A partnership is a business with several individuals, each of whom owns part of the business. The relationship between the partners and the duties of partners are clarified in the partnership agreement.
In any partnership, each partner must “buy in” or invest in the partnership. Usually, each partner’s share of the partnership profits and losses is based on his or her percentage share of ownership.
The term “partnership” has changed over the years, as business people have come to add new features to the old business form. These new partnership types are intended to help mitigate the liability issues with partnerships. The three most used partnership types are listed here, with their features, to help you decide which type you might want to use.
A general partnership is a partnership with only general partners. Each general partner takes part in the management of the business and also takes responsibility for the liabilities of the business. If one partner is sued, all partners are held liable. General partnerships are the least desirable for this reason.
A limited partnership includes both general partners and limited partners. A limited partner does not participate in the day-to-day management of the partnership and his/her liability is limited.
Limited Liability Partnerships
A limited liability partnership (LLP) is different from a limited partnership or a general partnership but is closer to a limited liability company (LLC).
In the LLP, all partners have limited liability.
An LLP combines characteristics of partnerships and corporations. As in a corporation, all partners in an LLP have limited liability, from errors, omissions, negligence, incompetence, or malpractice committed by other partners or by employees. Of course, any partners involved in wrongful or negligent acts are still personally liable, but other partners are protected from liability for those acts.
LLC or Partnership?
In recent years, the limited liability company has supplanted the general partnership and the limited partnership, because of the limits of liability. But there are still cases in professional practices in which some partners want to be limited in scope of duties and they just want to invest, having the liability protection.
You might have also considered setting up your multiple-person business as an LLC. While a multiple-member (owner) LLC is taxed like a partnership, there are differences in liability and in other ownership provisions.
Read more about the differences between an LLC and partnership.
Types of Partners
Just to confuse the issue, a partnership can have different types of partners – general partners and limited partners. There can be both types of partners in any type of partnership except for the general partnership, which has only general partners. Briefly, the two types of partners:
- General partners, who invest in the partnership, participate in the day-to-day operations and are liable for debts and lawsuits of the partnership
- Limited partners, who invest in the partnership but who have no participation in day-to-day operations and who are not usually considered to have liability.
Partnerships and Tax Issues
As you are considering partnership type, you should also consider how a partnership (and a multiple-member LLC) is taxed. The partnership, as a whole, files an information return on Form 1065 and the individual partners receive a Schedule K-1 showing the share of the partnership profits or losses for the year.
This is a general overview of these partnership types. This article describes the steps to starting a partnership.
When considering the appropriate type of partnership, liability is the key word. Prior to any formalized arrangement, each party should put forward their expectations concerning profit sharing and liability in clear terms. Aligning on the risk and return is the first step to moving forward in any professional business relationships at the ownership level.