Understanding the Concept of LLP and its tax implications

Introduction

LLP act was implemented from 1st of April 2009 in India. Nonetheless, the LLP structure never became as famous as it was expected earlier. Nevertheless, after the enactment of the companies act, there is a reinvigorated interest in the LLP structure.

There is a high inquiry from both new businesses who intend to make an informed decision as to whether to set up themselves as a private limited company or as LLP or from the existing companies to explore the possibility and advantages of conversion into LLP.

Primary characteristics of LLP

– LLP is a body corporate and legal entity different from its partners. LLP has continuous succession. All the partners of the LLP should act as the agent of the LLP but not of the other partners. It has the potential to enter into contracts and holding properties in its own name.

Also Read: How to add new partner in an LLP?

– LLP is managed according to the LLP agreement and within the framework provided by the LLP act, 2008. In the absence of the LLP agreement as to any matter, liabilities of partners, execution of mutual rights should be determined or governed, as per the stated provision given under schedule I to the LLP act. LLP agreement should specify the partner remuneration and interest on capital to be beneficiary of deduction in income tax.

– LLP registration is mandatory under the act. The incorporation certificate is conclusive proof of its formation. All partners will have to acquire DSC and DIN (form-7), take the approval for LLP name (form-1), submit for incorporation (form-2), acquire incorporation certificate, submit for LLP agreement (form-3) and submit for partner consent (form-4). Stamp duty on the LLP agreement has to be paid according to the state stamp act.

– Only body corporate or individual can become a partner in LLP. A HUF or firm is neither a body corporate or an individual, and thus they are not allowed to be a partner in LLP. There is no upper limit on a maximum number of partners in LLP, but it requires a minimum of two partners.

– LLP is obliged to maintain proper books of accounts at its registered office. They are obliged to submit a statement of account and solvency within one month from the end of six months from the closure of FY via form-8 and an annual return with the Registrar within two months from the closure of FY via form-11. The audit is compulsory only if your turnover goes beyond Rs. Forty lacs and contribution of Rs. Twenty-five lacs, unlike a company that is obliged to audit even if there is no transaction. Also, unlike a company, they can follow either of mercantile system or cash system.

– The minimum capital contribution is Rs. One compared to a private limited company, where the minimum paid-up capital has to be Rs. 1 lac. Nonetheless, LLP cannot raise money from the public.

– Private company, a firm or an unlisted public company can convert into LLP as per LLP act provision, 2008. On such conversion, on and from the date of the certificate of registration issued by Registrar in this regard, the conversion effects as specified in LLP act, 2008, all tangible (movable and immovable) and intangible property, all assets, liabilities, interests, rights privileges, obligations concerning firm or company, should be transferred to and should vest in the LLP without further act/deed and company or firm should be deemed to be dissolved and removed from the records of Registrar.

– LLP is not allowed to be formed for charitable purposes. It can be set up only to earn profit as a profession or business. Professionals can form multi-disciplinary professional LLP, which was not possible earlier.

– LLP act is straightforward than the companies act and does not have limitations like accepting deposits, party transactions, loans to directors, making loans and investments, corporate social responsibility and so forth.

– It is not compulsory to register charges, unlike a company. It could be the most vital obstruction to raise the loans from banks and FIs, and there is some resistance in authorising the loans to LLP.

Taxation in LLP

Partnership formulated under the LLP Act, 2008 will be treated as partnership firm akin to a partnership formed under Indian partnership act, 1932. According to income tax, 1961, the word partner, partnership, and firm should include LLP, partner of the LLP, and LLP. Both of them can get a deduction of interest on loan and capital from partners up to 12% on salary, PA, bonus commission, royalty or remuneration by whatever name called to a working partner can deduct up to the maximum following limit. a) on first Rs. Three lacs of book profit or in case of loss Rs. 1.5 lacs or 90% book profit, whichever occurs first. b) on the balance of book profit at the rate of 60% of such book profit above Rs. 1.5 lacs (section 40(b)). And such interest, remuneration will be chargeable as business profit in the hands of a partner. Share of profit of partner from the LLP/firm is exempted under section 10(2A). That’s why though LLP is a body corporate, but its taxation is similar to a firm. The only distinction is that while section 44AD is applicable to a firm, it is not applied to LLP.

Also Read: LLP Taxation – Income Tax & Alternate Minimum Tax (AMT)

Specific aspects related to LLP Taxation

Introduction of capital asset into partnership

According to section 45(3) of income tax, capital gain to partner will be calculated by deeming sale consideration as the value at which it is recorded in books by LLP/partnership. Nonetheless, according to rule 23 of the LLP rules, 2009, when a partner introduces contribution by non-cash means, it will have to be valued by CA in books of LLP accordingly.

Capital withdrawal

According to section 45(4), FMV on the date of such transfer would be deemed to be the total value of consideration on the distribution of capital asset by the firm, whether upon dissolution or otherwise.

– On the conversion of a firm into LLP is exempted from capital gain tax if there is no change in rights and obligations of partners and there is no transfer of liabilities or assets post the conversion.

– Converting a private limited company or unlisted public company into LLP, according to section 47, will not be considered as a transfer in the hands of the company or hands of shareholders if certain given conditions are met in the act.

– Carry forwarding and setting off the losses on conversion of the company to LLP; according to section 72A, losses can be carried forward if provisions of section 47 are adhered to. Nonetheless, the MAT tax credit is not allowed to take forward.

– Distinction in taxation with a corporate. The company is obliged to pay MAT (minimum alternate tax), whereas the LLP is obliged to pay AMT (alternate minimum tax).