A limited partnership and limited liability company are both types of business entities formed under state law. They are similar in structure due to the fact that limited liability companies, or LLCs, are designed to combine the benefits of both partnerships and corporations. However, there are important differences between the two business entities.
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Personal Liability Protection
An important reason why business owners form an LLC or limited partnership is to protect their personal assets from business-related liabilities. For an LLC, all the owners -- called members -- receive this liability protection. However, the owners of a limited partnership are not treated the same in this regard. A limited partnership is required to have at least one general partner and one limited partner. Although the limited partner receives liability protection, the general partner does not -- he will be personally liable for the partnership’s obligations.
Participation in Business Activity
The owners of an LLC can choose to have each member participate in the management of the business or designate the management responsibilities to one manager or managers. In either case, each member receives the same liability protection regardless of his level of participation in the LLC's business activities. This is not the case with a limited partnership. In order to maintain liability protection, a limited partner cannot participate in the partnership's business activity. If such activity occurs, the limited partner may become exposed to personal liability for the partnership's obligations.
The benefit of forming a limited partnership is for the pass-through tax treatment; that is the partnership is not taxed and the profits and losses of the partnership are shared among the partners and taxed only once. An LLC is similar in that it is often formed by business owners for the same tax benefit. However, for federal tax purposes, an LLC is treated as a disregarded entity. This means that, unlike a limited partnership, the members of the LLC can be choose to be taxed as a corporation rather than a partnership if that better suits the needs of the business.
Case Law Differences
Limited partnerships have a much longer legal history than LLCs, with most state LLC statutes having only been enacted since the early 1990s. This creates a significant difference between the case law that has developed regarding the judicial interpretation of limited partnership law versus the development of LLC case law. Some uncertainty still exists regarding the extent to which principles of corporate law may be applied to LLCs that could impact important aspects, such as the member’s expectation of liability protection. For LLC members, such issues will not be settled until there is sufficient case law interpreting LLC statutes.