When forming a business in the state of Colorado, you’ll notice that there are a few different business entity types to choose from. If you’re looking for a business structure that will limit the liability of its members, you might consider either a limited liability company (LLC) or a limited liability partnership (LLP).
Both entity types are relatively simple to form in Colorado and the two types share much in common. However, there are a few key differences between LLCs and LLPs. We’ll go over those differences here to give you a better sense of which entity type best suits your Colorado business.
What Is a Limited Liability Company (LLC)?
A limited liability company, or LLC, is a business entity type that offers liability protection to its members. One or more members can form an LLC by filing articles of organization with the Colorado Secretary of State office. Once formation is complete, your business will be considered a separate entity, providing limited liability protection for its owners.
What Is a Limited Liability Partnership (LLP)?
A limited liability partnership, or LLP, is much like a hybrid between a general partnership and limited liability company. Note that with a general partnership, one or more members can form the partnership simply by conducting business together, as there is no legal filing required. To form an LLP, however, you must file with the state of Colorado. Similar to an LLC, when you form an LLP it is considered a separate entity.
Choosing Between a Colorado LLC and Colorado LLP
So, what’s the difference between a limited liability company (LLC) and a limited liability partnership (LLP)? And how do I choose between the two when it comes to my own business? Here, we’ll compare LLCs and LLPs across several important factors to give you a sense of which might work best for you.
Management Structure
A notable difference between LLCs and LLPs can be found in their management structures. For starters, an LLC can be formed by and consist of a single individual, while an LLP must have at least two partners. In addition, note that LLCs are managed in accordance to an operating agreement, while LLPs are managed in accordance to a partnership agreement.
The LLC operating agreement is drafted by its members and outlines member equity structure, daily operations, and decision-making processes. The LLC can opt to be either member-managed or hire an outside manager that does not have a stake in the business.
The LLP partnership agreement dictates the financial contribution of each member, their role in the partnership, and how profits will be distributed. With an LLP, there is the option of having a silent partner that does not partake in decision-making but receives a share of the profits. Unlike with LLCs that are recognized and allowed in every state, not every state allows for the formation of LLPs, as they are a relatively new entity type. Colorado is one of the states that does recognize and allow the formation of LLPs.
Liability Protection
Here is a similarity between the two, as both an LLC and LLP offer limited liability protection for all of its members or partners. Note, however, that there are slight differences in how the protections are applied between the two entities.
An LLC offers its members personal liability protection from any debts of the business or lawsuits filed against the business. This means that members cannot be held personally responsible for these matters in relation to the LLC. Note, however, that members may be found personally responsible in the event of business mismanagement.
With an LLP, on the other hand, a partner’s liability does not extend beyond his or her own negligence. In other words, one partner cannot be held responsible for the wrongdoings of another member. Additionally, liability only relates to a partner’s financial investment in the partnership. In certain states, partners might still be personally liable for the debts and obligations of a business.
Tax Implications
When it comes to taxation, we have another similarity between LLCs and LLPs. Both entity types enjoy what is known as “pass-through” classification. This means that the entity does not directly pay income tax, but rather earnings pass through to the members or partners. These individuals must then report those earning on their own personal tax form.
Note, however, that an LLC has the option to be taxed as a sole proprietorship, partnership, or corporation. If it opts to be taxed as a corporation, then it will face double taxation in the way that all corporations do, taxing earnings at both a corporate and personal level. LLPs do not have this option, as all LLPs must file as partnerships.
LLC vs. LLP: What’s Right for Your Business?
Take the time early on to weigh the different aspects of the LLC and LLP entity structures. Once you have filed with the state, it can be a challenging and time-consuming process to change your business structure.
As you can note from the comparison above, there are certain instances where the decision might be made for you. For example, if you are the sole individual running your business (i.e. no partners), then an LLP is not an option for you.
Similarly, this is the case if you are in a state that does not allow LLP formation or puts restrictions on which professions are allowed to utilize the LLP entity structure. Typically, if you are in a profession that requires a license to conduct business, you’re likely better off choosing the LLP structure if it’s an available option to you.
If you’re still uncertain about which entity type will work best for your business or what options are available to your profession or available in your state, consider seeking out the assistance of an attorney. The attorney what restrictions apply in your state and can also provide assistance with your business formation and state compliance. If you’re planning on opening an LLC or an LLP, we have many helpful resources on our blog including information about articles of organization, EINs, Colorado business licenses, and sole proprietorships.
