Tax Aspects of Partnerships

A business partnership is a form of business in which more than one owner have financial stakes in the outcome of that business. Taxation of business partnerships in the United States are regulated by U.S. Internal Revenue Code title 26 sections 701-709 in addition to other sections of that title.

Depending on the type of business the partnership involves, the collaboration may take a form of a partnership, limited partnership or limited liability partnership. In the case of an LLC Partnership, the business is subject to the similar taxation requirements as a non-partnership LLC with more than one owner. Additionally, LLC partners are exempt from personal liability should the business and/or one of the partner's financial support of the company become insolvent.

Tax benefits of partnerships

Partnerships have some attractive tax deductions in calculating net income and loss. These deductions include rent, bad debt, repairs, interest expenses, taxes and licenses and employee expenses. These deductions can make investment in a partnership a reasonable venture because they account for a considerable amount of operation costs.

In the case of a Limited partnership, partners may be able to bypass income tax in the instance of non-receipt of funds from the business' income. In other words income paid by the partnership is subject to income tax only after receipt. This may not only benefit the performance of the business, but the tax advantages to the individual owners/partners especially if they have sources of income outside the partnership.

Income generated through a partnership is reported on each partner's individual tax filing documents after it has been distributed. Thus the profit attributable to the partnership is reported but not taxed thereby avoids being taxed twice.

An additional tax benefit of partnerships is that the tax filing requirements are not as extensive as formal corporations with over 100 shareholders. This can present a relief to the partners and tax payers in terms of paperwork and time spent performing administrative duties.

Disadvantages

A tax disadvantage of partnerships is the income generated from the business is generally taxable at the individual level regardless of whether or not it is never withdrawn from the business. In other words, if the partners decide to forego receipt of the partnership income and instead use it to further promote business activities, that income is still taxable as the partner's individual share of the income.

Tax forms

The United States Internal Revenue Service (IRS) requires a Form 1065 'U.S. Return of Partnership Income' be filed with the IRS each tax year. This is merely a tax reporting requirement and not a document that's purpose is taxation of the business. A schedule K is also attached to the form 1065. This schedule K makes evident how the income is distributed among the business owners.

In addition to the Form 1065, the partners are required to file a form 1040 or 1040 ES depending on the financial circumstances of the company at the time of reporting information to the IRS.

Partnerships that are also Limited Liability Corporations are subject to different income reporting procedures involving the use of different IRS forms. These forms include schedule C's or F's as the income generated through such a corporation is considered a capital gain.

Additional forms needed may include the following:

Form 4562: If property used in operations is owned and has depreciated in value.
Form 940 & 941: For partnerships that paid taxes on employees income
Form W-2's: If the partners are also employees.
Form W-4's: To calculate tax withholdings

Tax tips on partnerships

Partnerships may be the right type of business from a tax perspective if certain requirements are met. When considering a new partnership or taxation questions of an existing partnership one may also want to take the following recommendations into account.

• Consult a business attorney or tax accountant in the event of complex or confusing taxation situations.

• If not invested in the company, elect to be a limited partner to safeguard one's investment of time and energy

• If planning a non LLC partnership venture, asses the credit worthiness and reliability of the partners as all the partners become personally liable for business debt and taxes in this type of partnership.

• Contact the U.S. Internal Revenue Service for answers regarding tax forms and filing requirements.

To recap, business partnerships can be beneficial in terms of taxation if all the partners are responsible for their portions of company debt and operations. Limited liability partnerships may be utilized to protect owners from personal liability if the company meets certain eligibility requirements for LLC and/or limited status. Partnerships are afforded less tax reporting requirements than larger, more formal corporations and also benefit from avoidance of 'double taxation' and considerable tax deductions.