Introduction
The world of business consists of mainly three types of entities. They are
- Sole proprietorships
- Partnerships
- Limited liability companies
Sole proprietorship is where a business is owned by a single person. He/she is personally liable for all the debts of the business whereas limited liability companies are owned by the shareholders and they are only liable for the value of their shares. While these two types represent the two extreme ends, partnerships lie in between these two. In other words partners of a partnership can be either personally liable or limitedly liable depending on what type of partners they are. As a result there are general partnerships as well as limited partnerships today.
General Partnerships
A general partnership is considered to be formed when two or more people agree to carry on a business together. This agreement can be in the form of a written document or an oral statement. Unlike a corporation there are no extensive legal document requirements to create this type of partnerships. As a result general partnerships can be formed very informally and in few minutes.
However similar to sole proprietorships the partners bear unlimited liability for the debts incurred by the partnership. Partners need to undertake a higher risk here than the sole proprietorships because the debts of the partnership include the debts incurred by the other partners on behalf of the partnership. Let us assume you and I are partners of a general partnership. The rules stipulated by the Uniform Partnership Act are such that you become personally liable to contracts signed by me on behalf of the partnership regardless of whether you authorized the contract or whether at least you knew of its existence.
Not only contracts signed by me, you are personally liable even for my negligence. Say we two are lawyers and we have a partnership. Both of us are liable for the negligence or malpractice of any one of us. What is even more annoying is that we are unlimitedly liable. This means, in case of my inability to pay the respective share of liability, you are liable to pay the entire amount. So it is not only your 50%.
Limited Partnerships
The unlimited liability feature of general partnerships was a serious obstacle to conducting business using a partnership format. Due to the immense criticism and pressure it received, the authorities relaxed the legislation later. As a result limited partnerships came to the existence.
Therefore in limited partnerships there can be limited partners unlike the case in general partnerships. Typically a limited partnership consists of one or more general partners and one or more limited partners. Limited partners have no personal liability. In fact they are liable only for the amount they have already contributed and any amounts they have agreed to contribute under the partnership agreement. Further limited partners can not actively take part in management roles so that they may lack management power. However on the other hand general partners are responsible for the management of business activities of the business and hence they have unlimited liability for all debts of the entity.
As a result limited partnerships have been often used as a finance tool for large projects requiring a considerable amount of cash where the limited partners contribute money to the venture and general partners actively involve in managing the business.
The Choice Is Yours
As we discussed above being a general or a limited partner will have its own pros and cons. You should be now in a position to analyze each option and evaluate them based on your judgment. Finally it is expected that you identify your needs, passion and strengths to choose the best approach which seems most ideal for you.
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