What you need to know about LLCs and LLPs.
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At first glance, these business structures may seem similar, but there are several key differences that you need to consider. Keep reading to compare LLC vs. LLP, and discover all the information you need to determine which one is right for your business (if either).
Comparing LLCs and LLPs starts with understanding the definition of each business structure.
A limited liability company (LLC) is a business entity with one or more owners (or “members”). The primary benefit of forming an LLC is the personal liability protection this structure offers. With an LLC, the business is considered a separate entity from its members, which means members cannot be held personally liable for business judgments or debts.
A limited liability partnership (LLP) is similar to a general partnership, but with the addition of limited liability for one or more partners. LLPs are a popular choice for people in professional businesses such as architecture, accounting, and law, especially in states where licensed professionals aren’t allowed to form LLCs. This structure typically enables partners to avoid liability for other partners’ negligence.
Like an LLC, an LLP is considered a separate business entity, but there are several factors to consider depending on your state requirements and business type.
When it comes to personal liability, LLCs generally offer more broad protection than LLPs. With an LLC, members are not personally liable if the LLC is sued or owes any debts. That means your personal assets, such as your home, bank accounts, and vehicles, cannot be seized to cover business debts or judgments against your company.
An LLP may offer limited liability in the same way as an LLC, but this depends on the state in which your business is formed. For example, in some states, an LLP only affords liability protection from other partners’ negligence, but you would still be personally liable for the business’s overall debts and financial obligations.
Some states also require at least one LLP partner to assume unlimited personal liability, while the other partners have limited liability. For this reason, it’s crucial that you check with the Secretary of State Office in your state to learn about the specific rules and regulations.
The IRS doesn’t recognize LLCs or LLPs as a legal entity for tax purposes. An LLC has a few tax advantages because it can choose to be taxed as a sole proprietorship, a partnership, or a corporation. Conversely, LLPs can only be taxed as partnerships.
Filing as a sole proprietorship or partnership means the business will be treated as a pass-through entity. In other words, each member or partner will report their share of business profits and losses on their own individual tax return.
When an LLC files taxes as a corporation, the business first pays taxes on its company tax return. Then, the income is taxed a second time on your personal tax return.
Both LLCs and LLPs can take advantage of the 20% pass-through deduction. There are several limitations on this tax break, however, so it’s important to make yourself aware of them by checking with the IRS in your state.
There are also differences when it comes to the management structures and formation requirements of LLCs and LLPs.
LLCs use a document called an operating agreement to lay out the company’s managerial specifics. This document is created by the LLC’s members, and includes things like the financial contributions of each member, how profits will be allocated, and who is responsible for company management and business decisions.
LLCs can opt to be member-managed, which means one or more of the members manage the day-to-day operations of the company. Alternatively, an LLC can be manager-managed. This involves hiring managers to take care of the business, while the LLC owners (or members) are passive or do not participate in the company’s decision making.
The business owners of an LLP are referred to as “partners.” LLPs define their management structure in a partnership agreement. The partnership agreement lays out the company’s operating structure, profit sharing specifics, and all other rights and obligations.
Whether forming an LLC or an LLP, you will need a Federal Employer Identification Number for tax and legal purposes. This can be in the form of an EIN, which involves going to the IRS website and entering the correct information for your business entity.
Yes. An LLC can either be a single-member LLC, which means it has one owner. Or it can a multi-member LLC, which means it has two or more owners.
Choosing which business structure is best for you is a big decision. If you’re looking for protection from liability for business debts, a flexible management structure, and simple setup, the an LLC might be the perfect choice for you.
However, if you’re a licensed professional in a state that doesn’t allow licensed service providers to own LLCs, and/or you are partnering with other professionals and only need liability protection from their potential actions, you might want or need to form an LLP.
Law firms often elect (or need) to be LLPs because those practicing law are typically licensed professionals.
In addition to LLPs, there are also general partnerships (GPs), limited partnerships (LPs), and limited liability limited partnerships (LLLPs).
Once you’ve done the research and are ready to form your new business, we’re here to help. From formation to compliance, we can take care of the paperwork while you focus on what you do best: running your business. Reach out to us today!
Disclaimer: The content on this page is for informational purposes only, and does not constitute legal, tax, or accounting advice. If you have specific questions about any of these topics, seek the counsel of a licensed professional.