Fact checked for accuracy by Billie Anne Grigg, a bookkeeper and Mastery Level Certified Profit First Professional.
A limited partnership is where one general partner assumes command and liability for the business, and limited partners invest but have no managerial control and limited liability up to the amount of their investment. It’s excellent for getting investors and funds for your business without giving control.
If you’ve decided a limited partnership is right for your business, you need to take the following steps to form this business structure. Forming a limited partnership is relatively easy compared to other business structures such as corporations. They have fewer regulations to meet and are “pass-through” tax structures, all qualities that make this business structure attractive.
Steps to Form a Limited Partnership
Step 1: Name Your Business
Setting up your limited partnership is relatively simple. You need to start with the name. Your name should be unique from any other business name and relate to the industry you’re in.
Once you have a general idea for the name of your business, you need to run it through your state’s name registration to make sure it’s not taken. Once your name is set up, you can move on to the next step.
Step 2: Designate a Registered Agent
All businesses must have a registered agent while they are in business. A registered agent is someone the government can contact at any time to get in touch with your business.
You can register someone not affiliated with your company, such as a family member or friend, or you can sign up for a registered agent service. The critical aspect is that they are always available and can contact you when they receive material from the government relating to your business.
Step 3: File Your Certificate of Limited Partnership
The details of your filing will differ from state to state. In most states, you can do it online. However, this isn’t always the case.
They’ll need your business name, the office address, the name and address of your registered agent, the industry your business is in, the value of you and each of your partner’s investments, and finally, the names and addresses of your LP’s general partners. That’s just the basics, and your state will likely require more information.
Step 4: Create a Partnership Agreement
This step is vital in forming your limited partnership. You must draft an agreement between the general and limited partners, including all the details of your contract, such as business structure, the role of each partner, investment amounts, the duties and rights of each partner, how closing the business would work, and more.
Step 5: Receive an EIN from the Government
An EIN is a business tax number essential for opening business accounts, hiring employees, and other financial transactions. You can do this online at the Internal Revenue Service website. Once you receive an EIN, you should immediately move on to the next step.
Step 6: Set Up Your Business’s Financial Structure
Use your new EIN to go to the bank and open up a business account. Having a business account will help you understand your business’s financials, create funds exclusively for the company, keep a record of all the money coming in and out of the business, and keep the business funds separate from your personal funds, critical for taxation and liability purposes.
You should never put your personal and business funds together as it can lead to messy lawsuits and administrative dissolution.
Step 7: Acquire Licenses and Permits
You’ve gotten most of the other business done, which is one of the final steps. The licenses and permits you’ll need to do business will depend on your industry and state. But now is the time to get them. Some states require a general business license to do business legally in that state, while others do not.
If you’re doing business outside of the state you are licensed in, either for tax purposes or you sell a product nationwide, make sure to obtain a foreign license in your state, so you have permission to do business out of state.
Step 8: Obtain Business Insurance
For some industries, having business insurance is required before opening your business, but insurance is a good idea for companies in any industry. Especially if you have customers on the premises, liability insurance is an excellent idea. You are also required to offer health insurance to your employees, and good benefits are a perfect way to attract suitable candidates.
Can You Hire an LP Formation Service?
Yes, but it will be more expensive. Lawyers and other in-person business formation businesses will be more expensive than doing it yourself. That said, they also have years of experience and can offer you invaluable advice on your business formation, such as the partnership agreement, opening your business account, and other procedures.
If you don’t want to spend so much money, you can always split the difference and use an online service such as BizFilings or LegalZoom. These services can run you from $100 to 200 dollars, and they can offer additional services such as business advice or registered agent service.
It’s up to you; the cheapest option would certainly be doing it yourself, but receiving help from either online or in-person can help keep things running smoothly and give you insights on how to run your business.
The Best Time to Form a Limited Partnership
The best time to form your limited partnership is before your first business transaction. It may seem obvious that you should create your business before you start doing business. Still, there’s an excellent reason you should form your limited partnership before you begin taking consumers’ money, and that’s liability.
One of the benefits of limited partnerships is that limited partners are only liable for their initial investment, with their personal assets being protected. Suppose you do business before the limited partnership is formed, however. In that case, it is considered a general partnership, and they are liable for any transactions performed before the formation of the limited partnership.
So to get the benefits of the limited partnership, you must form it before you start doing business.
The Cost of Starting a Limited Partnership
The cost of filing for a limited partnership differs in each state, but doing it yourself typically costs between $200 and $300, but it varies a lot. It also depends on whether you hire an online service or a lawyer to help you. Ultimately it depends on your needs and the state you file in.
Delaware, one of the most popular states to file a business in, costs about $200. However, to do business out-of-state, you’ll have to get a foreign license which may cost extra. If you file with a lawyer or service, it will cost more, so keep that in mind when budgeting for your business.
Limited Partnership Taxes
Limited partnerships are pass-through entities, which means they’re only taxed once by the Internal Revenue Service. They don’t tax the income the business makes; they tax the income you make from the company.
This tax structure can be beautiful for business owners as many business structures are taxed on the income the business makes and taxed on the income you receive from the company. However, you’ll have to take a close look at your tax bracket to make sure this type of taxation is best for you, as higher income brackets are taxed more heavily than corporations.
Things to Keep In Mind
It’s important to remember the limited partnership structure when creating your business. The limited partner has no control, but limited liability, while the general partners have total control but unlimited liability.
Suppose you and your partners are okay with this structure. In that case, you need to choose your name, designate your registered agent, register your limited partnership, draft your partnership agreement, receive an EIN, create your financial structure, acquire your licenses and permits, and get business insurance for both your employees and liability.
If you choose to hire an LP formation service, keep the fees in mind with what you’re getting from the service. Lawyers and in-person formation services cost more but may be worth it for the business advice and experienced professionals. An online service will help with the filings, but you’ll miss out on the advice. However, you can get additional benefits like registered agent service at a fraction of the cost of a lawyer.
You should form your limited partnership before your first business transaction to protect your limited partner with limited liability. The fees and cost of starting a limited partnership differ depending on your needs and the state you’re filing in.
Using an LP formation service will cost more than doing it yourself, but it may be worth it depending on how confident you feel managing your filing. Limited partnerships are pass-through entities where your income from the business is taxed, not the business income itself.
The Last Word
Starting your own business can be daunting, but anyone can do it with a bit of research and preparation. A limited partnership is an excellent choice to bring in funding for your business without relinquishing control, great for securing financing from family and friends who want to invest but not run your business.
This business model isn’t for everyone, but hopefully, this guide will serve you well in starting your limited partnership.
Read the articles below for more information on partnerships.
- What is a partnership?
- Does being in a general partnership offer legal protection?
- How to form a general partnership
- LLC vs. partnership
Filed under: Advice Columns