As a business entrepreneur, you can form different types of business entities. Two of the most common are a limited liability company (LLC) and a limited liability partnership (LLP).
Most, but not all, states allow LLPs. Whether to form an LLC or an LLP depends upon your state's laws, what type of protection from liability you want, and what type of business you have.
What is an LLC?
An LLC is a business entity that limits the liability of its owners or members. You can create an LLC for any business, although, in some states, you cannot have an LLC for professionals who require a license to practice their profession, such as attorneys.
What is an LLP?
A limited liability partnership is a general partnership formed by two or more owners (called partners). An LLP is a cross between a corporation and a partnership, with the partners enjoying some limited personal liability. Professional businesses are commonly organized as an LLP.
In some states, partners are liable for their own negligence only, not other partners' negligence. In other states, partners also are liable for the LLP's debts.
You can have an LLP in 40 states at this time, but each state has different rules as to who can form an LLP.
Most states require that the owners of an LLP are professional business workers, such as accountants, attorneys, physicians, engineers, surveyors, architects, or consultants. Some states limit LLPs to only a few of these professions, so consult with an attorney or check your state's laws to see whether your profession qualifies for inclusion in an LLP.
You can create an LLP by filing a certificate of limited liability partnership, or similarly named documents, in your state. LLPs operate under a partnership agreement, which defines each partner's duties, liabilities, and decision-making responsibilities.
Advantages of an LLC vs. LLP
LLCs and LLPs each have pros and cons. The advantages and disadvantages of each type of entity are important to consider when deciding whether to create an LLC or LLP for your business.
Advantages of an LLC are:
- Only one member, if desired
- Any type of business, although some states disallow professionals to form an LLC
- Corporate and other LLC members
- Tax advantages like a partnership, known as "pass-through" taxation, where the members aren't taxed for the LLC but pay LLC taxes on their personal income tax return
- Limited liability protection for its members, preventing them from using their personal assets to pay LLC debts in most cases
- Usually more liability protection than LLPs
- Flexibility in taxation, in that LLCs can opt to file taxes as an S corporation
- Simple filing requirements
Advantages of an LLP are:
- Two or more partners who can run the business as a partnership
- Partners who are usually of the same profession, such as doctors or attorneys
- Protection for partners from the negligence of other partners
- Each partner can manage the business if they so desire
- Partners can leave the business and new partners can enter, depending on what's in the partnership agreement
- Pass-through taxation, like an LLC
- Partners can share office space and rotate responsibilities and time spent in the office, as there's often coverage by other partners
Disadvantages of an LLC vs. LLP
LLCs and LLPs also have disadvantages, so which one you choose makes a difference to your business.
Disadvantages of an LLC include:
- In many states, professionals cannot form an LLC
- LLCs, in some states, must file annual reports with the state
- LLCs can cost more to run than LLPs
- A member must include the LLC's profits in their personal taxes
- A managing member must keep accurate business records and maintain bank accounts that are separate from their own personal accounts, or creditors can try to make members personally liable
- People are wary of investing in an LLC until members file their taxes
Disadvantages of an LLP include:
- Don't exist in every state
- LLPs usually only allow certain professions
- No ability to file taxes as an S corporation
- LLPs must have at least two partners
- LLPs must have a managing partner, but all partners must help run the business
- More exposure to liability in an LLP than in an LLC, depending on your state
- Filing requirements are more complicated with LLPs than with LLCs
Should you create an LLC or an LLP?
Choosing to run your company as an LLC or LLP depends upon your profession and your state. If you're a professional who needs a license to do business, you're better off running your company as an LLP if your state allows it.
If you are not a professional, an LLC is usually the best fit for your business. Check with your state to see whether it allows LLPs and, if so, who's allowed in an LLP. If you want more liability protection, you're best advised to form an LLC instead of an LLP.
When in doubt, check with an attorney who can help you decide whether an LLC or an LLP is best for your business. The attorney also can prepare the forms for you. Additionally, state law will govern what type of business you can form, so check with your state or with a business attorney.
Regardless of which type of business you create, you'll need to file the proper documents, pay the filing fees, and create your operating or partnership agreement.