The Limited Liability Partnership (LLP) is a business structure regulated by the Limited Liability Partnership Act of 2008, which came into effect on April 1, 2008. This act consists of 81 sections and 4 schedules, while the LLP Rules 2009 prescribe various forms required for successful LLP agreements. After LLP registration, the LLP Agreement plays a pivotal role in defining the rights, duties, and operational framework of an LLP, ensuring its smooth operation. In this article, we delve into the significance of LLP agreements, their content, types, and their role in tax planning.
What is a Limited Liability Partnership?
Limited Liability Partnership is governed by the Limited Liability Partnership Act, 2008 which came into force on April 1, 2008. LLP Act, 2008 constitute 81 Sections and 4 schedules. So far LLP Rules 2009 has prescribed many forms to be filed with MCA for a successful LLP agreement.
Meaning of LLP Agreement and Importance
LLP Agreement is a written contract between the partners of the LLP or between the LLP and its designated partners. It establishes the rights and duties of the designated partners toward each other as well as toward the LLP. It’s compulsory to execute and file the LLP agreement with the MCA within 30 days of the incorporation of the LLP.
The LLP agreement creates the foundation for the smooth running of a Limited Liability Partnership. It defined the outlook and set well-defined concepts for decision-making, adding a new partner and leaving existing partners or changing roles. Therefore, well well-structured detailed LLP Agreement sets the groundwork and acts as a backbone to strengthen the firm. It is the guide that gives directions to LLP registration.
What are the types of LLP Agreements?
The following are the main types of LLP agreements.
Equal Rights LLP
In such an LLP, all partners contribute equal capital, time and effort in the LLP. All receive the same remuneration and share equal profit and loss. The decisions are mutually taken. All the partners have the same rights, and liabilities and contribute equally to the management as well as the business.
Differential Rights LLP
In such a LLP, Partners have a different amount of contribution in terms of capital, energy, and time as well as liability. Hence the right to profit sharing, decision-making, and managerial rights differs. It can be classified into
- Agreement wherein rights are in the ratio of contribution and the profit sharing ratio. This means that the level of contribution may decide the level of profit sharing only.
- Agreement wherein rights are in the ratio of contribution only, but profit rights differ. That is, the rights of management may be equal or in some other ratio
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Contents of an LLP Agreement
A well-structured and briefly summarized agreement is very much required for the successful functioning of an LLP. Every LLP Deed/LLP agreement format contains the below-mentioned provisions:
1. Name of the LLP
The name must end with LLP or Limited Liability Partnership as per the provisions of the LLP Act, 2008.
2. Date of the agreement and parties to the agreement
After incorporation, the agreement is to be executed within 30 days as per the LLP Act, 2008. LLP agreement is between all the partners and the designated partners. The agreement must contain the date and of entering into an agreement.
3. Introductory Provisions
It includes all the definitions of terms used in the LLP agreement.
4. Place of business
The agreement must contain the place of business which is the registered office of the LLP.
5. Business activity
It is important to include the business activities to be carried on by the LLP. It must be in the same nature as approved by the MCA at the time of incorporation of LLP.
If the LLP is formed for a specific period, then such period must be mentioned after which the LLP must be dissolved. LLP can also be formed for certain objectives, after completion of such objectives; the LLP must be closed. In the absence of a specific period or object, one can include the duration of the LLP as up to the period until which, it is terminated with the consent of the partners of the LLP.
7. Accounting and auditing etc.
This includes how to maintain the books of accounts, whether it is cash basis or accrual basis. During this period a partner can access books of accounts, whether an audit is mandatory or will follow the rules mentioned in the LLP Act.
8. Partners’ contribution and method of contribution
Represents the contribution ratio of partners in terms of capital invested, interest on contribution, Profit Sharing Ratio as well as the time period after which the capital can be withdrawn by any of the designated partners. It is important to maintain a good relationship between partners.
9. Record keeping and bank arrangement
It includes the maintenance, storage, and recording of books and other related documents.
10. Allocation and distribution
It clarifies the system of profit sharing among all partners and distribution including interim distribution or final distribution. In other words, it portrays the distribution of Profit between the partners as per the decided ratio.
11. Disassociation of partner
Specifies the terms and conditions when partners can withdraw or disassociate from the LLP. This is one of the vital clauses of the LLP Agreement. It states the rights of partners and rights on assets after disassociation.
12. Partners’ rights to records
Each partner has the right to check the records to avoid misappropriation.
13. Management and fiduciary duty
It takes into account the liability of the management of an LLP and the appointment of the person liable for taking care of confidential information of the LLP.
14. Arbitration and general provisions
This provision illustrates that in the case of conflict between parties, the parties shall involve an arbitrator/ arbitrators. The provision also lists the details of the chosen arbitrator/arbitrators or the pre-requisite the arbitrator to-be appointed should have. Additionally, the decision of such arbitrator/arbitrators will be binding on both parties.
15. Other Provisions
Several other provisions also come under the LLP Agreement such as admission of new partners and its rights thereafter and changes in the designation. Such as provisions illustrating the right to take part in business, title and interest in assets, right to access, right to continue the independent business, and right to recover the due debt. and selling, and transferring partnership rights to existing partners and other partners. Also, provisions that cover the mode, time period of the meeting of partners, the decision-making process, the agenda and the voting rights of the partners.
It also includes the rights of designated partners as well as how those rights can be availed from the LLP. It considers methods of readmission of partners as well as cross-purchase. This clause illustrates the right of redemption of a partner’s rights. The agreement should be drafted to meet the needs of all the partners without compromising on the aim and growth. The sole agreement may not fit all the partners into a satisfactory zone.
It’s important to note that you can easily make changes to your LLP agreement in the future as well. So with the evolving needs of your firm, your LLP agreement can also evolve.
Provisions in the Absence of LLP Agreement
If there is no registered LLP agreement, the provisions of Schedule I of the LLP Act, 2008 will apply to all the partners. That is the basic LLP Deed/LLP agreement format will apply. The provisions of the sample LLP Deed/LLP agreement format are as follows:
- All partners of LLP will share profits and losses equally.
- Partners will have indemnity for any personal payments made by them in the ordinary course of business or anything done for the preservation of assets of the business
- Partners must indemnify the LLP in case of losses caused by any partner’s fraudulent acts
- All partners can take part in the management of the firm
- No partner is entitled to any salary for the management of the LLP
- Admission of any new partner will need the permission of all the partners.
- Any other issue will be decided by a vote of all the partners, and a simple majority will need to pass a resolution. But if the firm wants to change the nature of the business, all the partners must consent.
- The partners cannot force out a partner unless there is an express agreement between partners.
- The act requires any disputes between the partners of an LLP that are not resolved amongst themselves to be referred for arbitration.
LLP Agreement and Tax Planning
Limited Liability Partnerships (LLPs) operate as Limited Liability “Partnerships,” and as such, they face the same taxation rules as Partnership firms. However, to adhere to these rules, the LLP must undergo proper incorporation. In other words, there must be a relation of partnership between the parties concerned through a proper instrument i.e. LLP Agreement. The individual shares of partners must be well specified in the agreement. It shall contain all the details related to the partnership,such as their share, and contribution, etc.
In order to avail of tax benefits, take the following things into account while drafting your LLP agreement:
- Adding a provision of Interest on the capital contribution that will be deducted from income within the overall limits
- The agreement must clarify the working partners and the remuneration payable to them so as to reduce the income and hence the tax liability. Remember, to include partners’ names as well as define them as “working partners” in the LLP agreement to avail of this specific benefit.
In essence, the LLP Agreement serves as the cornerstone of a Limited Liability Partnership, providing the necessary structure and guidelines for its functioning. It defines everything from business activities to profit-sharing ratios and the disassociation of partners. Moreover, it plays a crucial role in tax planning, enabling partners to optimize their tax liabilities. However, in the absence of a registered LLP Agreement, the provisions of Schedule I of the LLP Act, 2008 come into play, outlining default rules that govern LLPs.