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Limited LiabiIity Partnership (LLP

)
in India
4ntents
>Overview of LLP law and regulations
>Overview of FDÌ/FEMA regulations
>Tax analysis
>LLP in general
>Conversion of firm into LLP
>Conversion of company into LLP
>Foundation planning structures
;er;iew 41 LLP Iaw and reguIati4ns
uidance on LLP in Ìndia Page 4
Indian LLP : A Snapsh4t
> Two or more persons associating for carrying on lawful business with a view
to profit can incorporate LLP [Sec11(1)(a) of LLP Act]
> Key attributes of an Ìndian LLP
> Ìncorporated entity: Body corporate formed and incorporated under the Limited
Liability Partnership Act, 2008 (LLP Act)
> Partners' liability limited to its contribution
> Perpetual existence independent of its partners
> Separate legal entity distinct from its partners: Obligations of LLP is solely of
itself, not its partners; can acquire/ hold/ dispose off property; can sue and be
sued; deals with its partners as with creditors/third party
> Dealing with partners at par with external party
> Change in partners does not impact LLP's existence, rights or its liabilities
> Ìndicative procedural steps/flow chart to form an LLP (Refer Annexure Ì)
> Broad Contents of Ìncorporation Document/Statement (Refer Annexure ÌÌ)
uidance on LLP in Ìndia Page 5
Indian LLP : A Snapsh4t
> LLP Agreement governs an LLP
> Mutual rights, duties of partners can be agreed in the LLP Agreement
> Contents of LLP agreement in public domain (Refer Annexure ÌÌÌ)
> Unless LLP Agreement specifies, certain default provisions apply (Refer Annexure ÌV)
> Partner of an LLP
> Can be an Ìndividual, Ìndian/foreign company or Ìndian/foreign LLP: requires a minimum of
2 partners
> is an agent of LLP for the purpose of business of LLP, but not of other partners
> Not liable for LLP obligation unless it relates to his own wrongful act or omission
> Contribution by partner
> Can be tangible movable or immovable or intangible property or other benefit to the LLP
> Can be contracts for services performed or to be performed
> to be valued by a CA /cost accountant / a valuer on the panel*
*Requires independent examination of tax implications.
uidance on LLP in Ìndia Page 6
Indian LLP : A Snapsh4t
> Designated partner (DP)*
> Requires a minimum of 2 "individual¨ DP, one of whom has to be an Ìndian Resident
> Where LLP consists of only "body corporate¨ partners, can nominate a DP
> A DP is responsible for
> compliance obligations, penalties, receive notices, verify statement of account/annual
solvency status, etc
> matters specified in the LLP Agreement
> DP remains responsible for his liability even after LLP name is struck off
> For Financial disclosure (refer Annexure V )
> Overseas LLP having an Ìndia place of business (refer Annexure VÌ)
> For other miscellaneous provisions (refer Annexure VÌÌ)
*Refer FDI regulations section for specific requirements of DP in case LLP has FDI
The LLP Act creates various obligations on DP while not conferring any special power. DP has
right of management only to the extent conferred by the LLPAgreement.
uidance on LLP in Ìndia Page 7
ertain pr4;isi4ns 41 reIe;ance in the LLP Act
> A partner can retire (cease to be a partner) with 30 days notice. Demise,
lunacy, insolvency can also lead to cessation of partnership interest.
> On cessation of partnership interest, right of erstwhile partner for settlement
at book value unless otherwise provided in the LLP agreement.
> Partner can assign, wholly or in part, his interest/ right to share of
profits/losses etc. The assignee gets rights of management and access to
LLP information only post suitable modification of the agreement.
uidance on LLP in Ìndia Page 8
#e4rganizati4n pr4;isi4ns in the LLP Act
> Special procedure in LLP Act for conversion of:
> A partnership firm into LLP
> A private company into LLP
> Unlisted public company into LLP
> LLP Act has provisions dealing with the following*.
> Hiving off or separation (demerger) of undertaking, property or liabilities of LLP.
> Compromise, arrangement or reconstruction between LLP and creditors.
> Compromise, arrangement or reconstruction between LLP and its partners.
> Amalgamation of two LLPs.
> Voluntary, involuntary winding up of LLP.
*Requires independent examination of tax implications
uidance on LLP in Ìndia Page 9
4n;ersi4n 41 Firm int4 LLP (hapter X #ead with
ScheduIe II)
> Pre-conditions of conversion
> Firm as defined in Ìndian Partnership Act may convert.
> Partners of LLP into which the firm is to be converted should comprise of all the
partners of the firm and n4 4ne eIse.
> Effect of Registration:
> Ìn terms of section 58(4) of LLP Act:
> LLP comes into being from date of registration
> There is transfer of assets, etc
> Firm shall be deemed to be dissolved and removed from the records of the ROF
> Transfer and vesting in LLP without further assurance, act or deed as vesting in
the firm as on the date of registration :
> All tangible (moveable and immoveable) property.
> All intangible property.
> All assets, interests, rights, privileges relating to the firm.
> All liabilities and obligations relating to the firm.
> Whole of the undertaking of the firm.
The above to take effect notwithstanding anything contained in any other law
uidance on LLP in Ìndia Page 10
4n;ersi4n 41 1irm int4 LLP..c4nt
> Effect of Registration......Cont....
> Every agreement to which the firm was a party to have effect as if LLP were a
party: applies irrespective of whether right/liabilities under agreement could be
assigned
> Deeds, Contracts, Schemes, Bonds, Agreements, applications, instruments
and arrangements subsisting immediately before date of registration continue
as if LLP were a party
> Employment terms continue as if LLP were the employer
> Appointment of firm in any role/capacity and authority/power conferred on firm
to take effect/operate with substitution of LLP
> Approval, permit, license issued under any statute to be conferred on LLP
subject to provision of the relevant statute
> All court proceedings, any conviction, Ruling of the Court / authority by or
against the firm to be continued, completed and enforced by or against LLP
> LLP to take necessary action of notifying the authority on conversion
uidance on LLP in Ìndia Page 11
4n;ersi4n 41 Firm int4 LLP .c4nt
> Partners of LLP jointly and severally liable for
> liabilities and obligations of the firm incurred prior to the conversion (or) which
arose from any contract entered into prior to conversion
> For a year, LLP to mention in every official correspondence
> A statement of conversion
> Name and registration number of the erstwhile firm
> For procedure on conversion please refer Annexure VÌÌÌ
uidance on LLP in Ìndia Page 12
4n;ersi4n 41 4mpany int4 LLP (hapter X read with
ScheduIe III)
> Provisions largely at par conversion of firm into LLP (please refer earlier
slides)
> Some points of substantive differences
> Company can apply for conversion only if :
> There is no security interest in its assets subsisting or in force at the time of
application; and
> The partners of LLP to which it converts comprise all the shareholders of the company
and no one else.
> Company is deemed to be dissolved and removed from the records of ROC
> No provision for unlimited liability in respect of pre conversion period / pre-
conversion contracts.
> Procedure of conversion of company into LLP ÷ Annexure ÌX
uidance on LLP in Ìndia Page 13
4mparati;e AnaIysis
PA#%I&LA#S GENE#AL PA#%NE#SHIP LLP P#IVA%E PANY
embers 2 to 20 Minimum 2 partners 2 to 50 shareholders
LiabiIity Unlimited, Partners jointly
and severally liable for
action
Limited except in case of
fraud, wrongful act
Limited
#egistrati4n Optional Registration with ROC
required
Registration with ROC
required
D4cuments t4 be 1iIed None unless registered File annual accounts
and submit annual
statement on solvency
Annual Statement of
accounts, articles,
memorandum, etc.
Diss4Iuti4n By agreement, mutual
consent, etc.
By agreement or by
order of National
Company Law Tribunal
By court order once the
affairs of the company
have been wound up
%rans1er / Inheritance 41
shares
Not transferable Transferable, but
transferee may not have
management rights
Transferable with the
consent of Board of
Directors
Separate LegaI Entity No Yes Yes
Durati4n Not perpetual Perpetual Perpetual
;er;iew 41 FDI/FEA reguIati4ns
Acknowledgement and a word of caution
The content in this section is developed based on valuable inputs provided by the regulatory team.
The issues identified are indicative and a detailed analysis is beyond the scope of this document.
Each case would need to be dealt with based on its specific facts in consultation with the regulatory
team.
uidance on LLP in Ìndia Page 15
#eguIat4ry 1ramew4rk
> Foreign direct investment (FDÌ) policy administered by overnment of Ìndia and
regulated by Reserve Bank of Ìndia (RBÌ)
> Foreign Exchange Management Act, 1999 (FEMA) and regulations regulate inbound
& outbound investment. Ìllustratively,
> FEM (Transfer or Ìssue of Security by a person resident outside Ìndia) Regulations, 2000
(Ìnbound Ìnvestment regulations)
> FEM (Transfer or Ìssue of any foreign security) Regulations, 2004 (Outbound Ìnvestment
regulations)
> FEM (Ìnvestment in Firm or Proprietary concern in Ìndia) Regulations, 2000 (Partnership
investment regulations)
> FDÌ generally understood to mean investments by way of equity shares, fully
convertible preference shares and convertible debentures
uidance on LLP in Ìndia Page 16
#eguIat4ry 1ramew4rk
> Until recently,
> FDÌ allowed into "Ìndian Company¨
> "Ìndian Company¨ means "Company¨ incorporated in Ìndia
> FDÌ allowed only in "capital instruments¨ of Ìndian Company i.e. Equity Shares,
Compulsory Convertible Preference Shares (CCPS) and Compulsory
Convertible Debentures (CCDs).
> "Partnership interest¨ in LLP not equated with such shares / CCPS / CCDs
> Broadly, FDÌ permitted under 2 routes:
> Automatic route - No prior permission, only requirement to inform RBÌ within 30
days of inflow / issue of shares
> Approval route - prior approval of the Foreign Ìnvestment Promotion Board
(FÌPB), Ministry of Finance, overnment of Ìndia (OÌ) required
uidance on LLP in Ìndia Page 17
GI Press N4te N4. 1 41 2011
> Calibrated approach for permitting FDÌ in LLP
> Beginning with "open' sectors
> FDÌ upto 100% permitted with prior approval of FÌPB
> Only for sectors falling under 100% automatic route
> FDÌ not permitted in the following sectors
> FDÌ-linked performance condition is attached (minimum capitalization, lock-in period, etc)
> Prohibited sectors like agricultural/ plantation activity, print media or real estate business
> Sectors having caps, requiring FÌPB approval
> FÌÌ /FVCÌ not permitted to invest in LLPs
> LLPs not permitted to avail External Commercial Borrowings (ECBs)
> Conversion of company with FDÌ into LLP permitted, but prior approval of FÌPB
required and under similar conditions
uidance on LLP in Ìndia Page 18
GI Press N4te N4. 1 41 2011
> Downstream investment
> LLPs with FDÌ not eligible to make any downstream investments
> Ìndian companies having FDÌ permitted to make downstream investment in LLPs only if
both the Ìndian company and the LLP operate in sectors where 100% FDÌ is permitted
under automatic route and no FDÌ-linked conditions attached
> Capital contribution by partner only in cash
> Cash to be received by way of inward remittance, through normal banking channels, or by
debit to NRE/FCNR account of the person concerned, maintained with an authorized
dealer/authorized bank
uidance on LLP in Ìndia Page 19
GI Press N4te N4. 1 41 2011
> Designated Partners (DPs) in LLPs with FDÌ
> For the purposes of appointing a DP, "resident in Ìndia" would have the meaning,
as defined for "person resident in Ìndia", under FEMA
> Where an LLP wants to have a body corporate as a DP, only a company
registered in Ìndia under the Companies Act, 1956 can be a DP
> DP responsible for compliance with the FDÌ conditions and liable for all penalties
imposed on the LLP for any contravention.
uidance on LLP in Ìndia Page 20
utb4und In;estment #eguIati4ns
> Outbound investments by an Ìndian party permitted in an overseas JV /
WOS either under the Automatic route or the Approval route
> Ìndian party means:
> A company incorporated in Ìndia
> A body created under an Act of the Parliament
> A partnership firm registered under the Ìndian Partnership Act, 1932
> Any other entity in Ìndia as may be notified by the RBÌ
> Outbound investment by an Ìndian LLP outside Ìndia currently not expressly
permitted
uidance on LLP in Ìndia Page 21
pen Issues
> Applicability of valuation norms for foreign investment in LLP
> Clarity on applicability of External Commercial Borrowing
(ECB) restrictions on a partner's capital contribution to LLP
> Possibility of interest payments?
> Absence of clarity on Overseas Direct Ìnvestment by LLP
%ax AnaIysis - LLP in generaI
uidance on LLP in Ìndia Page 23
LLP pr4;isi4ns - Finance (N4.2) Act, 2009 (FA 2009)
> Effective date: Assessment Year (AY) 2010-2011; Financial Year (FY) 2009-2010
> FA 2009 amendments to the Ìncome-tax Act, 1961 (ÌT Act) with reference to the LLP
Act
> 'Firm' definition amended to include an LLP
> 'Partner' definition now includes a partner of a LLP
> 'Partnership' includes LLP
> For an LLP, tax return to be signed by DP (Sec 140 of the ÌT Act)
> Joint and several liability* of partners for payment of taxes due from LLP (Sec167C
of the ÌT Act) provided
> Liability exists for the year/s of partnership in relation to the partner
> Partner needs to prove that non recovery is not attributed to gross neglect, misfeasance or
breach of duty on his part in relation to the affairs of the LLP
> Excerpts from Explanatory Memorandum ÷ Annexure X
*As per Explanatory Memorandum, this is in the contingency of liquidation.
uidance on LLP in Ìndia Page 24
Subsequent amendments
> FA 2010
> Conversion of private/ unlisted company into an LLP made tax neutral in hands
of LLP and shareholders, subject to stipulated conditions
> FA 2011
> Levy of Alternative Minimum Tax (AMT) [Sec115JC]
> Different computation mechanism when compared with MAT on companies
> Applicable from 1 April 2011; FY 2011-2012, AY 2012-2013
> Tax credit can be carried forward for 10 years
> To be set off to the extent of difference between regular tax and AMT
> Every LLP to which section 115JC applies to obtain accountant's report
uidance on LLP in Ìndia Page 25
Ad;antages 41 being assessed as a '1irm'
> Tax rate of 30.9%, against Ìndian company tax rate of 32.445% (for foreign
companies, the tax rate is 42.024%)
> no scope for higher rate even if LLP comprised only of corporate entities
> No tax on cash distribution during the life of or on winding up of LLP
> Ìndian company pays 16.2225% tax on its profit distributions as dividend
distribution tax (DDT)
> Ìnternal change in the partnership composition does not impact carry
forward of loss, right in respect of share in loss proportional to that of a
retired partner is however lost
> No MAT/AMT in respect of investment linked deduction or in respect of
income exempt under Chapter ÌÌÌ (other than S 10AA) including exempt long
term capital gain
uidance on LLP in Ìndia Page 26
Ad;antages 41 being assessed as a '1irm'
> Loan to a partner or to the concerns in which a LLP partner holds beneficial
interest do not trigger deemed dividend ÷ Sec 2(22)(e) of ÌT Act implications
> Deemed income provisions of Sec 2(24)(iv) of ÌT Act does not apply in
respect of transaction with partners
> Artifice of Sec 73 of Ìt Act does not apply to convert delivery based share
trading loss to be speculation
> Partnership firm is not a taxable entity under the Wealth Tax Act.
Comparable amendments relating to the fiction of LLP being equated to a
"firm¨ not carried out in the Wealth tax Act
uidance on LLP in Ìndia Page 27
Disad;antages 41 being assessed as a '1irm'
> May not qualify for tax holiday/incentive provisions when restricted to
company.
> Certain presumptive tax provisions can be invoked only by a foreign
company and do not apply to an LLP (E.g. Sec 44BBB of ÌT Act)
> Certain deductions in computing business profits are available only to a
"company¨ taxpayer ÷ e.g.
> Section 35(2AB) of ÌT Act - Weighted deduction for scientific research
> Section 35D of ÌT Act- Deduction for preliminary / pre-operative expenses.
> Tax neutrality for merger /demerger apply only when companies are parties
to the reorganization
uidance on LLP in Ìndia Page 28
ther 4nsequences 41 being assessed as '1irm'
> LLP taxed as a "general partnership¨ (firm)
> Entity level taxation of LLP ; partners not taxed again irrespective of residential
status and tax treaty residence.
> Possibility of deduction for remuneration paid to "individual¨ working partner if
authorised by document of partnership, presumably the LLP Agreement
> Simple interest permitted @ 12% p.a. on capital contribution by firm if authorised
by document of partnership, presumably the LLP Agreement
> Residential status of LLP determined based on "control and management¨
test: LLP resident in Ìndia even if C&M of its affairs is partly in Ìndia
> Disallowance of interest/remuneration in tax assessment of LLP if there is
failure resulting in best judgment assessment. Such amount also not
assessable in the hands of the partner.
uidance on LLP in Ìndia Page 29
Le;y 41 A% (as appIicabIe 1r4m FY 2011-12)
> Unlike companies, minimum tax for LLP is n4t with respect to 'book profit'
> Brief mechanism of calculation of AMT
Total income (TÌ) as per normal provisions (A) 300
Add:
> Ìncome linked deductions, if any, under Chapter VÌA (Part
C); and
> Deduction, if any, claimed u/s 10AA
100
100
Adjusted Total Ìncome (ATÌ) (B) 500
Tax on TÌ at (A) @ 30%
*
- say 90
Tax on ATÌ at (B) @ 18.5%
*
- say 93
Tax liability of LLP Higher of A 93
Or B
*Rates need to be increased by cess
uidance on LLP in Ìndia Page 30
Le;y 41 A%
> AMT is a concern for LLP which enjoys specified income linked
deductions more than 40% of its specified deductions
> AMT not payable on:
> Exempt income (say, dividends, STT based LTC, share of firm, etc.)
> Relief on account of investment linked tax holiday
> LLP is still a firm for all tax purposes:
> No DDT
> Ìnterest / salary expenses allowed as per law
uidance on LLP in Ìndia Page 31
4mparis4n: A% (LLP) and A% (4mpany)
A% A%
> Linked to total income as adjusted for
deductions u/s 10AA and under Ch.
VÌ-A
> Ìnvestment linked tax holiday cases
protected
> Ìncomes exempt u/s 10 beyond
purview of AMT
> Quantum of carried forward losses
does not impact AMT
> Linked to 'Book Profit' as modified for
specified downward / upward
adjustments
> Ìnvestment linked tax holiday cases
subject to MAT
> STT paid LTC subject to MAT
> Restrictive set off of book losses of
earlier years
uidance on LLP in Ìndia Page 32
ertain ambiguities 41 LLP
> Ìssues could possibly arise in cross-border taxation of an LLP. Some of
these issues could be:
> Entity Classification Ìssues
> Would an LLP be recognized as a "body corporate¨ of "pass through¨ by other
countries?
> How would the rules for determining residency of an LLP be applied?
> Who would be eligible for treaty benefits ÷ the entity or its members?
> How would the nature of income derived by the entity/ members be classified?
> Risk of double taxation on account of conflicts in classification between countries
> Possible tax arbitrage opportunities could also exist
A detailed analysis of the above issues is beyond the scope of this document and
each case would need to be dealt with based on its specific facts
uidance on LLP in Ìndia Page 33
Pr4ceduraI c4mpIiance t4 ensure assessment as a
Firm
> A Firm is assessed as a Firm if:
> evidenced by an instrument.*
> individual shares of the partners are specified in the instrument
> certified copy of the instrument of partnership is filed along with the first ROÌ.
> Certification of the instrument of partnership required by all partners except minors.
> Next stage submission of instrument of partnership with ROÌ if :
> change in constitution.
> change in partnership interest.
> Change in constitution does not affect entity level assessment. [Contrast case of
dissolution/succession where split assessment done for part of the year].
* LLP Agreement can contextually be considered as an instrument.
uidance on LLP in Ìndia Page 34
#emunerati4n t4 a w4rking partner
> Remuneration to a working partner allowable,
> if the working partner is an individual (may or may not be a designated partner)
> is authorized and in accordance with the partnership deed
> does not pertain to any period earlier than the date of partnership deed
> The aggregate remuneration to all partners does not exceed the limits specified in Sec 40(b) of ÌT Act which is based on
the book profits of the Firm i.e.
> 60% of book profit beyond 3 Lakhs ( higher of 1.5 Lakhs or 90% of book profit upto 3 Lakhs)
> "Book profit¨ for remuneration deductibility means:
> Net profit as shown in Profit & Loss Account for the previous year;
> Computed in the manner laid down in Chapter ÌV-D of the ÌT Act
> Ìncreased by the aggregate remuneration paid or payable to all the partners, if such remuneration has been deducted in
arriving at the net profit.
> "Book profit¨ is calculated before (a) set off of losses under Chapter VÌ /(b) Chapter VÌ-A tax break
> Payments made to a partner under independent contract "may not " be deductible as expense if equated with
remuneration to a partner. Sec 40(b) of ÌT Act does not permit deduction of remuneration by whatever name
called beyond permissible limits. Scope of meaning of "remuneration¨ may be litigative.
uidance on LLP in Ìndia Page 35
Interest t4 a partner
> Ìnterest paid to partners (including corporate partners) admissible, provided
capital contribution is used for business purpose
> Conditions for interest deductibility
> Should be authorised and in accordance with the terms of the partnership deed
> Rate of interest not to exceed 12% (simple interest) per annum
> Should not relate to any period earlier to the date of the deed.
> Once admissible, adequacy of profit not a hurdle
> Ìnterest paid to partners is treated at par with interest under Section 36(1)
(iii) of ÌT Act and may require capitalisation in terms of proviso to
Section36(1)(iii)
> Refer Munjal Sales Corporation v CÌT (298 ÌTR 298) (SC)
> No withholding tax on interest paid to resident partners [Sec194A(3)(iv) of ÌT
Act]
> For non-resident partners, one may need to evaluate relevant tax treaty
provisions, where applicable and in particular, characterization issues
uidance on LLP in Ìndia Page 36
Assessment 41 LLP partners
> Exemption in respect of share of profit [Section 10(2A) of ÌT Act]; calculation
based on proportion of "total income¨ as assessed in the hands of LLP
> Ìnterest / remuneration taxed as business income, where admitted as
deduction for the LLP
> MAT provisions not applicable to a corporate partner's share of profit
> Ìssues on deductibility of expense in view of Sec 14A of ÌT Act read with
Rule 8D in respect of contribution
> Partner liable for recovery of taxes of LLP only in the limited circumstances
of Sec 167C of ÌT Act; general provisions of unlimited liability of Sec 188A of
ÌT Act arguably do not apply to LLP (Confirmed by Explanatory
memorandum)
> Partner may not be liable to pay wealth tax in respect of LLP's chargeable
wealth
uidance on LLP in Ìndia Page 37
Impact 41 4ther secti4ns
> Contribution to LLP may trigger capital gains in the hands of contributing partner
with respect to value at which transfer is recorded. But, discretion of partners and
the LLP in this behalf is subject to requirement of Rule 23(2) of LLP Rules, 2009 to
obtain valuation report [Sec 45(3) of ÌT Act]
> Based on a senior counsel's opinion, arguable that the transfer could be done at
a negotiated value
> Ìmplications on receipt of shares of a closely held company with reference to
scheduled value of shares [Sec 56(2)(viia)] may need to be factored in
> View of AAR in Canoro Resource case- TP provisions override Sec 45(3).
> Arguably, Sec 45 (3) overrides Sec 50C fiction of ÌT Act.
> Distribution by LLP of property at the time of its cessation may trigger Sec 45(4)
provision of ÌT Act
> Assignment of interest by a partner likely to trigger capital gains tax
> Possibility of arguing that 'cessation' of interest is akin to retirement of a partner not
triggering tax implications if settlement of balance by cash payout
uidance on LLP in Ìndia Page 38
isceIIane4us pr4;isi4ns
> TP provisions ÷ Associated Enterprise relationship trigger for a person
holding 10% interest and /or on account of participation in capital, control
and management
> Time limit of assessment, reassessment, rectification, etc gets extended for
the member on consequential impact arising from tax assessment of the
firm [Sec153(3) /155(1) /155(ÌA) of ÌT Act].
> Accelerated assessment should there be discontinuance of LLP business
[Sec 176(5) of ÌT Act]
> Possibility of Tax Authority invoking of "agency¨ provisions in relation to
non-resident partners - Sec 163 of ÌT Act
uidance on LLP in Ìndia Page 39
Situati4ns where LLP is n4t rec4mmended/ 1easibIe
> LLP will not be able to get itself listed without further reorganization
> Unlike in case of a company, cross border merger of a foreign entity with an
Ìndian LLP is not possible
> Charity organizations which need to fall back on Sec 25 of the Companies
Act.
%ax AnaIysis - 4n;ersi4n 41 1irm int4 LLP
> %ax impIicati4ns 41 c4n;ersi4n
> AppIicabiIity 41 Part IX rati4 t4 LLP c4n;ersi4n
Tax implications on conversion of firm / company into LLP Page 41
%ax impIicati4ns 41 c4n;ersi4n
> Explanatory Memorandum to Finance Bill 2009 reads as under :
" As an LLP and a general partnership is being treated as equivalent ( except
for recovery purposes) in the Act, the conversion from a general partnership
firm to an LLP will have no tax implications if the rights and obligations of the
partners remain the same after conversion and if there is no transfer of any
asset or liability after conversion. Ìf there is a violation of these conditions, the
provisions of section 45 shall apply¨.
Tax implications on conversion of firm / company into LLP Page 42
%ax impIicati4ns 41 c4n;ersi4n
> CBDT Circular 5/2010 dated 3 June 2010 explaining provisions introduced
by Finance (No.2) Act, 2009
5.6 As an LLP and a general partnership is being treated as equivalent
(except for recovery purposes) in the Act, the conversion from a general
partnership firm to an LLP will have no tax implications if the rights and
obligations of the partners remain the same after conversion and if there is no
transfer of any asset or liability after conversion. Ìf there is a violation of these
conditions, the provisions of section 45 shall apply.
> No specific amendment in Sec 47 of ÌT Act for conversion of firm into LLP
1
> Process of conversion and statutory vesting akin to conversion of firm to
company under Part ÌX of Companies Act
1
Section 47(xiiib) deals with conversion of company into LLP. This is captured in ensuing slides
Tax implications on conversion of firm / company into LLP Page 43
Summary 41 JudiciaI ;iews 4n c4n;ersi4n 41 1irm
under Part IX 41 the 4mpanies Act
: Sec. 45(4) of ÌT Act not applicable to conversion; vesting of property different from
"transfer by way of distribution" in s. 45(4) of the ÌT Act
: No "transfer¨ in absence of two important ingredients (i) existence of a party and
a counter-party and, (ii) No consideration received by the transferor
: Absence of consideration flowing to the transferor - "full value of the
consideration" does not mean the market value of the asset transferred, but it
shall mean the price bargained for by the parties to the transaction¨
: Allotment of shares to partners is in lieu of their capital contribution; allotment of
shares has no correlation with vesting of properties in the company
: Extracts from relevant case laws ÷ Annexure XÌ
Tax implications on conversion of firm / company into LLP Page 44
AppIicabiIity 41 Part IX rati4 t4 LLP c4n;ersi4n
> LLP conversion under LLP Act, in substance, at par with Part ÌX conversion
under Companies Act.
> Part ÌX provisions provide for properties of firm to "pass to and vest¨ in the
company. LLP Schedule provides for "transfer to and vesting¨ of properties
in LLP and define conversion to interalia include transfer.
> The legal dictionary confirm that the word "pass¨ synonym with "transfer¨. [Refer
Black's Law Dictionary].
"Ìn the language of conveyancing, the term means to move from one person
to another; i.e. to be transferred or conveyed from one owner to another.¨
> Advanced Law Lexicon:
"to go by transfer of conveyance or to come by inheritance [S. Sale of oods Act (3 of
1930)].
Tax implications on conversion of firm / company into LLP Page 45
AppIicabiIity 41 Part IX rati4 t4 LLP c4n;ersi4n
> Similarities of features with Part ÌX conversion.
> Ìnvolves vesting;
> Ìt is transformation of an entity in a different form.
> No two parties exist at a single point of time to permit bilateral transfer.
> There is no flow of consideration to the firm; the firm is dissolved.
> According to Explanatory Memorandum, it is as if; there is mere change in
designation of tax status of same entity !.
> LLP conversion arguably:
> Does not trigger tax implications for the firm
> Does not trigger fiction of Sec 45(4) of ÌT Act
> Does not trigger tax implications for the partner/s who do, as such. Receive
income through the passage of the firm
Issues to be addressed : Indirect tax, stamp duty implications
%ax AnaIysis - 4n;ersi4n 41 c4mpany int4 LLP
> Secti4n 47(xiiib) c4mpIiant c4n;ersi4n (w.e.1
1.4.2011)
> P4ssibIe tax impIicati4ns in case 41 Secti4n 47(xiiib)
n4n c4mpIiant c4n;ersi4n
> %reatment 41 ;ari4us expenses and cIaims
Tax implications on conversion of firm / company into LLP Page 47
Secti4n 47(xiiib) c4mpIiant c4n;ersi4n (w.e.1 1.4.2011) -
4n;ersi4n 41 Pri;ate / unIisted 4mpany int4 LLP
> Excerpts 1r4m ExpIanat4ry em4randum t4 Finance BiII, 2010 reads
as under:
The Finance (No.2) Act, 2009 provided for the taxation of LLPs in the
Income-tax Act on the same lines as applicable to partnership firms.
Section 56 and section 57 of the Limited Liability Partnership Act,
2008 allow conversion of a private company or an unlisted public
company (hereafter referred as company) into an LLP. Under the
existing provisions of Income-tax Act, conversion of a company into
an LLP has definite tax implications. Transfer of assets on conversion
attracts levy of capital gains tax. Similarly, carry forward of losses and
of unabsorbed depreciation is not available to the successor LLP."
Tax implications on conversion of firm / company into LLP Page 48
4n;ersi4n 41 Pri;ate / unIisted 4mpany int4 LLP
> BD% ircuIar 1/2011 dated 6 ApriI 2011 expIaining pr4;isi4ns
intr4duced by Finance Act, 2010
12.1 The Finance (No. 2) Act, 2009 provided for the taxation of LLPs
in the Income-tax Act on the same lines as applicable to partnership
firms. Section 56 and section 57 of the Limited Liability Partnership
Act, 2008 allow conversion of a private company or an unlisted public
company (hereafter referred as company) into an LLP. Under the
existing provisions of Income-tax Act, conversion of a company into
an LLP had definite tax implications. Transfer of assets or shares
held in the company by a shareholder on conversion attracted levy of
capital gains tax. Similarly, carry forward of losses, unabsorbed
depreciation, etc. was not available to the successor LLP."
Tax implications on conversion of firm / company into LLP Page 49
4n;ersi4n 41 Pri;ate / unIisted 4mpany int4 LLP
> 4nditi4ns 14r tax neutraI c4n;ersi4ns 41 c4mpanies int4 LLP
> Conversion is in accordance with section 56 / 57 of LLP Act
> All assets and liabilities of company to become that of LLP
> All shareholders to become partners in LLP with capital contribution and profit sharing ratio
in the proportion of shareholding
> Shareholders not to receive any consideration or benefit, directly/indirectly, in any form
except by way of share in profit and capital contribution in LLP
> Aggregate of profit sharing ratio of the shareholders of company in LLP K 50% for a period
of 5 years
> $ales, turnover or gross receipts in business of company in any of 3 years < INR 6
million
> No direct / indirect payment to any partner out of accumulated profits of company for a
period of 3 years post conversion date
> On fulfillment of above conditions, company as also shareholders are
exempt from capital gains tax liability
Tax implications on conversion of firm / company into LLP Page 50
4n;ersi4n t4 LLP : certain aspects
> No lock in period for the period upto which erstwhile shareholder continues to be a
partner, so long as condition of aggregate of 50% of profit sharing ratio fulfilled
> Conditions not violated if LLP makes payment to partners for services or contracts
unrelated to the rights of partner on conversion;
> No provision for cost step up for LLP and the shareholder if capital gains exemption
forfeited requiring LLP to pay tax
> No specific amendments to permit continuing tax holiday in the name of LLP;
> DTC requires eligibility as of the date of transition in the hands of the same
taxpayer as a precondition of gradfathering
Tax implications on conversion of firm / company into LLP Page 51
4n;ersi4n t4 LLP : Issues
> Scope of 'sales, turnover or gross receipts in business':
> Advances received by the builder
> SEZ developer offering rental under HP chapter
> Ìnvestment company collecting dividend income
> Unresolved questions : No guidance in LLP Act
> Security premium in books of company can be considered to be at par with share capital,
requiring credit to capital contribution in the books of LLP
> Bonus share capital can be considered as part of share capital requiring credit to capital
contribution in the books of LLP
> Reserves on the books of company are, in certain noted cases, conventionally credited as
reserves in the books of LLP for compliance with 3 year lock in condition of restricted
withdrawal
> Lock in on withdrawal of funds, arguably , applicable to initially converted capital contribution
Tax implications on conversion of firm / company into LLP Page 52
ther tax impIicati4ns 41 c4n;ersi4n*
> Unlikely DDT implications u/s.2(22)(a) in absence of distribution by
company to shareholders; incorrect to suggest that LLP interest held by
partners collected by company and distributed to shareholders
> Unlikely DDT implications u/s.2(22)(c) in absence of distribution;
> Winding up or liquidation generally means realization of assets, discharge of
liabilities and distribution of residuary surplus to shareholders. Conversion into
LLP does not involve the above.
> CBDT Circular - 5P dated 9 October 1967 on amalgamation also supports
> Unlikely S.2(24)(iv) implications for shareholders in absence of any benefit
passed on by the company
> At best, corresponding sacrifice by shareholders
* Equally applicable to 47(xiiib) non-compliant conversion
Tax implications on conversion of firm / company into LLP Page 53
%ax neutraI secti4n 47 (xiiib) pr4tected c4n;ersi4n :
Back-up pr4;isi4ns
Secti4n Brie1 ParticuIars
5
th
proviso to
Section 32
Ìn the year of conversion, aggregate of depreciation to LLP and
company not to exceed depreciation as would have been allowable
to the company without such conversion
Explanation 2C
to section 43(6)
WDV of block of assets of company to be WDV of LLP
Section
35DDA(4)
Amortisation in respect of residual VRS payment by company
available to LLP
Explanation 13
to Section 43(1)
Actual cost of capital asset for which investment linked deduction is
granted u/s. 35AD to the company to be NÌL in the hands of LLP
Section
49(1)(iii)(e)
Actual cost of capital asset of company to be the actual cost to LLP
Section
49(2AAA)
Cost of shares in company would represent cost of LLP interest for
partner
Tax implications on conversion of firm / company into LLP Page 54
%ax neutraI secti4n 47 (xiiib) pr4tected c4n;ersi4n :
Back-up pr4;isi4ns
Secti4n Brie1 ParticuIars
Section
72A(6A)
LLP can carry forward unabsorbed business losses / unabsorbed
depreciation [Arguably, fresh lease of time period available]
Section
115JAA(7)
No carry forward of MAT credit to LLP
Section
47A(4) and
Section
72A(6A)]
Also, S. 47(xiiib) breach leads to LLP paying tax in the year of
violation on:
>Capital ains exempted in the hands of company and the shareholder
>Forfeiture of loss claimed by LLP [Proviso to section 72A(6A)]
Page 55 Tax implications on conversion of firm / company into LLP
P4ssibIe tax impIicati4ns in case 41 secti4n 47(xiiib) n4n
c4mpIiant c4n;ersi4n: ImpIicati4ns 14r c4mpany
> Not correct to suggest that, absent S.47(xiiib) exemption, charge is, per se,
attracted
> No consideration accruing to the company; company is statutorily dissolved
> No consideration payable by LLP to the company
> On principles, akin to case of amalgamating company transferring assets to
amalgamated company
> Capital gains or business income liability unlikely in absence of
consideration
Page 56 Tax implications on conversion of firm / company into LLP
S.47(xiiib) n4n c4mpIiant c4n;ersi4n: ImpIicati4ns
14r shareh4Iders
> Judicial thinking in context of conversion of firm to company under Companies
Act favours the taxpayers
> Distinguishing features in case of partners
> Firm and partners received income through common passage; partner has no
separate source of income
> No accrual of income to firm and NÌL tax liability of firm release the partners
> No separate income stream to partners independent of the firm
> No independent liability on dissolution; consequences u/s.45(4) of ÌTA on the firm
> Distinguishing features in case of shareholders (tax department contentions )
> Shareholder enjoys independent source of income
> There is extinguishment of shares at the end of conversion [Refer race Collis (248
ÌTR 323)(SC)]
> There is receipt of consideration in the form of LLP interest by the erstwhile
shareholders
> Legislative / CBDT thinking supports taxation in absence of compliance with
exemption conditions.
Page 57 Tax implications on conversion of firm / company into LLP
S.47(xiiib) n4n c4mpIiant c4n;ersi4n: Shareh4Ider's
p4ssibIe de1ences
> Ìntroduction of exemption provision is not, in itself, indicator of an effective
charge if conditions of exemption remain unfulfilled
> Charge to tax needs to be established independently with the support of a
proper charging provision
> CBDT Circular or Explanatory Memorandum, which deviates from correct
interpretation, has no legal force
> Ìn terms of S.58(4) of LLP Act, the sequence of steps is : registration of
LLP; vesting of assets; dissolution of company. This is suggestive of
extinguishment being after the stage of registration and vesting; no
consideration becomes due as a result of extinguishment
> Partner interest in LLP is not capable of being ascertained [refer SC in Sunil
Siddhartbhai (156 ÌTR 509)]. The value of consideration is not ascertainable
and the charge should therefore fail
> Cases of vesting do not envisage any enrichment, any real income capable
of attracting charge to tax
Tax implications on conversion of firm / company into LLP Page 58
%reatment 41 ;ari4us expenses and cIaims
Nature 41 cIaim /
secti4n
K&S pre1erred ;iews
43B / 40(a)(ia)
[for expense
incurred and
debited to P&L
a/c by company]
>Section 58(4) of LLP Act requires transitioning of "rights¨ in favour of LLP.
Possible to urge that right to avail deduction on payment of outstanding
expense, which is otherwise allowable should travel to LLP
>Ìn respect of actual payment beyond the due date of return, company will
suffer disallowance but, the deduction can be enjoyed by the LLP.
>Ìn respect of payments made by LLP post the date of conversion, but,
prior to the due date of return as applicable to the company, the deduction
will relate back to the company.
Bad debt
u/s.36(1)(vii)
>Ìn addition to contentions captured herein, having regard to the judgement
of Supreme Court in the case of Veerbhadra Rao (155 ÌTR 152) it should
be possible for LLP to claim deduction in the year of write off.
Tax implications on conversion of firm / company into LLP Page 59
%reatment 41 ;ari4us expenses and cIaims
Nature 41 cIaim /
secti4n
K&S pre1erred ;iews
MAT credit >Ìn view of the fact that LLP is not liable to MAT upto AY 2011-12 and
considering the specific provisions of 115JAA(7), it may not be possible to
transfer MAT credit to LLP
Depreciation
[section 32]
>Ìn year of year of conversion, Fifth proviso to Section 32 grants
proportionate deduction of depreciation to the predecessor and successor.
>Since this is a case of succession covered by section 170 of the Act, read
with Explanation 1 of section 43(6), the tax WDV of the company should
be the tax WDV of LLP.
Cost of
acquisition for
capital gain
(Section 49)
Since this is a case of "succession¨ read with section 49(1)(iii)(a), cost to the
company should be cost of acquisition of asset to the LLP.
Tax implications on conversion of firm / company into LLP Page 60
%reatment 41 ;ari4us expenses and cIaims
Nature 41 cIaim /
secti4n
K&S pre1erred ;iews
Return of Ìncome >As held by Ahmadabad ÌTAT in Amin Machinery (P) Ltd [114 ÌTD 413] in
the context of Part ÌX conversion predecessor and successor are separate
persons
>Company and LLP to file income tax return respectively;
>Company to file return of income upto the date of conversion and LLP for
the period from date of conversion till year end.
Permanent
Account Number
(PAN)
LLP is a different entity and hence, preferred view is that a separate
Permanent Account Number would be advisable.
Tax implications on conversion of firm / company into LLP Page 61
#ight t4 carry 14rward I4sses a;aiIabIe with LLP?
> Two Possible views
> View 1: Right to carry forward not available
> Right to carry forward loss is available only to an assessee who incurred
it. Section 72A and 78 are exception to the principle
> Ìn absence of specific provision in law, in following cases, court / ÌTAT
did not permit right to carry forward to the successor
> Hindustan Aeronautics (149 ÌTR 795)(Karn) - in the context of
amalgamation prior to insertion of section 72A of ÌT Act
> Amin Machinery Pvt Ltd (299 ÌTR 140(AT)(AHD) - in the context of Part
ÌX conversion
> S.78(2) does not cover any other mode except by way of inheritance
Tax implications on conversion of firm / company into LLP Page 62
#ight t4 carry 14rward I4sses a;aiIabIe with LLP?
> View 2 : Right to carry forward is available
> Section 58(4) of LLP Act requires transitioning of "rights¨ in favour of
LLP. Possible to urge that right to avail carry forward of loss which is
otherwise allowable should travel to LLP
> SC in Shah Sadiq and Sons [166 ÌTR 102] held that right to carry forward
is accrued and vested right
> Vesting of right on the basis of section 58(4) will be for the residual
period which remained unavailed in the assessment of the company.
> Without impairing such general right, the LLP which fulfills certain
specific conditions of section 47(xiiib) may be able to enlarge its benefit
in terms of section 72A (6A) of the Act
> While View 2 is arguable, View 1 is the K&S preferred view
India LLP - P4ssibIe pIanning 4pp4rtunities
Tax Q&RM Guidance:
It may be noted that the planning opportunities outlined in the subsequent slides are
conceptual in nature and provide a prima facie view of the likely tax consequences.
A more detailed analysis and an assessment of the facts would be necessary before
considering feasibility for a particular situation. Further, It is important that
ambiguities in the FDI policy and uncertainty in the tax treatment, where applicable,
is highlighted to clients while discussing planning opportunities.
uidance on LLP in Ìndia Page 64
#epat / DD% PIanning
> Description:
> Ìndian operations set up as LLP
> Hold Co is partner in LLP
> LLP distributes profits to partners
> Benefits:
> No DDT
> reater flexibility on claiming credit by Hold Co for Ìndia taxes. DDT does
not apply
> Ìf Hold Co jurisdiction treats LLP as transparent, direct credit possible
> Ìf Hold Co treats LLP as non-transparent, UTC possible
> Can also be combined with "conversion planning¨, where feasible
> Possibility of conversion of cash rich Ìndia Co into LLP prior to profit
distribution*
> Ìssues
> FDÌ restrictions need to be considered
> Taxation of Ìndia LLP at entity level on global basis should fairly mitigate
additional taxation in the hands of Holdco even assuming LLP is alleged to
trigger PE for Holdco
> Comprehensive analysis on tax implications in Hold Co's jurisdiction may be
required
India LLP
Parent
Profit
Distribution
H4Id 4
* Event of conversion as also event of withdrawal of past profit have independent tax
implications.
uidance on LLP in Ìndia Page 65
Exit PIanning
> Description:
> Ìndian operations held by way of LLP which is a separate legal person
> HoldCo is partner in LLP
> HoldCo proposes to exit Ìndian operations
> LLP interest transferred to third-party at FMV
> Benefits:
> Possibility of avoiding capital gains tax under many tax treaties
> Ìnterest in LLP could be capital asset in Ìndia
> Exclusive taxation right to residence country under "residuary rule¨ in
most tax treaties. Hence, gains arising from transfer of Ìnterest in LLP by
Hold Co taxable in residence country of Hold Co only
> Ìssues
> FDÌ restrictions need to be considered
> May not viable under treaties such as US/ UK as taxation would be as per
domestic tax law
> There could be uncertainty if gain is held connected to immoveable
property or connected with PE
INDIA LLP
PA#EN%
H4Id4
(%reaty 4untry)
Transfer of LLP
interest
uidance on LLP in Ìndia Page 66
A% PIanning, new business
> Description
> Ìndia Co invests in an Ìndia LLP
> Ìndia LLP sets up an eligible undertaking
eligible for deduction under Sec 35AD
> Benefits
> Profits earned by LLP eligible for investment
linked deduction
> AMT not applicable to LLP in respect of tax
benefit arising due to investment linked
incentive
> Distribution by LLP tax exempt and not
subject to MAT for Ìndia Co
> Benefit also available for exempt income of
LLP under Section 10(38)
> Workable for LLP set up as an operating
entity
India Co
India LLP
WOS of India Co
95 percent
holding
5 percent holding
Undertaking eligible for
investment linked
deduction u/s 35AD
uidance on LLP in Ìndia Page 67
AP itigati4n
> Description:
> Onshore component of EPC contract among consortium
members executed through a LLP
> Benefits:
> Ìssues of emergence of AOP and related tax
consequences mitigated
> Ìssues:
> Applicability of TP provisions for transactions between Foreign Co
and Ìndia LLP
India 4.
INDIA LLP
F4riegn 4.
EPC Contract eg: Power
contract
uidance on LLP in Ìndia Page 68
Deemed Di;idend itigati4n
> Description
> Holding company with multiple Ìndian
operating entities
> Ìndian operating entities set up as LLPs
> Excess cash in one operating entity and need
for cash in another
> Ìnter-LLP loan
> Benefits
> Ìnter-LLP not considered as deemed dividend
> Tax efficient movement of cash within
operating entities
> Ìssues
> FDÌ restrictions need to be considered
Hold Co
Ìndia LLP1 Ìndia LLP2 Ìndia LLP 3
Loan
uidance on LLP in Ìndia Page 69
Deemed Di;idend itigati4n - Variati4n
> Description
> Parent with cash rich subsidiary (Hold Co) in high tax
jurisdiction
> Ìndian operating entity for Parent set up as Ìndia
LLP2
> Excess cash sitting in Hold Co and need for cash in
Ìndia LLP2
> ÌndaiLLP1 formed with Hold Co as a partner
> Cash divested in Ìndia LLP1 as capital contribution
> Ìnter-LLP loan
> Benefits
> Ìnter-LLP loan not considered as deemed dividend
> Tax efficient movement of cash
> Ìssues
> FDÌ restrictions need to be considered
> Ìndia LLP 1 should not pursue NBFC covered activity
and should not be a conduit
Parent
Ìndia LLP1
Ìndia LLP2
Loan
Hold Co
Cash
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