Guide

What is an LLP?

Business partnerships can take several forms. Limited liability partnerships are a common type – learn what they are and

Two business partners having a discussion.

What is a partnership?

A partnership is a business structure where two or more people own and operate a business together. There are several types of partnerships, including general partnerships, limited partnerships (LPs), limited liability partnerships (LLPs) and limited liability companies.

Let’s take a deeper look at limited liability partnerships.

What is a limited liability partnership?

An LLP, or limited liability partnership, is a business structure that provides both the tax benefits of a partnership and the liability benefits of a corporation. All partners in an LLP have a say in the running of the company.

Types of LLPs

LLPs are commonly used by professional services firms like lawyers, accountants, architects, doctors and consultants. This allows the partners to practice together and leverage their expertise while protecting their personal assets.

You can form an LLP in all 50 US states; however, some require specific state licensing for professional services. For example, California and New York require lawyers, architects, accountants, and other professionals to hold state licenses to form an LLP. California doesn’t allow licensed professionals to form LLCs, only LLPs.

Pros of an LLP

Using an LLP structure offers several advantages for a partnership. The key ones are related to liability and tax.

Liability and personal asset protection

The partners’ personal assets, such as their home, receive extra protection from business-related debts and claims. Any liability is generally limited to the amount they’ve individually put into the partnership. However, some states hold all LLP partners liable for partnership debt, such as money owed to creditors or lenders.

Individual partners are also protected from liability for the actions of others involved in the partnership. For example, partners in a medical practice could be protected if one of the doctors is sued for malpractice.

Tax treatment

LLPs are regarded as pass-through entities. They file an informational partnership tax return but they don’t pay income tax as a partnership. The profits pass through to each partner as agreed and they are taxed at their individual rates on their personal tax return.

Fewer administrative tasks than corporations

LLPs require less paperwork and compliance duties than forming a corporation. There are typically fewer reporting requirements as well.

Freedom to choose partners and profit distribution

Partners can divvy up profits however they mutually agree. The operating agreement will spell out the details. While LLPs can choose the partners they wish, management of the LLP must be divided equally or split based on a partner’s areas of expertise. This is different from an LLC which has more flexibility in who can manage the business.

Things you should know about forming an LLP

While forming an LLP has advantages, there are some other aspects you should be aware of.

Partnership agreement

The decisions of one partner in an LLP can be binding on the other partners, so a partnership agreement is crucial to operating an LLP effectively. The agreement should specifically outline what each partner can and can’t do when making business decisions.

A partnership agreement should include details of:

  • partner roles and responsibilities
  • contributions, such as cash, skills, equipment, labor
  • profit and loss distribution
  • liabilities, such as debts and contractual commitments of other partners
  • buyout and dissolution terms

The partnership agreement is binding and should be created in consultation with a qualified attorney.

Some increased administration

LLPs have more complex tax and reporting requirements than sole proprietors. Partners also split administrative work.

Extra costs

In addition to legal costs for the LLP agreement, there are state formation and registration fees to consider. Annual partnership tax returns cost more to file than a sole proprietor tax return due to the additional reporting responsibilities.

How to start an LLP

Forming an LLP requires a series of steps. The steps below should be considered general guidelines as different states may require additional steps. The timeframe can also vary by state but generally expect two to six weeks for full LLP registration and formation once paperwork is submitted.

1. Choose a business name

Make sure your business name is unique and complies with state naming rules and regulations. In most states, you can check with the Secretary of State’s office to make sure the name is available. You may also want to check with the United States Patent and Trademark Office (USPTO) on the federal level.

2. Designate a registered agent

This is the official address to accept legal notification or government correspondence on behalf of the business.

3. Create the LLP operating agreement

The operating agreement will cover how the LLP is managed and governed. Typically, this includes details on ownership structures, partner responsibilities, and distribution of profits or losses. You’ll also want to have an agreement on your management structure, rights and responsibilities, accounting procedures, and tax reporting processes.

4. File state paperwork

You’ll need to create and file formation documents with the state where you operate and pay registration fees. This generally includes Articles of Organization and a Certificate of Limited Liability Partnership. Some states call these documents slightly different names, so you’ll want to check with the state where you’re filing.

Make sure you have the appropriate professional and/or business licenses to file the paperwork. Businesses are also required to have business bank accounts and an employer identification number (EIN). And some states require a state ID for tax purposes, workers compensation insurance and malpractice liability insurance.

Local jurisdictions: Generally, you don’t need to register with county or city governments when forming your business, but you may need licenses or permits. Regulations vary greatly, so check with your local government in the locations where you operate.

Multiple states: If you do business in more than one state, you may need to file in each state. To do so, you’ll need to file a Certificate of Authority with each state. Some states require obtaining a Certificate of Good Standing from the state where you filed initially.

5. Maintain compliance

LLPs have fewer compliance and reporting requirements than corporations but there are several key compliance requirements. While they may vary by state, some of these requirements can include:

  • reporting and paying employment taxes
  • maintaining a partnership or operating agreement at the principal office
  • filing annual reports with the state
  • holding formal annual partnership meetings and recording minutes
  • renewing licenses and permits
  • notifying the state of any significant changes to the business

An accountant can help with many of these tasks. Find experienced accountants and bookkeepers in the Xero advisor directory

What is a limited partnership?

A limited partnership (LP) is a type of business partnership that designates at least one general partner, who manages the business, plus limited partners who contribute capital but don't participate in daily operations or management.

An LP operates under the same general principles as an LLP but serves more as a passive investment vehicle with mostly silent financial partners. The limited partners have their liability limited to just what they’ve invested in the business, while the general partners’ liability is unlimited. LPs are often used for short-term business ventures such as film production.

Frequently asked questions about LLPs

How do I pay myself as a partner in an LLP?

LLP partners receive profit distributions rather than wages or salaries. Each distribution comes directly from the business’s profits and is spelled out in the partnership agreement. Typically, partners receive their share of the profits based on their contributions.

Who can form an LLP?

In most states, any competent adult can be a partner in an LLP. Some states restrict membership to licensed professionals offering services that require special credentials. All partners' identities must be registered with the state when forming the LLP.

How is an LLP managed?

The operating agreement specifies which partners hold management and voting rights. Typically, day-to-day decisions involve majority rule while structural changes require unanimous partner approval. Partners collectively decide the LLP's strategy and policies.

Disclaimer

Xero does not provide accounting, tax, business or legal advice. This guide has been provided for information purposes only. You should consult your own professional advisors for advice directly relating to your business or before taking action in relation to any of the content provided.

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