LLP vs. LLC: 3 key differences and how to make your choice
Limited liability partnerships (LLPs) and limited liability companies (LLCs) are two common business structures. These entities combine aspects of corporations and partnerships, ultimately providing unique tax advantages and protections from personal risk.
At a glance, LLCs and LLPs may seem very similar. However, there are fundamental differences that control how owners can set up their operations, weather financial issues, and more. In addition, not every business is eligible to register as an LLC or LLP.
Whether you’re starting out with a co-owner or plan to take on partners later, use our LLP vs. LLC comparison to choose the right structure.
What is an LLP?
A general partnership lets entrepreneurs pool resources and skills while diminishing the risk of starting a business. A limited liability partnership (LLP) takes this one step further, adding on crucial liability protections for each partner. (Like all partnerships, LLPs must have at least two owners.)
Personal liability protection
First, all partners receive personal liability protection. As an LLP owner, you’re legally shielded from liability for business debts and obligations. In other words, your personal income or assets can’t be seized to pay for these non-personal debts.
For instance, if your company defaults on a working capital loan repayment, your personal real estate is protected from collection efforts. This is also the case with an LLC.
Second, LLP owners can’t be held personally liable for the actions or negligence of other partners. This is one of the main reasons that LLPs are the business structure of choice for professional businesses like law firms and doctor’s offices. But partner liability varies state by state. Some states only recognize liability protection in cases of negligence.
For instance, if your partner is accused of malpractice and the LLP suffers losses due to the ensuing lawsuit, your personal assets aren’t at risk. That said, this protection doesn’t apply to the partnership's assets. Anything of value owned by the LLP—like company vehicles, computers, patents, or property—isn’t protected. (You’ll list these business assets on your balance sheet.)
Although the names are similar, limited liability partnerships shouldn’t be confused with limited partnerships. With limited partnerships, there are two types of partners: general and limited. General partners don’t have personal liability protection, while limited partners are only liable up to the amount of their investment. In most cases, limited liability partnerships (LLPs) provide liability protection for all partners, whether general or limited.
LLPs are popular because they’re easy to scale or shrink. Per your partnership agreement, you can add or bring on partners without extensive structural changes. That makes the LLP an adaptable legal entity for businesses in all industries.
What is an LLC?
A limited liability company (LLC) is a low-maintenance business structure that can be tailored to most operational needs.
Personal liability protection
Filing as an LLC creates a legal division between the business and the LLC owners, known as “members.” In the eyes of federal and state law, the business is a separate entity.
As a result, each LLC member receives personal liability protection. This means that your personal assets are safe from seizure if the company can’t cover its business liabilities. Unlike a sole proprietorship or general partnership, there’s little to no personal financial risk to operating an LLC.
What makes a member
In the LLC vs. LLP debate, one of the biggest distinctions is who or what can hold an ownership stake in the company. While LLP owners must be individuals, LLC members can be individuals, corporations, foreign entities, or even other LLCs.
You can begin as a single-member LLC or register with multiple members right away. There’s no limit on the number of LLC members or LLP owners.
Both LLPs and LLCs are pass-through tax entities. This means that business profits and losses “pass through” to your personal income tax return. You’re taxed at your individual rate, rather than the corporate rate, which is typically higher. Registering as an LLP lets you avoid double taxation, which is when owners must pay both individual and corporate taxes on business profits.
You’ll also see greater tax flexibility if you register as an LLC. LLC members elect to be taxed according to their preferred federal and state tax status.
You can choose to be taxed as a pass-through entity, like a sole proprietorship, or select C-corporation status if it’s more beneficial. This is a key tactic used by small businesses and startups to adjust their tax burden through each growth stage. Generally speaking, your LLC could elect a different tax status every year—but make sure it’s the right choice. The IRS doesn’t allow businesses to alter their status mid-year.
Also, we should note that making changes to your tax status is a complex process and will impact other areas of your business. It’s best to talk to a tax professional to understand the advantages and disadvantages of a switch.
LLP vs. LLC: 3 key differences
There are clear-cut advantages to organizing your business under a limited-liability structure. But to select the right structure, we need to examine the differences between LLCs and LLPs, area by area.
Every state has different laws regarding limited liability—from what “limited liability” actually protects to who can form these kinds of legal entities. This is particularly relevant for limited liability partnerships (LLP).
Across the country, there’s a wide range of restrictions on the kind of businesses allowed to organize as LLPs. In some states, including New York and California, only certain professions can form a limited liability partnership. These groups generally include professional service providers like accountants, consultants, and attorneys.
LLCs, on the other hand, generally have fewer limitations. Some business types, such as financial institutions and insurance companies, can’t form LLCs. But businesses are more likely to be barred from LLP registration than LLC registration.
Before you start any paperwork, check with your state registration agency (typically the Secretary of State's office) to see if you’re LLC- or LLP-eligible. If you need assistance with the process, online legal services like RocketLawyer and LegalZoom can help you register your business from start to finish.
Personal liability protection
Both LLCs and LLPs provide personal protection from liability because the business is considered a separate entity. That said, LLCs generally guarantee more widespread protection from financial or legal risk.
LLCs protect individual members from personal risk for debts or lawsuits filed against the company. Individuals, creditors, or lenders who have been harmed by the company can't sue members for their personal assets like their car or house.
That said, you may not be fully protected from the wrongdoing of fellow LLC members. Even if you weren’t the member at fault, you could still be named in a lawsuit, for example. As we’ve mentioned, how far this protection extends depends on the state you’re operating in.
Experts recommend LLPs for businesses with multiple owners because they limit accountability for your partner’s actions. But this protection has strict boundaries in many states. Some LLPs shield you from responsibility for a partner’s negligent acts, but leave you on the hook to pay back the business’s financial obligations. Be sure to take a close look at your state’s laws on partnerships.
An LLC can elect to be taxed as a sole proprietorship, partnership, or corporation. This financial freedom confers a variety of benefits for businesses, from tax breaks to accounting and bookkeeping simplicity. As a company grows in profitability, for instance, C-corporation status can allow shareholders to keep more of their business revenue.
By contrast, an LLP must file as a pass-through business entity regardless of revenue or size. The business’s income passes through to each partner’s personal income tax return. Instead of paying taxes twice—on a corporate and individual tax return—LLP owners pay once. How favorable this is in the long run will shift according to each partner’s individual tax bracket.
The dividing line
We’ve covered the most business-critical distinctions between LLCs and LLPs. Both offer some degree of liability protection, but that’s where the similarities largely end.
If your top priority is tax control, an LLC may be the better long-term choice for your business. On the other hand, if you’re concerned about financial or legal risks due to a partner’s actions, consider an LLP.
Keep in mind that every state imposes different rules for both of these structures. And depending on your business type, the choice may be made for you by your state agency. But your options don’t end at the LLP vs. LLC crossroads. Use our guide to the six types of companies for a side-by-side comparison of the major business structures.