by Richard Keyt, Arizona LLC, corporate and business
This article is part of a series of nine related articles I wrote about the seven types of entities used in Arizona to operate a business and to hold business assets and investment real estate. The articles are: (1) the “Best” Arizona Entity, (2) limited liability companies, (3) sole proprietorships, (4) general partnerships, (5) limited partnerships, (6) C corporations, (7) S corporations, (8) business trusts, , and (9) the entity comparison table. The type of entity can have significant income tax and asset protection consequences. The articles discuss the entities in terms of ease and cost of formation, number of owners & restrictions on ownership, privacy, control and management, owners protection from liabilities of the entity, and federal income taxation issues.
Arizona General Partnership
Warning: Never, never, never, never own or operate a business as a general partnership because EVERY PARTNER is 100 percent liable for everything that goes wrong and his or her life savings is at risk. Read my article called “Beware of the Stealth General Partnership.”
Ease of Formation & Cost
Arizona Revised Statutes Section 29-1012.A defines a general partnership as “the association of two or more persons to carry on as co-owners a business for profit . . . whether or not the persons intend to form a partnership” unless the business is a corporation, a limited liability company or formed under some other Arizona statute. Arizona general partnerships may exist without a written agreement of any kind signed by the partners. However, anybody who intends to form a general partnership or who has an existing general partnership should have the partners adopt a written general partnership agreement that specifies the rights and obligations of all the partners.
A partnership is an entity distinct from its partners. It may hold title to property and incur debts in its name. Property acquired by a partnership is property of the partnership and not of the partners individually. A.R.S. § 29-1013.
Arizona general partnerships are governed by the Arizona Revised Uniform Partnership Act, found at Chapter 5 of Title 29 of the Arizona Revised Statutes. The law of the jurisdiction in which a partnership (other than a limited liability partnership) has its chief executive office governs relations among the partners and between the partners and the partnership.
To operate as a general partnership in Arizona, the partners do not have to file any formation documents with any Arizona governmental agency or pay any formation fees. The partnership may, however, file a partnership statement with the Arizona Secretary of State. A.R.S. § 29-1005.A. Although not legally required, the partners should consider registering the trade name of the partnership with the Arizona Secretary of State.
Number of Owners & Restrictions
A partnership requires at least two partners. Arizona law does not restrict the number or types of partners in a general partnership. A general partner can be a person or any type of entity.
Control & Management
General partnerships are controlled and managed by the general partners. Arizona law provides that “An act of a partner, including the execution of an instrument in the partnership name, for apparently carrying on in the ordinary course the partnership business or business of the kind carried on by the partnership binds the partnership, unless the partner had no authority to act for the partnership in the particular matter and the person with whom the partner was dealing knew or had received a notification that the partner lacked authority.” A.R.S. § 29-1021.
Unless the partners agree (preferably in a written partnership agreement) to restrict the power of one or more general partners, all general partners have equal power to make decisions and to cause the partnership to pay and incur obligations. Arizona law does not require that a general partnership have annual meetings, file reports with the Arizona Corporation Commission, Arizona Secretary of State or other state agency or that the partnership pay any annual fees.
Because a general partnership operating in Arizona is not required to file any documents with any Arizona government agency, the identity of the partners of an Arizona general partnership is generally not a matter of public record.
Owner’s Protection from Liabilities
Arizona law provides that the partnership is liable for the acts of a partner acting in the ordinary course of business of the partnership or with authority of the partnership. Arizona law also provides that all partners of a general partnership are liable jointly and severally for all obligations of the partnership. A.R.S. § 29-1026. The combination of these two Arizona laws is the primary reason why a general partnership should rarely, if ever, be used to operate a business, to hold real estate or for any other purpose.
All general partners of a general partnership have unlimited personal liability for all obligations and liabilities of the general partnership. For example, if a general partner signs a contract on behalf of the partnership that obligates the partnership to pay $100,000, all the general partners may be personally liable to satisfy the obligation. If the business were operated through a corporation or a limited liability company, none of the owners would normally be liable personally to satisfy the $100,000 obligation unless the owners had guaranteed the obligation.
Caution: Because all general partners of an Arizona general partnership are personally liable for the obligations and liabilities of the general partnership, a general partnership should never be used to operate a business, to hold assets or for any other purpose in Arizona unless there are special circumstances that dictate using a general partnership.
Federal Income Taxation
Generally, a partnership does not pay federal income tax on its income. The profits and losses are passed through to its partners pro rata based on each partner’s percentage interest in profits and losses. Partners must include partnership tax items on their personal federal income tax returns. For example, if two people form a general partnership in which they are 25% and 75% partners and the partnership has $100 of profit at the end of the year, the profit is allocated $25 to the 25% partner and $75 to the 75% partner.
One of the advantages of a partnership over a corporation is that the partners can agree to make special allocations among them of tax items such as profits and losses. In the preceding example, if the partners agreed that the 75% partner should get 100% of the profits until she receives an amount equal to the amount she initially contributed to the capital of the partnership ($100) plus a simple return of 8% per annum, all of the $100 of profit would be allocated to the 75% partner and the 25% partner would get nothing.
Although a partnership is not a taxpaying entity for federal income tax purposes, it must file an in informational tax return on IRS Form 1065 to notify the IRS of its profits, losses and other tax significant items. For more information on the federal income taxation of partnerships, see IRS Publication 541, Partnerships.
This article is a general discussion of the characteristics of Arizona general partnerships. The article is not specific advice. Before choosing your new entity, you should consult with your accountant and business attorney and discuss your options and choose the type of entity that is best for you in light of your particular facts and circumstances.