DPP Suitability and Risks

DPPs are complex, illiquid investments suitable only for certain investors. FINRA Rule 2310 governs DPP suitability requirements.

FINRA Rule 2310

This rule establishes suitability standards for DPP recommendations:

Key Requirements

• Must have reasonable grounds to believe the investment is suitable
• Must consider customer's financial situation and needs
• Must disclose all material facts about the investment
• Must ensure customer can bear the economic risk

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Suitable Investor Profile

DPPs are generally suitable for investors who:

NOT Suitable For

• Investors needing liquidity
• Low-tax-bracket investors
• Conservative/risk-averse investors
• Investors with short time horizons
• Unsophisticated investors

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Key Risks of DPPs

1. Liquidity Risk (MOST SIGNIFICANT)

• No secondary market for LP interests
• Cannot easily sell or transfer units
• Investment locked up for years
• May have to sell at significant discount

2. Business/Economic Risk

• Underlying business may fail
• Real estate values may decline
• Oil wells may be dry
• Equipment may become obsolete

3. Legislative/Tax Risk

• Tax laws may change
• Deductions may be disallowed
• Tax benefits may be reduced or eliminated

4. Management Risk

• General partner may make poor decisions
• Conflicts of interest
• Excessive fees

5. Leverage Risk

• Recourse vs. non-recourse debt
• Recourse debt increases limited partner liability
• Non-recourse debt only secured by partnership assets

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Recourse vs. Non-Recourse Debt

Recourse Debt

• Lender can pursue both partnership assets AND partners personally
• Limited partner's at-risk amount includes their share of recourse debt
• Increases tax basis (more deductions available)

Non-Recourse Debt

• Lender can only pursue partnership assets
• Does NOT add to limited partner's at-risk amount (except real estate)
• Real estate exception: Non-recourse debt included in basis

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Liquidation Priority

When a limited partnership is dissolved, proceeds are distributed in this order:

Memory Aid: "Secured, General creditors, Limited partners, General partners" = SGLG

Exam Tip: Liquidation Order Limited partners get paid before general partners but after ALL creditors. General partners are last because they have unlimited liability for partnership debts.