By Vivin Purnamawati
Business entities in the form of “partnership” are known in almost every country in different forms. In general, business partnerships can be general or limited. In general partnerships, each partner is jointly responsible for every duty of the partnership. This means that each partner has unlimited liability to the misconduct or negligence caused by other partners. However, in limited partnerships, partners’ liability is limited only to the amount of the capital which they contributed to the partnership.
Another difference between the two types of partnerships is the partners’ involvement. In general partnerships, each partner serves as a “general partner”, who can be actively involved in the management of the partnership itself. In limited partnership, partners are “limited”, passive figures who are only responsible for the amount of capital contributed and are not involved with management of the partnership.
One of the few similarities between these two types of partnerships is that neither of them has a separate legal entity from its partners. This means that there is no asset separation between the partnership and its partners. The legal consequence is that the partners are responsible limitlessly for the losses of the partnership if any.
In time, due to the shortcomings of the existing models of partnership, a new concept of partnership was introduced, the “limited liability partnership” (LLP). The LLP concept as a business entity has been known since the 19th century, where it was first adopted in Germany in 1890. LLP combine the partnership framework with the corporate structure. It means the LLP possesses the basic characteristics of a corporate body – such as a legal entity status, limited liability, perpetual succession, and pass-through taxation – but maintains the flexibility of partnerships, where partners may still be actively involved in management roles.
Differently from the two previous types of partnerships, the LLP possesses a separate legal entity from its partners, and as such, its assets are separated from the personal assets of the partners. Therefore, if an LLP suffers losses, in principle, its assets will be used for settlement instead of the partners’. As a legal entity, the LLP might also initiate legal action against another party, or be subject to legal action.
As stated above, the partners in traditional partnerships are jointly responsible for every action in the name of the partnership. But in the case of an LLP, the limited liability principle applies so that a partner is exempted from the liability of other partner’s misconduct or negligence. The negligent partners are responsible for the LLP losses as a result of their conduct, while the innocent ones are free from liability to the partnership. The limited liability practice in LLP is therefore known as “quasi limited liability”.
Another characteristic of LLP, which differentiates it from other partnership models, lies in the perpetual succession principle. With the existence of this principle, a change in the partners or the death of a partner did not result in the dissolution of the LLP. The dissolution is only possible by an agreement between the partners, which is set in a partnership agreement, or by a court ruling. The principle cannot be found in the partnership on its own, as the partnership can normally be dissolved by the retreat or death of one or more partners.
What makes LLP no less interesting is the “pass-through taxation” concept. As had been known generally, a corporate as a separate legal entity is subject to corporate tax which is separated from the income tax of its individuals. Although the LLP is a separate legal entity, LLPs in general are not subject to corporate tax. The philosophy of such a concept is to prevent double taxation from happening. In the LLP, the partners are taxed on their incomes received through LLP, but the LLP itself is not taxed.