Module 1

Helping the client choose the appropriate

vehicle of doing business
 
 
4 major vehicles: proprietorship, partnership, LLP or a Company
 
Help your client understand the advantages of one business
vehicle over another by asking few questions concerning
commercial goals of the entrepreneurs.
 
(A)Major features of sole proprietorship:
1-unlimited liability as the owner is personally liable;
2-It is not a separate legal entity;
3-It does not have perpetual succession;
4-After tax earnings(application of tax slabs to the income of SP);
5-No incorporation process but relevant licences are required;
6-Compliance requirements are almost nil.
 
 
(B)Major features of partnership: Pooling of resources through
joining of hands(S. 464);
It is not separate legal entity from partners. Partners are
collectively referred to as a firm;
It does not have perpetual succession; unlimited liability of the
partners(Ss. 2, 4, 5, 9, 18, 19,26); after tax earnings;
no incorporation process
 
(C )Major features of LLP: Pooling of resources through joining
of hands(S. 6);
It is separate legal entity, separate from its partner’s \ designated
partners;
Limited Liability + flexibility of partnership
; perpetual succession +separate legal entity(S. 3);
After tax earnings;
detailed incorporation process(S. 11);
compliances are less and simple in comparison to a company(S.
34 and 35 of LLP Act).
 
A limited liability partnership (LLP) is a body corporate formed and
incorporated under the Limited Liability Partnership Act, 2008. It is a
legally separated entity from that of its partner.
A LLP is liable to the full extent of its assets but liability of the partners is
limited to their agreed contribution in the LLP. Since liability of the
partners is limited to their agreed contribution in the LLP, it contains
elements of both a corporate structure as well as a partnership firm
structure. The basic purpose of the legislation is to provide for a
new vehicle for conduct of business with the twin objectives of
limiting the liability of the persons undertaking that business and
simultaneously providing them absolute flexibility in the manner
of running the business and defining, managing and regulating
their relations inter-se. The general restrictions of partnerships,
i.e. unlimited liability of partners impairs their entrepreneurial
growth which has led to the emergence of the LLP Act; a notable
attribute of this legislation being insulating the personal assets of
the partners from meeting the liability of the LLP.
There is no personal liability of a partner except in the case of a fraud.
Moreover, a partner is not responsible or liable for another partner’s
misconduct or negligence as there is no joint liability in the case of LLP.
In India, LLPs are governed by the provisions of the Limited Liability
Partnership Act, 2008 (LLP Act) (effective by way of notification dated 31
March 2009) and the Limited Liability Partnership Rules, 2009 (LLP
Rules)
 
 
 
(D)Company as a vehicle of doing business
 
 
Principal function of corporate law is to provide business
enterprises with a legal form that possesses these five core
attributes. By making this form widely available and user-
friendly,
 corporate law enables entrepreneurs to transact easily through the
medium of the corporate entity, and thus lowers the costs of
conducting business. Basic legal characteristics of the business
corporation are: legal personality, limited liability, transferable
shares, delegated management under a board structure, and
investor ownership.
 
Contracting efficiencies (some familiar and some not) that
accompany these five features of the corporate form.
 
1. Legal Personality-
1(a)Nexus for contracts- permitting the firm to serve as a single
contracting party that is distinct from the various individuals who
own or manage the firm. In so doing, it enhances the ability of
these individuals to engage together in joint projects.
1(b)- Entity shielding-The core function of this separate
patrimony has been termed ‘entity shielding,’ to emphasize that it
involves shielding the assets of the entity—the corporation—from
the creditors of the entity’s owner.
 
 
2. Limited Liability- The corporate form effectively imposes a
default term in contracts between a firm and its creditors
whereby the creditors are limited to making claims against
assets that are held in the name of (‘owned by’) firm itself, and
have no claim against assets that the firm’s shareholders hold in
their own names.
 
2(a) Limited liability is a (strong) form of ‘owner shielding’ that
is effectively the converse of the ‘entity shielding’ . Entity
shielding protects the assets of the firm from the creditors of the
firm's owners, while limited liability protects the assets of the
firm’s owners from the claims of the firm’s creditors.
Entity shielding protects the assets of the firm from the creditors of
the firm’s owners, while limited liability protects the assets of the
firm’s owners from the claims of the firm’s creditors. Together, they
set up a regime of ‘asset partitioning’ whereby business assets are
pledged as security to business creditors, while the personal assets of
the business’s owners are reserved for the owners’ personal
creditors.

 
3. Transferable shares- Transferability permits the firm to conduct
business uninterruptedly as the identity of its owners changes,
thus avoiding the complications of member withdrawal that are
common among, for example, partnership. This in turn enhances
the liquidity of shareholders’ interests and makes it easier for
shareholders to construct and maintain diversified investment
portfolios.
3.1 -Fully transferable shares do not necessarily mean freely
tradable shares. We refer to corporations with freely tradable
shares as ‘open’ or ‘public’ corporations, and we use the terms
‘closed’ or ‘private’ corporations to refer to corporations that
have restrictions on the tradability of their shares.
3.2 Listed or Unlisted corporation
3.3- Concentrated shareholding or dispersed shareholding. These
are the forces that shape the corporate law.
 
4-Delegated management with a board structure - Corporate law
typically vests principal authority over corporate affairs in a board
of directors or similar committee organ that is periodically
elected, exclusively or primarily, by the firm’s shareholders.
4.1- Two-tier boards or one-tier board- First supervisory tier
and second managing tear.
4.2-The board of a corporation is elected—at least in substantial
part—by the firm’s shareholders. The obvious utility of this
approach is to help assure that the board remains responsive to the
interests of the firm’s owners, who bear the costs and benefits of
the firm’s decisions
 4.3-Though largely or entirely chosen by the firm’s
shareholders, the board is formally distinct from them. This
separation economizes on the costs of decision- making by
avoiding the need to inform the firm’s ultimate owners and obtain
their consent for all but the most fundamental decisions regarding
the firm.
4.4-Fourth, the board ordinarily has multiple members. This
structure—as opposed, for example, to a structure concentrating
authority in a single trustee, as in many private trusts—facilitates
mutual monitoring and checks idiosyncratic decision-
making.
 
3. Investor Ownership- There are two key elements in the ownership
of a firm, as we use the term ‘ownership’ here: the right to control
the firm, and the right to receive the firm’s net earnings. in an
investor-owned firm, both the right to participate in control—
which generally involves voting in the election of directors and
voting to approve major transactions— and the right to receive
the firm’s residual earnings, or profits, are typically proportional
to the amount of capital contributed to the firm.
 
 
4. After tax earning & Dividend distribution tax
 
5. Incorporation process
 
6. Compliance requirements: AOC-4 for filing of financial
statements' MGT 7 for filing of Annual returns, etc
 
7. Annual General Meeting and 4 Board meetings
 
8. Audit

SELECTED STATUTORY PROVISIONS

Prohibition of Association or Partnership of Persons Exceeding

Certain Number
A. 464 r/w the Companies (Miscellaneous) Rules, 2014, provides
that no association or partnership shall be formed, consisting of
more than 50 persons for the purpose of carrying on any business
that has for its objects the acquisition of gain by the association
or partnership or by individual members thereof, unless it is
registered as a company under the Act or is formed under any
other law for the time being in force.
 
Ss. 2, 4, 5, 9, 18, 19,26 of the Partnership Act, 1992
 
S.2
DEFINITIONS.
In the Act, unless there is anything repugnant in the subject or
context,
(a) an "act of a firm" means any act or omission by all the
partners, or by any partner or agent of the firm which gives rise
to a right enforceable by or against the firm;
(d) "third party" used in relation to a firm or to a partner therein
means any person who is not a partner in the firm; and
 
Section4
DEFINITION OF "PARTNERSHIP", "PARTNER",
"FIRM" AND "FIRM-NAME".
"Partnership" is the relation between persons who have agreed to
share the profits of a business carried on by all or any of them
acting for all.
Persons who have entered into partnership with one another are
called individually, "partners" and collectively "a firm", and the
name under which their business is carried on is called the "firm-
name".
 
Section5
PARTNERSHIP NOT CREATED BY STATUS.
The relation of partnership arises from contract and not from
status; and, in particular, the members of a Hindu undivided
family carrying on a family business as such, or a Burmese
Buddhist husband and wife carrying on business as such are not
 partners in such business.
 
Section9
GENERAL DUTIES OF PARTNERS.
Partners are bound to carry on the business of the firm to greatest
common advantage, to be just and faithful to each other, and to
render true accounts and full information of all things affecting
the firm to any partner, his heir or legal representative.

Section 11

DETERMINATION OF RIGHTS AND DUTIES OF PARTNERS

BY CONTRACT BETWEEN THE PARTNERS.

(1) Subject to the provisions of this Act, the mutual rights and duties
of the partners of a firm may be determined by contract between the
partners, and such contract may be express or may be implied by a
course of dealing. Such contract may be varied by consent of all the
partners, and such consent may be express or may be implied by a
course of dealing.

(2) AGREEMENTS IN RESTRAINT OF TRADE.

Notwithstanding anything contained in section 27 of the Indian
Contract Act, 1872, such contracts may provide that a partner shall
not carry on any business other than that of the firm while he is a
partner.

 
Section18
PARTNER TO BE AGENT OF THE FIRM.
Subject to the provisions of this Act, a partner is the agent of the
firm for the purposes of the business of the firm.
 
 Section19
IMPLIED AUTHORITY OF PARTNER AS AGENT OF
THE FIRM.
(1) Subject to the provisions of section 22, the act of a partner
which is done to carry on, in the usual way, business of the kind
carried on by the firm, binds the firm.
The authority of a partner to bind the firm conferred by this
section is called his "implied authority".

Section 25
Liability of a partner for acts of the firm.—Every partner is liable, jointly
with all the other partners and also severally, for all acts of the firm done while
he is a partner.

 
Section26
LIABILITY OF THE FIRM FOR WRONGFUL ACTS OF
A PARTNER.
Where, by the wrongful act or omission of a partner acting in the
ordinary course of the business of a firm or with the authority of
his partners, loss or injury is caused to any third party, or any
penalty is incurred, the firm is liable therefor to the same extent
as the partner.
 
LLP ACT , 2008
 
3. Limited liability partnership to be body corporate.—(1) A
limited liability partnership is a body corporate formed and
incorporated under this Act and is a legal entity separate from
that of its partners.
(2) A limited liability partnership shall have perpetual
succession.
(3) Any change in the partners of a limited liability partnership
shall not affect the existence, rights or liabilities of the limited
liability partnership.
 
4. Non-applicability of the Indian Partnership Act, 1932.—Save
 as otherwise provided, the provisions of the Indian Partnership
Act, 1932 (9 of 1932) shall not apply to a limited liability
partnership.
 
7. Designated partners.—(1) Every limited liability partnership
shall have at least two designated partners who are individuals
and at least one of them shall be a resident in India:

Section 23:(1) Save as otherwise provided by this Act, the

mutual rights and duties of the partners of a limited liability
partnership, and the mutual rights and duties of a limited liability
partnership and its partners, shall be governed by the limited liability
partnership agreement between the partners, or between the limited
liability partnership and its partners

 
26. Partner as agent.—Every partner of a limited liability
partnership is, for the purpose of the business of the limited
liability partnership, the agent of the limited liability partnership,
but not of other partners.
 
27. Extent of liability of limited liability partnership.
(3) An obligation of the limited liability partnership whether
arising in contract or otherwise, shall be solely the obligation of
the limited liability partnership.
(4) The liabilities of the limited liability partnership shall be met
out of the property of the limited liability partnership.
 
28. Extent of liability of partner.—(1) A partner is not personally
liable, directly or indirectly for an obligation referred to in sub-
section (3) of section 27 solely by reason of being a partner of
the limited liability partnership.
(2) The provisions of sub-section (3) of section 27 and sub-
section (1) of this section shall not affect the personal liability of
a partner for his own wrongful act or omission, but a partner
shall not be personally liable for the wrongful act or omission of
any other partner of the limited liability partnership.