LP Company: Everything You Need to Know
Limited partnerships allow companies to raise capital from investors, who are shielded from personal liability, while still having general partners run the business’ daily affairs.8 min read
Updated November 24, 2020:
What Is an LP Company?
An LP Company (“limited partnership”) as a business legal structure has many unique characteristics, benefits, as well as drawbacks for tax, liability, and operating purposes. Limited partnerships allow companies to raise capital from investors, who are shielded from personal liability, while still having general partners run the business’s daily affairs.
What Is a Limited Partnership
Limited partnerships are formed when at least two partners combine to operate a business and when at least one of the partners only risks their capital contribution rather than having regular partnership personal liability.
- A limited partner has straightforward access to revenues and costs but does not get dividends.
- A limited partnership can also be called an LLP (“limited liability partnership”).
- The primary benefit of an LLP is that owners have no personal liability for the company’s debts.
- Usually, two or more individuals own a partnership.
Limited partnerships are just one type of partnership; the other two being general partnerships and joint ventures. The partnership forms vary in many ways but also have many similarities. People often form limited partnerships to attract passive investors, who may like an LP’s limited personal liability.
Limited partnership interests can be more attractive to buyers. Furthermore, general partners can raise funds with outside investors not playing a role in managing the business.
- Limited partnerships protect assets.
- Corporations permit personal lawsuits to take shareholder stock. However, limited partnerships prevent a partner’s interest from being confiscated in personal lawsuits.
- Often, limited partners are called “silent partners.” Said another way, limited partners can invest in the company but cannot vote or influence the daily business activities.
Limited partners are very useful in LPs for their capital contribution. Law, finance, and accounting companies often utilize limited partnerships as their legal structure. Businesses that do time-limited work (ex. real estate, film production) also often use limited partnerships.
Advantages and Disadvantages of a Limited Partnership
Personal assets are protected in limited partnerships. Limited partnerships protect limited partners up until their capital contribution. LPs also have pass-through taxes, and therefore, the business itself is not taxed.
Partners in a limited partnership report on their own individual tax return the business’s profits and losses. The LP’s business owner has complete authority. An LP’s general partner has total management power. Limited partnerships are therefore an attractive investment vehicle. LPs can also increase the number of limited partners to raise more capital.
When forming an LP, there are a variety of important subjects that have to be dealt with to ensure the LP’s limited liability protection for limited partners. These include the limited partners’ management control, as well as what happens to the LPs if there is a bankruptcy, insolvency, or death. These should be addressed during the LP’s creation.
There are a variety of employee tax deductions in LPs. There are also entertainment and health insurance deductions that even a solo LP can take. The LP’s general partner can deduct 401(k) costs and pension plan costs.
LPs also have a theoretically forever existence. In contrast, in LLC’s, if a member goes bankrupt or dies, then the LLC ceases to exist. However, in LPs, if a limited partner resigns or dies, the LP does not have to dissolve. Were a GP, however, to resign or die, then some conditions need to be fulfilled to prevent the LP from dissolving.
LPs allow business owners to get investors quite easily but not have to surrender management authority. Often, limited partners supply funds while general partners run the business. An LP’s main drawback is those general partners have to bear many risks, such as being liable for all business debts.
Formation of a Limited Partnership
Nearly every U.S. state uses the Uniform Limited Partnership Act (passed in 1916 and last amended in 1985) to regulate limited partnerships. It is currently in force in 49 states and the District of Columbia.
Partners need to register the limited partnership, usually through the State’s Secretary of State. Getting the proper permits and licenses, which vary depending on place and sector, is very important. The Small Business Administration has a list of all the federal, state, and local licenses and permits needed before starting a company.
What Is a Limited Liability Company?
Limited liability companies are mixed companies that combine good aspects of partnerships, corporations, and sole proprietorships. The LLC’s owners (“members”) are protected from personal liability like corporate stockholders.
Anyone can be an owner of the LLC, such as individuals, corporations, other LLCs, partnerships, etc. Compared to corporations, LLCs are more flexible (ex. no owner limit) and also have a partnership’s pass-through tax structure.
Certain rigid corporate requirements do not apply to LLCs. These include making yearly reports, having directors meet, and certain shareholder standards.
Profits and losses in LLCs are also able to be passed on differently compared to partnership interests.
Corporations need to pass on profit proportionally to each shareholder’s ownership interests. However, an LLC can pass on profits as it wishes no matter a member’s contributed capital.
All 50 states and the District of Columbia now recognize LLCs. All states allow sole-owner LLCs. In some states, LLCs are still taxed like a corporation, however. Sole proprietorships can become LLCs with no federal tax changes because of the IRS’s regulations (“check-the-box”).
Advantages and Disadvantages of an LLC
A major benefit of LLCs is that members are protected from personal liability but don’t have to deal with a corporation’s paperwork and pricey fees for filing. A major negative of LLCs is there is no central management. For some LLCs the decision process can therefore be hazardous.
Similarities of a Limited Partnership and a Limited Liability Company and Other Partnerships
Limited partnerships and LLCs have much in common (ex. flexibility, pass-through taxation). In being taxed, LPs and LLCs are seen as general partnerships. They have a corporation’s limited liability. One can even further increase liability protection by, for example, having an LLC be an LP’s general partner.
An LLC’s and LP’s owners have flexibility when deciding the business’s structure and the duties and rights of the members/partners. An operating agreement in LLCs and a limited partnership agreement in LPs defines the duties and rights of the business’s members/partners. These documents are internal and are effective unless all the members/partners agree to amend them.
The company itself is usually not federally taxed because of pass-through taxation. Investors have to individually report their part of the business’s profits and losses. You should talk with a tax professional or accountant to get more information on pass-through taxation.
Because of pass-through taxation, as its owners can put the business’s losses and profits on their own individual tax returns, LPs and LLCs escape getting taxed twice like corporations do. One major benefit of LLCs is that its owners can deduct tax losses that are over their investment (ex. leveraged real estate).
Partners in each kind of partnership must give some kind of benefit to the partnership, which can include capital, abilities, work, or property in return for taking part in the company’s profits and losses. There is one partner, at least, that participates in the business’s daily operations.
All partnerships should have an agreement that defines how the business decides matters (not legally required). The agreement should outline, for example, how profits and losses are divided, how conflicts are resolved, the process for closing the business, and how the ownership structure can be changed.
Differences of a Limited Partnership and a Limited Liability Company and Other Partnerships
When considering whether to form a limited partnership or limited liability company, there are many contrasts you ought to think over. These include:
- Personal liability
Limited partnerships, structurally, have limited partners as well as general partners.
Limited partners can contribute capital and, therefore, share in the LP’s profits and losses. They also are only liable to the degree of their investment. However, they are not able to take part in the business’s daily activities.
LLCs can have as many members (owners) as desired. The operating agreement defines the duties and rights of the LLC’s members. All members are permitted to manage the company unless the operating agreement outlines different powers.
However, the key contrast between LLCs and LPs are the actors’ personal liability. General partners manage the LP’s daily activities. They have limitless personal liability for the LP’s obligations.
- The limited partners in an LP are not liable for the LP’s debts. However, they cannot be active in the business’s daily affairs.
- Usually, an LLC is created that becomes an LP’s general partner, which increases the liability protection of the parties otherwise involved.
LLCs were made precisely to be flexible like a partnership but also to give personal liability protection similar to a corporation. An LLC can be managed by any of its members. In an LLC, those who are actively managing the business days do not have personal liability for the business’s obligations. This is in contrast to the liability of general partners in an LP.
- As an example of how this can be beneficial, were the LLC on the losing end of a lawsuit, then the members’ personal home, cars, bank accounts, etc., would likely not be able to be seized by creditors to repay the LLC’s debts.
LLCs are similar to partnerships because the LLC’s profits and losses operate under “pass-through” taxation. These profits and losses are given to the members and are taxed on their individual tax returns. The company, therefore, can avoid getting itself federally taxed.
LPs only protect some partners from personal liability, unlike an LLC.
General partners have limitless individual liability. An LP’s limited partners are protected from individual liability just like an LLC’s members. Unlike in an LLC, an LP’s limited partners do not have to partake in management duties. The LLC’s members determine what method to use to share profits. The profit distribution does not have to be based on the members’ capital contribution.
- LPs have many tax benefits for the partnership’s employees because of avoiding double taxation. However, partners still are obligated to pay taxes on the LP’s profits on their personal tax returns. Furthermore, an LP’s partners and an LLC’s members also might be liable for state income tax.
- Furthermore, compared to LPs, general partnerships equally distribute between the partners the company’s management duties, profits, losses, and liability for obligations.
- A legal partnership agreement has many benefits, such as if a partnership wants to distribute profits and losses in an unequal proportion. The agreement can help avoid future disagreement and litigation.
Joint ventures are a variant of general partnerships that exist up to the point that a specific project is finished or a time period passes.
LPs also are unique compared to different partnership forms because the partners can be protected from personal liability. When partners are protected from personal liability, then the partners are only risking their personal assets to the degree of their capital contribution rather than having unlimited personal liability. A partner’s individual liability varies, therefore, based on their capital investment.
Deciding What's Best for Your Business
LLCs and LPs can help almost any kind of business, with benefits such as protecting assets from creditors, limited personal liability, flexible operations structures, and pass-through taxes. The best kind of structure for your business varies based on factors such as taxes, your industry, management authority, and other specific circumstances.
If you need help with forming a limited partnership, you can post your legal need to UpCounsel’s marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.