A partnership exists when two or more persons carry on a trade or business and share profits, losses, and responsibilities. For federal tax purposes, the definition is broader than the legal definition: under IRC §761, a partnership includes syndicates, groups, pools, joint ventures, or other unincorporated organizations that conduct business and are not classified as corporations, trusts, or estates.
What qualifies as a partnership
A partnership exists when:
- Two or more persons contribute money, property, labor, or skill
- They intend to share profits and losses
- They are actively conducting business
Mere joint ownership of property does not create a partnership unless the owners provide services or carry on business activities.
Entities that are not partnerships
The following are not treated as partnerships for federal tax purposes:
- Incorporated entities
- Insurance companies
- Certain banks
- Government‑owned entities
- Tax‑exempt organizations
- REITs
- Trusts
- Foreign entities classified as corporations
- Any entity electing corporate status under the check‑the‑box rules
Partnership Types
General partnership
All partners are general partners, each fully liable for partnership debts.
Limited partnership
At least one general partner and one or more limited partners. Limited partners are liable only up to their contributed capital.
LLC taxed as a partnership
A multi‑member LLC is a partnership by default unless it elects corporate or S‑corporation status using Form 8832 or Form 2553.
Partnership Agreement
The partnership agreement governs allocations, rights, and responsibilities. It may be oral or written, and partners may modify it up to the due date of the Form 1065 (not including extensions). If the agreement is silent, state law fills the gaps.
Electing Out of Partnership Treatment
Under IRC §761(a), certain groups may elect out of partnership rules if:
- They do not actively conduct business, and
- Each partner can compute their own income without computing partnership income
The election is made on Form 1065 for the first year the exclusion is desired.
Family Partnerships
Family members may be recognized as partners only if:
- Capital is a material income‑producing factor and the family member owns and controls the interest, or
- Capital is not material, and each family member contributes services or capital in good faith
If a family member receives a gift of a capital interest:
- Partnership income must first be reduced by reasonable compensation for the donor’s services
- The donee’s share of income from capital cannot exceed the donor’s proportional share
Family for this purpose includes spouses, ancestors, and lineal descendants.
Qualified Joint Venture Election (Spouses)
A married couple may elect not to be treated as a partnership if:
- They file MFJ
- They are the only members of the venture
- Both materially participate
- Both elect the treatment
Each spouse reports their share of income and expenses on separate Schedules C and SE.
Termination of a Partnership
Under IRC §708, a partnership terminates only when no part of the business continues. The TCJA repealed the old “technical termination” rule triggered by a 50% ownership change.
If a partnership terminates:
- The tax year ends on the termination date
- A short‑period Form 1065 is required
- The return is due by the 15th day of the third month after termination
Summary
A partnership forms when two or more persons conduct business together and share profits and losses. Key principles:
- Classification depends on activity, not formal labels
- Family partnerships must meet strict ownership and service rules
- Spouses may elect qualified joint venture treatment
- LLCs default to partnership taxation
- Partnership termination occurs only when business activity ceases
- Elections under §761 allow certain groups to opt out of partnership treatment
These rules come directly from IRC §701–§761, Publication 541, and Form 1065 instructions.