proportion is stated clearly in the agreement.
How will decisions be made? It's a good idea to establish voting rights in case a major disagreement arises. When just two partners own the business 50-50, there's the possibility of a deadlock. To avoid this, some businesses provide in advance for a third partner, a trusted associate who may own only 1 percent of the business but whose vote can break a tie.
When one partner withdraws, how will the purchase price be determined? One possibility is to agree on a neutral third party, such as your banker or accountant, to find an appraiser to determine the price of the partnership interest.
If a partner withdraws from the partnership, when will the money be paid? Depending on the partnership agreement, you can agree that the money be paid over three, five or 10 years, with interest. You don't want to be hit with a cash-flow crisis if the entire price has to be paid on the spot on one lump sum.
Types of Partners in a Partnership
Depending on the type of partnership and the levels of partnership hierarchy, a partnership can have several different types of partners. This article on different types of partners explains the difference between:
General partners and limited partners. General partners participate in managing the partnership and have liability for partnership debts. Limited partners invest but do not participate in management.
Equity partners and salaried partners. Some partners may be paid as employees, while others have only a share in ownership.
The different levels of partners in the partnership. For example, there may be junior and senior partners. These partnership types may have different duties, responsibilities, and levels of input and investment requirements.
Types of Partnerships
Before you start a partnership, you will need to decide what type of partnership you want. You may have heard the terms:
A general partnership is composed of partners who participate in the day-to-day operations of the partnership are who have liability as owners for debts and lawsuits. There may also be limited partners
A limited partnership has one general partner who manages the business and one or more limited partners who don't participate in the operations of the partnership and who don't have liability.
A limited liability partnership is similar to the limited partnership, but it may have several general partners.
Forming a Partnership
Partnerships are usually registered with the state in which they do business, but the requirement to register varies from state to state. Partnerships use a partnership agreement to clarify the relationship between the partners, roles and responsibilities of the partners, and their respective shares in the profits or losses of the partnership.
It is relatively easy to form a partnership, but, as noted above, the business must be registered with the state where the partners do business. Depending on the state, you may have the choice of one or more of the types of partnerships mentioned above. Once you have registered with your state, you can then proceed to the other typical tasks in starting a business.
Requirements for Joining a Partnership
An individual can join a partnership at the beginning or after the partnership has been operating. The incoming partner must invest in the partnership, bringing capital (usually money) into the business and creating a capital account. The amount of the investment and other factors determine the new partner's capital investment and share of the profits (and losses) of the business each year.
The Importance of a Partnership Agreement
When a partnership is formed, one of the first acts of the partners should be to prepare and sign a partnership agreement. This agreement describes all the responsibilities of the partners, sets out each partner's distributive share in profits and losses, and answers all the "what if" questions about what happens in a number of typical situations.
The Essential Features of Partnership
1. An association of two or more persons;
2. An agreement entered into by all persons concerned;
3. Business;
4. The business being carried on by all or any of them acting for all; and
5. Sharing of profits (including losses) of the business.
From the accounts point of view, the chief point to remember is that the relations among the partners will be governed by mutual agreement called Partnership Deed.
It is usual, therefore, to find out, in the Partnership Deed, clauses covering the following:
1. The name of the firm and the nature and location of the partnership business.
2. The commencement and duration of the partnership.
3. The amount of capital to be contributed by each partner.
4. The rate of interest to be allowed to each partner on his capital and on his loan to the firm, and that to be charged on his drawings.
5. The disposal of profits, particularly the ratio in which the profits are to be shared by the partners.
6. The amount to be allowed to each partner as drawings and the timing of such drawings.
7. Whether a partner will be allowed a salary.
8. Any variations in the usual rights and duties of partners.
9. The method by which goodwill is to be calculated on the retirement or death of a partner.
10. The procedure by which a partner may retire and the method of payment of his dues to him.
11. The basis of determination of the sums due to the executors of a deceased partner and the method of payment.
12. The treatment of losses arising out of the insolvency of a partner.
13. The procedure to be followed for settlement of disputes among partners.
14. Preparation of accounts and their audit.
The Deed has to be properly stamped.
Often there is no Partnership Deed or, even if there is one, it may be silent on a particular point. If on any point, the Partnership Deed contains a clause, it will hold good; otherwise the provisions of the Partnership Act relating to the question will apply.
Rights of Partners:
Broadly, the provisions of the Act regarding rights, duties and powers of partners are as under:
(a) Every partner has a right to take part in the conduct and management of business.
(b) Every partner has a right to be consulted and heard in all matters affecting the business of the partnership
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(c) Every partner has a right of free access to all records, books and accounts of the business, and also to examine and copy them.
(d) Every partner is entitled to share the profits equally.
(e) A partner who has contributed more than the agreed share of capital is entitled to interest at the rate of 6 per cent per annum. But no interest can be claimed on capital.
(f) A partner is entitled to be indemnified by the firm for all acts done by him in the course of the partnership business, for all payments made by him in respect of partnership debts or liabilities and for expenses and disbursements made in an emergency for protecting the firm from loss provided he acted as a person of ordinary prudence would have acted in similar circumstances for his own personal business.
(g) Every partner is, as a rule, joint owner of the partnership property. He is entitled to have the partnership property used exclusively for the purposes of the partnership.
(h) A partner has power to act in an emergency for protecting the firm from loss, but he must act reasonably.
(i) Every partner is entitled to prevent the introduction of a new partner into the firm without his consent.
(J) Every partner has a right to retire according to the Deed or with the consent of the other partners. If the partnership is at will, he can retire by giving notice to other partners.
(k) Every partner has a right to continue in the partnership.
(l) A retiring partner or the heirs of a deceased partner are entitled to have a share in the profits earned with the aid of the proportion of assets belonging to such outgoing partner or interest at six per cent per annul at the option of the outgoing partner (or his representative) until the accounts are finally settled.
Duties of Partners:
(a) Every partner is bound to diligently carry on the business of the firm to the greatest common advantage. Unless the agreement provides, there is no salary.
(b) Every partner must be just and faithful to the other partners.
(c) A partner is bound to keep and render true, proper, and correct accounts of the partnership and must permit other partners to inspect and copy such accounts.
(d) Every partner is bound to indemnify the firm for any loss caused by his willful neglect or fraud in the conduct of the business.
(e) A partner must not carry on competing business, nor use the property of the firm for his private purposes. In both cases, he must hand over to the firm any profit or gain made by him but he must himself suffer any loss that might have occurred.
(f) Every partner is bound to share the losses equally with the others.
(g) A partner is bound to act within the scope of his authority.
(h) No partner can assign or transfer his partnership interest to any other person so as to make him a partner in the business.
QUESTION #2(ii)
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QUESTION # 3
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QUESTION # 4
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QUESTION # 5
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