Article by Varsha Chamakura.
Partnership under The Partnership Act, 1932 in business or profession is considered to be the oldest legally accepted organisation, which consists of more than one person.
A partner has unlimited liability, but due to advancement in Commerce, its Allied activities growth and the business organisation, the law had to be changed to suit the present conditions.
That is why another type of partnership was formed – the Limited Liability Partnership. In this type of Partnership, the liability of partners incurred in the normal course of business does not extend to the personal assets of the partners.
This type of partnership is most common among Small and Medium Enterprises (SMEs), small businesses and professional services. Limited Liability Partnerships or LLP is considered as something that attains principal benefits of both, partnership and companies.
Due to the wide scope and advantages of LLP as compared to the general partnership, it is gaining more popularity in India compared to Traditional Partnership.
Meaning of Limited Liability Partnerships
Unlimited liability partnership is a type of partnership, an older and more popular form. Such partnership can be formed by two or more people who contribute or pool in capital to achieve a legal and commercial objective and ultimately share the benefits and losses, if any.
Limited Liability Partnership is different from Unlimited Liability Partnership as partners of Unlimited or General Partnership have unlimited liability; meaning not only would you be liable up to your contribution of capital but also your personal assets would also be liable at the time of repayment of partnership’s liabilities.
In such partnership, all partners have the responsibility for the working and functioning of the partnership, and also have unlimited liability for all debts of the partnership. Partners share the obligations, responsibilities and benefits of the business as per the Partnership Deed.
Limited Liability Partnership is a new concept, as compared to other types of partnership. It is an alternative form of business that gives advantages of both partnership and company.
This form of partnership has the benefits of limited liability; partners are only liable to their share or investment, and are not personally liable, meaning their personal assets are not included when liability arises.
Limited Liability Partnership is a separate legal entity, meaning that it’s liability is unlimited for its own assets but the liability of the partners is limited to their agreed contribution or investment in the Limited Liability Partnership.
As per Raghav Sharma’s Limited Liability Partnerships in India (2007), LLP is a combination of both Partnership law and Company law, by doing so the defects or insufficiencies of both concepts were adhered to and taken care of.
The idea of Limited Liability Partnership was introduced by the Law Commission of India in its Seventh Report on Partnership Act, 1932, on 1957 but it was not accepted because of its shortcomings at that time.
In 2003, the Naresh Chandra Committee report introduced the concept of LLP again, specifically in the service sector and was said to be a combination of both a Partnership and a Company, but with more composition of a private company. This report emphasised the need of LLP but no legislation was made.
It was because of the J. J. Irani Expert Committee on Company Law, that a separate legislation was made for LLPs in India, with special reference to small enterprises.
In 2008, the legislation was finally enacted which is the Limited Liability Partnership Act, 2008. The main problem with this Act is that it contains very limited sections.
A proper definition of LLP has not been given in the Limited Liability Partnership Act, 2008. LLP has been defined as “a partnership formed and registered under the LL.P. Act, 2008”, but it specified that such partnership needs to be registered to be a LLP.
Features of Limited Liability Partnerships
Two or more people or corporate bodies can come together to form a Limited Liability Partnership.
They may form such a partnership for the fulfilment of a legal objective and to carry on any lawful trade, service, business, or profession, and their end result or goal is to earn profit, without any restriction.
A limited Liability Partnership has similar features as that of a general partnership, one difference being that in a LLP, partners are not held liable for the wrongdoings of the other partners, while in the case of general partnership, partners are liable for both the employees of the business and the partners and their actions.
Section 3 of the Limited Liability Partnership Act, 2008 describes how a LLP becomes a corporate body and gets incorporated, along with this it also states that partners have limited liability, perpetual succession and change in partners does not bring any change to the present rights or liabilities of the LLP.
Features of Unlimited Liability Partnerships
In General Partnership, two or more people or entities come together and pool in resources and capital.
There is no maximum limit in the number of partners or members specified in The Partnership Act, 1932 but the Companies Act 1956 specified that the maximum partners or members in banking business is 10 persons and in case of all other business types, the maximum was 20 persons, unless the firm was registered as a Joint Stock Company.
Some other features of this Partnership are that there should be a common objective that is needed to be achieved by all the partners and members. There should be an agreement between all these partners and members.
The common objective should be lawful and only legal activities should be taken up by them and the profit of a particular year is to be shared between all the partners and members in the ratio mutually agreed by them.
Each partner and member has a right to take part in the management of the firm and each of them co-own the partnership firm.
Every partner is an agent of the Limited Liability Partnership, for the sole purpose of business but in no way are they agents for other partners.
Distinction between Limited Liability Partnerships and General Partnerships
The basic and fundamental difference between Limited Liability Partnership and General Partnership is that General Partnership is not separate or has no legal status from its partners and members, while in Limited Liability Partnership, it is separate from its members and partners, since it is a Separate Legal Entity.
Another difference is that in General Partnership, the members and partners are personally liable for the business debts of the company, meaning that the partner’s and the member’s assets would also be attached to pay off the business debts, while in Limited Liability Partnership, the assets and liabilities of the partners and members is separate from the debts of the business firm, the partners and members would not be personally liable for the business, only to the extent of their share in the company.
Need for LLPs in India
In the present time, it is risky to be a partner of a general partnership with unlimited liability. This might be the main reason why partnership firms and professionals have not been able to expand and grow.
That is why a new corporate form is needed, with limited liability of partners and which provides a flexible and efficient environment. Such corporate entity would be suitable for entrepreneurs, professionals and service providers.
A need for an alternative of the General Partnership has been felt in the recent years. Since it is a flexible organisation, members or partners can decide upon their internal structure mutually based on an agreement.
Such an institution is specially needed for the Small Enterprises, since it is not as complex and stringent as the General Partnership and these Small Enterprises have more security over their personal assets.
Limited Liability partnership is not only needed for Small Entrepreneurs or for the people who plan on becoming partners, rather it is also necessary for the people who want to invest in some firms.
With this Partnership, people can invest in businesses without much fear.
This partnership affects the investment and investors because Limited Liability Partnership protects its businessmen and partners and their personal properties and assets and thus, such businesses would result in less business failures as compared to other businesses.
Advantages of Limited Liability Partnerships
Emergence of such a partnership has many benefits for the businesses, small enterprises and the people. The popularity of such partnership is gradually rising and more and more businesses, small enterprises and professional services are adopting this corporate concept.
LLPs might be beneficial to the professionals and service providers and hence, might be suitable for partnership among professionals who are already regulated like company Secretaries, Chartered Accountants, Cost Accountants, Lawyers, and Architects, Engineers and Doctors etc.
The advantages of LLP are that it provides limited liability to its partners; partners are only liable up to the amount contributed by them, their personal assets would not be included or taken at the time of repayment of the firms liabilities. Such a corporate form is most suitable for small and medium enterprises, professional services.
The process of incorporation, management and winding up of such partnership is easier and hassle free as compared to other corporate forms, the cost of incorporation is low and requirement of legal documents and compliance is also less.
Another benefit of LLPs is the aspect of Auditing.
If your turnover for the financial year does not exceed ₹40 Lakh or your capital contribution is not more than ₹25 Lakh, then auditing is not mandatory. If the partners of such partnership mutually agree then such aLimited Liability Partnershipwould be audited according to Rule 24 of LLP, Rules 2009.
Drawbacks/Problems of Limited Liability Partnerships
Limited Liability Partnership though legally accepted, there are many problems relating to it. One of the main problems being that taxation of LLPs has not been mentioned in the Limited Liability Partnership Act, 2008. Another problem is that only private or unlisted public partnership can be converted to LLPs.
The institution of Limited Liability Partnership is very advantageous and beneficial, especially for the Small Enterprises but this concept also has its share of shortcomings, drawbacks and disadvantages.
One of the main problems of the Limited Liability Partnership in India is that one person alone cannot make a Limited Liability Partnership, the minimum persons and members required to make a Limited Liability Partnership are two persons.
Ownership rights of such partnership are not easily transferrable; it needs the consent of all the members and partners. There is no flexibility in the distribution of profits; profits cannot be retained the same way as in other forms of companies.
Incorporation of Limitation Liability Partnerships
You have to register LLPs in India with the Registrar of Companies under the Ministry of Corporate Affairs (MCA) by filling the requisite documents. The necessary documents are mentioned in Section 11 (2) of the LLP Act, 2018.
For incorporation, it is necessary that you have a registered office, where all official documents and notices would be addressed. The Partners in an LLP are called Designated Partners (DPs).
These DPs are required to subscribe a document called “Incorporation Document”. Such document is similar to a Memorandum of Association (MOA) that is filed under Companies Act, 1956.
For a LLP to be registered, it is necessary to have Limited Liability Partnership or LLP as the last words. Any LLP whose name is either undesirable or similar to the name of any other LLP, corporate firm or registered under The Trade Marks Act, 1999 would not be allowed to register a trademark.
Once registered, LLP has the following advantages and capabilities :-
- They can sue and be sued by others.
- They can hold, acquire, own, dispose and develop movable, immovable, tangible or intangible property.
- They can have a Common Seal, if mutually agreed by the partners.
- They can do acts that corporate bodies can legally do.
Contributions of Partners
A partner of LLP may contribute Movable, Immovable, Tangible or Intangible property or any other benefit that would be advantageous for the firm. Such contribution may include money, promissory notes, contracts that are to be performed, etc.
The obligation of a partner to contribute is not definite, it depends from one LLP agreements to another.
Taxation structure of Limited Liability Partnerships
The Limited Liability Act, 2008 does not mention anything about taxation for LLPs. Section 2 (23) (i) of the Income Tax Act, 1961 gives the meaning of “Firm”. As per this definition, “firm” in this Act would mean the same as that given in The Partnership Act, 1932 and would also include LLP as mentioned in the Limited Liability Act, 2008.
The definition of “Partner” and “Partnership” as mentioned in Section 2 (23) (ii) and Section 2 (23) (iii) respectively are the same as defined in The Limited Liability Partnership Act, 2008.
Thus, the treatment of tax in LLP would be the same as that of Traditional Partnership. LLPs are liable to pay 30% of their total income of one financial year as tax. If the total income of an LLP is above ₹1 Crore, then they are liable to pay a surcharge at 10% of such income.
Every LLP has to file return of income no matter what the amount of income or loss for the financial year is.
According to Section 115JC of The Income Tax Act, 1961, in case of inadequacy of profits, LLPs still have to pay a Minimum Alternative Tax of 18.5% on the “Adjusted Income”.
Conversion of Company or General Partnership to Limited Liability Partnership
Chapter 10 of The LLP Act, 2008 deals with the conversion of corporates and firms to LLP.
Conversion of firms, private companies, and unlisted private company into a LLP is mentioned in Sections 55, 56 and 57 of The LLP Act, 2008. Such bodies can only be converted if they fulfil the provisions that are mentioned in the Second Schedule of this Act.
- Related Read: LLP vs Private Company: Which Should You Go For?
Winding up of an Limited Liability Partnerships
Winding up an LLP means closing up of a company. As per Section 63 of the LLP Act 2008, Winding up of a LLP may either be voluntary or by a Tribunal and a LLP would be dissolved.
Winding up is done by paying off liabilities, distributing surplus and realizing assets and distributing amongst all partners according to their share in the LLP.
Section 64 of this Act deals with winding up by the Tribunal. The process of winding up can be initiated by the Tribunal for the following reasons:
- If the partners of the LLP want to wind up.
- If for more than 6 months, there are less than 2 partners.
- The LLP cannot pay back its debts.
- If the LLP has not acted according to the interests of the Integrity and Sovereignty of India, against the Security of State or Public Order.
- The LLP has not filed Statement of Accounts or Annual Returns with the Registrar for more than five consecutive years.
- If the Tribunal believes that the LLP should be wound up.
The MCA introduced the Limited Liability Partnership (Amendment) Rules, 2017 which introduced Form 24 that allows LLPs to close by striking off its name. This can be done by sending an application to the Registrar by the LLP. This reduces the time and effort for winding up an LLP.
Unlimited Liability in case of Fraud
The essence of LLP is that partners are not personally liable for the repayment of debts of the firm, though there is one exception to this feature. Section 30 of the LLP Act, 2008 states that partners of an LLP would be liable unlimitedly if in case, a LLP or any of its partners commit an act with the intention to defraud its creditors or anyone else for their own gain.
Not only this, if the LLP has knowledge of the fraudulent act committed by the partner, the Limited Liability of the LLP gets converted into Unlimited Liability.
Where a fraudulent act is committed with the intention to defraud the creditors, the partner committing such an offence is liable to be punished with imprisonment up to 2 years and a fine of not less than ₹50 Thousand and it may go up to ₹5 Lakh.
Investment by NRIs in Limited Liability Partnerships
As of 2015, Foreign Nationals or NRIs can register an LLP without much hassle. This is possible because of the relaxation of FDI Norms in India by which NRIs can invest 100% through FDI in specified activities/sectors where 100% Direct FDI Investment is allowed.
Since, there are a few problems and drawbacks in the concept of Limited Liability Partnership and the Limited Liability Partnership Act, 2008, it is necessary that they be looked into.
The provisions relating to Limited Liability Partnership should be made more precise and accurate and should be favourable to such companies and partners and members of such company. The process of taxation for such Partnership should be made flexible and favourable to the partners and members.
Limited Liability Partnership Actwas enacted in 2008 after a lot of thought and deliberation.
This Act is very simple and brief in nature.
Because of the Limited Liability of the partners this Act has become quite popular. It allows partners to focus on core activities and is flexible and not restrictive, especially among SMEs and Professional firms like Chartered Accountants, Company Secretary, Cost Accountant, Law Firms, etc.
The process of Incorporation and even winding up has become hassle free and can be done in a few easy steps online. This LLP Act is not only for newly registered LLPs, but also for firms, private companies and unlisted private companies registered under Partnership Act, 1932 looking to convert to LLP.
LLP is not only limited to Indian Nationals, rather the Act allows Foreign Nationals to start LLPs in India as well.
For any queries or help with your startup, feel free to book a free consultation with us. You may also check out our list of services if you need any help with your business efforts.
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Author Bio: Varsha Chamakura is a BA,LLB(H) student at Symbiosis Law School, Hyderabad and an intern at WinSavvy. Connect with her on LinkedIn.