Two professionals interested in a franchise choose to partner.

Reasons You Might Need a Franchise Partner

Is a franchise partner right for you? There are a number of reasons you might say yes. Let's dive into some of the benefits.

 

What are the benefits of partnership?

Partners can offer three forms of capital you need to succeed in your new business:

Intellectual capital

Great partners often have knowledge, experiences, and skills that their counterparts don’t have. As a team, they have a solid understanding of what needs to happen in every part of their business. They also excel at executing their plans.

Financial capital

Great partners have access to cash or ways to attain funding. They have a good credit score (at least 650), which is key for taking out term loans, asset-backed loans, or SBA loans to cover startup costs, buy inventory, or fund the business’s operations.

Human capital

Great partners are willing to put in the work that’s needed to make the business a success. Depending on the arrangement, partners may take a hands-on or hands-off approach. In either case, they’re willing to pitch in when and precisely how they’re needed.

Is a franchise partner right for me?

Maybe. But before you make that call, find out whether the franchise you’re buying into has restrictions on partner ownership.

Often, franchisors require personal guarantees from each partner, regardless of the size of their investment. They also request that one franchise partner becomes the designated point person for all their questions and concerns. They may also want to vet any partner you bring on board.

It's important to get the go-ahead from your franchisor. But before pressing ahead, take some time to study the pros and cons of this arrangement.

Let's start with the pros.

There are clear advantages to having access to more skills, knowledge, and support to acquire and run a business. There are real benefits to choosing a franchise partner who has cash on hand to invest in the business, too. With their help, you might avoid taking on costly loans or leveraging your assets, two options that introduce expense and risk.

Of course, there are some downsides to partnership, too. Depending on your arrangement, you might not have the autonomy you want to make decisions and execute your ideas—at least, not without talking with your partner. And while you and your partner may share in the costs, you’ll also share the profits, which can be modest when starting up.

If you decide to proceed with a partnership, commit to finding a partner with the traits you and the business need to thrive.

 

What should I look for in a franchise partner?

The partner you choose should have skills, experiences, connections, or resources that will benefit your business. You should be confident in that person’s abilities to team well and execute plans to achieve important goals.

You might choose to partner with family members or close friends. Or, you could partner with a professional contact or someone you know less well but has the skills, resources, or experiences you need to succeed. There's no single right answer, so long as you choose people who will be a true asset to your business.

 

How do I organize a partnership?

To start, you’ll need to decide whether you want to form a general partnership or a limited partnership or organize your business into another multi-owner structure. Here are some of the options you might consider:

 

General partnership

A general partnership is a co-ownership arrangement between two or more people. Both have legal and financial responsibility for the business.

 

Formation:

  • General partnerships are formed with a partnership agreement. This agreement should be drafted by an attorney and signed by every ownership partner.

 

What's great about this option:

  • Each partner shares in the responsibility of running the business.
  • The partners can pool their strengths, resources, and connections to benefit the business.
  • Partners might access loans with more favorable terms because of the strength of their combined credit ratings.
  • Partnerships avoid the double taxation that impacts other ownership setups. Business profits and losses are reported on the partners’ personal tax returns.
  • The ability to allocate losses to owner partners can increase the business’s internal rate of return on investment. It may also afford the partners some income tax benefits.

 

The drawbacks:

  • Each partner is personally responsible for the business’s taxes, debts, and claims against the partnership.
  • Each partner is liable for other partner(s)’ debts.
  • Creditors can seize any partner’s personal assets to reclaim debts.
  • Each partner can commit the business and other owners to obligations without signed consent.

Limited partnership

A limited partnership is an arrangement that includes one or more general partners with full legal and financial responsibility for the business and one or more partners whose liability is limited to the amount that they invest in the business.

 

Formation:

  • Like a general partnership, limited partnerships require a partnership agreement. This agreement should be drafted by an attorney and signed by every ownership partner.

 

What's great about this option:

  • As a general partner, you can raise the capital you need without giving others a say in its daily operations.
  • You can repay the investments your partners make in the business on terms you both agree to (such as when the business has a certain amount of excess profits) rather than at fixed intervals of time.
  • Partnerships avoid the double taxation that impacts other ownership setups. Business profits and losses are reported on the partners’ personal tax returns.
  • The ability to allocate losses to owner partners can increase the business’s internal rate of return on investment. It may also afford the partners some income tax benefits.

 

The drawbacks:

  • You, as the general partner, are responsible for the entirety of managing the business.
  • You bear full responsibility for the business’s debts, taxes, and claims.
  • Creditors can seize your personal assets to reclaim debts.

C Corporation

A C Corporation (C corp) is a legal structure for businesses with one or more owners. Through this structure, owners’ personal assets are typically shielded from the business’s debts and financial obligations. Businesses that use this structure have an elected board of directors, adopt bylaws, issue stock, hold shareholder meetings, file annual reports, and pay annual fees related to their formation. They are taxed separately from their owners, and the owners also pay tax on the income they receive from the business.

 

Formation:

  • Owners file Articles of Incorporation with their state and pay a filing fee.

 

What's great about this option:

  • In many cases, creditors cannot seize your personal assets to reclaim debts.
  • You may offer shares to as many individuals or entities as you like, and they do not have to reside in the US.
  • You can offer multiple classes of stock to suit investor preferences.
  • Your company’s shareholders can sell and transfer their shares freely.
  • You may be able to deduct all of your business’s charitable contributions and donations, provided that they don’t exceed 10% of your company’s income, as well as some benefits, including health insurance.
  • Recent tax reform policies may allow you to pay a lower corporate tax rate than the maximum rate that’s currently in place for individuals.

 

The drawbacks:

  • Because the business must pay tax on its earnings and the shareholders must pay tax on their dividends, the corporation’s earnings are taxed twice.
  • The rules for corporations are strict and complicated.
  • The costs of running a business as a C corp are higher than in some of the other arrangements.
  • Extensive documentation is needed to establish this type of business.

S Corporation

An S Corporation (S corp) is a legal structure that's much like the C corp, but there are two key differences. First, a business organized as an S corp can issue only one class of stock to a limited number of U.S. resident shareholders (presently 100) rather than multiple classes of stock to an unlimited number of shareholders. Second, the S corp itself doesn’t pay tax. Instead, the owners report the business’s revenue as personal revenue.

 

Formation:

  • Owners file Articles of Incorporation with their state and pay a filing fee, and they file Form 2553 with the IRS.

 

What's great about this option:

  • In many cases, creditors can't seize your personal assets to reclaim business debts.
  • You and other shareholders don’t have to pay a corporate-level income tax.
  • Because of the Tax Cuts and Jobs Act (2017), you and other shareholders may be able to deduct up to 20% of your net qualified business income.
  • Your business’s losses will pass through to its shareholders who could use the losses to offset income.

 

The drawbacks:

  • Because your business is limited to 100 shareholders, it could be difficult to raise large amounts of capital.
  • The shareholders of your business can't be entities, so you won’t be able to raise capital from venture capitalists or private equity funds.
  • You'll likely need to limit your shareholders’ ability to sell or transfer their shares to ensure that shares aren’t given to an ineligible shareholder, a move that could terminate your S corp status.
  • Your shareholders will be taxed on the business’s profits, even if income isn’t distributed to them as cash.

Limited liability company

A limited liability company (LLC) combines elements of a partnership and a corporation. Like a partnership, the LLC allows owners to avoid paying income taxes because they report the business’s profits and losses on their personal income tax returns. And, like a corporation, the LLC helps protect owners’ personal assets from the business’s debts and liabilities.

 

Formation:

  • Owners file Articles of Organization with their state and pay a filing fee.

 

What's great about this option:

  • In many cases, creditors cannot seize your personal assets to reclaim business debts.
  • LLCs avoid the double taxation that impacts other ownership arrangements. Business profits and losses are reported on the owners’ personal tax returns.
  • The ability to allocate losses to owner partners can increase the business’s internal rate of return on investment. It may also afford the owners some income tax benefits.

 

The drawbacks:

  • Your company cannot issue stock.
  • Some small businesses aren't eligible to form an LLC. Certain states exclude banking or insurance businesses, accounting firms, architecture firms, and medical practices, among others.

If you decide on a partnership rather than a C corp or S corp arrangement, you’ll need to create a partnership agreement. This agreement, which is often drafted by an attorney, should include:

  • The name of your business
  • A brief description of its purpose
  • The purpose of your partnership
  • The duration of the partnership
  • The kind and value of the assets each partner will invest
  • How you will use to share profit and loss
  • The pay structure for each party
  • How tangible and intangible assets will be split if the partnership dissolves
  • Provisions for dissolving the partnership
  • Provisions for buying and selling stakes in the business, which should include how the business will be valuated
  • The conditions for bringing on new partners
  • How the partners will settle disputes (often arbitration or mediation)
  • How changes to the agreement may be made

 

General partnership agreements can also include clauses that spell out each partner's decision-making power, responsibilities, and restrictions in engaging in outside business activities.

Limited partnership agreements can include unique clauses, too. Clauses could specify when each partner will receive reports and updates on the business, the conditions for returns, and how and when the general partner could buy out a limited partner.

Would you like to speak with an attorney about forming a partnership? Click the Connect button below to get started:

 

What are my other options for raising capital?

If partnering doesn’t appeal to you—or if you’d like to explore other options—look into SBA loans, term loans, asset-backed financing, franchisor financing, and 401(k) options. You can learn more about those options here:

 

Looking for more support? We can help. Log into your owner’s portal for a free step-by-step guide to make your venture a success.

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