Limited Liability Company Versus Limited Partnership: 4 Key Differences

Limited Liability Company (LLC) Versus Limited Partnership - 4 Key Differences

Limited liability companies (LLCs) and Limited Partnerships are some of the most common structures preferred by businesses. They’re used as business entities or investment vehicles. Even though they share some similarities, they also have distinct differences.

LLCs and limited partnerships are regulated by state laws that vary from state to state. For instance, a multi-member LLC in Texas is taxed like a partnership, while its single-owned counterpart is taxed like a sole proprietorship.

Understanding the differences between limited partnerships and LLCs will help you determine which type of model best suit your business operations financially and legally. Below are key differences that you need to evaluate when deciding between an LLC and a limited partnership:

1. Ownership

One of the main differences between limited partnerships and LLCs is their ownership. An individual, a single entity, or several individuals or entities can own LLCs. A limited partnership, however, requires at least two people or entities to be formed.

The general manager is in charge of the day-to-day running of the business, and the limited partner is an investor and a silent partner. Typically, limited partnerships are formed by family businesses and financial investment companies. Professionals like lawyers, engineers, and accountants prefer to register as LLCs.

2. Structure

LLCs and limited partnerships are structured distinctly differently. A limited partnership should have at least one general partner and limited partners. The general manager makes all the decisions and is responsible for managing the business. Limited partners can only invest and share in the company’s profits and losses in proportion to their investment.

On the other hand, an LLC can have as many members (owners) as possible. The responsibilities and rights of the members are defined in the LLC’s operating agreement. Unless otherwise stated in the agreement, all members have an equal right to oversee and participate in the daily activities of the business. That is if it’s members-managed and not manager-managed.

3. Personal Liability

The most notable difference between an LLC and a limited partnership is the personal liability of the participants. One or more general partners run a limited partnership in charge of the business’s daily operations. The general partners have the most exposure to personal liability for the company’s debts and obligations. This means that their personal assets can be used to offset debts from creditors, settle court judgments or satisfy any liability the company incurs. Limited partners, however, are only liable to the extent of their investment in the company and can’t be held personally responsible.

LLC

An LLC offers flexibility when it comes to liability. While it has the advantage of a partnership, it provides corporation-like insulation against personal liability. Even though one or several members can manage an LLC, all members’ assets are safe from creditors. Only the business is responsible for its debts.

4. Taxation

Taxation also varies between limited partnerships and LLCs. Limited partnerships are treated as pass-through entities when it comes to taxation. This means that each partner’s portion of income and losses are reported on their individual tax return. Limited partners, being considered silent partners, are not required to pay self-employment tax. General partners, however, being active partners, pay self-employment tax.

Even though LLCs and limited partnerships are treated the same for tax purposes when formed, an LLC can decide to be taxed like a corporation, sole proprietorship, or partnership. This also depends on whether it has single or multiple members. LLCs can also choose to be taxed as C-corps or S-corps. A C-corp type of business is subjected to double taxation since the company pays tax separately, and its owners are also taxed on the distributions they get. But an S-corp is regarded as a pass-through entity.

Conclusion

Investment partnerships and hedge funds usually prefer limited partnerships because they provide the platform to raise funds without giving up control. There are instances when limited partnerships will be better adopted than LLCs. If you want silent partners who won’t participate in management decision-making or if there’s an LLC that will serve as the general partner, it’s better to go with a limited partnership. This way, the LLC will shoulder most of the risk that the business will be exposed to.

LLCs have the advantage of the separation of business and personal assets of their members as far as liability is concerned. It allows owners to enjoy the protection of personal assets. The management and taxation flexibility makes it attractive to people who want to be involved in the business and choose how they want to be taxed. An LLC enjoys the best aspects of a sole proprietorship, a partnership, and a corporation.