How Do I Deal with Employees/ Business Partners/Colleagues?

Are We Partners?

Q: "My spouse helps me out sometimes with my eBay sales, and I pay him some money. Ultimately, everything, of course, ends up in our joint checking account. Do I have to make him my partner for tax purposes?"

A: Not if you don't want to, but that's what the IRS will assume unless you do some paperwork. Partners generally share in the profits and losses of a business. Contrary to what a lot of people think, you don't have to have a written partnership agreement to have a legal partnership—partnerships can be formed by a handshake agreement, or even by accident.

The problem here is that everything you're doing on eBay is commingled with your personal finances. Get a federal tax ID number for your eBay selling, register with your state tax authority for sales taxes, and then open a separate checking account for your business that is tied to your federal tax ID number.

If your spouse is working for you only occasionally and sets his own hours, you may be able to treat him as an independent contractor for tax purposes. Write checks from your business account to your joint banking account for the hourly or daily fees you pay him, and (if you pay him more than $600 total during the calendar year) send him a Form 1099 next January, just as you would do for any other contractor.

If your spouse is working only a few hours in your business, there's no advantage (tax or otherwise) in treating him as an employee for tax purposes. He has to sign IRS Form W-4 and Immigration Form I-9 (and show you proof that he is a citizen!), you have to withhold payroll taxes from his compensation, and you also have to send him a Form W-2 next January. This is too much work for a very small tax reward—you will save only about $50 in federal unemployment tax (FUTA).

If you do decide to make your spouse your partner for tax purposes, get a federal tax ID number for the partnership (you can't use your Social Security number anymore when you have a partnership) and start filing IRS Form 1065 each year.

Whichever way you decide to proceed, make sure it's in writing and crystal clear. You don't want to treat your spouse as an independent contractor, only to find out when he slaps you with divorce papers that he's thought of himself as your business partner all these years.

Q: "My buddy and I just started out selling on eBay and are doing quite well. But I just realized that everything—bank accounts, eBay user IDs, credit card merchant accounts—is in my name. We split the profits, but the IRS will think that it is all my income unless we form a partnership, right?"

A: Not necessarily. If you have been splitting profits and losses from your eBay selling with your buddy, you are partners, no matter how your property is legally titled. Don't get me wrong—if you dissolve your partnership at any time, your buddy wouldn't be entitled to 50 percent of everything you own. That's the beauty of having everything titled in your name. It does mean, however, that you and your buddy should be filing IRS Form 1065 each year and otherwise holding yourself out as partners when you do business with people. Otherwise, if somebody sues you, you will have to take the full hit.

Talk to a lawyer about having a short, written partnership agreement drawn up that spells out clearly what the two of you are doing together and how much each of you is legally entitled to as a result of your partnership activities. You may think of your buddy as a 20 percent partner, but there's nothing right now to prevent him from claiming 50 percent of the partnership assets if he thinks he's the one doing all the work.

Then send him Form K-i in January or February next year (no later than that, please, even though the IRS allows you until April 15 to send it), showing him how much the partnership earned and what his share of the profits and losses are. That way, the IRS at least won't be confused about your intentions.

If this is too much hassle and you would rather treat your buddy as an independent contractor for tax purposes, see the answer to the previous question.

Q: "I started selling on eBay last year in partnership with my cousin, but I'm doing all the work and I resent the fact that she's getting 50 percent of all my profits. How can I legally dissolve the partnership?"

A: Dissolving a partnership is easy—just tell your partner you no longer want to work with her. You should file a Form 1065 with the IRS (and a similar return to your state tax authority, if your state has an income tax) for the period from January 1 to the date the partnership terminated, making sure to check the "final return" box on the form so the IRS knows this is the last Form 1065 they will receive from you.

The tough part comes later, when you have to figure out:

• Who gets to keep the partnership assets (such as your eBay inventory, your eBay user ID if it is held in a joint name, your business trade name, and the money in your PayPal account)

• Whether the two of you are still on the hook to creditors of the partnership (such as a credit card merchant account on which the partnership has a balance)

Before you break up your partnership, draw up a "separation checklist" detailing how you would like each of these matters to be resolved, and give it to your partner, along with an invitation to discuss it with her attorney and her tax advisers. This will open the door to a negotiated settlement that will resolve these issues so you can both get on with your lives with a minimum of fuss and bother. Make sure to include an "acceptance line" at the end for her signature, so if she agrees to your separation proposal, she can sign the document and return it to you, saving you hundreds of dollars in legal fees.

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