Partnerships vs. Corporations: Advantages and Disadvantages
Any business structure has its pros and cons. The decision to adopt one or the other depends mostly on the different factors as deemed proper by a particular person or a group of people. Thus, whether a team decides to run a business as a partnership or a corporation depends on what the group has deemed appropriate concepts underlying their choice. In general, the advantages and disadvantages of both partnerships and corporation might be examined within four constructs: formation, structure flexibility, personal liability, and tax treatment. For partnerships, a group of people decides to run a business together by signing an agreement on how this will be done (Morse 2010, p. 14). In a corporation, a group takes the initiate to register with the Companies House to pass the taxation to an elected board of directors, who run the business on behalf of the group members, while these members keep the benefit of limited liability in their personal property (The Startups Team 2014).
Comparatively, it is much easier to form partnerships than corporations. Partnerships do not need much paperwork. Most important in this phase is to enshrine in a partnership agreement how liabilities, profits and ownership of the business will be shared. Additionally, in the agreement, there should also be the procedure to be followed in case a member decides to leave the partnership. The only legal requirement for partnerships is to ensure that each partner is registered as self-employed; however, it is a disadvantage regarding tax treatment as shall be discussed later.
On the other hand, for corporations, there are several and somewhat daunting legal procedures during its formation. Thus, this complex registration requirement emerges as the first disadvantage. The business must be registered with the Companies House as a limited liability corporation by creating articles of incorporation or articles of organization, either of which requires being detailed. The company must follow another legal procedure to conduct a corporate election of its board of directors. Regarding the formation and procedure, partnerships offer an advantage over corporations.
Regarding flexibility of business structures, partnerships once again emerge as the more favorable. Partnerships are not only flexible in the management process but also in the allocation of profits and losses. In the absence of a partnership agreement, the Partnership Act states that all partners have an equal say in the business, irrespective of capital contribution. However, partners can reach agreements on arrangements unique to their business, such as charging one of them with the responsibility of running all day-to-day business activities. Partners may even agree on how to contract shares in the business, regardless of their interest in ownership of the partnership.
Once again, corporations fail here because of their quite rigid structure. As it was mentioned earlier, shareholders in a corporation must obtain an extra document that allows them to conduct a corporate election. In this process, the aim is to come up with a board of directors who will be in charge of overseeing management of the business on behalf of shareholders. Additionally, these shareholders must then appoint officers who will take care of day-to-day operations of the business. Furthermore, while partnerships allow contracting on shares regardless of ownership interest, in corporations, sharing of profits and losses are based on the capital contribution based on shares, and this can be altered under no circumstance.
The most significant advantage of a corporation is the ability to manage financial risks of the business. In an organization, personal liabilities of all shareholders are limited to their shares. That is to say, if there any debts wind by the business, shareholders will be asked to pay off the debt up to how much shares they have in the business. The case will be quite different for partners in a standard partnership who risk losing personal property and money in personal accounts. In a partnership, partners have unlimited liability and may be asked to use their personal property and accounts to settle the business debt, and this is the greatest disadvantage of this structure. Moreover, a partnership includes liability of debts incurred by any of the parties in the business. The last point calls for care in deciding with whom to start a business. On the other hand, shareholders do not need to worry about debts in corporations. However, partners may decide to overcome this disadvantage of unlimited liability in a standard partnership by incorporating their partnership to become limited liability partnership (LLP). Upon registering as an LLP, personal liabilities of partners are limited to capital share in the business (Partnership Act 1890, section 14).
Looking at the UKs tax regime, registered business finds it is easier to operate as opposed to standard partnerships. Thus, in tax treatment, shareholders in corporations are advantaged. This is because shareholders select board of directors and appoint officers who bear the burden of self-employment income tax. What is more, producers are taxed as employees while the business pays its tax from its profits. Basically, this offers a kind of firewall between what one earns from the company and profits. Ordinary tax is charged on profits, a tax that is often passed to shareholders. The tax is payable on the salary earned and not on self-employment income.
In a partnership, all partners are required by law to register with HMRC as self-employed (Partnership Act 1890, section 2(3)). The consequence of this is that a partner pays taxes on all income from the business, including profits earned as an estimated income tax.
Even then, the legal requirements for corporations to submit their full statutory accounts to the Companies House and make such available in the public domain are in itself a disadvantage. Moreover, corporations are also required to make submissions related to PAYE for a companys employees monthly or quarterly, depending on which is convenient.
To conclude, a corporation is a good option when members want to have more control on exposure to financial risks, require greater access to loans and need to satisfy big business subcontracting provisions. Still, partnerships are critical when a group needs that flexibility in managing business affairs related to management and allocation of profits and losses, as well as when partners know each other quite well.
Elements of Partnerships
Partnerships in the United Kingdom have been in place as early as before 1890 when the current Partnership Act in force had been legislated. In fact, down the history, people organized themselves into groups to do business even without this act (Partnerships - General and Formation 2011). Most of the disputes during this time were decided based on case laws. However, after the bill had been enacted, things changed a little bit, although this act did not have much to do with internal arrangements of partnerships. It was a legal framework and is still one that partners adopt when they have not made special arrangements within their partnership. Otherwise, the only legal requirement with the Partnership Act and which must be met by all partnerships in the UK is registration of all partners as self-employed with HMRC for taxation purposes.
However, a case may arise when there are some ambiguities within the Partnership Act itself, which present dilemmas. Even these ambiguities have been dealt with before, and the solutions are based on case laws as designated by the House of the Lords (Partnerships - General and Formation 2011). Moreover, Partnership Act does not provide all explanations for what entails a partnership, although it provides necessary guidance. It takes an effort to review the provisions of a Partnership Act along with some logical considerations to prove the existence of a partnership. As had been explained above, most of the arrangements are discretionary rights of partners and not necessarily what Partnership Act dictates should be done. However, there are minimal requirements, which must be met to qualify a structure as a partnership. The case study provided here will help to see how this may be investigated.
Adrian, Bob, Dennis, and Charlotte have been involved in some activities that would lead to a conclusion of an attempt to operate some for-profit business. However, it would be illogical to prove the structure of their arrangement as a partnership without an in-depth analysis of the provisions of the Partnership Act as well as related case laws. In order to justify whether the above facts show the existence of a partnership or not, it is important to review indicators of the existence of a partnership. According to Technical Manual on Partnerships(Partnerships - General and Formation 2011, pp. 49-60), indicators of the existence of partnership include whether or not there is a partnership agreement, co-ownership of property, sharing of gross returns, sharing of profits and holding out as partners. Looking at the case presented here, there is the partnership agreement, Adelaide Eye Attraction Syndicate Agreement. In this agreement, there is a statement related to sharing of profits. All the four partners Adrian, Bob, Dennis, and Charlotte share profits equally. There is nothing on how gross returns are to be shared, but the lack of this statement does not automatically disqualify existence of a partnership. Moreover, the partners have agreed on co-ownership of the name Adelaide Eye, which is the name of a huge ferris-wheel. As such, this co-ownership of the property is in question. Finally, on indicators, the four partners hold out as partners and are seen by third parties as such. According to Partnerships - General and Formation(2011), members who hold out as partners are to be treated by third parties as partners. In light of this discussion, we may conclude that the above facts qualify a scenario depicting the existence of a partnership.
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According to Partnership Act 1890 (section 1), a partnership is a relation that exists between people who take on business in common with the aim of making a profit. From this definition, there are certain key takeaways. First, taking on business means that partners are currently involved in trading activities. This means that the agreement to trade without actual business taking place does not justify the existence of a partnership. Second, the idea of doing this business in common is another keynote and means that partners are undertaking trading activities in unison. Lack of unity automatically disqualifies existence of a partnership. Finally, the aim to make a profit is important. For a business to be a partnership, there must be intention and ability to make a profit. If business purposes to make a profit or is indeed making the profit, it qualifies as a partnership. This does not mean that if a company does not make a profit, it is not a partnership. What is important here is the intention, which does not need to be the dominating factor, but can as well be incidental or secondary to other considerations (Dickinson v Valpy 1829). In light of the preceding discussion, it is likely that there is no partnership here. So, we are in a dilemma. In the first case, using indicators of existence, we were led to conclude that a partnership exists according to the facts. But basing arguments on the definition given in the Partnership Act 1890, section 1, no partnership exists because of the mere reason that the facts fail to meet the first threshold: taking or, more specifically, carrying business (section 1). The idea exists, but there is no business taking place right now, and, thus, there is no partnership.
To deliberate this dilemma, we can reflect back on the discussion on partnerships in question 1. The law will only be able to pursue Adrian, Bob, Dennis and Charlotte on any violations when the business is running. Since the idea is there but the activities have not yet kicked off, there can be ground for legal pursuit against these four (McCahery & Vermeulen 2004). For example, Adrian and his colleagues cannot be charged in any court of law for failing to register as self-employed for the purpose of tax computation. Similarly, none of the partners who want to withdraw right now can demand on withdrawal benefits (Partnerships - General and Formation 2011; Pepper v. Hart 1993). Thus, in reality, the facts give an idea of what a partnership should be and how it ought to be structured conceptually. However, they do not present an existing partnership. Therefore, no partnership exists.
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