The primary distinction between an LLC and a partnership is that an LLC offers limited liability protection. Owners of partnerships are not legally separated from the firm, putting the owner’s personal assets at danger.
Our LLC versus Partnership comparison chart makes it simple to choose the best option for your company.
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What Is the Difference Between an LLC and a Partnership?
Here are the primary similarities and differences between a partnership and a limited liability corporation (LLC) to help you determine which is best for your business:
Liability
The primary distinction between partnerships and LLCs is limited liability protection. Personal liability protection is provided by an LLC since it is regarded a distinct legal entity from its members. This implies that if the firm incurs debts or faces legal action, each member will be liable for no more than their original investment. To retain their corporate veil, LLC members must keep their personal and company funds absolutely separate.
Partnerships, on the other hand, are legally indistinguishable from their owners. As a result, there is no separation of the owners’ personal and corporate funds, and there is no personal liability protection.
Taxation
Despite their different legal statuses, the IRS considers partnerships and LLCs to be pass-through companies. Profits from both enterprises are reported on personal tax returns, with earnings taxable exclusively to their personal tax rate. They are also both liable for self-employment taxes.
One key difference is that, unlike partnerships, LLCs may choose corporate form for tax reasons, being taxed as either S corporations or C corporations depending on which categorization is most advantageous.
Establishment and Upkeep
Unless you opt to create a limited partnership, general partnerships are simply mutual agreements between business partners with relatively few formal restrictions in terms of creation and maintenance. In contrast, LLCs are more engaged. You must submit articles of organisation to create an LLC. Most states demand frequent record keeping and reporting to maintain an LLC in good standing after it is established. The same may be said for limited partnerships.
What exactly is a partnership?
A partnership is created when two or more people agree to be co-owners of a firm. A partnership, like a single proprietorship, has no legal difference between its owners and its company. As a result, partnerships are classified as pass-through businesses, with owners declaring all company profits and losses on their personal tax returns.
General partnerships and limited partnerships are the two primary forms of partnerships. All members of a general partnership participate actively in the company and are personally liable for any business-related obligations. A limited partnership, on the other hand, permits one or more partners to act as passive investors, providing capital but remaining uninvolved in day-to-day operations. Limited partners are similarly protected from personal responsibility as long as they remain inactive.
Creating a Partnership
Because partnerships are not recognised as independent legal organisations, creating one usually involves no paperwork. A general partnership may be formed with a handshake. It is, however, strongly advised that the aspects of your agreement be fully described in a formal partnership agreement. This will guarantee that everyone knows their obligations and will help to avoid time-consuming and expensive arguments in the future. A partnership agreement should at the very least include:
Each partner’s ownership %
How will earnings and losses be allocated?
Who is permitted to sign contracts and other legal papers on the company’s behalf?
How will significant business choices be made?
How will disagreements be resolved?
What happens after a partner’s death or departure?
The formation of a limited partnership might be a more difficult procedure. Some states require the execution of a partnership agreement, the filing of a Certificate of Limited Partnership, the acquisition of a state tax identification number, and the acquisition of workers compensation insurance. Because state standards differ, be sure to check with your secretary of state’s office or another business services department for the most up-to-date information.
What exactly is an LLC?
A limited liability corporation (LLC) is a corporate structure that is considered as a distinct entity from its members. LLCs are taxed as pass-through businesses, similar to partnerships, with all members declaring their earnings on their personal tax returns. However, LLCs provide all members with limited liability protection. An LLC may be founded by a single person or by a group of people.
Creating an LLC
A few more procedures are required to form an LLC than a general partnership. To incorporate an LLC, you must go through a series of processes and legally register your company with the state. In general, the procedure needs you to:
Select a name. To guarantee that your selected name is not already in use, check your state’s business entity database. It is also a good idea to check the federal trademark database to confirm that your domain name is available. Your business name must contain the words “LLC” or “limited liability corporation.”
Save the articles of incorporation. You must submit articles of incorporation with the proper state authority, often the secretary of state, and pay the filing fee. This document normally includes basic information about your firm, such as the company name, primary location, and the names and contact information for your registered agent and LLC members.
Make a business agreement. Although it is not usually needed by the state, your operating agreement is an important document that specifies the rules, methods, and powers of your LLC and its members.
Get an EIN number. The IRS requires all multi-member LLCs and single-member LLCs with workers to get an employment identification number (EIN).
Publicize a formation notification. Some states require you to publicise in a local newspaper your plan to incorporate and run an LLC.
Obtain any additional licences or permissions that are necessary. Your state and city may need LLCs to get additional licences or permissions, so check with your filing agency to see what, if anything, is required of your company.
What exactly is an LLP?
Limited liability partnerships (LLPs), like general partnerships, provide its owners with limited liability protection. The degree of liability protection varies by state, with some affording protection equivalent to that of corporations and LLCs, some simply covering against the carelessness of other partners, and still others lying somewhere in the middle. In general, an LLP safeguards your personal assets.
When compared to limited partnerships, LLPs have one significant distinction. LLPs, as opposed to limited partnerships, which shield silent participants from responsibility, have shared management and shared limited liability among all partners. LLPs may also readily add or remove partners, depending on the conditions established in their formation agreement.
Creating an LLP
A formal written agreement is required to create an LLP. LLPs are also required by several states to produce an annual report. The restrictions governing who may create an LLP vary by jurisdiction, typically restricting the LLP structure to certain businesses. LLPs are often formed by legal companies and medical practises, for example.
Important Considerations
There are some questions you may ask yourself to help you think through all of your possibilities when you decide how to establish your business:
Do You Require Asset Protection?
When deciding on a company structure, the most crucial factor to consider is how to preserve your personal assets. Consider all of the potential hazards that your company may expose you to, as well as how much protection you want to have against these risks.
How Would You Like the Government to Tax Your Company?
Another crucial issue to consider while making this selection is taxation. LLCs and partnerships are both pass-through entities, with company earnings and losses recorded on the owners’ personal tax returns. However, LLCs allow its owners to adopt corporate status for tax purposes, giving them a little more latitude.
How Flexible Do You Want Your Business Structure to Be?
In comparison to other company forms, LLCs and partnerships provide relatively simple business operations. An LLC, on the other hand, will need more upfront and continuing paperwork to ensure compliance with state rules.
Are you able to pay the formation and administration fees?
Another factor to consider while deciding on a company form is the expense. While partnerships may be created with no extra administrative expenses, LLC owners will almost always be required to pay to submit formation paperwork and pay fees on a yearly or biannual basis in order to maintain their firm lawful. These charges differ by state.
How Much Funding Do You Require?
The company structure you choose may have a significant influence on your capacity to generate funds. As a result, before making a decision, it is critical to analyse your company’s financial requirements. An LLC may be simpler to acquire investors for due to the restricted liability protection. Limited partnerships provide for liability-free investing but require limited partners to maintain an arm’s length relationship with management.
Consider how much money you’ll need to raise, where you’re most likely to find investors, and what form of company will work best for you as owners as well as attracting the financing you’ll need to get and keep things going.
What Are Your Long-Term Business Objectives?
While one company structure may seem to be the ideal fit for you in the early stages, it is critical to consider your long-term objectives before making a decision. Consider if you want to stay in your hometown or state or if you want to develop nationally or worldwide. What degree of expertise is necessary, and how many more business partners would you want or need to bring on board to assist you reach your objectives? All of these factors may assist you in selecting a structure that will develop with you and your organisation over time.
Summary
While LLCs and partnerships have many similarities, they also have some significant and basic distinctions. Before determining how to structure your company, consider the advantages and drawbacks of each option and how they will benefit or harm your company in the long run.