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If you’re interested in pursuing a business partnership, there are a few types of formal partnerships available for you to consider. Below, we’ll compare a general partnership vs. limited partnership. Keep reading to learn more about the differences and similarities, management arrangements and liability levels of these two partnership types so you know which business entity to choose.
What is a general partnership?
First, let’s look at what a general partnership is. To create a general partnership, two or more individuals come together and agree to share all of the assets, profits and liabilities related to a business.
When it comes to a general partnership, the partners both agree to unlimited liability. This means that in the event that the business has any legal or financial issues, all partners’ personal assets are equally on the line to make good on the business’s debts or obligations.
Additionally, all partners in a general partnership manage the day-to-day operations of the business. They’re all decision-makers and have equal say in the business.
To be considered a general partnership, the business must meet the following standards:
Have at least two people in the partnership.
All partners have agreed to take on any liability that may incur through their partnership.
Ideally, the general partnership should be solidified in a formal partnership agreement.
When deciding how many partners there will be in a general partnership agreement, you’ll want to think carefully about how many partners you want to be involved in the running of your business. The more partners there are, the more conflicts can arise on important decisions. You will also be responsible for the outcomes of more partners' actions. This is why a written partnership agreement is so important. Establishing official limits for how your partners can exercise their control in the business will help keep everyone on the same page.
What is a limited partnership?
A limited partnership, sometimes referred to as an LP, is also a type of business partnership that requires two or more partners. Unlike general partners, though, where all partners play an equal part in running the business, a limited partner does not assist with day-to-day operations.
Plus, when it comes to liability, a limited partner has limited liability that equates to the amount of money they invested in the business. The general partner of the business will have unlimited liability. The limited partner doesn’t have control over business decisions and if they begin to exercise control, they can become more liable.
To be considered a limited partnership, the business must have:
At least one general partner
At least one limited partner
It’s worth noting that many U.S. states take a role in governing the formation of limited partnerships, so partners may have to register their partnership with their state’s secretary of state. You’ll want to contact your local secretary of state’s office for more details — a business lawyer can help with this process if need be.
General partnerships vs. limited partnerships: Similarities
While there are some key differences between general partnerships and limited partnerships, these two formats also share some important similarities. For example, in either type of partnership, there will be more than one owner of the business. Additionally, each partner must contribute something to the business, whether that’s property, financing, industry expertise or labor.
Additionally, partners in either general partnerships or limited partnerships share in the profits and losses of the company. Both of these partnerships are also considered pass-through entities, meaning the owners don’t need to file separate business taxes but will instead report profits and losses on their personal tax returns.
Because of varying partnership preferences, it’s important that any partnership has a clear agreement about who will be making decisions for the businesses. This agreement should also cover how the partners intend to share profits, cover losses, solve problems and, if needed, how to shut the business down.
General partnerships vs. limited partnerships: Differences
With these similarities in mind, let’s next look at how these partnerships differ so you can choose which is best for your business.
In some cases, you may want a partner who has a very hands-on role and who can help with the actual running of the business. In other cases, you may be looking for financial support, while also maintaining control over how your business is run. When it comes to the management of a business, and the responsibilities that follow, limited and general partnerships are very different.
For general partnerships, there is more of an equal division of labor and assets. You can divide up labor and job responsibilities as you see fit, but all partners will be highly involved in the running of the business. In a limited partnership, there is always a general partner who oversees running the business, but the limited partner will not be involved in the more day-to-day side of operations. Limited partners don’t have the same decision-making power that general partners have.
Regarding liability, both general and limited partners will have some level of liability, but how much they are liable for will differ. Unless otherwise stated in the partnership agreement, general partners will all equally share in the profits, losses and liabilities of the company. Their personal assets are equally liable for the business’s debts and obligations.
However, this is not the case for limited partnerships. With this structure, the general partner is still fully liable, but any limited partners are only liable up to the amount of money they invested in the business.
A general partnership is an unincorporated business and does not need to be registered with the state in which it operates. If you go into business with one or two partners, you are automatically a general partnership. As such, setup is incredibly easy and free. Of course, we still recommend drafting a partnership agreement and if you seek out a business attorney or online legal service to help with this step, you’ll incur some minor expenses.
Limited partnerships, while still much simpler than a corporation or LLC, require some additional steps to set up than a general partnership. Typically, you’ll need to file a certificate of limited partnership with your state’s secretary of state office. This form will also require you to have a registered agent, which could be an additional cost, depending on who you choose.
At the end of the day, there is no one right partnership choice for all businesses. Each business, and its partners, will have varying needs and may benefit more from one structure over the other. How involved each partner wants to be in the business will help determine what type of partnership will work best for them, as will the level of liability they are comfortable with and what it will cost to form the partnership.
No matter what decision you make for your business, it’s helpful to get an official partnership agreement settled and in writing. That way, there is no confusion down the line about how you will split profits, tackle liability issues or pay for any business losses. Make sure you pick a partner who you feel comfortable working with, who you communicate well with and who prioritizes the business’s best interests.
This article originally appeared on JustBusiness, a subsidiary of NerdWallet.