Partnerships Explained: GP vs LP, When They Work, and How to Protect Yourself

Going into business with someone else? The structure you choose determines who's liable, who controls decisions, how profits split, and what happens when things go wrong. Partnerships are simple to form but carry serious liability risks that most people don't understand until it's too late. Here's the honest breakdown.

The Three Types of Partnerships

There's also a Limited Liability Partnership (LLP), which gives all partners limited liability protection. It's primarily used by professionals — law firms, accounting firms, medical practices — in states that allow it. Not available in all states and usually restricted to licensed professionals.

The Liability Problem (This Is Why Most People Should Choose an LLC Instead)

A multi-member LLC provides the same tax treatment (pass-through) and management flexibility as a general partnership, but with liability protection for all members. The filing cost difference is $50–$300. There is almost no scenario where a general partnership is better than a multi-member LLC.

When a Partnership Structure Actually Makes Sense

The Partnership Agreement (Non-Negotiable)

Whether you form a GP, LP, or multi-member LLC — you need a written partnership agreement. This is the single most important document in any multi-owner business. Without it, your state's default rules govern everything, and those defaults rarely match what you and your partner agreed to verbally.

Your agreement must address:

→ Ownership percentages: Who owns what? Is it 50/50? 60/40? Based on capital contribution, work contribution, or both?

→ Profit and loss distribution: Do profits split the same as ownership? Can partners take draws? When?

→ Decision-making authority: Who can sign contracts? What decisions require unanimous consent vs. majority?

→ Capital contributions: How much does each partner invest? What happens if the business needs more capital — is it mandatory or optional?

→ Roles and responsibilities: Who does what? What's the time commitment expectation?

→ Compensation: Do partners get a salary in addition to profit distributions?

→ Exit provisions: What happens if a partner wants to leave, dies, becomes disabled, or gets divorced? How is their share valued? Who has the right to buy it?

→ Dispute resolution: Mediation first, then arbitration? Or straight to court? Which state's laws govern?

→ Non-compete and non-solicitation: Can a departing partner start a competing business? Solicit your clients?

How Partnership Taxes Work

Partnerships file an informational return (Form 1065) but don't pay taxes at the entity level. Instead, each partner receives a Schedule K-1 showing their share of income, deductions, and credits. Each partner then reports this on their personal tax return.

Key tax implications:

→ Partners are NOT employees. They can't receive W-2 wages from the partnership (unlike S-Corp shareholders).

→ Each partner pays self-employment tax (15.3%) on their share of partnership income.

→ Partners make quarterly estimated tax payments individually. The partnership doesn't withhold taxes.

→ Partnership losses can offset other personal income (subject to passive activity and at-risk rules).

How to Form a Limited Partnership

The Honest Recommendation

For the vast majority of two-person businesses: form a multi-member LLC. You get pass-through taxation, liability protection for both members, flexible management, and all the benefits of a partnership without the unlimited personal liability risk. The only additional cost is the state filing fee.

Reserve actual partnership structures (GP, LP, LLP) for situations where the specific partnership characteristics are needed — real estate syndications, professional firms, investment vehicles, or short-term joint ventures.

Disclaimer: This guide is for informational purposes only and is not legal or tax advice. Partnership structures and requirements vary by state. Consult a qualified attorney for your specific situation.