What is a Limited Partner?

A limited partner owns a stake in a business partnership with limited liability. They work with at least one general partner who manages the day-to-day operations of the business.

Because a limited partner (also known as a silent partner) acts as a funding arm of the business and doesn’t oversee daily operations, they aren’t liable for most of the business’s debts.

A general partner will share in the business’s profits and losses, which means they’re personally liable for the business’s debt. A limited partner, on the other hand, is only liable for the amount they invest in the business.

For example, if they invested $50,000 in the business, the limited partner is only liable to creditors for that $50,000 and nothing more. Investors tend to prefer limited partnerships because they give a layer of protection to their other assets.

The 4 types of business partnerships

Limited partnerships are just one of several types of business partnerships. It’s important to know the distinctions between these arrangements so you can choose the best option for your business.

1. General partnership

In a general partnership, each partner has an equal stake in the business. They have equal rights to manage daily operations, earn profits, and share liability.

General partnerships are usually verbal handshake agreements. This can work out, but the lack of a formal contract and the risks of liability make general partnerships a risky business.

2. Limited partnership

A limited partnership needs at least one general partner and one limited partner to operate. It’s considered a type of investment partnership, and it’s more common in markets like real estate investing.

The limited partner owns part of the company as a silent partner. They provide cash and receive dividend-like payments from that investment, while the general partner handles the actual running of the business. Limited partners also have limited voting power and less control over business decisions.

A limited partner is still liable for some business debts, but that liability can’t exceed the value of their investment. If you invest $20,000 into your cousin’s boutique and the boutique is in debt, creditors can only hold you liable for that $20,000. This is much better than losing all of your assets if a business fails.

3. Limited liability partnership (LLP)

Despite the similar name, a limited liability partnership is not the same as a limited partnership. That’s because LLPs are involved in daily operations.

All partners have limited liability in an LLP and have an equal stake in the business. This is a good option if the partners want to be involved in the business but need to limit their personal liability.

4. Corporation

Corporations (often in the form of an LLC) are business entities where no one in the business is personally liable for the company’s debts. While this is great for protecting your assets, corporations are complex to manage and subject to more rules.

The pros and cons of limited partnerships

Limited partners have the freedom to invest in a business without risking all of their assets.

  • Limited partnerships are valuable because:
  • They’re easier to form than a corporation.
  • They don’t have to pay self-employment taxes.
  • They limit a partner’s personal liability.
  • They allow you to raise money without forming a corporation.

But limited partnerships aren’t right for every situation. They have drawbacks such as:

  • Less control over the business. The limited partner has little say if they disagree with the general partner.
  • They’re more complex to set up than a general partnership and often require hiring a lawyer.
  • You can lose your limited partner status. If you spend more than 500 hours a year on the business, creditors can argue that you’re actually a general partner and liable for more debts.

A limited partnership is ideal for funding a business through families and friends. It limits the investor’s liability and gives the general partner the freedom to run the business as they see fit. But remember that a limited partnership is a legal agreement, so always hire a lawyer to review the contract before you sign on the dotted line.