A Critique of Limited Liability Partnership Bill, 2006

Keeping in mind the changing corporate scenario and to provide entrepreneurs with an effective alternate commercial vehicle, limited Liability Partnership Bill, 2006 was introduced in the Rajya Sabha on 15th of December 2006, thereafter it was referred to standing Committee on Finance headed by Ananth Kumar which has presented its report on 27th November 2007.

At present moment the Bill is awaiting the approval of the Parliament. The report intends to provide for the reasons for introduction of such a Bill in India , various crucial aspects of the Bill, enabling/disenabling provisions, shortcomings, the Bill suffers from, the kind of impact Bill might have on the Indian corporate scenario once enacted etc. The Standing Committee’s report has also been analyzed and the comparisons been drawn with existing LLP legislations elsewhere in the world.

Why Limited Liability Partnership

Limited liability concept was introduced in order to adopt a corporate form, which combines the organizational flexibility and tax status of partnership with the advantage of limited liability for its partners. Limited liability partnership (LLP) is a body corporate formed and incorporated under the Limited Liability Partnership Bill, 2006, which is a distinct legal entity separate from its partners. It has perpetual succession. In India, businesses mainly operate as companies, sole proprietorships and partnerships. Each of these is subject to different regulatory and tax regimes.

reflecting their organization and ownership. LLP, as a new business structure, would fill the gap between business firms such as sole proprietorship and partnership, which are generally unregulated and limited liability companies, which are governed by the Companies Act, 1956. In addition to an alternative business structure, LLP would foster the growth of the services sector and will provide a platform to small and medium enterprises and professional firms of company secretaries, chartered accountants, advocate to conduct their business/profession efficiently which would in turn increase their global competitiveness. In view of the increasing role of the service sector in the Indian economy, a need has been recognised for a new corporate entity, that is, LLP that will combine the characteristics of corporate and non-corporate.

Problems Presently Faced
At present, being a member of a partnership firm is a very risky affair because under partnership law, the partners are liable jointly and severally and most importantly their liability is unlimited which means that the personal property of the partners also be attached for the satisfaction of the debts in addition to the capital contributed by the partners in the firm. Hence, being a member of a partnership firm is a very risky affair as the liability is unlimited. This is the principal reason why partnerships firms of professionals, such as accountants, lawyers, companies secretaries, etc have not grown in size to meet the challenges posed today by international competition. Not only were firm assets completely liquidated under standard principles of partnership law, the partners were joint and severally liable for the entire liabilities of the partnership.

This is because as per the Companies Act, 1956, s. 11, an association of more than 20 persons formed for any profit motive, may not exist unless it is incorporated as a company under the aforementioned enactment. And any such associations without being incorporated as company will be illegal under the Partnership Act, 1930. Thus present system act as a deterrent for the growth and expansion of service based organizations. And most importantly, it have depressing effect on the economy and the development prospects of the firm, as every business organisation would have to grow and diversify to reach larger client base around the world. Not only the present legal framework regarding setting up business is incompatible with the policy of globalisation and liberalisation India adopted during 1990s, but it will also have detrimental impact on the foreign direct investment in India.

Committees Recommendation

J J Irani Committee

The J J Irani Committee set up by the Government of India to recommend on various aspects of company law strongly pleaded for a separate legislation on LLP. The committee said that in view of the potential for growth of the service sector, requirement of providing flexibility to small enterprises to participate in joint ventures and agreements that enable them to access technology and bring together business synergies and to face the increasing global competition, the formation of LLP be encouraged.

Naresh Chandra Committee Recommendation

The Naresh Chandra committee analysed the concept of LLP with regard to the following broad areas:
(1) application of the LLP regime;
(2) incorporation, registration and number of partners;
(3) limited liability;
(4) financial safeguards; and
(5) tax treatment of LLPs.

Difference Between General Partnership And Limited Liability Partnership

General Partnership
The partnership simpliciter be constituted under the Indian Partnership Act, 1932. Each of the partners is jointly and severally liable for any liability arising out of or in respect of the partnership.

Limited Liability Partnership
The LLP is a separate legal entity with unlimited capacity where no member or partner is liable on account of the independent or unauthorized actions of one’s partner, and whose liability is limited to the respective stake of each in the LLP. The members of an LLP would have the option to have a general partner or more with unlimited liability, but it would not shield the partners from legal liability arising out of their own personal acts which are not done for and on behalf of the LLP, that is, any act done beyond the acts and powers of the partners as laid down in the incorporation document. Further, a partner’s liability is not limited when the misconduct is attributable to him or to an employee under the supervision or control of that partner. An LLP only protects a partner, other than a general partner from the liability arising from the misconduct or personal acts of other partners.

Tax treatment of LLP

UK LLP Act, s. 10 lays down that a trade, profession or business carried on by an LLP, with the view to profit, will be treated as carried on in partnership by its members and not by the LLP itself. Thus, any asset held by an LLP, or any tax chargeable on gains made will be treated as held by the partners, or gains made by the partners, and not by the LLP itself. In other words, an LLP enjoys a pass through status and is not taxable as such; the taxation liability falls on the partners in their individual capacity. In the USA, too, LLPs enjoy a pass through status for the purposes of taxation. The profits or losses of the LLP pass through the business and are reported on each partner’s personal returns. The committee recommended the same pass through status for LLPs in India.

Features of LLP Bill

The Bill is divided into XIV Chapters having 73 Sections and Four Schedules

Applicability
An LLP will be a body corporate having perpetual succession and a legal personality of its own. It will have at least two partners but there will be no limit on the maximum number of partners that it have. If at any time the number of partners of an LLP falls below two and the business is carried on for more than six months, a person who is a partner of an LLP during the time it carries on business after those six months and is cognisant of this fact will be liable jointly and severally with the LLP for the obligations of the LLP during that period. Any individual or body corporate may be a partner in an LLP. An LLP being a body corporate, the law relating to partnerships is not generally applicable to a limited liability partnership.

Incorporation
To form an LLP, there must be at least two persons who are associated for carrying on a lawful business with a view to profit and who subscribe their name to a document called an incorporation document. The incorporation document must be delivered to the registrar in the prescribed form and manner. A statement must also be delivered to the registrar there has been compliance with all the requirement of the enactment. A subscriber must make the statement to the incorporation document and by either an advocate, or a company secretary, or a chartered accountant in whole time practice in India, who is engaged in the formation of the LLP.

Partnership
The first partners of an LLP are those who sign the incorporation document. After incorporation, any person may become a partner of an LLP by agreement with the existing partners. The provisions of any agreement between the partners govern the rights and duties of the partners of an LLP to one another and to the LLP. In case, a matter has not been specifically dealt with in the agreement, the provisions set out in the first scheduled will apply. Certain particulars contained in the LLP agreement as may be prescribed and any changes made therein will be filed with the registrar.

Extent and Limitation of Liability
Each partner of the LLP is an agent of the LLP but not of other partners. Therefore, a partner will be held personally liable for his own wrongful act or omission, but will not be liable for wrongful act and omission of any other partner of the LLP. An LLP however is not bound by the actions of a partner where that person has no authority to act for the LLP, and the person dealing with the partner is aware of this or does not know or believe that the partners was in fact a partner of the LLP. Further, where a partner of an LLP is liable to a person for a wrongful act or omission in the course of business of the LLP or with its authority, the LLP will be liable to the same extent as the partner. An LLP being a separate legal entity is liable for an obligation arising in contract or otherwise and the liabilities of the LLP will be met out of its property. A partner will not be held personally liable, directly or indirectly for an obligation of the LLP, solely by reason of being a partner of the LLP. However, this liability shield will be withdrawn in case of an act carried out by a LLP with the intent to defraud creditors or for any other fraudulent purposes.

Taxation
The Bill doesn’t contain any provisions with respect to taxing of LLPs, which is considered to be one of the major drawbacks of the present Bill.

Assignment and Transfer of Partnership Rights

A partner’s economic rights, which include the rights of the partner to a share of the profits and losses of the partnership and to receive distribution in accordance with the limited liability partnership agreements, are freely transferable. However, a transfer in whole or in part of the transferable interest does not imply the partner’s disassociations or dissolution and winding up of the LLP’s activities. Further, they do not entitle the assignee to participate in the management or conduct of the LLPs activities or access information concerning the LLPs transactions. Moreover, the non-economic right will not be transferable unless specified by the LLP agreement.

Analysis of The Bill
Transfer of Assets
Upon conversion of an existing firm into LLP, the assets of such firm or partnership will have to be transferred to LLP. But for such conversion, the law requires that stamp duty and capital gains tax is to be paid. These dual impediments may discourage the conversion of existing firm into LLP. Hence, to make practicable the conversion a more liberalized policy must be followed as far as stamp duty and Capital Gains Tax are concerned. The limited liability partnerships Act, 2000, of the United Kingdom, contain provisions for relief from charges of stamp duty for instruments transferred or conveyed to an LLP after fulfillment of some conditions. The proposed bill incorporates similar provisions. Similarly, as far as capital gains tax is concerned, appropriate exemption must be granted under section 47 of the Income Tax Act, 1961 whereby on conversion of a firm into LLP the transfer of property must not be regarded as a taxable transfer for the purpose of levy of Capital Gain Tax. In the absence of such provisions, the partners of the firm have to pay huge sums as capital gain tax at the time of transfer and it may act as a detrimental for those firms willing to convert itself into LLP.

Conversion of firm into Limited Liability Partnership

· The provisions of Second Schedule shall apply to the conversion from firm to a limited liability partnership.
· A fir may apply to convert to an LLP in accordance with this schedule if and only if the partners of the LLP to which the firm is to be converted , comprises of all the partners of the firm and no one else.

· Proceedings by or against the firm pending in a court or tribunal or before any authority on or before the date of registration may be continued, completed and enforced by or against the LLP.

Conclusion
The LLP will act as an engine of growth for economic development of the country and would lead to the growth of professional services in the country. With the liberalisation and globalisation of Indian economy since 1990s, the LLP, as an alternate mode of carrying business, will encourage joint ventures and would make Indian service sectors globally competitive. The issues raised by the writer during the analysis of the Bill needs to be addressed so that proposed law become more comprehensive in tune with requirement of the modern business environment.

Bibliography & References:
Ministry of Company Affairs (2005), Concept Paper on Limited Liability
Partnership, Press Notification in November 2005.
Ministry of Company Affairs (2005), Concept Paper on Company Law
Reforms Dr J.J Irani Committee on Company Law.
Naresh Chandra Committee Report on Regulation of Private Companies and Partnerships.
Ministry of Companies Affairs (2006), Limited Liability Partnership Bill 2006
Presented in Rajya Sabha on 15th December 2006

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