Limited liability is the primary issue of consideration in selecting the form of business entity. In a Partnership, unless the form is that of a General Partnership, protecting the Limited Partners, protection from liability may not be possible.

WHAT IS A PARTNERSHIP?

A Partnership is a business entity generally taking one of two forms: a General Partnership (GP), or a Limited Partnership (LP). According to Black's Law Dictionary, a "LP" is an unincorporated association, or firm, in which one or more of the partners are, on compliance with the provisions of various state statutes regulating such partnerships, relieved from liability beyond the amount of capital contributed by them. A partnership formed by two or more persons under the provisions of the Uniform Limited Partnership Act, having as members one or more General Partners and one or more Limited Partners. The Limited Partners, as such, are not bound by the obligations of the Partnership. This is a basic tenant of "LP" law, as set forth in the Uniform Limited Partnership Act, section 1, which Act has been adopted by a majority of states.

A "GP", or General Partnership, can be a simpler form of partnership, which includes one or more general partners who associate to carry on a business as co?owners for profit, and who are personally liable for all of the debts and obligations of the Partnership. Uniform Partnership Act, section 1.

Therefore, the basic difference between the two Partnership formats, is that in a "LP", there can be many partners, but the distinction between a limited partner and a general partner is an important one ?? the limited partner is not personally liable for the debts and other obligations of the partnership, while the general partner(s) are. The limited partners, also, have a virtually non?existent or very limited participation in the day?to?day management or running of the business affairs of the partnership. On the other hand, the "GP", is almost the same as the "LP", but without any limited partners, as, in the "GP", each of the partners are "general", taking part in all of the day?to?day management decisions and affairs, and being personally liable for the debts and obligations of the partnership, while sharing, either equally, or otherwise, in the profits and losses of the entity.

HOW IS A PARTNERSHIP FORMED?

A partnership, much like any other business entity, is formed pursuant to state law (generally the form of the Uniform Partnership Act, adopted by the state in which the partnership is to be formed). A non?public document known as a "partnership agreement", serves to create and govern the partnership. Although the agreement does not have to be filed with the Nevada Secretary of State, it may be if so desired. The partnership agreement is the document, which not only forms the entity by agreement of the individuals who are to be the partners, but like the by?laws of a corporation, or the operating agreement in an LLC, this is the document which deals with the rights, duties and obligations of the partners. It can be a very broad or a very specific agreement, and is generally drawn up by a qualified attorney as there are many different considerations as to what topics need to be spelled out in the agreement and the details agreed to by the partners.

A partnership is formed with a minimum of formalities. It need not be more than a handshake agreement, but can, be written out in an extremely detailed Partnership Agreement. As with any informal agreement, however, problems arise later on can be very difficult to sort out, and the need for competent legal advise in setting up a partnership is always advisable.

WHAT KIND OF BUSINESS MIGHT BENEFIT FROM OPERATING AS A PARTNERSHIP?

As in the case of an LLC, which is a business form rendering limited liability to the members, a partnership should be considered whenever limited liability is not an issue, except in the case of a general partner in a Limited Partnership, for example, where there is more than adequate liability insurance, and partnership (flow?through) taxation is desired.

However, as with any other form of business entity, there are other considerations beside those of taxation. These non?tax factors will always affect the choice of structuring any business. Partnerships until just recently were the prime way in which professional groups, doctors, lawyers, accountants, etc., did business, as there is usually, in these contexts sufficient malpractice liability insurance to cover the acts of the partners. Only recently professionals have also been permitted to conduct business as LLCs or LLPs.

Finally, where real estate investment or other passive activities are planned, the partnership can also be an attractive form of doing business. The benefits and detriments, advantages and drawbacks of each business form involve and require a detailed analysis of all factors and considerations.

WHAT ARE THE KEY CONSIDERATIONS IN CONVERTING AN EXISTING BUSINESS TO A PARTNERSHIP?

Generally, doing business as a more complex business form, i.e. a corporation or LLC, will require a tremendous amount of consideration before going back to a partnership form should be considered. Almost always, the partnership is the choice of business form, when the existing sole proprietor is expanding his or her business operations and must take on other business associates. The first choice to consider is the use of a partnership.

Among the first and most significant considerations are tax consequences. Considerations in forming a partnership, or in converting from an existing non?partnership business to a partnership vary depending on the business's present structure (e.g., sole proprietorship, general partnership, limited partnership, regular "C" corporation, or "S" corporation) as well as what type of business is planned, and what the level of projected income and potential liability exists in actually conducting the business, as well as other factors. In this regard, it is always advisable to consult with your legal and tax professionals since some existing businesses may find they can accomplish a tax?free conversion, while others may find the tax cost of converting prohibitive. The LoBello Law Firm can assist in evaluating the merits of forming a new partnership, or converting an existing, non?partnership business to a partnership entity.

In Nevada, there is no limit to the number of partners within a partnership, but there must be at least two. There is no requirement under Nevada's Uniform Partnership Act, on how the profits, debts, and other obligations of the partnership are to be divided, and they do not have to be equal. In start up, partners may contribute different items to the new association; one contributing the capital, and the other any required knowledge of the particular business activity. For example, in desiring to start a construction partnership, one partner may contribute the start?up and operation capital, while another may contribute the construction licenses or experience.

Apart from taxes and the number of partners, a practical matter that will always impact on a business's ability to conduct business as a partnership or to successfully convert to a partnership from another form is its existing agreements and relationships with creditors. In this regard, it is important for the business to make sure it can make satisfactory arrangements with its existing creditors or secure alternative financing before implementing a conversion to a partnership form. Since partners (general) are personally liable for the debts of the entity, this is a very important consideration, as debts that were not previously the personal obligation of a member in an LLC or a shareholder in a corporation, will become so, in a partnership.

IS A PARTNERS LIABILITY SHIELD EFFECTIVE IN ALL CIRCUMSTANCES?

As stated, the liability for the debts, obligations acts, omissions, negligence, etc., of the other partners in only limited in the case of a Limited Partnership, where the Limited Partners, because they do not partake in the day?to?day business, management or operational decision making process are deemed not to assume these obligations because they had no part in the decision causing them to arise.

The General Partners, however, have no such liability protection, and are personally answerable for the acts, omissions, debts, etc., of the other partners. This is so because it is the General Partners who are responsible for the performance of the day?today operation and management of the partnership, and are generally the ones making decisions that may form the basis for a liability claim. This is analogous to the law of agency, as the relationships are very similar; one agent is bound by and responsible for the acts of the other agents.

While the limited partner has that liability protection which in many cases appears to be as good as that of a corporation or an LLC, where the partnership is recognized, this protection, as with a corporation, does have its boundaries. Moreover, remember that the trade?off for that protection or insulation from liability is that the Limited Partner gives up all right to the management and operational decisions of the partnership.

It is also important to recognize that a person admitted as a partner in an existing partnership, is liable for all of the obligations of the partnership arising before his or her admission as though he or she had been a partner when these obligations were incurred, except that this liability shall be satisfied only out of partnership property. (N.R.S. 87.170). Beware, as joining as a "new" partner in an existing partnership is fraught with its own problems and considerations as to what debts and liabilities could be "assumed" by the incoming "new" partner.

Further, all partners are bound by the wrongful acts of one of the other partners. Any wrongful act or omission, arising within the actions of a partner in the ordinary course of business of the partnership or within the authority of his or her copartners, loss or injury to any person, who is not a partner, or any penalty incurred, the partnership is liable to the same extent as the partner who acted or omitted to act. All partners are also bound by the admissions of any other partner. The admission of a partner concerning the partnership affairs within the scope of his or her authority is construed as evidence against the partnership, and, thus, against the other partners. (N.R.S. 87.110 and N.R.S. 87.130). It is important, to know what your partners are doing, to whom they are talking, and about what.

It is easy to see that the shield from liability, if one exists in a partnership context, can itself be somewhat limited. You should also be aware that under Nevada Partnership law, the liability is joint and several for everything chargeable to the partnership, and jointly for all other debts and obligations of the partnership. (N.R.S. 87.150).

Unlike the relatively untested area of LLC law, partnerships have been a viable business form for a long time, and there is a large body of law on partnerships, as well as the relationships between partners, and as to third persons, who are not partners. So most circumstances which can arise in conducting business as a partnership, have already arisen and have been ruled upon by courts, whether in Nevada or elsewhere. Obtaining answers to specific factual issues, therefore, may be a relatively simple matter of some competent legal research.

WHY IS TAXATION AS A PARTNERSHIP BENEFICIAL?

Being taxed as a partnership (rather than a corporation) is preferable. It avoids having the same income subjected to dual levels of federal income tax, or double taxation. In a regular "C" corporation, income is first taxed on the corporate taxable income (the first "level" of income tax), at the corporate rate. That same income is then subjected to a second "level" of tax when the corporation distributes the income to its shareholders in the form of dividends, because the shareholders pay tax on the income again. Moreover, both the corporation and its shareholders may have to pay income taxes when the corporation liquidates.

For the same reasons as are discussed above, in that section dealing with an LLC being taxed as a partnership, taxation as a partnership in a partnership entity is where the partnership tax method originated. Income is seen to flow?through the partnership directly to the individual partners.

In an LLC, on the other hand there is no federal income tax on income at the level of the business entity itself. All income, losses, deductions, and credits "flow through" to the owners, (members) who report their respective share of income from the LLC their own income?tax returns. This is the tax structure that finds its origin in the context of partnerships. Another tax advantage shared by both partnerships and LLC's taxed as partnerships, is the ability to make special allocations of income, loss, and credits to the partners. A partnership can also (like an LLC) pass along tax benefits (e.g., depreciation deductions) to those partners who axe best able to take advantage of them and also gain considerable other tax planning flexibility by making special allocations of such attributes. These special allocations will be allowed as long as they meet all other tax law requirements.

IS A PARTNERSHIP SUPERIOR TO AN LLC IN ANY WAY?

The short answer is "no". An LLC is superior to a partnership, in that it provides ail of its members with the benefit of limited liability, not only the limited partner who have no say?so in the management and operations of the partnership. In a partnership, the general partner retains personal liability, and the limited partner, who has limited liability also has no control or say?so in the operation of the partnership.

In an LLC members can be, and are routinely involved in the day?to?day management and operations decisions of the business without exposing the members to personal liability for the LLC's debts and obligations. Limited partners are shielded from personal liability only beyond the amount of their contribution to the partnership, meaning that they can only be exposed to the extent of their contribution in the partnership. For example, if an act of fraud by a general partner results in a judgment bankrupting the partnership and it is dissolved, the limited partner has lost his contribution in the partnership, no matter how large or small. But, nothing more is lost.

To circumvent the liability problem, many partnerships are structured as limited partnerships with a corporate general partner, who manages the partnership, so that the corporate principals of the general partner can be shielded from personal exposure, as is the case in standard corporate law. New statutory changes also allow partners to form, and do business as a Limited Liability Partnership.

While this approach can be effective, it takes the formation of two distinct entities ? the partnership and the corporation ? to achieve the same limited liability benefit of a single LLC. With the record?keeping and reporting requirements necessitated by the formation of these two entities, a single LLC offers a more streamlined approach. There is also the form of limited liability partnerships called LLP's, which may be an alternative to the General and Limited Partnership, offering more or less the best of both worlds, taxation as a partnership, with the limited liability of an LLC.

PARTNERSHIPS VERSUS CORPORATIONS

A partnership can be a less formal organizational structure than a corporation. Remember that taxation in a partnership is accomplished on a "flow?through" basis, and taxes on income, therefore, are taxed once, at the individual partner's taxable rate. However, there is the risk of exposure to liability that naturally flows from doing business as a partnership. It must be remembered that a partnership is much akin to doing business as a Sole Proprietorship (below), except that there are two or more partners.

Partnerships are also much like marriages, in that they usually start out with a great deal of trust and cooperation but can and do have a very high mortality rate; the partners ultimately becoming tired of one or more things, and dissolve the partnership. Partnerships are easy to get into, but can become increasingly difficult to live with, and, like a marriage, they require a lot of patience and understanding. They can also be painful to get out of.

Corporations, on the other hand are artificial legal entities that exist separately from the people who own, manage and control them. Corporations, and partnerships as well, can make contracts, pay taxes and are liable for debts, but corporations exist only because there are statutes that allow for their existence. A business corporation issues stock, which is the evidence of ownership in the entity, to a person or persons who contribute money or business assets that the corporation will use to conduct its business. Thus, the stockholders or shareholders are the owners of the corporation, and they are entitled to any dividends that the company may, usually in its sole discretion, declare. Shareholders are also entitled to the assets if the corporation is liquidated, after all of the corporation's creditors have been paid.

The primary reason to incorporate is to limit personal, owner, liability to the amount invested. Unlike the partnership, which in the case of the General Partners, there can often be additional contributions which are required, or personal liability over and above the amount contributed to the entity, the corporation owner's liability. Liability loss or exposure is always limited to the amount of their investment, and the shareholders (the owners) are not personally liable for the debts and other obligations of the corporation and risk, therefore, only what they have contributed to the corporation. However, for further and additional considerations, please see that section on corporations, above, or contact The LoBello Law Firm.

In addition to what has been addressed above, there is also the distinction between the perpetual existence of a corporation and the limited duration existence of a Partnership and an LLC. Whereas a corporation's existence goes on for years, literally in perpetuity, unless its affairs are purposefully terminated and the "wind?up" and "liquidation" processes are gone through. Unlike that perpetual existence, a partnership usually lasts for a specified period of time, and can be dissolved, or terminated by the happening of any specific occurrence. For example, the death, insolvency, appointment of a receiver, transference of a majority of the partnership's assets, or the incarceration of a partner, could result in the termination of the partnership. In a corporation, all of the owner?shareholders could be arrested and jailed, or they might all pass away in a commons accident, but the corporation would continue to survive.

In both entities, corporations and partnerships, there are specific tax forms that to be filed with the government. A corporation files its tax return on specific IRS Forms, for example Forms 1120?A or 1120. A partnership has a specified Partnership Tax Return. At certain upper levels of income earnings, the tax rates may vary significantly, between a corporate tax rate and an individual tax rate. An assessment of the projected income levels the entity may generate is an important consideration as well.

Unlike LLCs or corporations, the partnership is easier to form and can be more flexible. Remember that it is important to set down the agreement in writing, although the laws vary from state to state as to whether a written partnership agreement is required.

ARE THERE DISADVANTAGES IN OPERATING A PARTNERSHIP ?

As stated above, there is no limitation on the exposure to liability of a General Partner. A Limited Partnership must have at least one General Partner, and, in a General Partnership, all of the partners are General Partners.

Further, most all states have adopted some form of the Uniform Partnership Act, which specifies the risks, advantages, liabilities, and treatment of partnerships in the state of formation, so, like corporations and LLC's, in most cases, statutes will govern many if not all of the activities and outcomes in a partnership format.

SOLE PROPRIETORSHIPS IN NEVADA:

Probably the oldest and simplest form of doing business is the Sole Proprietorship. This is the entity usually referred to as the "mom & pop" operation. A sole proprietorship requires almost nothing in the way of formalities, has very little regulation (other than normal business license aspects for example), no minimum contribution levels, no meetings, boards, officers, or other like requirements. However, if there is any chance at all that the business might result in liability for some act, omission or product, the sole proprietorship is undoubtedly the riskiest form of business enterprise.

The discussion of such a simple form of business entity does not really require the break?down into the sub?categories, which appear above. The greatest advantage of operating a new business as a sole proprietorship is that it is simple and does not require any formal action to set it up. Anyone can start his or her own business today as an sole proprietorship ? and although there is no requirement for an attorney to be involved, as with anything else, some practical legal advise at the outset is virtually always prudent. There are no formal documents, and no need for any state government approval of anything, other than ? possibly a business license, and the possible need to register "doing business as" (a "dba").

As a sole proprietorship, you are the sole owner of the business. However, Nevada and at least six other states, are Community Property states. In Community Property states, your spouse will also own one?half of the business by law. As the owner of a sole proprietorship, you are personally liable for any debts or taxes of the business, or any other claims which could be made against the business, such as legal damages resulting from a lawsuit. Likewise, the business is exposed to any claim that could be made against you individually, for an act or incident, which is unrelated to the activities conducted in the business itself. This is the main reason why may entrepreneurs prefer to use a corporation or an LLC (or form of either), rather than a sole proprietorship. Unlimited personal liability is perhaps the major disadvantage of operating a business as a sole proprietorship.

On the other hand, all of the profit (and losses) from your business belongs to you, and must be reported on your Federal Tax Form as "Schedule C Income (or Loss) from a Business or Profession". This can be an advantage or disadvantage, depending on the circumstances.

If operation of the business results in a loss or significant tax credits, you may be able to use the tax losses or tax credits to reduce taxes on income from other sources, if any. Or, if your sole proprietorship generates modest profits ? but not more than approximately $60,000.00 to $75,000.00 per year ?? overall taxes may be less than if incorporated, assuming that most of the income is used for you to live on. The IRS tax tables will dictate what levels of income are the cut?offs for certain tax rates, and either your accountant or attorney should be consulted, as, if there are tax savings involved in doing business in another format, that should be a major consideration.

CONCLUSION

What should be clear from the information provided above is that the limited liability combines the flexibility of a partnership with the limited liability of a "C" corporation without the restrictions of an "S "corporation. Still, there are advantages that will also accrue to the corporation, such as a well a large body of developed case law.

There are the older forms of business entities, Partnerships and Sole Proprietorships, and the choice of business form involves a wide range of considerations. Clearly, the LLC and LLP, are welcome additions to the business organization menu that bring with them new planning challenges and opportunities. And, although new issues may emerge, most of the presently unanswered questions about LLC's will be wholly resolved as its use becomes more widespread.

The LoBello Law Firm is prepared to assist you in evaluating the best alternative for you and your business, whether you have an existing business, are contemplating the start?up of a new business, or merely want to review your business entity options. Practicing primarily in the areas of Business, Corporate, LLC/LLP, and general Commercial Law and Litigation, The LoBello Law Firm can represent you and the business from its formation through its dissolution and wind-up. For more information on any of the Firm's services, please call (702) 870?8000.

Please be advised, that these materials are to inform only. This is not intended to advise anyone on any specific legal or business problem. No person should ever attempt to apply or interpret any law without the aid of an attorney.

These materials attempt to answer some of the many questions people have about limited liability companies, corporations, partnerships and sole proprietorships. However, the "answers" are, by necessity, formed only in very general terms because of a limited amount of space. It is vital to consult with a legal professional before a conclusion as to how any of this information may apply to your specific situation.

e-mail: mlobello@lobellolaw.com

PLEASE CLICK HERE TO READ OUR DISCLAIMER