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Trying to make sure you start your next business on the right foot? Different business structures can be really confusing to figure out, including whether you go with an LLC or partnership setup.
Read on to learn about the different types of partnerships and LLCs and the main differences and similarities between them. Make sure to consider the pros and cons of each regarding taxes and legal protections. Then, you can select a structure and file the right paperwork to get your business going.
What Is a Partnership? (And the Different Types)
A partnership is a business structure involving at least two people, but it can have more. No matter which type of partnership you select, going into business with someone can be stressful. You have to mix your finances, so you need to trust your business partner.
Certain partnerships only require two people agreeing to do business. However, other partnerships require more formal documents to form the company.
Some partnerships are less risky than others. Before you determine if a partnership is the right structure for your business, you should know how the different types compare.
A general partnership (GP) is a straightforward version of a business partnership, and it’s similar to a sole proprietorship. You don’t need to file documents to create the business formally. Instead, you will sign a partnership agreement.
GPs typically have the owners share the business equally, but you can use the partnership agreement to outline a different arrangement. You and your partners are all able to sign contracts and take out loans for the business.
However, all of you are also liable to uphold those contracts and pay off debt. That means you need to really trust your partners when entering a GP.
Read our advice column on general partnership formation for more tips on this structure.
Another partnership type is the limited partnership (LP). It’s a formal business entity that you need to file with your state. This type of business might have one partner who runs the business and its daily operations.
Other limited partners contribute money, but they aren’t managing the business – these are also known as silent partners. These partners don’t have to worry about the business’s debts, but they can still earn money. They also can’t lose more money than they invest.
If a limited partner starts working in the business, they will lose those protections. This partnership structure is great for groups where one person is willing to risk more than the others. It could be great for a couple where one member quits their job, and the other keeps working until the business makes enough money to support them.
You can read our advice column on limited partnership formation for all the steps to form this entity.
Limited liability partnerships (LLPs) offer more protections than GPs, but they still aren’t as protective as other structures. In an LLP, each owner is responsible for their own actions, but they don’t have to worry about their partners’ errors.
Each owner is also just as responsible for the business’s liabilities and debts as in a GP. Some states don’t allow LLPs. In other cases, LLPs are only an option for accountants, lawyers, and doctors.
Business owners in those professions have a higher risk for serious errors. For example, a doctor still needs to care for their patients. But they don’t have to worry about another doctor making an error and affecting the entire practice.
The fourth type of partnership is a limited liability limited partnership (LLLP). This business structure is similar to an LP in that one partner runs it. However, that partner can have the same protections as the limited partners.
That way, none of the partners have to take on as much liability. You can form an LLLP in states such as:
- North Carolina
- North Dakota
- South Dakota
While you can’t form an LLLP in California, the state will recognize them from other states. But if you plan to work in multiple states, an LLLP might not be a good choice since not all states recognize the structure.
If you operate in one of the states that authorize LLLPs, it can be a good option. That way, everyone in the business will have protection.
What Is an LLC? (And the Different Types)
LLC stands for limited liability company, and it’s similar to an LLP. The business protects its owners so that they can take on more risk. However, you don’t have to have a partnership to form an LLC.
You can form an LLC as a sole business owner or with any other number of owners. If you find that none of the partnerships offer the benefits you want, you should consider an LLC, which also has pros and cons.
Furthermore, you should compare the two main types of LLCs. That way, you can decide which applies to you.
As the name suggests, a single-member LLC only has one member. This structure can be great for a sole proprietor who wants to separate their business from their personal life. If you don’t form an LLC, there will be no legal separation between you and your business.
That means clients can sue the business and come after your home or personal vehicle. Forming an LLC can be an easy way to protect your own belongings.
You can still hire employees and get investors to contribute to the business. However, you don’t need to have any partners to form a single-member LLC. If you do have partners and create a single-member LLC, the one person who’s a member will have control over the business.
If you have business partners and want equal control, a multi-member LLC is a better choice for your company. You and your business partners will all be members, and you will share control of the business.
As with a single-member LLC, a multi-member LLC is separate from its members. That means you and your partners will all have more legal protection. You don’t have to worry about risking your personal property if something happens to the business.
Multi-member LLCs don’t limit the number of members you can have. But if you want to file taxes as an S-corporation, you can’t have more than 100 members. The taxation is similar between an S-corp and LLC because both allow taxes to pass through to the owners.
Main Differences Between an LLC and Partnership
The most significant difference between an LLC and a partnership is the number of people that can be in it. A partnership requires at least two people, while one person can form an LLC.
LLCs also offer all partners more legal protections than some partnerships. If your state allows LLLPs, you and your partners can reduce your liability. However, an LLC is more common, so it’s available in more states.
All types of LLCs separate the business from its owners. When it comes to partnerships, the LLLP is the one with the most protection. An LLP offers protection from what your partners do, but you’re still responsible for your actions and those of the business.
Main Similarities Between an LLC and Partnership
The biggest similarity between an LLC and a partnership is that both are pass-through entities. That means that as an owner or member, the business won’t pay taxes. You’ll pay taxes on your portion of the profits when you file your personal tax return.
Depending on the type of partnership, both structures also offer some protection. If you have an LLLP or are a limited partner in an LP, you aren’t liable for the business.
Another similarity is that you can have as many partners or members as you want. Whether you want to start a business with one person or a small group, consider both structures.
Entity Formation and Startup Costs Comparison
A general partnership is the easiest and cheapest entity to start out of all partnerships and LLCs. All you need is a partner and a formal or informal agreement about starting the business. You don’t need to file paperwork or pay a huge fee to form the company.
However, other partnerships do require paperwork, and they can cost more to start. The exact cost to start these entities depends on your state. But paying more upfront can give you and your partners more peace of mind.
When forming an LLC, you always have to file with your state. You’ll have to pay fees for:
- Business name registration
- Annual renewal
- Operating agreement
You might need to pay a lawyer to help draft some of these documents. That way, you don’t miss any paperwork or do things incorrectly.
Aside from the other costs, you can expect to pay $40 in states like Kentucky up to $500 in states like Massachusetts. Most states charge around $100 to file, and you’ll need to pay more each year. Read our guide on LLC cost for more fee estimates.
Both partnerships and LLCs let you pass taxes through from your business to your personal return. You’ll need to keep good records of the profits and how you divide them between all of the partners.
That way, you don’t overpay or underpay on your taxes. Still, it’s a nice benefit over a C-corporation, which doesn’t pass taxes through. If you were to start that, you could be subject to double taxation.
Related column: How do LLC taxes work?
Liability Protection Comparison
When starting a business, you have to consider if you’re willing to risk your personal property. If not, an LLC is a fantastic option. All of the partners can join as members, and the business will become its own entity after formation.
Then, you won’t be personally responsible for the actions of the business. Someone can only go after what your business owns when suing you.
If you’re a limited partner in an LP or LLP, you also get some of this protection. However, the partner running the business each day won’t have those protections. They can get them if you form an LLP or LLLP, though.
How Does an LLC or Partnership Compare to a Corporation?
A corporation can be either a C-corp or S-corp. S-corps are similar to LLCs and partnerships in that they usually refer to small businesses, but corporations refer to tax classifications, while LLCs and partnerships are business entities.
For example, you can form an LLC and then form an S-corporation from that. With an S-corporation, you can have up to 100 members and pay taxes like a partnership. That way, you can get the tax and liability benefits.
C-corporations can be of any size, and they pay taxes differently. The business itself will have to pay taxes, but so will the owners.
The Last Word: Will You Start a Partnership or LLC?
Starting a business involves making a lot of decisions, including comparing a partnership vs. LLC. Both structures offer unique protections and benefits, and one isn’t always better than the other.
Consider if you want the legal protections of an LLC or the ease of a general or limited partnership. Then, you can form the right business for you and your partners.
Filed under: Advice Columns