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Choose a Business Entity > Other Considerations - Pg. 34

First Steps Taxation A partnership, like an S-corporation or an LLC, is a flow-through tax entity. 34 Probably the most attractive feature of the partnership is that losses and profits are freely allocable among partners. Unlike the S-corporation, in which profits and losses must be allocated by owner- ship, partners can gain tax advantages by agreeing to different arrangements. A situation where this may be desired is one in which a partner providing services wishes to give her share of a year's losses to a partner who donated cash. The best part is that profits can be allocated differently from losses. These arrangements can include preferred return systems, and may change over time. There are limits to the utility of this flexibility. Passive losses (losses incurred by a partner who does not actively participate in the business) are not deductible from most forms of income. Since limited partners are generally assumed to be passive, limited partners will only be able to use the partner- ship losses against capital gains they may have incurred that year. Furthermore, a partner cannot claim a deduction greater than the amount of the partner's basis in his interest. Liability There are two forms of partnerships: general, and limited liability. In a general partnership, all part- ners have unlimited liability for the partnership's debts. In a limited liability partnership, there must be at least one general partner who accepts personal liability for the partnership's debts; all limited partners (none of whom may actively participate in the management of the partnership) are liable only to the extent of their contribution to the partnership. The general partner must take extra care when selecting partners, as every partner is a legal agent of the partnership and may transact business and create obligations on its behalf (see the preceding "Management" section). The partnership is interesting because it is treated as a separate legal entity for some purposes, and not for others. A partnership can sue and be sued, and it may own property. However, the creditor of a partner would sue the partner's interest, not the partnership as a whole. Documents Required For a general partnership, no documents are required, merely a meeting of minds and intention to form a partnership. A limited partnership must file a certificate with the secretary of state and have a written partnership agreement. All partnerships should have a written partnership agreement covering certain basic terms and eventualities, discussed in the following "Ownership Agreements" section. Unlike corporate documents, which are reasonably standardized, the ownership, management, and profit-sharing relations among partners vary significantly, requiring carefully tailored agreements. Individualization equals attorney time, but it is usually necessary, as boilerplate forms are not likely to adequately reflect the partners' intent. Added to the many dangers of engaging in business without a document clearly establishing own- ership, intent, and eventualities is the application of state partnership laws in the absence of a written agreement. This can create undesirable outcomes due to provisions of law that may contradict the original intent of the parties (and, frequently, generally accepted notions of fairness). Partnership law is nowhere near as comprehensive as corporate law, meaning that partners will have a less established body of law to guide them in case of disputes. Other Considerations The following issues pertain to all businesses regardless of entity type: