Equity Partners Vs. Nonequity Partners

In some law firms, partners must serve as nonequity partners before they will be invited to be equity partners.

In some law firms, partners must serve as nonequity partners before they will be invited to be equity partners.

The distinction between equity and nonequity partnership usually occurs in law firms and accountancy partnerships. Nonequity partners are recognized as owners of the partnership, but more than half of their earnings come from a fixed salary rather than a portion of the partnership's earnings. In some firms, nonequity partners do not receive any portion of the partnership's earnings. Equity partners are full partners who receive a significant draw of the partnership earnings that amounts to more than half of their salary. Equity partners are also liable for the partnership's debts.

Equity Partner Advantages

Equity partners have many advantages when it comes to the daily operation of the partnership. They enjoy full voting rights on important decisions about the future of the firm. Equity partners are also entitled to take home a portion of the partnership's earnings, and they enjoy the prestige and status of being labeled as a full partner in the business. This prestige has particular significance in law firms.

Equity Partner Disadvantages

Some disadvantages come with the invitation to become an equity partner. First, equity partners must buy into the partnership, meaning they make a capital contribution to the business before they are recognized as a partner. Because equity partners are no longer salaried employees of the firm, they have to pay self-employment taxes. Perhaps the biggest disadvantage of being an equity partner is being liable for the debts of the partnership. If the partnership is unable to pay its debts, the individual partners are liable for the shortfall.

Nonequity Partner Advantages

Nonequity partners get the advantage of being a partner in name but without some of the responsibility. Outsiders may not be aware that a partner is anything less than a full partner, so nonequity partners enjoy the same prestige as an equity partner without being liable for the debts of the partnership. Further, nonequity partners do not have to make a capital contribution to the partnership, which can be a significant expense.

Nonequity Partner Disadvantages

The primary disadvantage of being a nonequity partner is that the individual may be regarded as a second-class partner within the firm. A nonequity partner will not enjoy full voting rights in partnership management decisions, and he'll usually get less compensation than equity partners.

About the Author

Erika Waters is a business lawyer licensed to practice in California. She has experience working with nonprofits including Teach for America, as well as entrepreneurs and startups. Waters has contributed to several blogs, including the Business & Media Institute and other online publications and has worked as an editor for an academic publication.

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