Limited Liability Partnerships: How They Work

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What Are Limited Liability Partnerships?

Limited liability partnerships, also known as LLPs, are a type of partnership of two or more owners. LLPs are like limited liability corporations (LLCs) but with distinct advantages for general partners. General partners can form an LLP by signing a partnership agreement and filing an LLC operating agreement and Articles of Incorporation with the Secretary of State’s Office.

Here is an article about limited liability partnerships .

How Limited Liability Partnerships Work

LLPs work by allowing general partners to limit the amount of liability they share. These limitations are assigned according to their level of investment in the business.

Limited liability partnerships allow all partners to distribute risk, capitalize on individual abilities, and establish labor divisions. In addition to various benefits, an LLP also guarantees that creditors cannot go after another general partner’s assets if another fails in his or her ability to pay.

Businesses that most often use LLPs include:

  • Insurance companies
  • Accounting firms
  • Law firms
  • Financial management companies
  • And more

Due to the informalities of a general partnership, there are always downsides. However, LLPs shore up these relationships by offering distinct advantages and disadvantages versus more traditional structures.

Here is an article about how a limited liability partnership works .

Advantages and Disadvantages of Limited Liability Partnerships

There are several advantages and disadvantages of limited liability partnerships. Depending upon the jurisdiction, general partners share in limited liabilities. This arrangement works well when general partners do not want to be liable for another’s actions or behaviors.

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Advantages of Limited Liability Partnerships

  • Advantage #1: Liability is dependent upon the level of investment.
  • Advantage #2: General partners get to enjoy specific tax benefits.
  • Advantage #3: Limited partnerships are considered separate legal entities.

Disadvantages of Limited Liability Partnerships

  • Disadvantage #1: There is more documentation and paperwork required.
  • Disadvantage #2: At least one person must act as a general partner.
  • Disadvantage #3: You must pay expensive self-employment taxes.
  • Disadvantage #4: Attendance of meetings is required for compliance.

Not every business is eligible to operate as an LLP. This limitation is typically due to the rules and regulations set at the state level. Before forming an LLP, it is vital to compare LLPs to other business structures first.

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Comparing LLPs to Other Business Structures

It is a wise move to compare an LLP to other business structures. An LLP is a unique type of business structure, which means that you should consider all of your options before forming one. Other business structures include LLCs, general partnerships, limited partnerships, and corporations.

LLPs vs. LLCs

An LLP is similar to an LLC with a few key differences. General partnerships offer unique tax advantages. However, an LLP also offers the same insulation from financial and legal liability as an LLC for joint ventures and sole proprietorships .

LLCs utilize members instead of partners. Instead of partners owning property and assets, the LLC owns them. LLCs have their own tax ID numbers, whereas partners can have their own that they provide under the LLP.

LLPs vs. General Partnerships

General partnerships occur between two or more parties. They share in the profits and debts of the company. The general partners of the company determine of daily options should be run.

LLPs are for individuals who want the partnership structure with the protection of an LLC. When using this entity, the liabilities of each partner are segregated and limited to specific actions. Additionally, an LLP ensures that any given partner is not liable for the acts of another.

LLPs vs. Limited Partnerships

Limited partnerships may comprise of general and limited partners. Limited partners are focused on the return on investment (ROI) rather than the day-to-day operations. A limited partnership agreement specifies how much involvement they can have.

Under an LLP, the general partners handle routine operations. They take an allocated share of the investment like limited partners as well.

LLPs vs. Corporations

A corporation is another type of business entity. The main difference between LLPs vs. corporations is that corporations allow shareholders. Corporations also follow different tax codes and local, state, and federal laws and offer a corporation or incorporation designation.

LLPs are not publicly traded organizations. Instead, general partners use traditional forms of investment, including bank loans, sweat equity, and more.

Here is an article about comparing LLPs to other business structures .

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LLPs and Taxation

An LLP avoids double taxation associated with corporate entities. Partners file their own taxes on their share of the profits and losses of state and federal income tax returns. General partners may also pay self-employment taxes as well.

These are a few other issues related to LLPs and taxation:

LLPs Are Not LLCs

While an LLP may insulate general partners financially like an LLC, it is essential to keep in mind that they are not. The main difference from an LLC is that LLPs offer how partners can be taxed at the federal level. Regardless, LLPs are still taxed as partnerships.

LLPs Are Separate Business Entities But Not Taxed Like One

For LLP taxation purposes, they are generally not taxed as separate business entities at the federal level. However, state laws may not allow you to glean benefits from these passthrough entities and impose a franchise tax on the LLP. Corporate lawyers in your state can help you understand LLPs and taxation as it applies to your situation.

LLPs May Be Expensive

Each year, the LLP must register in the state of formation with the local Secretary of State’s Office. Registration fees can cost between $100 - $200 per person. They may also require you to carry a specific amount of professional liability insurance for negligence or wrongdoing.

Tax lawyers can help you understand LLPs and taxation as they apply to your situation. However, here is an article about the basics of an LLP .

How to Form a Limited Liability Partnership

Forming a limited liability partnership is a fairly straightforward process for simple general partnerships. However, these relationships can become increasingly complex in terms of structure, assets, and profit distribution. Choose your partners wisely and thoroughly discuss the terms of your relationship, including liability and expectations.

These are the steps you generally take to form a limited liability partnership:

  • Step #1 : Register the LLP with your Secretary of State’s Office and pay all application fees.
  • Step #2 : Negotiate, draft, and sign a limited liability partnership agreement with the general partners.
  • Step #3 : Work with corporate lawyers to ensure that you comply with local business laws and have appropriate licenses.
  • Step #4 : Obtain an issued Employer Identification Number (EIN) through the Internal Revenue Service (IRS).
  • Step #5 : Pay LLP taxes and file all required documentation with the Secretary of State’s Office annually.

Depending upon your partnership’s dynamics, you may want to have individual partners obtain legal representation individually. Doing so will assist in the efficiency of negotiation as well as consistency and fairness. It can also reduce the claim of signing the agreement under duress in the future if that is an issue you may face.

Here is an article about how to form a limited liability partnership.

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