Gautam Nayak
Chartered Accountant
Taxation of LLPs
(including conversion into LLP)
DTC of ICAI
National Tax Convention, Pune
4th July 2015
What is a Limited Liability Partnership (LLP)?
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Hybrid between a partnership firm and a company
Is a body corporate
Considered as ‘Firm’ for taxation purposes
Limits liability of partners to the extent of their contribution
barring certain circumstances
Various tax advantages as compared to a company
Governed by LLP Act 2008 and LLP Rules 2009
Body Corporate
Separate legal existence
Perpetual succession
Limited liability of Partners
Partners are agent of LLP and not other partners
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Who Can Be A Partner ?
o Minimum two partners
o No limit on number of partners
o Individual and/or Body Corporate
o Company, LLP
o HUF, Trust, or Partnership Firm ?
o Circular No. 13/2013 dated 02.07.2013 – HUF not individual/body corporate
– cannot be a partner
o Karta, Trustee, Partner?
o Minor or its guardian ?
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Capital Contribution
o Should every partner contribute to the capital ?
o Capital Contribution Ratio vis-à-vis Profit Sharing Ratio
o Contribution may be in the form of tangible, intangible, movable
or immovable property or other benefits – s.32 of LLP Act
o Monetary value of contribution of each partner to be accounted for &
disclosed in accounts of LLP in prescribed manner
o Rule 23 - Disclosure in the books of accounts
o Contribution to be accounted for & disclosed with nature of contribution
& amount
o Contribution of property or benefits or by way of agreement or contract
for services to be valued by practicing CA/Cost Accountant/approved
valuer - whether necessarily market value?
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Accounts And Audit
o Accrual or Cash method of accounting
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ICDS not applicable if cash method followed
o Rule 24(1) and Rule 24(2) - Accounting Records
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Normal books of account
o Statement of account and solvency for a financial year to be
filed within 6 months from the year end
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Statement of Assets and Liabilities
Statement of income and expenditure
Certification by Auditor
o Compulsory audit if turnover exceeds Rs. 40 lakhs or if total
contribution exceeds Rs. 25 lakhs
o Auditors to be appointed by Designated Partners
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Direct Tax Implications
o Tax treatment of LLPs to be same as that of ‘Partnership Firms’
o S. 2(23) of the I T Act, 1961 – firm and partner to include ‘LLP’
and its ‘Partners’
o Partners share of profit will be exempt [s. 10(2A) of the IT Act]
o Whether exemption available for share in profit of HUF partner?
o Designated Partners shall sign the Income Tax Return
o Joint and several liability for payment of taxes
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Direct Tax Implications…contd
o Remuneration to partners allowable as deduction under s. 40(b)
subject to following limits
Slab of Book Profit
Remuneration Allowable
On first Rs. 3 lacs or in case of
loss
Rs. 1.5 lacs or 90% of book profits,
whichever is higher
On balance of book profit
60% of book profits
o Deduction of interest paid to partners
o Authorization by LLP agreement
o 12%
o Partner in representative capacity – expln 1 to s.40(b) – not to be
considered as paid to partner
o Rate of Tax – 30.90 % or 33.99%
o Remuneration and Interest received by Partners of LLP –
Taxable under s. 28(v)
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Direct Tax Implications…contd
o Share of profit exempt u/s.10(2A)
o In case of a company being a partner in LLP – share of profits can be
reduced for computing book profits u/s. 115JB
o No TDS u/s. 192 from remuneration paid to partner
o No TDS u/s.194A from interest paid to partner
o No TDS or DDT on profits distributed by LLP to partners
o Non resident partner – TDS u/s. 195 for payments made towards
interest and remuneration paid
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Direct Tax Implications…contd
o s.45(3) – Introduction of capital asset by partner into LLP
o S.45(4) – Distribution of capital assets by LLP on dissolution or
otherwise
o S.78(1) – C/f of losses in case of retirement or death of partner
o S.115JC – Alternate Minimum Tax
o S.184 – Filing certified copy of LLP agreement
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Conversion Of Firm To LLP – Tax Implications
o S.55 rw Second Schedule to LLP Act
o Partners of LLP to only comprise partners of firm and no one
else
o On & from date of registration specified in certificate of
registration:
o LLP comes into existence
o all property vested in the firm, all assets, interests, rights,
privileges, liabilities, obligations relating to the firm & the whole of
the undertaking of the firm shall be transferred to and shall vest in
the LLP without further assurance, act or deed
o Firm deemed to be dissolved
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Conversion Of Firm To LLP – Tax Implications
o Whether automatic vesting by operation of law – whether
transferor & transferee?
o Continues to remain a partnership firm under Income Tax Act
o Carry forward of AMT Credit?
o Whether same PAN continues?
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Conversion Of Firm To LLP – Tax Implications
o Explanatory Memorandum to Finance (No.2) Bill 2009:
“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. If there is a violation of these conditions, the provisions
of section 45 shall apply.”
o CBDT Circular No 5 dated 3.6.2010
“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. If there is a violation of these conditions, the provisions of section
45 shall apply”
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Conversion Of Company Into LLP
o S.56/57 & Third/Fourth Schedule - Conversion of Private company
or unlisted Company to LLP
o All shareholders become partners & no one else
o No security interest in assets subsisting
o On & from the date of registration specified in certificate of registration:
o LLP shall come into existence
o All property vested in the co, all assets, interests, rights, privileges,
liabilities, obligations relating to the co and whole of undertaking of co shall
be transferred to and shall vest in the LLP without further assurance, act or
deed
o Co shall be deemed to be dissolved
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Conversion Of Company Into LLP – Exemption
o Specific exemption – s. 47(xiiib) – conditions:
o All assets & liabilities of Co. are taken over by LLP
o All shareholders of Co. become partners of LLP
o Their Capital Contribution & PSR in LLP are in same proportion as
their shareholding in Co.
o Shareholders of co. do not receive any consideration on conversion
other than share in Profit & Capital Contribution in LLP
o Total of PSR of Shareholders of Co., in LLP should not fall below 50%
for 5 consecutive years from conversion date
o Total sales, Turnover or Gross Receipts of Co. should not have
exceeded Rs.60 lakhs in any of 3 years preceding year of conversion
o Partners are not paid any amount from accumulated profits of Co.
for 3 years from conversion date
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Conversion Of Company Into LLP - Exemption
o If any of above conditions are not satisfied subsequently, such
conversion shall be chargeable to tax in hands of successor
LLP/shareholder in year of non-compliance – s.47A(4)
o Deemed to be profits & gains chargeable to tax – whether as capital
gains?
o “Profits & gains arising from transfer of such capital asset not
charged u/s 45”
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Conversion Of Company Into LLP – Exemption
o All assets & liabilities of Co. are taken over by LLP
o Not only assets & Liabilities reflected in Balance Sheet
o Intangible assets also – problem for tenancy rights?
o All shareholders of Co. become partners of LLP
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Whether even preference shareholders to become partners?
Only on conversion – subsequent admission/retirement permissible
o Their Capital Contribution & PSR in LLP are in same proportion as
their shareholding in Co.
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PSR has to be in ratio of shareholding
Whether preference share capital to be considered?
Whether fixed share of profits to be considered as part of PSR?
Only at time of conversion – subsequent changes permissible
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Conversion Of Company Into LLP – Exemption
o Shareholders of co. do not receive any consideration on
conversion other than share in Profit & Capital Contribution in
LLP
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Loan accounts?
Royalty on future sales/profits?
Remuneration & Interest on Capital?
o Total of PSR of Shareholders of Co., in LLP should not fall below
50% for 5 consecutive years from conversion date
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To be seen in aggregate – inter se adjustment permissible
Shareholder can retire from LLP
Can shareholder assign his share of profit – continues to remain a
partner vis-à-vis firm
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Conversion Of Company Into LLP – Exemption
o Total sales, Turnover or Gross Receipts in the business of Co.
should not have exceeded Rs.60 lakhs in any of 3 years preceding
year of conversion
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Whether interest, dividends, rents form part of total turnover or
gross receipts?
For investment co?
For property holding co – SC decision in Chennai Properties
Whether turnover of merging co to be also considered if merger in
last 3 years or in same year?
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Conversion Of Company Into LLP – Exemption
o Partners are not paid any amount directly or indirectly from
accumulated profits of Co. for 3 years from conversion date
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Keep aside accumulated profits – only current remuneration, interest
and share of profits to be drawn
o Meaning of “accumulated profits”
o Share premium, revaluation reserve?
o No prohibition on withdrawal of capital
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Conversion Of Company Into LLP – Exemption
o Aravali Polymers LLP v JCIT 65 SOT 11 (Kol)(URO)
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Co converted into LLP – reserves & surplus of Rs.3.06 crore on date
of conversion (12.8.2010)
After conversion (12.10.2010), LLP sold listed investments (made by
co) for Rs.53.56 crore – claimed taxable @ 10%
Rs.49.3 crore post-tax gain
Gave interest-free loans of Rs.50 crore to partners in PSR
Part of loans paid out of reserves & surplus of erstwhile co –
violation of clause (f) of s.47(xiiib)
Capital Gains on conversion to be liable to tax in year of loan u/s
47A(6A) – same as year of conversion – conversion not exempt
transfer u/s 47
LLP taxable as successor of predecessor co
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Conversion Of Company Into LLP - Issues
o If the conditions are not satisfied, capital gains not exempt
o Applicability of ratio of Bombay High Court in CIT v. Texspin
Engineering & Manufacturing Works 263 ITR 345 ?
o What would be the consideration for the transfer for co?
o Whether deemed dividend u/s 2(22)(e)?
o Would capital gains arise in hands of shareholders – exchange of
shares for capital? Is amount credited to capital account of partners
consideration?
o Separate PAN – two separate returns in year of conversion
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Conversion Of Company Into LLP – Other Tax Aspects
o Depreciation in year of succession – 6th proviso to s.32(1) –
proportionate depreciation as if no conversion taken place
o Amortisation of VRS Expenditure – s.35DDA(4A)
o If deduction u/s 35AD to co (capital based incentive), actual cost
nil to LLP – expln 13 to s.43(1)
o Actual cost of block of assets to LLP shall be wdv to co on date of
conversion - expln (2C) to s.43(6)
o Actual cost to LLP – cost to previous owner (co) – s.49(1)(iii)
o Cost of rights of partner in LLP on conversion from co – cost of
shares of co immediately before conversion – s.49(2AAA)
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Conversion Of Company Into LLP – Other Tax Aspects
o S. 72A(6A) – accumulated losses and unabsorbed depreciation of
company deemed to be loss and depreciation of LLP for purposes
of previous year in which business reorganization effected
o 8 year period from year following year of conversion
o What losses get carried forward?
o What if s.47(xiiib) conditions violated after set off of loss?
o Lapsing of MAT Credit – s.115JAA(7)
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Conversion Of LLP Into Company
o Under s.366 – 374 of Companies Act, 2013 – Part I of Chapter XXI
o S.368 - All property, movable & immovable (including actionable claims),
belonging to or vested in a co at the date of its regn in pursuance of this Part,
shall, on such regn, pass to and vest in the co as incorporated under this Act
for all the estate and interest of the co therein
o S.366(1) - For purposes of this Part, word “co” includes any partnership firm,
LLP, co-op. society, society or any other business entity formed under any
other law for the time being in force which applies for regn under this Act
o No specific exemption available
o Can benefit of s. 47(xiii) be availed ?
o Application of principle laid down in Texspin’s case
o 2 parties to transfer
o Consideration accruing to transferor
o Statutory vesting not as a result of transfer
o Can benefit of s. 72A(6) be availed ?
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Introduction of Asset into LLP
o Section 45(3) – transfer of capital asset by partner to firm
chargeable in year in which transfer takes place and amount
recorded as value of capital asset deemed to be full value of
consideration
o S. 32 of LLP Act rwr 23(2) – whether necessary to introduce at
market value
o Applicability of s.50C where asset is immovable property
o S.45(3) and s.50C both deem full value of consideration
o Whether deeming fiction on a deeming fiction
o Applicability of s.56(2)(viia) where asset is shares of a closely held
co
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Assignment Of Share In LLP By Partner
o Right to transfer / assign rights to share profits/losses and to
receive distributions in LLP – s.42 of LLP Act
o Transfer permissible either wholly or in part
o Transfer does not cause disassociation of partner or dissolution & winding up
o Assignee not entitled to participate in mgt or conduct of activities of LLP or
access information concerning transactions of the LLP
o Would such transfer amount to ‘retirement’?
o Would such assignment amount to ‘transfer’?
o Would such assignment attract capital gains tax?
o What would be cost of acquisition?
o Assignment of Share in Profits without Assignment of Capital
o Transfer of income without transfer of assets – s.60 – income taxable in
hands of transferor
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Assignment Of Share In LLP By Partner
o Can assignee claim exemption u/s 10(2A) for the share of profits
from LLP?
o In the case of a person being a partner of a firm which is separately assessed
as such, his share in the total income of the firm
o Radha Krishna Jalan v. CIT 294 ITR 28 (Gau)
o From CIT v. Sunil J. Kinariwala 259 ITR 10 (SC), following principles relating
to diversion of share of income of a partner at source by overriding title
emerge
o (1)A sub-partnership is a partnership within a partnership in respect of the share of
a partner in the main partnership. Formation of a sub-partnership does not affect
the position of the partner in the main partnership though its character changes
vis-a-vis the sub-partnership and the income-tax authorities.
o (2)Superior Title of sub-partnership diverts at source the share income of
concerned partner in main partnership before it becomes income of the partners.
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Assignment Of Share In LLP By Partner
o (3)Assessment of a share of income of a partnership in the hands of a partner has
to be apportioned as per the provisions of Act - thereafter, income-tax authorities
are required to determine whether it would be assessed in the hands of that
partner or in the hands of the sub-partnership.
o (4)Diversion of income of a partner in the main partnership at source to the subpartnership by overriding obligation created by the sub-partnership converts the
income of a partner into the income of the sub-partnership, thus, vesting an
enforceable right upon the sub-partnership to claim a share in the profits accrued
to or received by the partner.
o (5)The right to receive profits and pay losses become the asset of the subpartnership. [Para 21]
o Diversion of income by overriding title to sub-partnership confers upon it the
attributes of a partner insofar as it relates to such income for the purpose of
Income-tax Act irrespective of provisions of Indian Partnership Act.
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Assignment Of Share In LLP By Partner
o A sub-partnership has been recognized in India and registered as a
partnership firm under Income-tax Act though the term has not been defined
in the Indian Partnership Act.
o A partnership firm cannot become a partner in another partnership firm for
the purpose of Indian Partnership Act, since a firm is not a person under this
Act and is, therefore, not eligible to enter into an agreement.
o The position is otherwise insofar the Income-tax Act is concerned. In Incometax Act, ‘person’ has been defined in section 2(31) to include a firm also.
o Anomalous situation in case a sub-partnership is not deemed to be a partner
in respect of assessment of its income diverted from a partner in main
partnership by overriding title.
o Wef 1-4-1993, income of a partnership subject to tax in hands of firm. Share
of a partner exempted under section 10(2A). If benefit of section 10(2A)
denied in case of diversion, would nullify basic scheme of Act, since income
of partner once taxed in hands of partnership again liable to tax in hands of
sub-partnership - contrary to legislative scheme.
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Merger of LLPs
o Section 62 – Amalgamation or Reconstruction of LLPs
o With approval of NCLT
o NCLT may make provision for transfer to transferee LLP of whole or any part
of undertaking, property or liabilities of any transferor LLP
o Whether exempt transfer u/s 47?
o No specific exemption
o Whether slump sale u/s 50B?
o S.2(42C) – “slump sale” means the transfer of one or more undertakings as
a result of the sale for a lump sum consideration without values being
assigned to the individual assets and liabilities in such sales
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Recovery Of Tax
o S. 188A - every person who was a partner of a firm during a
previous year is jointly and severally liable along with the firm
for the amount of tax, penalty or other sum payable by the firm
o S. 167C - where the tax due from the LLP in respect of income of
any previous year cannot be recovered, in such a case, every
person, who is a partner of the LLP at any time during the
relevant previous year, shall be jointly and severally liable for the
payment of such tax, unless he proves that the non-recovery
cannot be attributed to any gross neglect, misfeasance or breach
of duty on his part in relation to the affairs of the LLP.
o S. 188A vs. 167 C
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Conclusion
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