Sole proprietorship is owned by an individual and he/she is personally liable for all the debts and responsibilities of the firm and the business. The business and the owner hold single identity and not different, which means that all the property possessed in the name of the firm belongs to the proprietor alone. Although it has many advantages, few of its limitations lead to situation where its conversion to other entity may be required. The prime reason to convert a Sole Proprietorship firm to a Partnership may be to join hand with other person to grow business with value addition in terms of expertise or capital intervention.
Before jumping to conclusion of converting your years old business to partnership firm, one must know the basic features of partnership compared with proprietorship. Partnership works in similar way to proprietorship, but here the liabilities are divided among the partners involved. All the debts and responsibilities are shared making it easier for the partners without compromising the unfettered control over the business and an added benefit of minimum compliance. To start a partnership, two or more individuals would come together and execute an agreement called “The Partnership Deed” which outlines in detail the rights and responsibilities of all partners. It has the force of law and is designed to guide the partners in the conduct of the business. It is helpful in preventing disputes and disagreements over the role of each partner in the business and the benefits which are due to them.
Key factors to keep in mind while you convert Sole Proprietorship to a Partnership:
- Dissolving the proprietorship through declaration: There is no prescribed procedure for the conversion as such. However, the only way to do it is by entering into a new partnership. The partners then can add a clause in the partnership deed stating that the proprietorship’s assets, business liabilities and dues, creditors and debtors are transferred at book value to the partnership and the sole proprietorship would be dissolved automatically. Hence, the partnership would now carry on the business of the sole proprietor.
- Duration of partnership: Many times, partnerships are created for a specific cause or a project. Once the said purpose is fulfilled, the partnership comes to an end. If there is any situation involved in the conversion of proprietorship, the deed should include the reason and the time period until which the partnership would be functioning.
- Contents of a partnership deed: The partnership deed is just like the MOA and AOA of a company. It is thus the most essential document that defines how the partnership would conduct its business, what would be the individual responsibilities of each partner, way the profits would be shared etc.
The partnership deed would usually contain the following:
Primary Details: The deed should include the facts about the partnership firm regarding: the name under which the firm would operate, the address of its principal place of business and a short summary of the business the partners intend to operate.
Investment Information: The deed also should specify the important financial details of the partnership, such as the amount of capital to be invested by each partner, the ownership shares that each partner is entitled to through his/her investment, the salaries to be paid to each partner and the method of distributing the business income.
Details of Proprietorship: Where the business of the proprietorship is being transferred to this partnership, the details of the assets, liabilities, credits, etc. transferred. Further, the details regarding tax registrations obtained in name proprietorship is needed to be disclosed. Further, the partner (earlier proprietor) may be paid off for the pre-established business brought into partnership. Here, the manner of pay-off must be disclosed. And if the proprietor is already paid-off, the details should preferably be provided in the deed. However, if the proprietor is not being paid the consideration, the value of the business must be disclosed and the fact that it is considered as the capital by said partner.
Accounting for Cash Flow and Profit: It should include information regarding how the accounting for the cash flow, profit and loss, and assets and liabilities of the business would be done; the methods that would be used to raise funds etc.
Withdrawals and Expulsion: Partnership would come to an end in case one of the two partners dies or withdraws voluntarily. The way the withdrawals would be conducted and the way a partner can be expelled and in which situations the expulsion would be allowed are included in the deed. This helps in a smooth working of the firm. It does not require the formalities that are followed by corporate entities such as the obligation to hold an annual meeting to make a decision or to keep the minutes of meetings.
Dissolving the Partnership: The main goal of adding terms of dissolution in the deed is to avoid expensive litigation that can arise due to missing out details of agreement and to promote smooth resolution of issues. All partnership deeds should describe the methods by which the partnership and business will be dissolved, and how the accounts among the partners would be settled when the partnership comes to an end. It should also provide means of dispute resolution the partners would adopt during a dissolution dispute or any other related issue.
- Registration: Even though registration of partnerships is not mandatory it is recommended, in certain cases, for the firm to register the deed. This enables the partnership firm to file suit and the partners to file suit against other partners or claim set off in the business when in dispute with a third party. Once all the partners sign the deed the sole proprietorship would be considered to be finally dissolved and the partnership deed would be effective from that day. Alternately, the deed could mention a date on which the partnership will commence.
If the partners wish to register the firm the application for Partnership Firm Registration would be submitted with the Registrar of Firms (RoF) under whose jurisdiction the business place of the Partnership Firm falls. The application of registration is made in required form by submitting the Partnership Deed. At the end of the registration procedure, the Certificate of Registration is issued by respective RoF. The process and time of registration may differ for each RoF.
Overall it can be said that when a business owner wants to expand his business but is yet not ready to take on the burden of excessive compliance and wants to have a complete control over the business converting to a partnership is a good alternative than going directly for other business structures that have higher compliance demanding components and are expensive to incorporate. Partnerships are easy to form and manage and have an upper hand over sole proprietorship in aspect of shared liabilities and responsibilities.
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