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Saddle-Up Partner

December 15, 2023 |

Partnerships

Defining a Limited Partnership

A limited partnership is composed of two or more parties, at least one or more parties being a general partner (GP) and at least one or more being a limited partner (LP). LP investors are passive investors that contribute capital (debt or equity) into a commercial real estate private equity deal. LP investors can range from institutional investors down to individuals seeking to invest with mitigated risk. The general partner (GP) oversees and manages the business whereas limited partners do not.

In this type of investment vehicle the general partners are not only responsible for the management of the property, but are liable for the property’s financial obligations such as debts and litigations. While a general partner takes on that unlimited liability for debt, a limited partner is only liable up to the amount they invested. To be a limited partner, one can invest no more than 20% equity in the property.

Why Seek a Limited Partnership

An example where investors may seek a limited partnership is when a general partner investor needs to accrue the necessary capital to acquire loan terms for a property. If they lack the capital necessary, they will get one or many LP’s to sign onto the deal with them.

A reason an investor may seek to be an LP is a lower-risk investment opportunity. Given that LP’s only have a risk of their investment amount, being a limited partner allows for one to dabble in investing without exorbitant risk.

Being an LP also doesn’t always require an overly high net worth. Depending on the minimum requirements as well as the size of the deal, there are affordable ways of becoming an LP on commercial real estate deals. However, keep in mind the higher the investment the greater chance of higher returns.

Being a limited partner also does not require having a high level of expertise in the commercial real estate industry. In fact, being an LP is a great way to gain that experience in investing and commercial real estate coupled with less overall risk.

Pros of being a limited partner:

  • Great way to dabble in investing with less knowledge or capital
  • Mitigated liability
  • No responsibility of property management
  • Little to no reporting requirements
  • No overt commercial real estate experience required
  • No self-employment taxes

Cons of being a limited partner

  • Less risk means less reward
  • Eventuality of being bought out
  • Little to no involvement in managerial side
  • Must file appropriate paperwork with the state

Difference from a General Partnership

The primary distinction that can be made between a general and limited partnership is the terms of liability. In a pure general partnership, the GP’s involved all take equal involvement in the decision-making process and delegated operational duties. However, they are also liable equally if one party is sued and all other financial obligations. All parties in a general partnership have the risk of losing over and above what they initially invest if operations were to go south, unlike limited partners where their risk is only as high as the amount invested.

How to Establish a Partnership

When establishing a general partnership, there is no requirement to file with the state to initiate the partnership. Once the general partners commence business activities the partnership is considered in effect. On the other hand, when establishing a limited partnership, the parties must register the venture in the applicable state in accordance with the Uniform Limited Partnership Act. This is typically done through the office of the local Secretary of State. For both types of partnerships it is imperative to secure all relevant business documents, permits and licenses in accordance with your location.

In general good practice, it is beneficial for partners to draft a partnership agreement which defines how the business shall be conducted. The agreement should outline the rights and responsibilities of each partner, how profits are distributed, buyout clauses, as well as any other operational agreements.

It is important to do the proper due diligence on a deal and partnership even as an LP. This helps to make sure that the partnership is right for you and mitigate the potential headache of a bad partnership.

How LP Freedom Can Help

When engaging in a limited partnership, and especially seeking dissolution from one, it is prudent to have the right team behind you to properly navigate the space. Additionally, having the right team allows you to retain your profit potential and sidestep the many tax pitfalls in the industry. When you need a partner to navigate your partnership, contact us at LP Freedom.