In Part 1, we explored Sole Proprietorships and General Partnerships, neither of which limit liability for a business owner. In Part 2, we will explore some options to limit liability within a Partnership or a Limited Liability Company.
A Limited-Liability Partnership, defined in Black’s Law Dictionary 9th Edition, is a partnership in which a partner is not liable for a negligent act committed by another partner or by an employee not under the partner’s supervision. All states have enacted statutes that allow a business (typically a law firm or accounting firm) to register as this type of partnership.
A Limited Partnership, defined in Black’s Law Dictionary 9th Edition, is a partnership with one or more persons who control the business and are personally liable for the partnership’s debts (called general partners), and one or more persons who contribute capital and share profits but who cannot manage the business and are liable only for the amount of their contribution (called limited partners). The chief purpose of a limited partnership is to enable persons to invest their money in a business without taking an active part in managing the business, and without risking more than the sum originally contributed, while securing the cooperation of others who have the ability and integrity but insufficient money.
In borrowing from Part 1, let us revisit Bert and Ernie’s partnership where Ernie spilled the butter and failed to clean it up. If Bert and Ernie had formed a Limited Partnership with Bert as the General Partner and Ernie as a Limited Partner (rather than the General Partnership used in Part 1), Ernie would not have his personal assets at risk from the lawsuit, his limit of liability is only what he invested into the Partnership. In contrast, Bert would still have unlimited liability for the negligence of Ernie.
Limited Liability Company
A Limited Liability Company, defined in Black’s Law Dictionary, 9th Edition, is a company (that is) statutorily authorized in certain states that is characterized by limited liability, management by members or managers, and limitations on ownership transfer.
The Limited Liability Company has quickly grown to one of the most common business entities because it combined the simplicity (for lack of a better term) of a Partnership that has minimal filing and organizational requirements with the limited liability of a Corporation.
Once again, borrowing from Part 1, let us revisit Bert and Ernie’s partnership where Ernie spilled the butter and failed to clean it up. If Bert & Ernie had properly formed a Limited Liability Company, their personal (non-business) assets would be protected from a lawsuit by Disney.
For many people, the Limited Liability Company is the perfect business entity, but it still must be formed correctly. Everyone should also explore if the Limited Liability Company is the best entity for them, including tax considerations, expected business locations, and options for growth. The state(s) that you wish to do business must both recognize the entity of a Limited Liability Company, but also may need to recognize the specific type of Limited Liability Company. As an example, if it is a Professional Limited Liability Company, not all states recognize the Professional Limited Liability Company and would require a Professional Corporation.
In Part 3, we will explore Corporations and tax considerations in business formation. Once again, for discussing your specific situation, you should discuss it with an attorney that is licensed in your state.