Mary Carollo: Limited Partnerships

A Limited Partnership (“LP”) is comprised of one or more general partners and one or more limited partners. LPs are creatures of statute – you must file a form with the state to bring one into being. A LP exists apart from its creators as a distinct legal entity. This means it can sue, be sued, and own property on its own. General partners are in charge of daily operations and are still personally liable for the company’s obligations and debts. The limited partners invest capital in the company and share in the profits, but take no part in the daily operations. If you are considering forming a limited partnership (LP) or a limited liability company (LLC) you should speak with a Business Lawyer to make sure it is properly formed and managed. A LP protects limited partners from personal liability; liability is restricted to the amount of capital the limited partner has decided to invest. LPs distribute funds among different shareholders as “dividends”. If the business or company is set up incorrectly, you could have personal liability for doing it wrong.

Benefits of a Limited Partnership

Tax benefits are a big perk for this particular business structure. A LP pays no federal income taxes; instead, partners report their share of the profits and losses on their individual federal income tax returns.
The LP files an information return with the IRS noting each partner’s share of the year’s profit or loss. LPs also provide numerous tax deductions to employees.
Even a one-person LP can take health insurance and entertainment deductions, and the general partner is allowed to deduct pension plan and 401(k) expenses.
LPs also provide attractive liability protection for limited partners. When a limited partner is sued, the assets inside of the LP are protected from seizure.
It is also easier to attract outside financing, as investors are easier to come by when they can be shielded by becoming a limited partner. Forming a LP also provides an initial legal framework while promoting credibility and anonymity.

Detriments of a Limited Partnership

In LPs, the general partner(s) take on the dirty details of business management and assume personal liability for the obligations and debts of the company.
As a separate legal entity, there is some paperwork required for start-up.
There are also corporate formalities that must be adhered to throughout the life of the LP. LPs must also plan for their duration — otherwise the partnership dissolves when a general partner leaves, dies, or succumbs to bankruptcy.

Limited Liability Company

A Limited Liability Company (“LLC”) is a business structure that can vary from state to state. In Utah, a LLC is created by completing and filing “Articles of Organization” with the Utah Secretary of State. A LLC allows for an unlimited number of owners, or “members,” and “managing members”, all of which are protected by limited liability. The managing member is usually the mouth piece or nominal head. As an LLC member, you can contribute capital and assets to the LLC or loan the LLC money. You can then obtain repayment for your loan (plus interest), a distribution of profit, or a guaranteed payment from the LLC. “Guaranteed payment” is considered members’ earned income, qualifying them for the benefits of tax-favored “fringe benefits.” A Utah LLC is a “pass through” tax entity. This means that the company’s profits and losses are passed on to the owners who must report it on their personal tax filings (IRS form 1040); LLCs do not pay taxes on a company level. The LLC files a form 1065, listing each member’s taxable profit on IRS form k-1. Members of an LLC can elect to have their LLC taxed as either a C corporation, or, by timely filing the 2553 form, as an S Corporation.

Benefits of an LLC

An LLC allows for an unlimited number of members and provides for the special allocation of profits. This means members benefit from receiving profits (and writing off losses) in excess of their individual ownership percentage.
As a member, you will also enjoy limited liability, so your personal assets cannot be used to satisfy the LLC’s debts.
The managing members are also considered “active” managers of the business, so their share of net profit is earned income – qualifying them for tax-favored “fringe benefit” treatment.
There can also be tremendous benefit because of the flexibility by which the LLC can be taxed.
Finally, if any member of the LLC dies, the LLC can still survive — subject to a unanimous vote by all surviving members to continue the business.

Detriments of an LLC

Each LLC member’s pro-rata share of profits is taxable income, regardless of whether or not the profits are actually distributed to him/her.
The managing member’s share of the bottom-line profit is considered earned income and subject to self-employment tax.
A member is considered an “inactive owner”, so their share of bottom-line profit is not considered earned income and cannot be used to obtain tax-favored “fringe benefit” treatment.

Free Consultation with a Limited Partnership Lawyer

If you are here, you probably have a business law issue you need help with, call Ascent Law for your free business law consultation (801) 676-5506. We want to help you.