A general partnership is a popular legal structure for businesses that offer services rather than physical products. A written, or even oral, agreement between the partners can serve to create and manage the partnership without a lot of regulatory interference. One of the main drawbacks of a general partnership is the inability of the partners to sell limited ownership interests in the business to raise money, like a corporation sells shares of stock. By comparison, the limited partnership business structure allows a general partnership to raise money from outside investors without giving up management control.
Unlike a general partnership that you can typically form in any state without registering the business with the state business registration office, a limited partnership requires state registration. To form this type of business, you must file a certificate of limited partnership with the secretary of state or equivalent state business registration office.
Two Classes of Partners
A limited partnership must have at least one general partner and one limited partner. The general partner is responsible for managing the business. The limited partner is a passive investor who buys into the business but has no say in how the business is managed on a daily basis. A limited partner’s investment is considered passive for tax purposes because the limited partner does not materially participate in the business.
Personal Liability Protection
A limited partner is protected by limited liability under the law, as long as the limited partner does not materially participate in the management of the business. Business creditors can only sue a limited partner for the amount of money the limited partner has invested in the business, so a limited partner has the same type of protection as a person who buys shares of stock in a corporation. The general partners in a limited partnership, however, are personally responsible for all business obligations. To avoid the consequences of full liability, partners sometimes form a corporation or limited liability company to act as the general partner of a limited partnership.
Interests Are Transferable
Under the law, limited partnership interests are considered securities. The company can sell them to unrelated third parties to raise equity capital without a requirement to let the investors participate in the daily management of the business. This is just like selling shares of stock in a public corporation to investors over a stock exchange. Existing limited partners can also sell their interests to their choice of third parties after first offering the interest for sale to the partnership.
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