What type of partnership should I create?
From Your Multimillion-Dollar Exit, by Wayne Zell
Q: Why is it important to choose the right type of business entity?
A: Choosing the right business entity is crucial as it determines how your business will be structured legally, how it will operate, and how it will be taxed.
Q: What are the different types of partnerships?
A: There are several types of partnerships, including general partnerships, limited partnerships (LP), limited liability partnerships (LLP), and limited liability limited partnerships (LLLP).
Q: What is a general partnership?
A: A general partnership is the simplest form of partnership where two or more individuals agree to be partners with or without many formalities.
Q: Why should I be cautious about forming a general partnership?
A: General partners are personally liable for all business debts, regardless of their agreement. This exposes a general partner’s personal assets to business liabilities. Many folks set-up an LLC or corporation to serve as a general partner to limited liability.
Q: How does a limited partnership (LP) differ from a general partnership?
A: In a limited partnership, there must be at least one general partner (GP) who makes business decisions and is personally liable for the partnership's debts. There can be one or more limited partners whose liability is restricted to their investment.
Q: What is a Limited Liability Partnership (LLP), and when is it commonly used?
A: LLPs have no general partners and all LLP partners have limited liability. LLPs are often used by professionals like accountants and lawyers to limit personal liability for the malpractice or bad actions of their partners while maintaining liability for their own negligence.
Q: What is a Limited Liability Limited Partnership (LLLP)?
A: An LLLP operates like a limited partnership but allows the general partner's liability to be limited if specific requirements are met. Typically, general partners manage the LLLP, while the limited partners' interest is purely financial.
Q: How are partnerships taxed?
A: Partnerships are typically pass-through entities, where income and losses pass through to the partners. Partners can only use losses up to their basis in the partnership (subject to at-risk rules and passive loss limitations). Note that LLC’s with two or more members are presumed to be partnerships for income tax purposes.
Q: What should partners take to protect themselves before starting a partnership?
A: Partners should secure commercial insurance and create a detailed, well-drafted partnership agreement including who can obligate the business and make operational decisions.
Q: Are there any restrictions on fiduciary duties in a partnership?
A: Fiduciary duties, such as loyalty, care, prudence, and proper administration, cannot be eliminated or weakened through a partnership agreement.
Understanding the different types of partnerships and their implications is essential when making a decision about your business’s legal structure. Always consult with legal and financial professionals to make the best choice for your specific circumstances.