RP Joint Ventures
Partnerships vs. Joint Ventures
Partnerships and joint ventures share many similarities. However, there are significant differences business owners should be aware of when attempting to form an alliance with another enterprise.
Joint ventures and partnerships are common forms of legal structures used by business owners to combine assets, resources, talents, or skills with another person or business.
Often, business owners mistakenly interchange the two terms to define the association with the misunderstanding that they are one and the same.
Although these legal arrangements share many similarities there are significant differences business owners should be aware of when attempting to form an alliance with another person, persons or entity. Evaluating the pros and cons of each agreement in advance will empower businesses to make the best strategic decision to help them achieve their goals.
Definitions of Partnerships and a Joint Ventures
To distinguish between a joint ventures and partnerships, we begin with the definitions and an example.
Partnership. A partnership is generally described as a voluntary association of two or more people who jointly own and carry on a business for profit. For example, partners in a manufacturing company who work together to manufacture and sell widgets for profit.
Joint Venture. A joint venture can be described as a business undertaking by two or more people engaged in a single defined project.
The creation of a joint venture is a question of fact that will be determined by the circumstances. The necessary elements are:
- an express or implied agreement;
- a common purpose that the group intends to carry out;
- shared profits and losses; and each member’s equal voice in controlling the project.
These definitions overlap in certain ways. Both a joint venture and a partnership consist of co-owners of a business enterprise sharing the profits and losses. However, typically a joint venture is set up for one transaction or a series of transactions. Therefore, joint ventures are generally distinguished from partnerships by being more limited in both scope and duration. A partnership, on the other hand, ordinarily engages in an ongoing business for an indefinite period of time. Further, in a joint venture, it may not be just profit that binds the parties together. Joint ventures can be formed for specific purposes such as when parties engage in research and development, which would otherwise be cost prohibitive to do individually. Nevertheless, these distinctions are not ironclad and a court may determine a partnership was formed even for a single business transaction.
Tax Treatment of Partnership Versus Joint Venture
One of the main reasons business owners should be concerned about the election between a partnership and a joint venture is taxes.
Partnerships are considered “pass through” tax entities, meaning all of the profits and losses of the partnership pass through the business to the partners. The partners then each pay taxes on their share of the profits (or deduct their share of the losses) on their individual income tax returns. As a pass-through business entity owner, partners in a partnership may be able to take advantage of the 20% pass-through deduction established under the Tax Cuts and Jobs Act (TCJA).
Depending on the circumstances, joint ventures may be taxed as a corporation or partnership. Entities that are taxed as corporations are subject to tax at both the corporate and shareholder levels, commonly referred to as double taxation. The TCJA established a single flat tax rate of 21% for corporations, significantly lowering it from the 15% to 35% rate that corporations paid under prior law.
There are positives and negatives to each form of taxation. One benefit of partnerships is that they offer greater flexibility with regard to the allocation of gains and losses. For example, you might be able to structure your partnership so that one partner receives 50% of the gains generated by the business and 99% of the losses, something that might benefit the individuals in your group. Caveat: these are called special allocations and must have what is called ‘Substantial Economic Effect’ (SEE). SEE is defined by the tax code and the tax regulations.
However, you or others in your group might not want to report income on your personal returns and therefore corporate tax treatment might be better. Your decision may also depend on whether you can take the 20% deduction available to partners or if your overall tax rate is better with a flat 21% corporate rate.
Liability Issues For Partners Versus Co-Joint Venturers
A further issue to consider in deciding between a joint venture and partnership is liability.
Generally, partners in a partnership are jointly and severally liable for the partnership’s obligations. This means that every partner is liable for his or her own actions, the actions of the other partners, and the actions of employees of the business and any other debts, obligations and liabilities of the partnership.
In general, the same rule applies to a joint venture that is set up as a partnership. By contrast, members of a joint venture that is set up as a separate corporation or limited liability company (LLC) will only be liable to the extent of their investment in the corporation’s stock or their interest in the LLC. If the joint venture is established by contract (as opposed to a separate legal entity), then the parties are personally exposed to liabilities incurred pursuant to the venture, similar to a partnership.
Fiduciary Duties of Partners Versus Co-Joint Venturers
A partner in a general partnership owes a fiduciary duty to the partnership and the other partners. This includes duties of loyalty, care, and good faith to the other partners and the partnership. The fiduciary duties of co-venturers are similar to those owed by a partner in a partnership, although joint ventures are not treated in all respects as identical with a partnership.
For example, the fiduciary duties of a member of a joint venture are often deemed finite and tailored to the business and activities of the venture, while partnership fiduciary duties are more broadly construed.
How to Determine If You Have a Partnership or a Joint Venture
Whether you have established a partnership or joint venture will depend on a number of factors including:
- your entity’s legal structure
- your profit structure
- the extent of shared resources and staff
- your goals and objectives
- the length of time for goals and objectives; and
- the intent of the parties.