A limited partnership, or "LP", is similar to a general partnership, except that it contains one or more "silent" partners. An unlike a general partnership, forming a limited partnership requires the business owner to proactively choose the business form and register with the state. Generally speaking, an LP is made up of a combination of one or more general partners and one or more limited partners, and is governed by a written partnership agreement. In terms of management rights and responsibilities, the role of a general partner is the same in a limitied partnership as it is in a general partnership. All general partners of an LP have the power to manage the business and bind the partnership in contract. Similarly, they are also personally liable for all of the LP's debts and legal judgments. And like a general partnership, a limited partnership is established, managed, modified, and dissolved according to the terms of the partnership agreement.

The special twist in a limited partnership is the presence of limited partners. Limited partners can essentially be thought of as passive investors, in that they own a stake in the business but do not have a say in how it is run. In exchange for giving up management rights, limited partners receive limited liability. This means that if things go wrong, and the LP loses money or is sued, the limited partner only stands to lose her investment. The one caveat to this is that the rule only protects limited partners who strictly adhere to the LP formalities. In other words, if you enter into an LP as a limited partner, you must always be sure not to participate in any management decisions or otherwise deviate from your partnership agreement, or you will risk losing your limited liability status.

Like all partnerships, the income of an LP is not subject to double taxation. This feature has helped to maintain the popularity of limited partnerships through the years. Often, wealthy individuals will use a limited partnership arrangement as a tax "pass through" for their income from other sources. This means that the wealthy investor will invest in a type of business that gets very favorable tax treatment, anticipating that the business will lose money. When the business does in fact lose money, the limited partner loses his investment, but the large tax loss "passes through" the LP and more than offsets this loss with the tax savings to his other income.