Are you a young and upcoming entrepreneur struggling with determining which is the right form of business organisation your business should take? Then you’ve come to the right place.
Many young entrepreneurs can’t wait to start a company. However, it is wise to explore not only the potential pros and cons of companies but other types of business organisations as well. These can include sole proprietorships as well as partnerships. We will explore these three forms of business organisations in a little more detail.
Sole Proprietorships
A sole proprietorship is a form of business organisation owned by a single person trading in his/her own name. The business is effectively the same as its owner. Generally, Kenyan small and micro-businesses tend to be sole proprietorships and tend to be very common.
Partnerships
A partnership, just as the name suggests is where 2 or more parties come together in business with the common view of profit. The determination of whether a partnership exists is usually dependent on the facts of the circumstances meaning that so long as two or more people come together in business with the common view of profit, it is automatically deemed to be a partnership. Therefore, partnership agreements necessarily do not have to be written. It is advised to have a written agreement, which clearly stipulates the rights and duties of each party in the partnership. Thereby avoiding any future inconveniences in case your partnership goes sour.
There are 3 types of Partnerships;
General Partnership
The distinguishing characteristic of general partnerships is that all partners in the partnership are liable for the debts and liabilities that accrue in the course of the business. Each partner is entitled to participate in the running of the business. In the event one partner acts in a manner exceeding his authority and the third party involved was unaware of the lack of authority the said partner had, the partnership is still legally bound for the act of that partner who acted beyond his authority.
Unlike the other forms of partnerships, a general partnership is easy to create as there is no formal registration required. Weak formalities and compliance requirements ensure a lower cost of operation which is essential for business.
However, it is recommended to have a written partnership deed that clearly outlines the rights and duties of each party and other terms that would be conducive for healthy business relationship.
Limited Partnerships
The distinguishing characteristic of limited partnerships is that at least one partner has unlimited liability while the other has limited liability. This arrangement is usually preferred for partnerships, where one partner is involved in the active day to day running of the business while the other(s) are dormant partners who do not run the business but have contributed capital to the business. This type of partnership may be of use to you if you need capital, but your potential partner is not willing to be actively engaged in the running of the business and is scared of being liable for anything that happens.
The name of a limited partnership must always have the abbreviation LP.
Limited Liability Partnerships (LLP)
A limited liability partnership combines the distinctive characteristic of Companies; limited liability, and the advantages of a partnership. This form of business organisation was revolutionary for professional businesses; such as law firms and accounting firms but is also applicable to non-professional firms. Liability of all the partners shall be limited to the debts, losses or obligations of the partnership to the extent of the amount contributed the partnership at the time of joining the partnership.
On registration a limited liability partnership becomes a body corporate, with perpetual succession and a legal personality separate from that of its partners. The partners essentially act as agents of the Limited Liability Partnership. The LLP must consist of at least one partner and one manager who is a natural person and over the age of 18 (Section 26,27 of the Limited Liability Partnership Act No 42 of 2011).
It is compulsory to have a written agreement where the rights and duties of the partners are clearly outlined. Where there is no such agreement the First Schedule of the Limited Liability Partnership Act applies.
The name of a limited partnership must always have the abbreviation LLP.
The table below summarises the key elements of Partnerships and which type of partnership the element describes.
Partnerships and Tax considerations
All three forms of partnerships are not required to pay tax on profits earned by the partnership. Rather, the individual partners are mandated to include their earnings in their individual income tax returns. This tax advantage is contrasted with corporations where the company is taxed the annual corporation tax and the shareholders are taxed on their dividends when filing their individual income tax returns, necessarily resulting in a double taxation on the same profits.
Companies
Companies are quite common owing to its unrivalled capacity of raising capital and the protections of limited liability it grants its shareholders. Moreover, a company has a separate legal personality from its shareholders; meaning that it is considered to be a separate entity, at least legally. Therefore, the company is capable of owning property and can be sued and can sue in its own name. However, a company can be expensive to start up, requires detailed formalities and compliance requirements with complex financial reporting guidelines and can be disadvantageous to its shareholders through double taxation of profits.
There are public and private companies but for young entrepreneurs, it would be more appropriate to explore the characteristics of a private company. A private company should have at least one director who is a natural person with a maximum number of shareholders as 50. There is no minimum capital requirement and the company is restricted with respect to transfer of shares and they are not freely transferable.
Conclusion
Given the discussion we’ve had here, I am pretty sure you have a much better understanding of the form of business organisation that is suitable for you. Be sure to explore the pros and the cons of the various business organisations that would be applicable to your enterprise and you will be more than ready to start your journey as an entrepreneur.
Should you have any questions, please feel free to reach out to us in the comment section below.
Abdullahi Abdirahman
Entrepreneurship Unit
Strathmore Law Clinic 2018 ©
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