Business entities like limited liability companies (LLCs) and limited partnerships (LPs) can provide great asset protection if they are set up correctly.
Mostly used for rental property, these entities can shield your rental properties and your personal assets from lawsuits filed against your rental properties.
Example: You own a rental property in an LLC. Your tenant trips and falls and sues the owner. The owner is not you. The owner is the LLC. The tenant (plaintiff) would have to sue the LLC.
Let’s say the plaintiff wins the lawsuit against the LLC, and your insurance is not enough to cover the judgment award. If the LLC is set up and operated correctly, the plaintiff won’t be able to get to the rental property nor would he be able to get to your personal assets to cover the judgment. In most cases, the most he could get is a charging order, which is a lien against any profits the LLC distributes to the owners.
The charging order remedy severely limits the plaintiff’s recovery options. A charging order only gives the plaintiff the right to receive any LLC distributions. He cannot demand a distribution nor does he get a voting interest in the LLC. The plaintiff cannot force you to sell your rental property or to sell your personal assets – which would be viable options to him if you did not own your rental property in the LLC.
A limited partnership can provide similar protection as an LLC for the limited partners, but the general partner of the limited partnership has full liability exposure. If you have a limited partnership, you should not own the general partnership interest directly. You should own the general partnership interest in an irrevocable management trust, an LLC or an S corporation. These structures will cap the unlimited liability of the general partner.