Starting a business is exciting, but it’s not always a simple process for one person to complete on their own, which is why many people choose to work as a team and form businesses with other entrepreneurs.
Doing so without officially registering with the state automatically forms a general partnership, but is this the right entity for your company?
As with any other business entity, there are pros and cons of the general partnership. While it’s incredibly easy to form and maintain, the lack of personal asset protection is a huge drawback.
Let’s discuss the various advantages and disadvantages of the general partnership and discover how you can create your own general partnership.
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Select a state below to learn how to become a general partnership and the pros/cons of doing so. We'll outline the details and how to get set up.
What Is a General Partnership?
The first important thing to understand about general partnerships is that they’re not formal business entities. This means that there is no formation process for a general partnership.
If you want to form one, all you need to do is start selling products or services with the assistance of at least one co-owner. For one-person businesses, a sole proprietorship is almost exactly the same entity type as a general partnership.
There are very few legal regulations to follow if you’re operating a general partnership, and you won’t have to pay any formation or incorporation fees either. Furthermore, unlike limited liability companies (LLC) and corporations, general partnerships also don’t have any maintenance requirements, which means you won’t need to file an annual report.
In fact, the general partnership is such an extremely casual commercial entity that it doesn’t even have a dedicated business name. Instead, the general partnership’s name is simply the combination of its owners’ personal names. Therefore, if your name is Kyle Smith and you own a general partnership with your partner Becky Anderson, your general partnership’s name by default is “Kyle Smith and Becky Anderson.”
How Does a General Partnership Work?
Forming a general partnership couldn’t be easier, as you are automatically operating one the moment you execute your first business transaction with your partner. It’s important to note that the general partnership provides no personal asset protection, which means that each partner is 100% liable for each transaction the business executes.
As an example, let’s say your business partner makes a sale worth $10,000 for your business. However, your company is unable to fulfill this order, and the buyer sues your general partnership. If your partner can’t afford to pay the debt, and neither can your business, guess who the responsibility for the entire $10,000 falls on? That’s right: you! There is no shared liability between general partners, and each person is entirely responsible for every business transaction, even the ones they had nothing to do with personally.
When it comes to general partnership naming conventions, we already discussed the default method of combining the partners’ names. The other option is to register a doing business as (DBA) name, which enables you to create an assumed business name for your general partnership.
While this is a good option for some businesses, we will note that many states don’t provide exclusivity for DBA names, meaning that if another business likes your name and wants to use it as its own, it is allowed to do so.
Steps to Creating a General Partnership
1) Choose Your Partner(s)
The first step to creating any general partnership is to determine who you’re starting the business with. After all, if you’re starting the business alone, you aren’t creating a general partnership at all — in this situation, you are operating a sole proprietorship.
2) Select a Business Name
You have two options for a general partnership business name. You can combine your name with your business partner’s name, as discussed earlier. Or, you can register a DBA and create an assumed business name for your general partnership. Just remember, either way, you will not have the exclusive rights to your business name unless you register your DBA in a state that provides exclusivity for these filings. Be sure to also lock down your business domain name - we recommend GoDaddy.
3) Create a Partnership Agreement
While a partnership agreement isn’t a legal requirement for general partnerships, we still think every general partnership needs to have one. This internal document helps outline some operational guidelines that you and your partner(s) will abide by, and it can help prevent disputes between you and your co-owner(s) in the future. The information included in a partnership agreement can vary. In general, you should include a description of your business purpose, your plans for financial contributions and distributions, an outline of your accounting system, a description of how your business can add or remove partners, and the voting rights of each partner.
4) Get an EIN
A federal tax ID number (commonly known as an employer identification number or EIN) is a necessity for any American business, as it enables you to hire employees, pay taxes, open business bank accounts, and more. You can obtain an EIN for free from the Internal Revenue Service online, and the process is quick and easy.
5) Open a Business Bank Account
Once you’ve secured your EIN, it’s time to get a bank account for your new business. This is another very simple step, as you simply need to bring your EIN to your bank of choice and ask them to open an account for your business. You will almost certainly require either an EIN or a DBA to get your business bank account, and the bank may request a copy of your partnership agreement as well.
6) Obtain Licenses and Permits
Just because your general partnership is an informal business entity doesn’t mean it won’t need to register with the state in one way or another. Some states have general business licenses that are necessary to conduct business in the state, and many industries also require licensure on either the federal, state, or local level. Make sure you check with every relevant government agency to acquire the licenses and permits you need to operate a compliant business.
7) Acquire Business Insurance
If your business has employees, you will be legally required to acquire workers’ compensation insurance in most states. And, even if your business is located in Texas (the one state that doesn’t require workers’ comp), you should still absolutely obtain this coverage. Beyond workers’ comp, there are many industry-specific insurance policies that might be advisable depending on the nature of your business, and a general liability policy is almost always a good idea, especially for businesses with retail locations that customers visit in person.
Pros and Cons of the General Partnership
1) Simple Formation and Maintenance
Forming a general partnership is incredibly simple. There are no document filings required with the state and no formation fees to pay. You also won’t need to file annual reports or pay annual filing fees. In short, LLCs and corporations have many more formation and maintenance requirements and fees than general partnerships do.
2) Registered Agent Not Required
All formal business entities (including LLCs, corporations, and more) must maintain a registered agent in each state they operate in. A registered agent is an individual or business entity that receives important document deliveries from the state, informs the business of the receipt, and forwards the documents to the business. However, general partnerships are not required to designate or maintain a registered agent, saving them money and hassle compared to formal business entities.
1) No Limited Liability Protection
The big drawback of the general partnership is the lack of personal asset protection, otherwise known as limited liability. In an LLC, corporation, or other formal business entity, each owner is only liable for their own contributions to the business. That means that if the business is sued, only the business assets are at risk, while each owner’s house, car, personal bank accounts, and investments are protected by the business entity.
This is not the case for general partnerships, as each owner is 100% liable for each transaction the business executes. Therefore, a lawsuit against your general partnership is also a lawsuit against you as a person, and all of your personal assets are fair game.
2) Lack of Exclusive Naming Rights
It bears reiterating that a general partnership’s name is simply the combination of its owners’ personal names. If you’d rather, you could file a DBA and obtain an assumed business name of your choice, but many states don’t provide business name exclusivity for DBA names. Meanwhile, if you form an LLC or corporation, you will receive guaranteed exclusive rights to your chosen business name.
3) Self-Employment Taxation
General partnership owners are considered to be self-employed individuals according to American business tax law. This means each owner needs to pay the 15.3% self-employment tax that includes the employer and employee’s shares of Medicare and Social Security. This tax is in addition to, not in replacement of, your income tax responsibility.
4) Only One Choice for Tax Structure
While LLCs get to choose from several different taxation structures and corporations often have multiple options as well, general partnerships only have one option for taxation. If you don’t want to operate your business as a pass-through entity (meaning that the company’s profits pass through the general partnership itself and the owners pay taxes on their personal returns), you should start a different type of business.
What Forms of Legal Protection Are Available to General Partnerships?
Before we dig into whether or not legal protection exists for a general partnership, we first need to clarify what we mean by “legal protection.”
This protection is often referred to as personal asset protection, or limited liability, and is a privilege offered to formal business entities, including LLCs and corporations. Essentially, this means that there is a legal division between the business itself and its owners, which separates the company’s assets from the personal assets of each owner.
With this protection, the home, car, or other valuables of an owner cannot be taken to pay for a legal settlement or debt against the business. For example, if the business is sued or defaults on a debt, the personal assets of its owners cannot be seized, unless the business was improperly maintained, or if the owners committed fraud.
Unfortunately, a general partnership does not have this legal separation, which is one of the biggest disadvantages of this business type compared to the LLC or corporation. In the eyes of the law, the owners and the business entity are one and the same, so there is no personal asset protection available for general partnership owners.
What Does That Mean for My Business?
Since a partnership does not have personal asset protection, each partner can be held personally responsible for any and all business debts. But here’s what’s worse: in a general partnership, your personal liability isn’t necessarily a 50/50 split, with you taking half the debt and your partner taking the other. Your liability could actually be as high as 100%.
This means that you can be legally required to pay up for the mistakes your partner makes. For example, let’s say your partner signs a contract and doesn’t fulfill it.
When your creditors decide to pursue the debt accrued by this failed contract, if they discover that your business does not have enough assets to cover the debt, and neither does your partner, a court can then order you to personally pay all of the damages.
Even if you only have a 10% share of the profits, you can be held 100% responsible for the debts. This is one of the big risks associated with general partnerships, and also the reason that we typically advise against using this business model.
In fact, because of this issue, many people consider the general partnership to be the riskiest entity type to operate — even moreso than a sole proprietorship. At least with a sole proprietorship, you have no one to blame but yourself if your business goes belly-up.
The General Partnership vs. Other Business Entities
If you stay as a general partnership, you cannot protect your personal liability ― we consider this to be the fatal flaw of the general partnership as a business structure. There are a few other options to protect yourself, however.
For one thing, you could consider forming a multi-member limited liability company (LLC). This entity type is more expensive to form and has more formality than a partnership, but it provides personal liability protection. If you’re interested in this route, you might want to read through our “General Partnership vs. LLC” article to get all the relevant details on how these two different entity types compare.
For the vast majority of our readers, we strongly suggest forming an LLC rather than sticking with the informalities of the general partnership. Not only does the LLC provide personal asset protection, but it also lends an air of credibility to your business that a general partnership can’t match.
This is due in part to the fact that an LLC has a unique business name that is registered with the state, whereas a general partnership is simply referred to using the personal names of its owners — for instance, if your name is Susan Smith and you form a general partnership with Jane Johnson, your general partnership would simply be known as “Susan Smith and Jane Johnson,” not by a formal business name.
Incorporating your business as a corporation is another option. Corporations can issue stock, making them much more appealing to investors than an LLC or general partnership. In addition, it can be easier to expand a corporation to other states than it is for a general partnership or LLC. This is because the corporation’s structure is the same across all 50 states, while an LLC can vary from state to state. Therefore, you can easily expand a corporation into different states without worrying much about varying legal requirements.
Do you still want to stay as a general partnership instead? If so, you should look into obtaining a general liability insurance policy for your business. A general liability policy helps you cover expenses caused by mistakes made in the course of operating your business.
Of course, it won’t necessarily cover the entire expense, but it will help reduce the personal impact of a lawsuit or debt for your general partnership.
Finally, you should ensure that your partnership agreement includes a clause about decision-making. A lot of partnership disputes occur when one partner makes a decision without consulting anyone, and then that decision ends up hurting the business. You can avoid situations like these by defining an internal policy for making business decisions together.
Things to Consider Before Starting a General Partnership
How serious are you about your business?
If you’re taking your business venture seriously, as all entrepreneurs should, we don’t think starting a general partnership is a good idea. This entity’s lack of personal asset protection is a non-starter, even if it seems like your business shouldn’t have much liability. All it takes is one successful lawsuit against your business to wipe out your personal savings and put your other assets on the line. It simply isn’t worth the risk, especially considering how few concrete advantages the general partnership has over formal business entities.
Is having an exclusive business name a priority for you?
If it is, you should not operate your business as a general partnership. Informal business entities don’t have assumed business names unless they register a DBA, and in many states, a DBA still doesn’t provide name exclusivity. If you want an exclusive business name, forming an LLC or corporation is a better idea.
What is your budget?
If you’re operating on an extremely tight budget, and your business has very little liability, it’s possible that a general partnership could work for you. After all, if you can’t afford formation fees for a corporation or LLC, the general partnership may be your only option.
Frequently Asked Questions
How long does it take to form a general partnership?
Because there is no formation process for general partnerships, this business entity is formed automatically as soon as you start conducting business with at least one other person.
Do I need to designate a registered agent for my general partnership?
No. Because the general partnership is an unincorporated business with an informal structure, there is no need for a registered agent. If the state needs to get in touch with your business, it will simply contact you or one of your co-owners directly.
Do members of a general partnership need to register with the state?
There are no legal requirements regarding general partnership ownership. You will not need to tell the state who owns your business unless you file a DBA name, incorporate your company, or perform other similar business functions.
Do partners in a general partnership receive equal distributions?
This all depends on the language of your partnership agreement. If you want your partners to receive equal distributions, you certainly have that option. However, there is no official guidance regarding general partnership distributions.
What does it mean for all partners in a general partnership to have full liability?
In an LLC or corporation, each owner has what’s commonly referred to as limited liability. This means that each member’s financial obligations are limited to their contributions to the business, and their house, car, personal bank accounts, investments, etc. are not at risk. In a general partnership, each owner has full liability. If the business is sued or defaults on a debt, each owner can be held legally liable for 100% of the amount owed.
Can I hire a business formation service to create my general partnership?
For LLC formations, incorporating a corporation, and more, we love hiring a reputable online business formation service to take care of the legwork for us. However, that isn’t an option with general partnerships, as there is no formation process for this entity. If you’d rather form an LLC or corporation — we strongly recommend forming one of these entities rather than operating a general partnership — check out our list of the best options available.
There are a few advantages to the general partnership, mostly based on how incredibly simple and basic this business type is. It would be nearly impossible to get confused about the process for forming and maintaining one because there are essentially zero legal requirements involved with doing so.
On the other hand, the general partnership offers no legal protections whatsoever for its owners, which puts this business type at a huge disadvantage compared to formal business entities like the limited liability company.
If you want your personal assets to be protected from lawsuits against your business, forming a general partnership is absolutely not advised under any circumstances. In that case, creating an LLC would be your best bet and can be done quickly through an LLC formation website like LegalZoom or ZenBusiness.