Thursday, October 23, 2008

LLP Bill Introduced in Parliament

The new Limited Liability Partnership Bill, 2008 was introduced in Parliament on October 21, 2008. This supersedes the previous Bill of 2006, which was withdrawn. The salient features of the new Bill are set out in the Government’s press release as follows:

“(i) The LLP will be an alternative corporate business vehicle that would give the benefits of limited liability but would allow its members the flexibility of organizing their internal structure as a partnership based on an agreement.

(ii) The Bill does not restrict the benefit of LLP structure to certain classes of professionals only and would be available for use by any enterprise which fulfills the requirements of the Act.

(iii) While the LLP will be a separate legal entity, liable to the full extent of its assets, the liability of the partners would be limited to their agreed contribution in the LLP. Further, no partner would be liable on account of the independent or un-authorized actions of other partners, thus allowing individual partners to be shielded from joint liability created by another partner’s wrongful business decisions or misconduct.

(iv) LLP shall be a body corporate and a legal entity separate from its partners. It will have perpetual succession. Indian Partnership Act, 1932 shall not be applicable to LLPs. Since LLP shall be in the form of a body corporate, it is also proposed that the relevant provisions of the Companies Act, 1956 may be made applicable to LLPs at any time in the future by Notification by Central Government, with such changes or modifications as appropriate.

(v) An LLP shall be under obligation to maintain annual accounts reflecting true and fair view of its state of affairs. Since tax matters of all entities in India are addressed in the Income Tax Act, 1961, the taxation of LLPs shall be addressed in that Act.

(vi) Provisions have been made in the Bill for corporate actions like mergers, amalgamations etc.

(vii) While enabling provisions in respect of winding up and dissolutions of LLPs have been made in the Bill, detailed provisions in this regard would be provided by way of rules under the Act.”
This new Bill takes several important strides. First, the limited liability partnership (LLP) is being made available to all types of business or professional activities thereby broadening its utility; in the earlier Bill, the LLP structure was available only for certain types of professionals such as accountants and lawyers. Second, the LLP’s features almost replicate those of a company, e.g. there is no limit on maximum number of partners, the LLP would be a separate legal entity (unlike a partnership under the Partnership Act, 1932) and the LLP can undertake transactions such as mergers and acquisitions. Further, it also provides powers to the Central Government to make provisions of the Companies Act applicable to an LLP. These features make it a viable alternative to private limited companies (or perhaps even public limited unlisted companies).

In the end, however, whether it is a successful mode of conducting business (especially for small and medium enterprises) would depend on the availability of tax benefits that will likely be introduced by way of amendments to the Income Tax Act, 1961. If the tax benefits are substantial and provide tax-pass through at the entity level to LLP, those may confer a distinct advantage over companies that are not only taxed on the income they earn, but also on distributions of profits that they make to their shareholders.

While the LLP Bill is an important step, it is perhaps time to also start thinking about the next logical step, which is to consider the introduction of an entity such as the “limited partnership” (LP). Most other significant jurisdictions have already introduced LLP structures, while many of them have also introduced the LP structures. The LP structures are found to be conducive to the venture capital (VC) and private equity (PE) industry. LPs usually have two kinds of partners, i.e. general partners who assume unlimited liability and limited partners whose liability is limited to the extent of their contributions. This structure also enables general partners, who are usually the managers of the LP to take their returns in the form of ‘carry’. World over, most VC and PE firms are structured as LPs for this reason.

It is curious to note, however, that the lack of an LP structure under Indian law cannot be said to have crippled the VC and PE industry in anyway. That is perhaps owing to the availability of “trusts” as a suitable mechanism to deal with such entities. For instance, domestic venture capital firms (and even mutual funds) are established as trusts, where there is a trustee company and the investors are beneficiaries in the trust. While the trust structure does provide sufficient flexibility, the downside from the legal standpoint is that parties are compelled to rely on trust law (the Trust Act, 1882), which is not only a general law but has been enacted over a century ago before modern types of business activities were ever contemplated. For this reason, the availability of an LP structure as a separate mechanism would help engender a more vibrant VC and PE market in India.

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