Are you looking to form a partnership? Here are six simple steps to get your partnership up and running quickly. Check it out.
Disclaimer: The information presented on this website is only a basic introduction to partnership formation. We strongly recommend that you hire a professional to help you. The information provided here does not replace the IRS instructions for filing taxes. Incorrect filings could lead to large tax bills and penalties. Please hire a lawyer to help you form your partnership and a CPA or an EA to prepare and file your partnership tax returns.
Forming a partnership step #1 – Organize a business entity
Generally, the most common type of legal business entity for partnership tax treatment is the multi-member limited liability company.
Note that there are other entities that can be taxed as partnerships, and a new partnership should contact a business lawyer to be sure that they organize in the most advantageous manner as appropriate to their situation.
Still, the Multi-member LLC is the most common and perhaps the most versatile.
LLCs, for organizational, financial, and liability purposes are mostly governed by each state. To form one, you file the appropriate paperwork with your state government.
Options for forming and filing a business entity include doing it yourself, doing it with an online legal service, hiring a tax professional, or hiring a lawyer. Each option has different costs but generally provides the same value.
For example, if you file it yourself, you will only pay the state filing fee, but you will not get any help or advice. If you file with a lawyer, on the other hand, it will cost you much more than the state filing fee, but you should be getting great legal and support.
The partners also might consider the s corporation election depending on the needs of the partnership. This may be crucial to advantageous tax treatment, or it may be a adverse as well. Contact a tax professional who is familiar with partnerships and s corporations before making a decision to elect or not to elect.
Step 2 – Obtain a federal employers identification number (FEIN)
Even if you do not plan to hire employees, you entity will need this as a tax ID.
Think of it as a social security number for your partnership.
You will use this number to report your partnership’s taxes and you may need to give it our to customers who hire you if they need to file and send the partnership a 1099.
One question we are often asked is, “our customer wants us to fill out form W9. Is this legitimate?”. The answer is yes – it is required in some cases.
Step 3 – Your partnership might need state licensing or tax accounts
Some states have excise or sales tax requirements, and you might need accounts or licenses with your state for these taxes.
Depending on the services you are providing, you might also need an occupational license of some sort. Think of a doctor, for example. A doctor cannot operate a practice without a being licensed, of course.
You may also be required to register your partnership with your state.
Some states also require an annual tax return, report, or even a fee to be paid.
If you are unsure about your partnership’s home state requirements, please do a Google search for you states business registration, business organization filing, or department of revenue/taxation.
Just remember that you might need:
- a license
- tax accounts
- annual tax return and/or report
- annual (or more frequent) fees might be due
Step 4 – Open a business bank account for your partnership
With your entity formed,your FEIN tax ID in hand, and your state tax accounts, registration, and licensing, you are ready to open a bank account.
Use this bank account, and perhaps a dedicated business credit card, to deposit all sales proceeds and to pay the partnerships operating expenses.
The good thing about using only dedicated accounts for business is that the statements serve as a record of the partnership’s activity. If makes bookkeeping much easier.
It also really helps if the IRS or stater audits your partnership.
Step 5 – File your partnership income taxes on time
This step seems obvious – but be careful.
Not only do partnerships have different due dates than individual tax returns, but the penalties for not filing them on time are often much greater than the penalties for not filing your personal income taxes on time.
Partnership taxes can be complex and they require a form (Schedule K1) to be filed with the IRS and distributed to all of the partners. This is so that each partner can properly report their share of the partnership’s activities.
Step 6 – Prepare and execute an operating agreement for the partnership
It takes a lot of maturity, patience, and thick skin among all partners to pull off and maintain a profitable partnership business.
The more clear the expectations are in the beginning, the more likely it is that the partnership will be profitable and viable.
That’s where the operating agreement comes in. It should include things like:
- How the partnership’s income and expenses are allocated to each partner
- Guaranteed payments to partners for services provided by the partners
- How each partner is responsible for their duties associated with the partnership
- What the short, medium, and long term plans are for the partnership business
- What happens if a partner wishes to buy another out or if a partner wants to leave
- How much each partner will initially contribute in capital
- For how long will the partnership operate at a loss, if losses occur, and where will the captial come form to sustain it.
You have the choices of creating your own agreement, finding an modifying a “canned” online agreement to meet your needs, or hiring a service or lawyer that specializes in partnership agreements.