Partnerships and Corporations
partnership. I mentioned by definition two or more people. Big confusion on partnership The percent that you own that any partner owns can be very different from the prophet that you share. The percentage of ownership could be very different from the partner from the income that you share. I'll give you an example that I've used for a long time. The Texas Rangers are the baseball team, at least used to be a partnership. It's a partnership. George W. Bush, before he was governor of Texas, was the general partner of the Texas Rangers. Okay, now he had a very small percentage ownership, very small percentage ownership. But he probably got a little bit more profit than the other partners because of who he was and his family. He was able to be the face of the organization and get attention and sell tickets, etcetera. So it's possible tohave different percentage ownership and different percent and shares a profit depending on everybody's role, depending on everybody's role. Okay, that's the ...
first thing you should know about partnership. It's not static. It could be just about any any form you want, and I always like to say that at the top the way you structure that is through a partnership agreement. That's where you determinant, and that goes back to the whole. Who gets what discussion. Oftentimes what happens is you have an owner put in a lot of capital. I'm gonna do some examples later. One owner put in a lot of capital and you have another partner who doesn't put in as much. Captain, You may have a situation where a partner who is active in the business gets a bigger share of the profit. Where the silent part. Nobody heard that term. This silent partner, right? The silent partner gets less of the income, but it may have more ownership, and this structure could be, however you want. I'll add another one. It's possible for a partner to get salary, get a set payoff from the partnership, and other partners do not. That's possible. Okay, that's the beginning of partnership. Let's take it one more step. You have general partners, and you have limited partners, general Partners and limited partners. The general partner has unlimited liability, and I'm not gonna write it all out because I think people were kind of getting the hang of what I'm saying on limited liability, not only for their actions, and this is critical, but for the actions of other partners as well. Okay, limited partners. Liability is limited to their investment in the partnership. A movie, a documentary and I know a lot of you in the audience or document documentary folks. Has anybody seen the smartest guys in the room? The Enron documentary? Um, it's a classic example of how badly things could go wrong in a partnership with General Partners. I highly recommend. It was also a book written by a Wall Street Journal reporter. So this is the case where in fact, at that time my wife was working at Arthur Andersen, which was the company that was doing the Enron audit, and I was working at KPMG at the time, um, without going into too much detail of what happened. Essentially, Arthur Andersen was accused of a huge misconduct by not auditing the financial statements and disclosing things to investors. I'll leave it at that. You can watch the movie. Here's the point. General partnership. Thousands of general partners around the world doing accounting There was a handful less than 10 partners working on the Enron audit. What happened was is that thousands of general partners were liable for the actions of just less than 10 people who royally messed up. I mean, in a big way, all of the general partners now only lost all of their investment. They were also the firm was forced to go out. The partnership was forced to go out of business because they lost the ability to do audits of companies. They went out, they just disappeared. It went away. Okay, message for the audience here today. If you're gonna be in partnership with somebody, you need to have a serious discussion about how you guys do business. Taking on liability. You need to have that discussion because there was unlimited liability for people you are in partnership with. And I've seen this go bad many times. Oftentimes, what happens? Here's what happens. As I mentioned you. Take Myers Briggs. You're in a partner with somebody Probable because they have a different skill set than you do. Okay, I can think of to specific examples. So you're the creative person. You're bringing the value. You have the secret sauce. You're out there doing your thing, bringing in all the money. That's your role. You have a partner who sort of the back office operations person who is handling the money and paying the bills and doing all the stuff that this course is about. And what happens in the two cases that I'm familiar with. You had one general partner who's the not not outselling the creative service, but in the Home Office does not only makes a mistake that causes a lot of legal liability but also doesn't handle the money correctly. Okay, without going into a lot of detail, The one partner you're in business with really screws up. What's the result? Both of you are equally liable for the actions of the other partner, and I'm particularly leery of situations where one person in the partnership is out doing the business. The value add the secret sauce and the other one is not okay. Now they need each other, don't they? Those of you in this audience need to one extent or another somebody to help you with the accounting and the bookkeeping and stuff that's going on in this class. But you gotta know that person and be careful of the relationship that you set up. So that's my cautionary tale. Okay, uh, taxation again is the sponge. Now, the sponge in this case is a little more complicated. Okay, so I'm gonna say P ship for partnership. You out, you go out, you do your creative work, you build people. Money comes into the partnership. I'm gonna say 20 k $20,000 comes in. The partnership has some expenses. Sure, there's a hole in the bucket, and we're going to say a $5000.5 k profit comes out of the bucket. Will further say there's two partners Bob and Sue, Bob and Sue are gonna have a partnership agreement that dictates who gets what, specifically how this profit is allocated. Let's say that suit gets $3000 based on the agreement. Let me make it. Let's say that Bob gets 40% to make the number easy, and Sue gets 60%. Bob gets 2000 of the prophet Sue gets 3000. Okay, let me do that again. Partnership makes money. You're going out doing your thing. You're selling your services. You're collecting money. $20,000 comes in expenses in the bucket. $5000 profit comes out based on your partnership agreement, you share the prophet on this percentage basis. Now the question is, how does that impact your taxes? Same kind of thing. It's going to go on your personal 10 40 tax return. It's going to come through in a document. I'm just going to say it because it's probably Jermaine and people in this class we're gonna get them that it's called a K one form K one for partnership. You're gonna add that income to your 10 40 tax returns. Okay, again, I'm only going down the tax road as far as I think I need to get with the audience needs. Okay, That's how a partnership works. When I used to do taxes, I would see people who had multiple K ones. Maybe they were in a partnership for the business and they were a partnership for real estate. I know Josh and I talked about real estate earlier, So you have people with multiple K ones now you are going to have to pay an accountant if you have. If you have a partnership, this partnership will have its own tax return. I hate to say it, but you're going to pay an accountant to do this tax return because this course seems to be the Accountant Employment Act of 2014. I think we're getting accounts. All kinds of business. Have an accountant do this tax return. I'd recommend an account, do all your returns, but having accountant to at least the partnership return que You gotta incur some expense to do that. All right, let me read the definition of partnership. This is from free dictionary dot com Just to give you Let's put a fine point on it. A legal contract partnership agreement entered into by two or more people partnership who agreed a first, a part of the capital and labour. You guys are gonna put stuff into the business for a business enterprise, which each shares ah, fixed proportion of profit and loss is so that profit and loss percentage is going to be fixed. Okay. And again, that partnership agreements very flexible. You guys been set this up? However, you want most states, it's very flexible, very flexible. Okay. Talked about the sponge sponge concept. Talk about sharing. Talked about general partner. Let me say this again. So, General partner on my notes here 100% liable for the debts and legal issues related to the business and the actions of each other now have officially beaten to death the actions of each other. So important. Okay, One more thing on partnership before I moved to corporations, you're gonna move put capital into the business. Okay, so for example, Christine's got the film business. She's got film equipment. She shows up with the partnership with film equipment and the other partner, Joe shows up with cash. So you're both putting stuff into the partnership agreement into the partnership. Okay, I'm gonna go over a little bit of how that accounting would work. Just enough when I get through the three explanations of the corporate formation here. Okay. Yes, I'm sure percentage ownership could be different from the percentage of profit sharing. Correct. So how does that play with, um, how you get taxed on how much of your profit? I mean, why would you have a different number for your percentage of ownership in a different number for your profit sharing? I will answer that when I get when I get to the actual transactions. I will answer that when I get going to corporations that I'm gonna go back and address that specifically. Still, hang on to that and remind me if I don't answer, please. Okay. Anything else in partnership? Yes, sir. Question here from Renata asking about. So are the business profits tax twice? One at the partnership level and two at the personal level. Oh, I'm so glad you asked that. Because I should've covered your soldier prior ship in your partnership. It's only taxed once when it goes to your personal tax return. Once. So proprietorship partnership. Okay, Which leads me to corporations. Legally. It's an entity separate and distinct from the owners. And we're gonna find out that it kind of does its own tax return with profit and loss is so. It's a separate, distinct entity. The owners are shareholders, and we learned lasted yesterday. That shareholder means there's you own equity shareholders. It's easier to raise capital. Kind of gives you street credit. If you got a corporation to raise capital double taxation, top right hand corner. Let's talk about that. Reminds me using these buckets, I walked into a presentation in like, 1986. A guy was gonna present an investment product to a bunch of brokers and goes north. And he was a former NHL hockey player that I remember, and he hurt himself and how he was financial services that he said. Normally my presentation takes 30 minutes, but I'm gonna do it in five minutes. This is the bank. This is the box. He went so fast. That's all I remember. There was a banker's box. Any questions wasn't tremendously effective. I still kid about it with a friend of mine. How many years ago was that? 86. A long time ago. This is the bank. This is the box 27 years ago. I still remember. I don't know what the bank where the box waas didn't get that. Here is a corporation Creative Inc bucket. Ken Try decides this today in San Francisco and moves to L. A. Becomes a big star. He can't be a big star, but he could be a character actor because he's now middle aged. He's not very good looking. It becomes a character actor. Character sales revenue comes into the bucket. Yeah, expenses. Go on. Now. Here's what's different. There is not a hole in the bucket. Creative Inc pays tax on the profit on their own tax return. Okay, so if there is a 10,010 K profit, Creative Inc pays tax on that profit. They feel that they create a tax return. They pay tax on the profit. Uh, they have a choice with the prophet. They can keep the prophet and use it in the business. So if Christine goes out and does some business and she has a corporation and she makes some money, But she needs to keep some of the property by new film equipment, she keeps it. That's one choice. It's called retained Burnings. We're going to see the slide later on about that. Her other choices. She can pay a dividend to the shareholders. A dividend is a share of a share of profit. Now had a big argument when I wrote one of the books and I remember which one. On this point I stuck by my point, and I don't know whatever is where I don't really have my ego involved. But I thought I was right and insisted that we keep this in the book. You have tohave profit to pay a dividend. If there's no profit, it's not a dividend if you're just returning people what they invested, okay, there must be a profit to pay a dividend. Or else you're just returning people. Their investment dollars. Okay, last step. And I know we're getting kind of taxi and accounting here, but it's important that the audience needs to know this. We're going to say Tim is a shareholder. He owns stock. He gets $100 dividend. I'm gonna use D for dividend that dividend. Tim is taxable again on tens tax return. Let me do that. One more time. Corporation sales dollars come in. We incur expenses. We have a profit. $10,000. This corporation files a tax return and has tax rates and pays tax on the profit after tax. What do we do with what? We have? The profit? Well, we can keep it in the company, maybe to go out and buy more equipment if we have a photography business or we pay what's called a dividend, which is a share of the profit Thames, a shareholder. He gets $100 dividend that is taxable to Tim. In fact, on that 10 40 form that we all feel out there is a line on page one for dividends and her income. She just throw it on there. Okay, so corporations are taxed twice. Partnerships and sole proprietors are taxed once, so there's good news. Bad news for the corporation. Bad news is it is taxed twice. There's good news, though. Bad news on the left, double taxation. Okay, I said the court, the corporate net income or profit using the terms interchangeably goes on a corporate tax return dividend paid to shareholders. Bottom right, taxable. Do the the end of individual. Okay, bad news. Good news. Easier to raise capital. Other good news. Limited legal liability Again. I'm not an attorney, nor do I play one on TV. Check with an attorney on this. Your liability generally is limited to the amount of money you invested in the company. So unfortunately, when Enron went under, the maximum that shareholders lost was the shares that they owned in the company. What's so tragic about this story? If you watch the it's one of the best documentaries ever seen. I'd like it if creative people watched because I'd like your opinion. Um, one of the saddest moments is when the Enron employees are encouraging each other to buy more stock in their own company before the whole thing goes under. So not only did they lose their jobs, but the stock that they own went to zero. But that's the most you can lose top right hand corner. This is so critical for the people in this audience. Caution Top right To maintain legal separation, you must be careful to keep your business and personal transactions separate. Hence the purpose of this course. All right. If you set up a corporation, for example, do not do not have one checking account for your personal and business expenses. What's the big deal can? How hard can it be? Here's why. It's a problem if you have a legal issue. If somebody slips on, the four, hurts themselves and sues your corporation and you say I'm okay because my corporation is a separate legal entity. If you are mixing business and personal transactions, it may be possible for someone's attorney who is suing you to say, Yeah, they're really not separated. And if they're really not separated, your personal and business assets are at risk. So please, if you set up a corporation in particular keep those transactions separate. Hence the purpose of the scores. So isn't net income isn't that the same as profit? That's why I put a slash there. It looks like divide. I'm afraid on the slide. Ok, Sorry. That incoming profit mean the same thing. I should have put it in parentheses. I see. Okay. Yes. Under the partnership. Limited liability to keep your finances separate as well. Yes. I'm glad you asked that. It's important under all three of these to keep your business and personal separate. However, the problem is is that when you set up a corporation, people assume they're protected and they neglect to separate business from person, which is what I've seen.