Equities - Direct Participation Programs (DPPs)

Direct participation programs and limited partnerships are entities that allow income, expenses, gains, losses, and tax benefits to be passed through to the investors. There is generally no active secondary market for these investments, so, it’s important that investors understand the risks and can afford the risks associated with direct participation programs and limited partnerships. Series 7 candidates can expect to see several questions on this material on their exam.

Limited Partnerships

A limited partnership is an entity that allows all of the economic events of the partnership to flow through to the partners. These economic events are:

  • Income
  • Gains
  • Losses
  • Tax credits
  • Deductions

There are two types of partners in a limited partnership. They are the limited partners and the general partner. The limited partners:

  • Put up the investment capital
  • Losses are limited to their investment
  • Receive the benefits from the operation
  • May not exercise management over the operation
  • May vote to change the objective of the partnership
  • May vote to switch or remove the general partner
  • May sue the general partner, if the general partner does not act in the best interest of the partnership

A limited partner may never exercise any management or control over the limited partnership. Doing so would jeopardize their limited liability status and they may be considered a general partner.

The general partner is the person or corporation that manages the business and has unlimited liability for the obligations of the partnership business. The general partner may also:

  • Buy and sell property for the partnership
  • Receive compensation for managing the partnership
  • Enter into legally binding contracts for the partnership
  • The general partner also must maintain a financial interest in the partnership of at least 1%. The general partner may not:
  • Commingle funds of the general partner with the funds of the partnership
  • Compete against the partnership
  • Borrow from the partnership

It is important to note that there are no tax consequences at the partnership level. In order to qualify for the preferential tax treatment, a DPP or LP must avoid at least two of the

six characteristics of a corporation. These characteristics are:

  1. Continuity of life
  2. Profit motive
  3. Central management
  4. Limited liability
  5. Associates
  6. Freely transferable interest

Several of the characteristics cannot be avoided, such as associates and a profit motive. The easiest two characteristics of a corporation to avoid are continuity of life and freely transferable interest. The LP can put a termination date on the partnership and substitute limited partners may not be accepted or may only be accepted once the general partner has agreed.

Structuring and Offering Limited Partnerships

The foundation of every limited partnership is the partnership agreement. All limited partners must be given a copy of the partnership agreement. The partnership agreement will spell out all of the terms and conditions, as well as the business purpose for the partnership. The powers and limitations of the general partner’s authority will be one of the main points detailed in the partnership agreement. Prior to forming a limited partnership, the general partner will have to file a certificate of limited partnership in the state in which the partnership is formed. The certificate will include:

Name and address of the partnership

  • A description of the partnership’s business
  • The life of the partnership
  • Size of limited partner’s investments (if any)
  • Conditions for assignment of interest by limited partners
  • Conditions for dissolving the partnership
  • Conditions for admitting new limited partners
  • The projected date for the return of capital if one is set

A material change to any of these conditions must be updated on the certificate within 30 days.

Related Articles
  1. Brokers

    Broker-Dealer Industry 101: The Landscape

    Independent broker-dealers are a great choice for experienced, self-starter planners who have established practices.
  2. Personal Finance

    RIAs and Brokers: What's the Difference?

    RIAs and brokers are held to different standards when providing investment advice. Here's how they differ.
  3. Trading Systems & Software

    Steps to Starting Up an Independent Broker Dealer

    Launching your own broker-dealer is a lot of work, but the potential payoff is great, both personally and financially.
  4. Professionals

    How To Answer Option Questions On The Series 7 Exam

    Learn how to answer option questions on the Series 7 exam. Pass your Series 7 exam with the help of these tips.
  5. Professionals

    Series 55

    FINRA Series 55 Exam Guide
  6. Professionals

    Series 62

    FINRA Series 62 Exam Guide
  7. Professionals

    Series 99

    FINRA/NASAA Series 99 Exam Guide
  8. Professionals

    Series 65

    FINRA/NASAA Series 65 Exam Guide
  9. Professionals

    Series 6

    FINRA Series 6 Exam Guide
  10. Professionals

    Series 63

    FINRA/NASAA Series 63 Exam Guide
  1. No results found.
  1. Do financial advisors need to pass the Series 7 exam?

    The exact nature of a financial advisor's job responsibilities determines whether he must have a Series 7 license. If a financial ... Read Full Answer >>
  2. Do financial advisors have to be licensed?

    Financial advisors must possess various securities licenses in order to sell investment products. The specific products an ... Read Full Answer >>
  3. What are the differences between the Series 6 exam and the Series 7 exam?

    The Financial Industry Regulatory Authority (FINRA) offers a variety of licenses that must be obtained before conducting ... Read Full Answer >>
Hot Definitions
  1. Term Deposit

    A deposit held at a financial institution that has a fixed term, and guarantees return of principal.
  2. Zero-Sum Game

    A situation in which one person’s gain is equivalent to another’s loss, so that the net change in wealth or benefit is zero. ...
  3. Capitalization Rate

    The rate of return on a real estate investment property based on the income that the property is expected to generate.
  4. Gross Profit

    A company's total revenue (equivalent to total sales) minus the cost of goods sold. Gross profit is the profit a company ...
  5. Revenue

    The amount of money that a company actually receives during a specific period, including discounts and deductions for returned ...
  6. Normal Profit

    An economic condition occurring when the difference between a firm’s total revenue and total cost is equal to zero.
Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!