Business Entities 101: Partnerships, Limited Partnerships, and Limited Liability Partnerships
This week, the Business Entities 101 series continues with partnerships. This post will cover general partnerships, limited partnerships, and limited liability partnerships. We will be discussing what these entities are, how they are created, the liability protection they provide, how they are taxed, and if any one of these entities are suitable for your business.
What are these entities and how are they created?
General Partnership: Texas defines a partnership as “an association of two or more people to carry on a business for profit”. Typically each partner has an equal share in the profits, losses, and control of the business. It is important to note that you can change the ownership percentage, profit and loss allocation, and control provisions of a partnership with a partnership agreement. Also, you do not need to file any formation documents with the State to create a general partnership.
Limited Partnership: This entity must consist of one general partner and one limited partner. The general partner has control over the business and it’s decisions. The limited partner does not have control over the business (a requirement in order to benefit from enhanced liability protection), but is entitled to a portion of the revenue from the business as defined in the partnership agreement. A limited partnership is formed by filing a certificate of formation with the State.
Limited Liability Partnership: This entity can only be applied to an existing general or limited partnership, and limits the amount of liability for the partners in the aforesaid partnerships. In order to become a limited liability partnership, you have to file the proper registration form with the State, and file an annual report with the Secretary of State. The annual report costs $200 per partner, and failure to file the annual report and pay the fee will result in the termination of the limited liability partnership. If terminated, the limited liability partnership reverts back to its original entity as either a general or limited partnership.
What is the liability protection of these entities?
General Partnership: All the partners are jointly and severally liable for all the debts and obligations of the business. What this means is that any one partner is personally liable for all the debts and obligations of the business.
Limited Partnership: The general partners in a limited partnership are jointly and severally liable for the debts and obligations of the business. However, the limited partner is not liable for any debts or obligations so long as they do not participate in the control of the business.
Limited Liability Partnership: The partners in a limited liability partnership are not jointly and severally liable for the debts and obligations of the business. Instead, they are only liable up to their interest in the business. For example, if there are two partners in a limited liability partnership, each with a 50/50 split, then one partner would only be liable for up to 50% of the debts and obligations of the business instead of 100% as with a general partnership.
How are these entities taxed?
When it comes to taxation, the general partnership, limited partnership, and limited liability partnership are all taxed the same. We have discussed partnership tax treatment in previous posts regarding corporations and limited liability companies. As a quick recap, each partner/limited partner is taxed based upon how the earnings and losses have been allocated to them.
Each one of these entities is also subject to the State’s franchise tax. For more information, please see our post about the State’s franchise tax here.
Are any of these business entities for you?
So are any of these partnership entities the best one for your business? As you can guess by now, my answer is that it depends. General partnerships are effective, but the unlimited liability each partner has with that entity is always something to consider. Limited partnerships work well if you have someone who wants to only finance your business. Finally a limited liability partnership gives you the best liability protection, but the application process can be expensive and burdensome. There are many reasons why you would want to choose one of these entities over others, and your startup attorney can help you consider all options.