LLC VS LLP - When the Limited Liability Company Choice is Wrong

LLC vs. LLP anxiety? No surprise there. Heck, every lawyer and CPA in the country appears to be gag-gag over the limited liability company option.

And then, of course, if you've been even half observant, you'll undoubtedly have noticed that many big law and accounting firms have selected the LLP, or limited liability partnership, option. And that fact surely makes one wonder if the limited liability partnership isn't a good safe option given all the intellectual brainpower that resides in one of these big professional firms.

How can you satisfactorily answer the LLC vs LLP question? Well, you should consider the LLP for four basic reasons:

Reason #1: LLP is (Historically) Widely Accepted Entity Choice

Let's start with a bit of history. You should know that part of the popularity of the LLP choice with the large accounting and law firms comes from the wide acceptance of the LLP choice after the U.S. Savings & Loan crisis. At that time, as many of the big firms were reforming themselves, the LLP option was the most widely accepted pass-through entity available. And this wide acceptance was critically important (obviously) for professional service firms operating in numerous states and even, in many cases, across international borders.

Accordingly, sometimes firms choosing the LLP option do so (or have done so) because the LLP option is (was) the most widely accepted or the only totally accepted option in the jurisdictions in which they operate.

Reason #2: LLP Meets Largest Set of Licensing Requirements

Another reason for selecting the LLP option over the LLC option? Simple. Some businesses can't operate as limited liability companies (or their professional services firm equivalent, the professional limited liability company). These businesses however often can operate as a limited liability partnership.

Accordingly, sometimes firms choosing the LLP option make their choice because the limited liability partnership choice allows them to more easily meet state-level licensing requirements.

Reason #3: LLP Accepted/Required by Stakeholders

A quick, simple point: If stakeholders (like the owners or employees in a business) expect the firm to be operated as an LLP, that factor may be significant.

Giving stakeholders what they expect or what the popular wisdom accepts may be sort of nonsensical. But choosing the course of least resistance may be a pretty easy choice...

Reason #4: LLP May in Some Situations and Scenarios Offer Better Asset Protection

As a general rule, LLCs and LLPs offer similar asset protection though predictably the protection varies by state. Furthermore, let me just say that the asset protection features of a limited liability company greatly depend on the activities the business engages in. For example, malpractice laws mean that an LLC or LLP engaged in professional service (like law or accounting) gets far less liability protection than non-professional firms.

The forgoing caveats and qualifications aside, however, some state laws may offer LLP partners better protection against personal creditors than the state laws offer to LLC members because not all states treat interests in an LLC like a partnership. However, most (perhaps all?) states treat ownership interests in a limited liability partnership like a general partnership interest.

For more information about legal protection and the llc vs llp issue, you want to consult a local business attorney. What you want to ask about, by the way, are (1) how charging orders will work in a worst-case scenario, and (2) whether your ownership interest in the LLC or LLP can be seized by a personal creditor.

Seattle-area author and CPA Stephen L. Nelson regularly writes about business accounting and taxation issues related to the llc versus llp question.

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