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What Is A Limited Partner (Explained: All You Need To Know)

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What Is A Limited Partner

A limited partner is a type of business owner in a partnership structure.

What’s particular about being a limited partner is that limited partners have limited personal liability.

In fact, a limited partner cannot be held responsible for the partnership’s debts and financial obligations for more than his or her investment in the partnership.

On the other hand, limited partners do not actively participate in the actual partnership management.

Many refer to limited partners as “silent partners” in the business.

Typically, a limited partner will invest in the partnership, will have limited voting rights, and will not be part of the day-to-day management of the business.

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Limited Partnership Structure

To be a limited partner, you must be in a limited partnership structure.

In a limited partnership (or LP), you must have at least one or more general partners along with at least one or more limited partners.

The general partners are business owners that have full authority to run the partnership whereas limited partners are not actively involved in such operations but have invested in the business.

Since limited partners are not active members of the partnership, they will not have to pay self-employment tax.

Also, the limited partner’s income from the partnership is generally considered passive income.

However, if the limited partner works for more than 500 hours for the partnership in a given year, the tax authorities may treat the limited partner as a general partner.

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Limited Partner’s Liability

A limited partner’s personal liability for the partnership is limited to the total amount he or she invested in the partnership.

For this reason, this type of partnership is called a “limited” partnership.

In contrast, a general partner is a type of partner that could be personally held liable for the partnership’s debt and financial obligations.

In other words, the partnership creditors can personally sue general partners to recover a business debt.

Since limited partners do not participate in the partnership’s day-to-day operations, they are not held accountable for the partnership’s obligations.

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Limited Partner’s Income

Limited partnerships have two types of partners: general partners and limited partners.

Both limited and general partners are part owners of the business.

The limited partners are owners that have invested some money to purchase shares in the partnership.

However, they do not have voting rights and do not actively participate in the partnership’s management.

The income earned by limited partners is generally considered passive income.

As such, limited partners do not pay self-employment tax.

On the flip side, the general partners declare their share of the partnership’s income on their personal taxes as limited partnerships are pass-through entities for tax purposes.

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Pros And Cons of Being A Limited Partner

Being a limited partner has its advantages and disadvantages.

The most notable advantage of being a limited partner is that you cannot be personally held liable for the obligations of the partnership.

A limited partner’s liability cannot exceed the amount of capital he or she has put into the business.

A second advantage is that the limited partner’s investment in the partnership allows him or her to earn passive income.

In fact, the limited partner will be able to get a piece of the partnership profits.

The main drawback of being a limited partner is that although you are an investor in the partnership, you do not have the ability to make important decisions for the partnership.

Limited partners are effectively at the mercy of the general partners for the successful management of the business.

Also, although you could be considered a limited partner by the partnership, you may be considered a general partner if you worked more than 500 hours in a given year.

As a deemed general partner, you may end up having unlimited liability just like general partners.

Limited Partner vs General Partner

A key difference between a limited partner and a general partner is their potential liability for business debt and losses.

Limited partners have limited personal liability.

In other words, a limited partner’s personal liability cannot exceed the amount that he or she invested in the partnership.

On the other hand, a general partner has an unlimited liability potential.

This means that business creditors can sue the general partners to recover any and all business debt.

Another difference between limited and general partners relates to the management of the business.

Limited partners have limited voting rights and do not actively participate in the day-to-day management of the partnership.

On the flip side, general partners are responsible for properly managing the partnership and can legally bind the same in contracts.

The third difference between them has to do with taxation.

Limited partners do not pay self-employment tax as they are not active members of the partnership.

On the other hand, general partners report the partnership income on their personal income tax in proportion to their shares in the partnership.

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Takeaways 

So there you have it folks!

What is a limited partner?

In a limited partnership, a limited partner is a type of business owner that invests in the partnership and does not play an active role in the partnership management.

Limited partners are typically considered to be silent partners.

Their status is called “limited” partner as they have limited personal liability for the partnership’s financial obligations.

Fundamentally, you can consider limited partners as investors in the partnership earning passive income.

Now that you know what is a limited partner, their roles and obligations, and what differentiates them from general partners, good luck with your research!

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