A partnership is a for-profit business organization with two or more people, all of whom who are engaged in a business for the purpose of earning a profit. When two or more people agree to form a business, whether or not they have a formal business structure, they enter into a partnership. If there is no formal business organization, the partners are assumed to have an equal share of the business and are equally responsible for the partnership's liabilities and debts.
There are a few different types of partnerships: general partnerships (GPs), limited liability partnerships (LLPs), and limited partnerships (LPs). You can learn more about each type below.
General partnerships are the most basic type of partnerships. Take the definition for a partnership and apply it to this section, because that pretty much sums up what general partnerships are.
In general partnerships, two or more people come together to form a business with the purpose to make money. Each partner is jointly and severally liable, meaning that one partner may be liable for the actions of another. Each partner shares in the profits and losses of the company, and each may be personally liable for the debts and other liabilities of the partnership.
What does this all mean?
In essence, each partner can act on behalf of the partnership and bind the other partner to those actions. If the partnership defaults on its debts, is sued for breach of contract, or faces a personal injury lawsuit, each partner may be personally and individually liable. The partnership itself does not protect the partners from personal liability, meaning that if the partnership has a verdict of $1 million brought against them, the plaintiff in that action could collect on the verdict by going after the individual assets of the respective partners (not the assets owned by the company). This is a major disadvantage to the partners in a general partnership.
So why have a general partnership at all?
Well, for starters, it is cheaper to establish in the first place. While a partnership may be implied by the actions of the partners, it is generally advisable to have a partnership agreement. Partnership agreements for general partnerships, especially those drafted by The Taormina Firm on your behalf, are cheaper options for some people. Of course, even with the partnership agreement, the partners will still be liable for any issues that arise in the course of the partnership. Moreover, general partnerships, as discussed below, are subject to pass-through taxation, meaning that the partners themselves, and not the partnership entity, are taxed on the income generated from the partnership. This precludes double-taxation (i.e., taxes for the partners and taxes for the partnership entity).
To learn more about general partnerships, please contact The Taormina Firm.
Limited liability partnerships, unlike general partnerships, come with significant advantages, namely limited liability for the partners involved. To create an LLP, the partners must enter into a partnership agreement detailing how the LLP will operate. Like general partnerships, LLPs require shared management by the partners, meaning that the partners are equally responsible for the management and operation of the business. However, unlike general partnerships, in the LLP setting the partners are not liable for another partner's mistakes.
LLPs are typically used by lawyers, doctors, and other professional entities. This is because the individual partners, and not the partnership entity or the other partners, are liable for their own acts. In other words, if one partner breaches a contract and a dispute arises, the plaintiff in the lawsuit can go after the individual partner, not the other partners or the partnership entity.
What are the advantages of an LLP?
First, and most obviously, the liability protections that come with LLPs. As mentioned, the individual partners themselves, and not the entity or the other partners, are liable for their actions. This is of great advantage because the business assets, and the other partners' assets, cannot be obtained in a judgment.
Second, LLPs are flexible from a management standpoint. There can be tiered partners in the firm, including junior partners and senior partners. The junior partners may not be entitled to profits and may not be liable for losses, debts, or liabilities. Senior partners, on the other hand, can receive profit distributions and earn more money as senior partners in the partnership.
Lastly, and as will be touched on below, LLPs are subject to pass-through taxation.
Limited partnerships (LPs) are a hybrid model with characteristics similar to both general partnerships and LLPs. LPs have two types of partners, limited partners and general partners. The general partners are fully liable for the partnership's debts and other liabilities, while the limited partners are not. General partners are also involved in the day-to-day operation and management of the LP.
LPs are used in a number of different contexts. They are oftentimes used in estate planning (and The Taormina Firm offers Family LPs to its clients). They can also be used where a silent partner provides funds for the company but does not participate in the management of the company (i.e., they serve as a limited partner to the company).
All partnerships, whether general, limited liability, or limited, are subject to pass-through taxation. This means that the partners are individually responsible for reporting and paying taxes. Income is taxed at the partner level, not the entity level, so there is only a tax placed on the individual partner and not the company. This is one important distinction from corporations. Corporations are taxed at the entity level and at the shareholder level. Partnerships are only taxed at the partnership level (akin to the shareholder level).
If you have any questions about partnerships, or would like to form a partnership, please contact The Taormina Firm.