There are three main types of partnerships to choose from general (GP), limited (LP), and limited liability (LLP). The one you choose to form will have distinct implications on how your business operates.
Continue reading to help you and your partner(s) determine the proper structure for your business.
Partnerships are famous business structures because they’re quick and easy to form, with little or no formal documentation required by law.
If you do choose to operate your business as a partnership, use a partnership agreement to detail the terms of the relationship, such as your:
- Partner’s information
- Profit and loss distributions
- Initial contributions
- Management structure
- Description of operations
- Type of partnership
Main Types of Partnerships in Business
There are three common types of partnership arrangements: general, limited, and limited liability.
1. General Partnership (GP)
How they’re structured
In a general partnership, all partners share equal rights and responsibilities, and each partner can sign contracts on behalf of the business.
The partners or non-partner managers (like a corporate board of directors) must obtain a unanimous or majority agreement before making significant decisions.
Along with sharing profits and losses, partners assume unlimited liability for the debts and obligations of the partnership — known as joint and several liability.
This means that if the partnership is sued because of the negligence of a partner, the other partners are also held liable, and a creditor may seize their assets.
Why choose a general partnership?
Partners are not required to create or file any formation documentation to formally establish a general partnership and begin operating, making them a convenient option.
2. Limited Partnership (LP)
How they’re structured
A limited partnership is made up of general and limited partners. Both types of partners are entitled to business profits but have different roles and degrees of liability.
A limited partnership needs at least one general partner to function because they’re responsible for running the business.
Limited partners, often called silent partners, contribute capital to the partnership but don’t manage daily operations.
General partners must also accept full joint and several liabilities for the partnership’s debts and obligations. Limited partners are not liable for the actions of the partnership or its general partner.
Why choose a limited partnership?
A limited liability partnership is an attractive option if you have investors who want to contribute to the company financially but don’t want to deal with management responsibilities or liability.
3. Limited Liability Partnership (LLP)
How they’re structured
Limited liability partnerships combine the tax benefits of a general partnership with the personal liability protection of a limited liability company.
Each partner can choose how much they’d like to invest in the partnership and their level of involvement in the business.
All LLP partners are essentially general partners but with limited liability — in other words, they’re not personally liable for business debts and obligations or the other partners’ errors, omissions, negligence, incompetence, or malpractice.
For example, if one partner is sued for negligence, the other partners are not legally accountable for their actions.
Why choose a limited liability partnership?
Professionals often create limited liability partnerships to optimize resources and save money.
For example, two dentists might form a limited liability partnership to share the costs of renting and renovating office space, buying expensive dental equipment, and hiring staff.
In some states, LLPs are limited to professional partnerships, such as doctors, lawyers, architects, accountants, and dentists. Unlike other types of partnerships, LLPs must be registered with the state and require a written agreement.
Tax Protocol for Different Types of Partnerships
The tax protocol for general, limited, and limited liability partnerships are the same:
- the partnership files Form 1065 with the IRS, and each owner files a Schedule K with the IRS,
- each owner files a Schedule K in their tax return, showing their share of the partnership profits or losses for the year.
Each partner pays income tax on their share of the net income.
While LLPs are taxed as partnerships at the federal level, some states may impose non-partnership taxes on limited liability partnerships.
For example, Texas LLPs have to pay a franchise tax along with corporations and LLCs.
Types of Partnerships – Pros & Cons
Here’s a chart detailing the pros and cons of each type of partnership business to help you decide which one is right for you:
|General Partnership||- Fewer start-up costs|
- Little to no paperwork
- Simplified taxes
|- Joint and several liability
- Shared management
- Unattractive to investors
|Limited Partnership||- Limited liability for limited partner|
- Attractive to investors
- Tax benefits
|- Joint and several liability for general partners
- More paperwork
- Divided authority
|Limited Liability Partnership||- Limited liability for all partners|
- Flexibility for partners
- No double taxation
|- Formal filing requirements
- Formation limited by certain states
- Additional taxes in some states
Types of Partners
You can be a general or limited partner in a partnership. Ensure you understand the rights and responsibilities (as well as the limitations) of being either type before filing any documents.
A general partner manages the business and takes responsibility for its day-to-day operations. They’re fully liable for the partnership’s debts, and their assets can be seized to settle debt obligations or lawsuits.
Limited partners hold financial stakes in the business but don’t play a role in management. Therefore, limited partners are not personally liable for their debt; the most they can lose is whatever they’ve invested.
How to Document the Type of Partnership You’ve Selected
The type of partnership you select will impact your company’s management, taxation, legal status, investment, and start-up requirements.
Once you and your business partners have decided whether to operate as a general, limited, or limited liability partnership, document the arrangement’s terms in a partnership agreement.