What it means
A limited partnership has two kinds of owners. The general partner runs the business and carries unlimited liability (personal responsibility for all the debts), while the limited partners supply capital and stay out of day-to-day management.
Each limited partner's stake is expressed in units, much as a company's ownership is expressed in shares. The big attraction is the cap on losses.
If the partnership fails, a limited partner can lose the amount invested but generally cannot be pursued for more, provided they do not step into running the business. That protection is why units are common in real estate, oil and gas, equipment leasing and private equity funds.
Units usually carry a share of income, a share of deductions and a claim on cash distributions. The partnership itself is normally not taxed as a separate entity; instead the profits and losses are passed through to the unit holders, who report them on their own tax returns.
This means an investor can owe tax on their share of profit even when the partnership has paid out less cash than that. Units are rarely as easy to sell as listed shares.
Many are held privately and can only be transferred with the general partner's consent, so investors should expect to hold them for years. A smaller number, often called master limited partnerships, trade on public exchanges and are much easier to buy and sell.
When analysing a unit, look at the partnership agreement as well as the numbers. It sets the order in which cash is paid out, any preferred return owed to investors before the general partner earns a performance share, and how new units can dilute existing holders.
The general partner is usually paid in two ways: a management fee and a share of profits above a hurdle, often called carried interest or an incentive allocation. Those payments come out before the limited partners see their cash, so the headline return on a unit is not the same as the return the investor keeps.
In practice
Real-world examples.
Example
A family office buys 1,000 units in a self-storage property partnership at $500 a unit. It receives quarterly cash distributions and a yearly tax statement showing its share of income and depreciation. The most it can lose is the $500,000 it paid in, even if the partnership later borrows heavily.
Example
A pipeline operator is structured as a publicly traded partnership. A retired teacher buys units through her brokerage account and receives regular distributions. When she needs cash she sells the units on the exchange within seconds, something that would be impossible with a privately held unit.
Example
A film production fund raises money from 40 investors by selling units at $25,000 each. The producer acts as general partner and takes a share of profits only after investors have received their money back plus an agreed preferred return. One investor transfers her units to a family trust, which needs the producer's written consent first.
Formula
Calculation
Ownership share = units held / total units outstanding. Distribution received = ownership share x total distribution.
Suppose a property partnership has 20,000 units outstanding and an investor holds 500 units. Ownership share = 500 / 20,000 = 2.5%. The partnership distributes $800,000 for the year. The investor's distribution = 2.5% x 800,000 = $20,000. If each unit cost $1,000, the investor put in 500 x 1,000 = $500,000, so the cash yield is 20,000 / 500,000 = 4%.Case study
Seen in the real world.
Harbourlight Storage Partners is an illustrative, fictional limited partnership that raised $10,000,000 by selling 10,000 units at $1,000 each to private investors. The general partner used the money to buy three storage sites and kept the day-to-day management for itself.
In year two, a flood damaged one site and the partnership took on a $1,500,000 repair loan. The limited partners saw their distributions pause for two quarters, but nobody was asked to contribute more, because their exposure was limited to the units they already held.
The illustrative lesson is that a unit trades away control in return for capped downside. The real protection lies in what the partnership agreement says about payment order, borrowing limits and transfers, so investors should read it before they sign.
Watch out
Common mistakes.
- Assuming a unit is the same as a share in a company, when the holder is a partner for tax purposes and receives a yearly partnership tax statement rather than a simple dividend.
- Thinking limited liability is absolute, when a limited partner who takes part in running the business can lose that protection.
- Treating distributions as profit, when a distribution can include a return of the investor's own capital and may exceed taxable income, or fall short of it.
Questions
People also ask.
Can I sell my units whenever I like?
Only if they are publicly traded; privately held units usually need the general partner's approval and may take months to sell.
Who is liable if the partnership cannot pay its debts?
The general partner is liable without limit, while the limited partners generally lose only what they invested.
How are units valued?
Usually by estimating the value of the partnership's assets after debts and dividing by the number of units, with a discount often applied if the units are hard to sell.
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