Partnerships are business entities consisting of two or more individuals who co-own the business and share in its profits and losses. Contributions by partners may vary in type and amount -- including cash, ideas, and "sweat equity" (a partner's time on the job). As a result, partner equity does not necessarily involve equal cash contributions from each partner. Instead, partners may make equal contributions to the business and have equal ownership rights, but the contributions themselves may take a number of different forms.
Partner Equity and the Partnership Agreement
Since partners tend to have different strengths and responsibilities, partnerships are seldom 100 percent equitable from a financial perspective. Partnership agreements spell out exactly what each partner contributes to the business, how the profits and losses are allocated, and other details about ownership and management (see Write a Partnership Agreement for more specific information).
The agreement typically includes ownership percentages, which are based on the value of each partner's respective contribution (monetary or otherwise) and often correlate to profit/loss allocations and managerial authority. Therefore, a partnership in which all partners receive an equal allocation does not require equal cash contributions, although "equal partnership" and "50-50 partnership" are not technical terms and can mean different things to different people.
Example: Partnership Contributions
For example, Partner A in a partnership has come up with a brilliant new idea for building a better mousetrap. Partner B is a seasoned business executive with a solid plan for taking the new mousetrap to market. Partner C owns a facility for manufacturing the new products, while Partner D has capital to invest. All four contributions are important and essential to the partnership's chances of success, but are they equal?
If the four partners decide that their respective contributions are indeed equal in value, then they may decide to split profits and losses, managerial authority, and liability into four equal stakes worth 25 percent each. Only one of the four partners has contributed cash in this example.
Likewise, two partners may have contributed equal amounts of cash into a partnership but one of them actively manages the business. The one who also manages probably would seek out a larger ownership stake than just 50 percent since they are putting in their expertise and labor into the business in addition to the equal share of cash.
And while general partners (or "equity partners") take on equal rights and responsibilities connected to the management of a business, including personal responsibility for debts and other liabilities, limited partners have less liability and do not participate in management decisions. A partnership agreement will contain the details of each partner's contributions, responsibilities, and share of profits.
Get a Free Small Business Attorney Match for Your Partnership
Before you draft and sign the partnership agreement -- which will determine partner contributions and other important details related to partner equity -- you may want to iron out some of the finer points with a legal professional. A small business attorney will understand the process and figure out how best to take care of your new partnership. Get started today with a free legal evaluation of your small business matter today.