As a startup with more than one business owner, you have your choice on how you want to legally structure your company. The decision isn’t to be taken lightly since a business’s structure affects how you organize your company, registration requirements, compliance maintenance, how you distribute income, and how you file your partnership taxes. Businesses with more than one owner can structure as a partnership, limited liability company (LLC), corporation, and another legal entity called a limited liability partnership or LLP.
In today’s post, we’ll review what an LLP is, how limited liability partnerships file their taxes, and how you can register a new LLP.
Getting to Know the LLP
Similar to a limited liability company, the limited liability partnership is a formal business structure that combines both the tax-saving benefits of a partnership and the liability benefits of a corporation. LLC partnership owners operate primarily as a general partnership, permitting all partners and owners to act as general partners, actively participate in the company’s management. The LLP’s added benefit gives all limited personal liability, although liability protection varies by state.
Each state also determines what kind of businesses can form an LLP. For example, some states only offer the LLP business structure to companies in professional industries such as doctors, attorneys, accountants, engineers, dentists, and architects. Also, some states require all partners to be licensed in the same profession. However, other states allow any company with more than one owner to form an LLP.
Typically, all partners in an LLP are protected from the legal liabilities and debts of the business. However, in professional occupations, they may not be protected from personal negligence or malpractice lawsuits. Unlike LLCs and partnerships (where the partners are liable for each other’s activities), LLP partners are protected from the other partners’ liability in the LLP.
Once you’ve checked with your state’s Secretary of State office for an explanation of how to form an LLP, it’s crucial to understand how to file taxes for the LLC partnership.
Limited Liability Partnership Taxes
Like a partnership or LLC, a limited liability partnership is not regarded as a separate entity from its owners and therefore avoids paying the double taxation burden of corporations. Let us explain.
In a corporation, the company is its own entity separate from the owners and consequently pays income tax on the business’s income. Then owners are paid a salary as employees, and owners pay income tax on the wages earned. For this reason, it is known as double taxation for the owners who must pay business incomes taxes and personal income taxes on the company’s profits.
For pass-through entities, such as partnerships, LLCs, or LLPs, the profits and losses are distributed amongst the company’s partners equally, per each partner’s ownership share, or a different division of the ownership percentage. The distribution allocations are documented in the LLP’s partnership agreement.
In a pass-through entity, such as an LLP, the company does not directly pay taxes on its profits. Instead, partners report their portion of the profits and losses on their individual income tax returns and pay taxes based on their wages. The LLP files a Schedule K-1 (IRS Form 1065) to report its income, gains, losses, and deductions like a general partnership. Partners file Form 1040 and pay self-employment taxes (social security and Medicare). In addition, the LLP needs to file an LLC partnership tax form with the state in states that have an income tax. Some states also require LLPs to pay a Franchise Tax.
Partners in an LLP are not W-2 employees. However, the LLP most likely will have support staff that is W-2 employees. The LLP is responsible for employees’ federal and state payroll taxes, including income tax, social security, Medicare, and unemployment tax. LLPs file forms 940 and 941 to report employee withholding. For LLPs with employees in different states, the LLP must register with the state’s Department of Revenue and Department of Labor to pay the payroll taxes in each state.
Fortunately, CorpNet can quickly register your new business for state payroll taxes. Our specialists manage the process of registering your new business for State Unemployment Insurance Tax (SUI) and State Income Tax (SIT), which saves you time and money. This allows you to pay your employees and focus on growing your business efficiently.
Forming an LLP
All 50 states have their own registration process and fees to create a limited liability partnership. Start with the Secretary of State’s office in your state to determine the required steps and annual compliance obligations. In all LLP arrangements, the partners should create a partnership agreement to document partners’ ownership interests, profit and loss allocations, management structure, and more.
Before making any decisions on business structure, it’s crucial to weigh the pros and cons with your legal and financial advisors. Some considerations include:
- Although the LLP has limited liability for all partners, each state has its own rules concerning how much liability protection partners receive.
- LLPs are relatively easy to form. Partners file a registration form with the Secretary of State and obtain all the necessary licenses, permits, and insurance.
- LLPs can grow their businesses by bringing on new partners or hiring junior partners to work for the firm.
- All partners in an LLP have a say in the management and operations of the company.
- An LLP has fewer compliance formalities than a corporation.
- The LLP avoids the double taxation of corporations.
- LLPs may not be allowed to expand to all states with foreign qualification. As a result, the LLP may have to form a new entity in those states.
- There are typically restrictions on who can form a Limited Liability Partnership. For example, some states may only allow certain types of licensed professionals to form an LLP.
- LLC partnership taxes include income tax and self-employment taxes.
If you’d like help in registering an LLP for your new business, contact CorpNet today. Our business filing experts are here to help get you and your new venture started.