Joint Ventures (When Does It Become a Partnership?)

What is a joint venture for tax purposes? Generally, a partnership by another name. There’s no special federal tax classification called a joint venture. Two businesses agree to work together on a project, share revenues and expenses, and the IRS asks a simple question: are they carrying on a business together as partners? If so, the arrangement is generally a partnership for federal tax purposes, whether they filed anything with the state or ever used the word (IRC Sections 761(a) and 7701(a)(2), and Treas. Reg. 301.7701-1(a)(2)). A handshake can be enough.

Take the two insurance agents from our Mothership Baby S Corp section. They could simplify life by entering into a joint venture agreement for revenue and expense sharing, without forming a new entity. If that arrangement is a partnership-

• A partnership tax return is required. That means Form 1065 and a K-1 to each venturer, even though no LLC exists.
• Missing it gets expensive. The late filing penalty is charged per partner, per month (IRC Section 6698).
• Self-employment tax follows. Active individual general partners generally owe self-employment tax on their distributive shares of business income.
• Liability protection is missing. A joint venture agreement doesn’t provide the liability shield of an LLC. Depending on state law and how the venture operates, the participants can face personal liability for venture obligations, including obligations created by the other participant.

Where’s the line? Sharing expenses alone doesn’t create a partnership. If two insurance agents split the rent and a receptionist but each bills their own clients and keeps their own commissions, they generally aren’t partners. Sharing a receptionist doesn’t make you partners any more than sharing a Netflix password makes you married.

A joint undertaking merely to share expenses isn’t a separate entity for federal tax purposes. But when they start jointly conducting business, pooling revenue and dividing profits, they’re looking increasingly like a partnership. The IRS looks at the actual arrangement, not the clever name they gave it.

Two related situations get different treatment-

• Spouses. A married couple running a business together can sometimes skip the partnership tax return with a qualified joint venture election (IRC Section 761(f)). It’s available only when the spouses are the only owners, both materially participate, they file a joint tax return, and the business isn’t held in an LLC or other state-law entity. See our Your Spouse as a Business Partner section for more information.
• Co-owned rental property. Mere co-ownership of rental property generally isn’t a partnership. But when co-owners operate a business and provide services beyond ordinary rental activities, partnership treatment becomes a concern. We dig into that distinction in our rental book, I Just Got a Rental, What Do I Do?

WCG CPAs & Advisors isn’t a huge fan of joint ventures in this fashion. If you’re going to be treated as partners anyway, you might as well get the liability protection of an LLC and an operating agreement that says what happens when things go sideways. And attorneys tell us a well-drafted joint venture agreement isn’t cheap either. Automobile manufacturers have the budget for large joint ventures with finite timelines (like business flirting), and even they have a myriad of highly visible problems with brands, employee groups and regulations.