LLC, LLP, Limited Partnership or What?
Hey Trez_Talk Guys,
We are forming an investment club, and some of our members think we should be a limited partnership. You always seem to advocate general partnerships. What gives?
Yes, this question keeps coming up. We have all heard the old bromide that you should never do business as a general partnership because this will make you liable for all the debts of your partners.
This is not exactly true. A general partner does have exposure for all liabilities of the partnership, but partners do not have exposure for liabilities of the other partners for non-investment club matters. If a club is buying on margin and/or shorting stocks, the club could assume a liability for which its members would be jointly and severally liable. It is for this reason that most partnership agreements forbid buying on margin.
How about if a treasurer takes off with all the club's funds? Well, this is not a happy state of affairs, but the members of a general partnership are no worse off than if they were a corporation with the limited liability which that entails. They would still lose the money with which the untrustworthy treasurer absconded.
The usual example of liability for a general partnership is the case where a guest speaker falls and is injured on the steps of the meeting place. I have never heard of this happening, but the example is brought up time and again. Yes, the members of the club could be personally liable for the consequences of such an event. If the club is a member of NAIC, the annual dues provides insurance which protects against this happening.
I can hear your comments now. Well, ok, it isn't very likely, but wouldn't it still be better to be a limited partnership just in case this unlikely event happened. Or what about these LLCs or LLPs that I have been hearing about.
Let's take limited partnerships first. I believe that, legally, a limited partnership is one with one general partner and all other partners being limited. The limited partners have no voice in the management of the partnership, and their liability is limited to the amount of their investment. I know of no investment clubs that are set up under this type of entity, although there may be some. The problem is that the SEC could very well say that this entity should be registered with them because one partner is making all decisions for the inactive partners. See for more information.
LLCs (limited liability corporations) and/or LLPs (limited liability partnerships) are a different matter. These are a somewhat recent development authorized by certain states. These entities are taxed as partnerships, but enjoy the limited liability enjoyed by corporations. The problem with them is that annual fees tend to be high.
Investment clubs have been using general partnerships for over 50 years. It is the entity of choice of the NAIC. Unless you can find a state where the fees for a llc or llp are very low, my recommendation is to utilize a general partnership for investment clubs.
Rip West
Saint Paul, MN