General partnerships in Australia, what they are and how they work

Going into business with someone usually means forming a general partnership, whether anyone calls it that or not. Under Australian law, a general partnership exists whenever two or more people carry on a business together with a view to making a profit, and it can come into existence through a handshake, a text message, or months of working side by side. No registration, no paperwork, no filing fees.

This article explains what a general partnership is, the default rules that govern how one runs, why every partner carries unlimited personal liability for the firm's debts, and where a written partnership agreement and legal advice fit in.

What is a general partnership?

Section 1 of the Partnership Act 1892 (NSW) defines partnership as "the relation which exists between persons carrying on a business in common with a view of profit". Every Australian state and territory has its own Partnership Act modelled on the same English legislation, so the core definition is broadly consistent across the country, but the Act that applies is the one in the state or territory where the partnership operates.

A general partnership is the ordinary, default form of that relationship. Unlike a limited partnership or an incorporated limited partnership, it does not need to be registered and requires no formal steps to exist. It is simply what the law sees when people act as though they are running a business together. That makes it the most common business structure for two or more people starting out, and also the easiest structure to fall into by accident.

For a general partnership to exist, three elements must all be present:

• Carrying on a business: the people must be actively running a business, which under s 1B of the Partnership Act 1892 (NSW) includes a trade, occupation or profession.
• In common: the business must be pursued jointly, with each person involved in its conduct and sharing in its results, rather than simply supplying goods or services to it.
• With a view to profit: the purpose must be to make a profit, not merely to share costs, hold property together, or divide the returns of a one-off venture.

The Act expressly excludes from the definition any company or association incorporated under the Corporations Act 2001 (Cth). Shareholders of a company are not partners, and the liability protection a company provides is not available in a general partnership.

How a general partnership runs

Unless the partners agree otherwise, the default rules in s 24 of the Partnership Act 1892 (NSW) govern the relationship. The most important defaults are:

• Equal sharing: all partners share equally in the capital and profits of the business and must contribute equally to its losses.
• Management: every partner may take part in managing the business.
• No pay for managing: no partner is entitled to a salary for acting in the business.
• New partners: no one can be introduced as a partner without the consent of all existing partners.
• Decisions: ordinary matters may be decided by a majority of partners, but the nature of the business cannot be changed without the consent of all partners.
• Books and records: the partnership books must be kept at the business premises, and every partner may access, inspect and copy them.

None of these rules is mandatory. All of them apply subject to any agreement expressed or implied between the partners, so a partnership agreement can replace them. Two partners who want a 70/30 profit split, a single manager, and a right to buy out a departing partner can have exactly that, provided the agreement is properly drafted and signed. Without an agreement, the statutory defaults apply, including equal sharing of profits and losses.

Unlimited liability: the feature that defines a general partnership

The defining feature of a general partnership is that every partner is personally liable for the debts and obligations of the firm. Under s 9 of the Partnership Act 1892 (NSW), every partner is liable jointly with the other partners for all debts and obligations of the firm incurred while they are a partner. Under s 12, liability for wrongs committed in the course of the business is joint and several, which means a creditor can pursue any one partner for the whole amount.

This is not limited to a partner's own actions. Each partner is an agent of the firm and of the other partners for the purposes of the business under s 5, so a contract signed by one partner in the usual course of business binds the firm and all the partners. If a partner negligently injures a customer while carrying out the firm's work, the firm is liable to the same extent as the partner who caused the harm under s 10. The practical result is that a partner's personal assets can be pursued to satisfy business debts, including debts incurred by another partner. The liability even outlives a partner: the estate of a deceased partner remains severally liable for unsatisfied firm debts in the due course of administration.

Partners can agree among themselves how losses will be shared internally, and a partner who pays a firm debt in the ordinary course of business is entitled to be indemnified by the firm and to contribution from the other partners under the default rules. But an internal arrangement does not bind the firm's creditors, who can still pursue any partner for the full amount.

A general partnership in practice

Consider Priya and Marcus, who decide to open a coffee cart at a weekend market. Priya puts up the capital for the cart and the beans. Marcus brings the recipes and runs the stall. They agree by text message to split whatever is left after costs, fifty-fifty. They register nothing.

At law they are almost certainly in a general partnership. They are carrying on a business, selling coffee, in common, with both involved in its conduct and sharing its results, with a view to profit. The definition in the Act does not require a written agreement, and the partnership exists from the moment those elements are present.

The classification matters most when things go wrong. Marcus orders a commercial grinder from a supplier on credit in the cart's name, in the usual way such a business operates. Under s 5, that order binds the firm and Priya even though she never signed it. If the cart loses money and cannot pay, the supplier can pursue Priya personally for the whole debt, not just Marcus's half, because of the joint liability in s 9. Her savings, and potentially her house, are on the line for an order she did not place and may not have known about. If the business succeeds, the position is straightforward at tax time: the net profit is split between the partners, and each reports their share in their own tax return.

General, limited and incorporated limited partnerships

Under the NSW Act there are three forms of partnership:

• General partnership: the default form described above. No registration is needed, and every partner is a general partner with unlimited liability.
• Limited partnership: formed only by registration under s 50A. It must have at least one general partner and at least one limited partner. A limited partner's liability is capped at the amount shown in the register, but a limited partner must not take part in management. If they do, they are liable as if they were a general partner for liabilities incurred while managing.
• Incorporated limited partnership: also formed by registration, and is a body corporate with legal personality separate from its partners under s 53. Limited partners have no liability for the liabilities of the partnership, and the general law of partnership does not apply to the structure except as the Act provides.

For most small businesses, the realistic choice is between a general partnership and a company. The limited forms are typically used by investors and fund managers rather than by two people opening a shop together.

How a general partnership is taxed

Partnerships have a distinctive tax treatment: the partnership itself does not pay income tax. As the Australian Taxation Office explains, a partnership does not pay income tax but must lodge a partnership tax return each income year, and the net income or loss is distributed to the partners, who include their share in their own assessable income. Partners must report their share whether or not they actually received it, and each partner also lodges their own individual tax return.

The partnership needs its own tax file number and ABN to lodge its return. For capital gains tax purposes, each partner owns a proportion of each asset of the partnership, so when an asset is sold each partner calculates a gain or loss on their share. The pass-through treatment is one reason a partnership is cheaper to run than a company, but each partner's tax position depends on their personal circumstances, which is where a tax adviser earns their fee.

Common misconceptions

Four misconceptions about general partnerships come up constantly:

• "We don't have a written agreement, so we're not partners": Wrong. The definition turns on what the people are doing, not on what they have signed. A partnership can arise entirely from conduct, and the default rules in s 24 apply subject to any agreement expressed or implied. A written partnership agreement is strongly advisable, but its absence does not stop a partnership from existing.
• "I'm only liable for my own actions": Wrong, and this is the most expensive error. Because each partner is an agent of the firm under s 5, and liability is joint under s 9, a partner can be personally liable for contracts signed and debts incurred by a co-partner in the ordinary course of business.
• "If I pay someone a share of the profits, they become my partner": Not necessarily. Under s 2 of the Partnership Act 1892 (NSW), receiving a share of profits is prima facie evidence of partnership but does not of itself make someone a partner. A lender repaid out of profits, an employee paid a profit-linked bonus, or a seller paid by instalments out of profits is not automatically a partner. The same section makes clear that joint ownership of property, or sharing gross returns, does not of itself create a partnership. The test is always whether the people are carrying on a business in common with a view to profit.
• "The partnership doesn't pay tax, so there's nothing to sort out with the ATO": Wrong on both counts. The partnership must lodge its own tax return each year, and each partner pays tax on their share of the net income even if the money stays in the business bank account.

How a lawyer can help with your partnership

Most of the risk in a general partnership sits in the gap between what the partners assume and what the Act actually provides. A commercial lawyer helps close that gap in a few concrete ways:

• Drafting a partnership agreement: the single most useful document. It replaces the statutory defaults with the terms the partners actually want: capital contributions, profit shares, roles and decision-making, dispute resolution, restraints on leaving, admission of new partners, and what happens on death, incapacity or retirement. A retiring partner does not automatically shed liability for debts incurred before retirement under s 17, so exit terms need to be negotiated rather than assumed.
• Choosing the right structure: if unlimited personal liability is unacceptable, a lawyer can walk through the alternatives, including a company, a limited partnership or an incorporated limited partnership, and the registration and ongoing obligations each involves.
• Resolving disputes and exits: when partners fall out, the Act's rules on dissolution and the final settlement of accounts apply, and a lawyer can negotiate a buy-out or an orderly wind-up rather than leaving it to the courts.

Accountants and tax advisers are part of the same team. The partnership's tax file number, ABN, tax return and each partner's personal return all need attention, and the tax consequences of restructuring from a partnership into a company are substantial enough to warrant advice before any change.

Ask yourself this before you open with a handshake

Every general partnership begins with people who trust each other, and many end with people who no longer do. The law does not care which stage you are at: from the first day, each partner can bind the others, and each partner's personal assets back the firm.

So before you start, ask the question the law will eventually ask of you: if your partner signs a contract, injures a customer, or runs up debts in the firm's name, are you prepared to answer for it with your own assets? If the answer is yes, a properly drafted partnership agreement will still save you from the disputes that follow. If the answer is no, a general partnership is not the structure for you, and you should talk to a lawyer about the alternatives before you open the doors.