Going into business with a friend, family member or acquaintance can be a tempting proposition, but is it the right choice for your business idea and your relationship? When two or more people blend their skills, resources and connections to go into business, the resulting partnership can create a strong union that’s mutually beneficial. Unfortunately, these same relationships can take a wrong turn.
Partners can fall out; the business may fail and the partners will go their separate ways. Could your existing relationship survive the fallout? To answer this question, it’s crucial to establish whether you’re “business compatible” with a prospective partner before entering into any partnerships.
What is a Partnership?
A partnership constitutes an association or relationship between two or more individuals, corporations, trusts, or even other partnerships that combine to carry on a business. Each partner can contribute in a variety of different ways; via finance, labour, property or skills. In return, each partner is entitled to a share of the profits or losses of the business based on the terms of the partnership agreement.
A partnership is one of the easiest types of business to form. In fact, a simple verbal agreement is often the starting point. However, we recommend creating a written partnership agreement that sets out rules for entering or leaving the partnership, clearly explains how income will be divided, and defines how losses will be handled. Hiring a legal professional to draw up this agreement is recommended.
Types of Business Partnerships
In Canada, there are three different types of partnership available to prospective business owners. They are as follows:
A general partnership is by far the most common type of partnership, and it’s defined as a business agreement between two or more individuals who share the profits and liabilities of the business. Each partner is fully liable for the debts and contractual obligations arising from the partnership. This means you could be personally sued for something that happens in your business.
A limited partnership features one or more general partners who have unlimited liability, and one or more limited partners, whose liability is limited depending upon their contribution to the partnership. The limited partner will usually contribute financially but isn’t otherwise involved in the day-to-day running of the business. If, in the future, this limited partner decides to become more involved, they will lose their ‘limited’ liability status.
Limited Liability Partnership
This type of partnership is the least common in Canada and is only available in some Provinces – including British Columbia. Eligibility is limited to certain professionals such as lawyers, accountants and doctors. For example, if a client decides to sue one of the above professionals, only the assets of the partner who worked with that client will be at risk.
Tax Implications of Partnerships
A partnership does not pay income tax on its operating results and does not file an annual income tax return. Instead, the partners include their share of income (or loss) or their personal, corporate, or trust income tax return. Canadian partnerships are obligated to complete Form T5013 – Statement of Partnership Income, for each fiscal period of the partnership where:
- At the end of the fiscal period, the partnership has an absolute value of revenues plus an absolute value of expenses of more than $2 million, or has more than $5 million in assets; or
- At anytime during the fiscal period:
- The partnership is a tiered partnership (has another partnership as a partner or is itself a partner in another partnership)_
- The partnership has a corporation or trust as a partner;
- The partnership invested in flow-through shares of a principal-business corporation that incurred Canadian resource expenses and renounced those expenses to the partnership; or
- The Minister of National Revenue asked in writing to complete Form T5013.
Canada Revenue Agency’s guide to the tax implications of partnerships can be found here.