Monday, February 16, 2015

LLC Tips - Converting a General Partnership to a Limited Liability Company

You and your business partner have been running your business as general partnership for the past several years. You have been reading about limited liability companies (LLCs) and have decided that your business should really be operated as an LLC. Is it too late? Can you still convert your business from a general partnership to an LLC? Yes, you can!

Why would a business want convert to a limited liability company from a partnership? The reason that a business would want to convert from a general partnership to an LLC is to allow the partners to shield themselves personal liability for obligations of the business. Every partner in a general partnership is liability for all of the debts of the business. A member of an LLC, on the other hand is can generally only lose his contribution to the LLC, nothing more. He is not responsible for the debts of the LLC.

The limitation typically only applies to liabilities arising after the conversion. It is unlikely that a general partner will be released from personal liability to the partnership's creditors for the business's debts existing before the conversion. A member will avoid personal liability for debts incurred by the LLC but will remain personally liable for debts of the general partnership which are transferred to and assumed by the LLC in the conversion.

The procedures for converting a general partnership into an LLC differs from state to state. Originally, most state laws contained no provision allowing one type of business entity to change into an LLC. At that time, if you had a partnership, you had to first dissolve the partnership and distribute its properties and liabilities to all of the partners. At that point, the partners would contribute those assets and liabilities to a newly-formed LLC and become members in the new LLC.

Today, most states have statutory provisions that allow a partnership to be converted into an LLC in one simple step. For example, in Illinois, once the partners approve the conversion, a Statement of Conversion is filed along with Articles of Organization for the new LLC. It is as simple as that.
The conversion is also simple from a tax standpoint. In several private letter rulings the IRS has addressed the conversion of a general partnership into an LLC. The rulings have clarified that neither the partners nor the partnership recognize any gain or loss on the conversion. Also, the partnership continues to exist uninterrupted for tax purposes and, for computing capital gain if he later disposes of his LLC membership interest, the length of time that the partner owned his partnership interest carries over to his LLC interest.

An LLC is by far the most popular choice for new businesses being formed today. If you chose to start your business as a general partnership, the good news is that it is not too late to make the change!

David K. Staub is a business attorney who writes and lectures frequently on various business, legal and tax topics. He is the author of the Limited Liability Company Center, a free resource of information on how to organize an LLC.
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