Operating as a partnership entails certain advantages and disadvantages when compared with both sole trader and limited companies.
Partnership and sole trader
The advantages of operating as a partnership rather than as a sole trader are practical rather than legal. They include the following.
- Risks are spread across a larger number of people.
- The trader will have access to a wider network of contacts through the other partners.
- Partners should bring to the business not only capital but skills and experience.
- It may well be easier to raise finance from external source such as banks.
Possible disadvantages include the following
- While the risk is spread over a larger number of people, so are the profits
- By bringing in more people the former sole trader dilutes control over his business
- There may be disputes between the partners
Limited companies offer limited liability to their owners. This means that the maximum amount that an owner stands to lose in the event that the company becomes insolvent and must pay off its debts is the capital in the business. In the case of partnerships, liability for the debts of the business is unlimited, which means that if the business runs up debts and is unable to pay, the proprietors will become personally liable for the unpaid debts and would be required, if necessary, to sell their private possessions in order to pay for them.
Limited liability is clearly a significant incentive for a partnership to incorporate. Other advantages of incorporation are that it is easier to raise capital and that the retirement or death of one of its members does not necessitate dissolution and re-formation of the firm.
In practice, however, particular, particularly for small firms, these advantages are more apparent than real. Banks will normally seek personal guarantees from shareholders before making loans or granting an overdraft facility and so the advantage of limited liability is lost to a small owner managed business.