The Limited Partnership Protective Shield
In contrast to a general partnership, a limited partnership must by law be composed of at least one general partner, who serves as the managing partner, and one or more limited partners. Provincial legislation sets out the general rights and responsibilities of the limited and general partners between themselves, the public, and all other individuals with whom they have business dealings. This law protects the limited partners from the broader liability of a general partner – unless the limited partner actually takes an active part in management and control of the business. It further gives the limited partners full rights and access to all partnership information, as well as guaranteeing the limited partners their share of profits or other compensation by way of regular income payment.
A significant advantage of a limited partnership is that a personal creditor of a limited partner cannot attach that partner’s interest in the partnership. An individual partner’s personal creditor can only obtain what’s known as a charging order, which is a relatively unattractive remedy in the judgment collection process, akin to an unenforceable lien.
It seems unfair at first, but these creditor restrictions support a sound public policy objective – that partnership businesses should not be disrupted because of the non-partnership-related debt of one of the partners. The law was formulated so that a creditor with a judgment against a partner but not against the partnership can’t execute directly on partnership assets. Instead, the law allows the creditor to obtain a charging order, affecting only the actual distributions made to the limited partner who’s the debtor. The business of the partnership is allowed to continue unhampered, and the economic interest of the non-debtor partner isn’t impaired.
Even with a charging order, the creditor must wait for a future distribution of a partnership income to the debtor-partner. Provided the partnership agreement is clear on this among all partners, this may be a totally discretionary act within the power of the managing general partner. In other words, even with a charging order, a creditor could wait forever for payment – and charging orders usually expire after ten years. Also, a limited partner has no personal liability for partnership debts beyond the amount of his or her agreed cash or other capital investment in the partnership.
Using this legal protective shield, a limited partner under creditor siege can indefinitely “park” previously transferred assets in the partnership as a continuing defense against their attachment. However, once a limited partner is sued for personal debts or is facing personal bankruptcy, he or she can’t belatedly put assets into the limited partnership. Transfers at that point are illegal under fraudulent conveyance laws.
Invitation for Discussion:
If you would like to discuss this article in greater detail, or any other business law matter, please do not hesitate to contact one of the lawyers in the Tax group at Shea Nerland LLP.
Note that the foregoing is for general discussion purposes only and should not be construed as legal advice to any one person or company. If the issues discussed herein affect you or your company, you are encouraged to seek proper legal advice.