INTRODUCTION
The inclination to collaborate to accomplish certain commercial objectives has a long history. The commercial magnetism of such collaborations and a need to govern their business ultimately led to the codification of corporate and partnership laws.
GENESIS AND DEVELOPMENT OF PARTNERSHIP LAWS
Corporations and Partnerships have been a primary form of business structure for a long time now. For more than a century, partnership law has offered an all-embracing and lucid alternative to corporate law. Although, the two bodies of law have much in common, historically they have differed sharply on the role of the contract and private ordering in structuring the firm.
Partnership law encourages private ordering through bargaining by providing an agreement amongst partners. In contrast, corporate law historically has provided a mandatory framework for firm structure highly resistant to shareholders’ attempts to define their relationships through bargaining. Proponents of private ordering within firms prefer the freedoms of partnership law to the mandates of corporate law, and over time they have enjoyed some success in extending the bargaining model from partnership law to corporate law.
However, certain inherent limitations of both these forms of businesses make them unsuitable for certain businesses. This ultimately led to the evolution of certain hybrid forms of business structures such as limited partnerships, limited liability partnerships, limited liability limited partnerships etc.
CONCEPT OF A LIMITED LIABILITY PARTNERSHIP (LLP)
A LLP as its name implies is essentially a partnership with limited liability. It is a business entity akin to a body corporate having a legal personality separate from that of its partners and combines features of both companies and partnerships. The entity provides the internal flexibility of a partnership i.e. by allowing the partners to adopt whatever form of internal organization they prefer while at the same time limiting their liability with respect to the LLP to their individual contributions.
While the LLP gives the benefit of limited liability to its partners, it does not shield them from legal liability arising from their own personal acts, which are not done for and on behalf of the LLP. In other words, such partners continue to be personally liable for their own negligence and for other wrongful acts committed in their personal capacity.
The LLP is formed by way of incorporation or registration under the governing law. The LLP being a creature of statute (similar to a body corporate) is upon incorporation, an entity that can potentially last indefinitely and can survive changes to its partners. Similar to a body corporate, all property and assets acquired by the LLP belongs to the LLP and not to its individual partners. Similarly all debts and obligations of the partnership arising due to contract, tort or otherwise are assumed by the LLP. In the event of winding up of the LLP, the assets of the LLP are available for distribution to its creditors. The partners are then liable to contribute to the assets of the LLP to the extent they have agreed to do so in the partnership agreement. Any surplus assets are distributed among the partners.
The push for the creation of limited liability partnership grew from several factors, such as general increase in the incidence of litigation for professional’s negligence and the size of claims; the risk to a partner's personal assets, when the claim exceeds the sum of the assets and insurance cover of the partnership; the growth in the size of partnerships; increase in specialization among partners and the coming together of different professions within a partnership.
However, the concerns centered on the fact that partners had unlimited personal liability irrespective of any fault or any degree of fault on the part of a particular partner and the partners generally. The level of protection that a limited liability partnership affords to its partners is an important factor that led to the proliferation of this form of business structure. Major professional and venture capital firms around the world prefer this form of business over the others. The following paragraphs will discuss the limited liability partnership laws around the world.
LLP LAWS IN UNITED STATES OF AMERICA (USA)
The idea for the LLP has been credited to “a twenty-odd person law firm from Lubbock,” Texas[2]. Their idea, which led to the enactment of the first LLP statute in Texas in 1991, was a reaction to the legal fallout from an economic calamity. The LLP was a direct outgrowth of the collapse of real estate and energy prices in the late 1980s, and the concomitant disaster that befell Texas’s banks and savings and loan associations. Texas led the nation in bank and savings and loans failures during the 1980s[3].
The US Federal Deposit Insurance Corporation (“FDIC”), having made huge payouts to depositors, did its best to recover some of its losses from those who were (or might arguably be) legally responsible for the losses. Of course, directors and officers of the failed financial institutions were pursued, but their personal assets were dwarfed by the size of the losses.
Naturally, the FDIC looked in all directions for defendants who could provide more meaningful compensation for its losses, and its gaze fell on accountants and lawyers who had provided professional services to the failed institutions. Large accounting firms and law firms that had a relationship with the failed institutions were particularly inviting targets because, not only would they have liability insurance, but the personal wealth of their many partners would be available to help satisfy any judgment.
If the FDIC could show that one member of a professional firm was guilty of wrongful conduct in their professional relationship with a failed financial institution, all members of the firm would be personally liable. This gave the FDIC considerable leverage in its negotiations with firms and their insurers where there was substantial evidence that one or more members of the firm had fallen short in discharging their professional duties or were parties to outright fraud.
The enactment of Texas legislation allowed members of certain professions who were carrying on business as ordinary partnerships to register as LLPs. Once a firm was registered as a LLP, each partner was shielded from personal liability claims against the firm arising from any future malpractice of other members of the firm.
The “Texas model” for LLP legislation has two key characteristics. Firstly, its liability shield only covers professional malpractice claims. Secondly, the liability shield does not protect a professional for personal malpractice, that is, where they were personally involved in the wrongful conduct or had direct supervisory responsibility over those who were personally involved in the wrongful conduct.
After Texas passed its LLP legislation, most other states quickly followed its lead. Today all 51 states have passed laws that permit the formation of a LLP[4].
A limited liability partnership is considered as a special type of partnership that requires a special filing with the State where the partners operate. This partnership form offers all partners the right to participate in the management and the operation of a partnership without subjecting themselves to unlimited personal liability as is the case in general partnerships[5].
However, if the special laws governing it are not precisely followed, they can be held as general partnership in a court of law. Moreover, if the partners want, the old partnership agreement can continue to govern the newly formed LLP. A partnership, especially a limited liability partnership, transacting business in any state other than the state of domicile is required to register with the Secretary of State of the foreign state as a foreign partnership and file a statement of foreign qualification[6].
LLP LAW IN JERSEY
The Channel Island of Jersey[7] is a British Crown Dependency[8]. In 1997, Jersey enacted the Limited Liability Partnership (Jersey) Law 1997. The driving force that led to the codification of the legislation was that the major Accountancy firms in UK were facing a number of high profile lawsuits arising out of real/alleged audit failures. But even after their long campaign, they could not secure liability concessions from the UK government. As a result they approached the Jersey Authorities in mid 1990s to enact similar legislation[9].
The Jersey LLP Bill was drafted by Ernst & Young and Price Waterhouse (now part of PricewaterhouseCoopers), at a private cost of more that £1 million[10] and was designed to dilute ‘joint and several’ liability and reduce the redress available to audit stakeholders[11]. To secure business, Ernst & Young and Price Waterhouse portrayed themselves as fierce rivals, but in pursuit of lower liabilities and dilution of third party rights they co-operated and developed a joint strategy. Jersey hoped to financially gain from its LLP legislation in the hope that the lower liability obligations would attract major firms to locate there and improve government finances by paying annual registration levies.
The Bill was “championed by the Island’s leading politicians”[12] who also promised to ‘fast track’ it, effectively displacing the previously agreed legislative programme[13] persuading some to conclude that Jersey was offering its ‘legislature for hire’[14] to enable major accountancy firms (or international capital) to hold other nation-states (e.g. the UK) to ransom. The approach to Jersey was accompanied by a threat that if the British government failed to match the liability concessions, the firms would relocate their operations to Jersey[15]. The threat was sufficient to discipline the UK government and it promised similar legislation “within a week”[16]. The UK government eventually enacted the LLP legislation and the firms did not register in Jersey.
The externally drafted legislation was described by a member of Jersey parliament as
“not offshore tax avoidance, on which our finance industry is built, but offshore liability avoidance”[17].
As per the Jersey Law, a LLP is required to pay a £10,000 as registration fee, which makes it affordable only to businesses of stature. Every LLP must also have a registered office in Jersey at which it must maintain those records specified in Article 8(4) of the law, which shall be available for inspection by partners. The names and addresses of all the partners of a LLP will be a matter of public record. However, LLPs will not be required to file partnership agreement, accounts or to have their accounts audited; they must, however, maintain proper accounting records.
On a closer look at the provisions of the law, one finds that the provisions are somewhat similar to legislation in the State of Delaware (US). The law allows partners to take an active part in the management of a partnership whilst retaining their own individual limited liability. Every LLP will be required to make a £5 million provision for judgments against the partnership and to compensate creditors. This financial provision against debts and liabilities of the partnership will have to be maintained throughout the life of the partnership and will not be permitted to be made the subject of a security or set-off[18].
Despite actually having a separate legal personality, the Jersey limited liability partnership is treated as a partnership for taxation purposes. It will hence be fiscally transparent i.e. tax is levied on the individual partner’s share of profits rather than the overall partnership profit. In this respect the LLP is also similar to the Scottish general partnership structure.
LLP LAW In United Kingdom (UK)
In early 1997 the UK Department of Trade and Industry (“DTI”) circulated a consultation paper that begins with the statement that the UK government had announced its intention to bring forward legislation at the earliest opportunity to make limited liability partnership available to regulated professions in the UK. As already discussed this was a result of the pressure exerted by the major UK accountancy and law firms which were expected to take advantage of the Jersey LLP.
The UK Limited Liability Partnerships Act 2000 came into force on 6 April 2001[19]. A limited liability partnership provided the organisational flexibility and tax status of a partnership with limited liability for its members.
The Act classifies partners into two categories namely ‘members’ and ‘designated members’. A limited liability partnership must have at least two, formally appointed, designated members at all times. Designated members are similar to executive or managing directors and the company secretary of a company. If there are fewer than two designated members then every member automatically becomes a designated member. By virtue of section 24 of the UK Companies Act 1985, where a limited liability partnership continues for more than six months with a single member, then that member becomes liable jointly and severally with the LLP for the debts of the firms contracted for during that period.
The management structure of a limited liability partnership is governed by its agreement among members and LLP and members inter se. The agreement should cover the sort of issues dealt within a normal partnership agreement. It is however not mandatory to file the same with the Registrar. The Act vide First Schedule provides for certain default provisions which shall apply if the members agreement is silent on a certain issue.
A limited liability partnership is also considered to be a 'Legal Person' in its own right, and can operate in the same way as a company in most respects. However the one important difference between a LLP and a limited company is the way in which the profits are taxed, with each member of the partnership being taxed according to the share of the profits that they receive rather than the LLP paying tax directly on its profits.
LLPs are required to produce and publish financial accounts with a similar level of detail to a similar sized limited company and will have to submit accounts and an annual return to the Registrar of Companies each year. This publication requirement is far more demanding than the position for normal partnerships and some specific accounting rules may lead to different profits from those of a normal partnership. The Act applies the provisions of company law and insolvency law, with appropriate modifications, to LLPs.
LLP LAW IN SINGAPORE
In Singapore, a Study Team on Limited Partnerships (“LPs”) and Limited Liability Partnerships (“LLPs”) was set up by the Ministry of Finance in November 2002. Its terms of reference were to work out the details of the legal framework governing limited partnerships and limited liability partnerships. The Singapore Limited Liability Partnership Act 2005 came into effect on April 11, 2005. By having a close look at the legislation, one can conclude that the Singapore LLP Act is broadly modelled on the Delaware Revised Uniform Partnership Act (the “Delaware Code”).
LLPs are required at all times to have at least two partners, with the exception that if a LLP is left with only one partner, the sole remaining partner will be given a grace period of up to two years to find a new partner. If the LLP continues with less than two partners for more than two years, the sole remaining partner assumes unlimited liability and is vulnerable to winding-up by the courts.
It is mandatory for a LLP to have a local manager who is a natural person aged twenty one years and above and does not have a questionable character and must also meet other requirements specified under the LLP Regulations, including those pertaining to solvency. One of the important characteristics of a manager is that he need not be a partner of the LLP.
Although the LLP structure is available to all types of businesses yet it is not subject to full financial reporting and disclosure requirements, for example, relating to its capital contributions and changes to capital, making this a suitable vehicle for small businesses and new start-ups. Further, it is also not mandatory to file the partnership agreement with the Registrar.
LLPs are required to ensure that the partnership name is followed by the words ‘limited liability partnership’ or the acronym ‘LLP’. Invoices and official correspondence are also required to carry the name, registration number and a statement that the partnership is registered with limited liability. Additionally, LLPs formed by conversion of existing unlimited partnerships are required to carry a statement regarding the conversion and the effective date on all official correspondence and invoices for 12 months.
LLPs are also required to file a declaration of solvency or insolvency, which will be publicly available. Failure to file a declaration of solvency implies insolvency leaving the LLP vulnerable to winding-up action by creditors. As a measure of creditor protection, there is a claw-back mechanism, which allows LLPs to recover amounts distributed to its partners within a period of three years preceding the commencement of the winding up of a LLP.
INDIAN SCENARIO
In India, businesses operate mainly as companies, sole proprietorships and partnerships. Each of these business structures has its own advantages and shortcomings and is subject to different regulatory and tax regimes.
In May 2005, the Expert Committee on Company Law headed by Dr J. J. Irani (“Irani Committee”) recommended the introduction of Limited Liability Partnerships (“LLPs”) as a new form of business entity in India. This recommendation followed close on the heels of a similar recommendation made in 2003 by the Naresh Chandra Committee (II), set up to look into reform of the Companies Act and Partnership Act, that the time was ripe for introduction of LLPs in India.
Both the Committees were of the view that introducing LLPs 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 (LLCs) which are governed by the Companies Act, 1956. In addition to an alternative business structure, LLPs would foster the growth of the services sector, in particular the growth of professional firms, which would in turn increase their global competitiveness.
Acting on the recommendations of the reports of these committees the Ministry of Company Affairs on November 2, 2005 released a Concept Paper on Limited Liability Partnership Law. The concept paper comprises of sixteen chapters and five schedules.
ISSUES FOR CONSIDERATION
Some of the important issues that need in depth analysis, debate, discussion and deliberations are as under:
1. WHETHER LLP FORM OF BUSINESS STRUCTURE SHOULD BE MADE AVAILABLE TO PROFESSIONALS ONLY?
The Naresh Chandra Committee had recommended that the LLP form should be initially made available only to those providing defined professional services like lawyers, company secretaries, accountants and the like. To be eligible for this form of partnership, the profession must be governed by a regulatory Act that adequately controls and disciplines, errant professional conduct. Such professions may be notified by the Department of Company Affairs from time to time. LLP may be extended, at a later stage, to other services and business activities once the experience gained with the LLP form of organisation has been evaluated and tested.
However, the Concept Paper does not restrict the LLP form to professionals. Speaking to Business Line, a senior Company Affairs Ministry official said the Ministry had worked in close coordination with the small and medium enterprises (SMEs) to see how the concept could be extended to the manufacturing sector. Requests were made to the Ministry by the SMEs to expand the ambit of the LLP concept to other businesses and not restrict it to the professionals and the services sector, the official said. During the course of deliberations with experts, it was felt that to encourage SMEs, this concept could be a good option, as the crux of the LLP form is the flexibility of the partnership, the official said.
The inclination to collaborate to accomplish certain commercial objectives has a long history. The commercial magnetism of such collaborations and a need to govern their business ultimately led to the codification of corporate and partnership laws.
GENESIS AND DEVELOPMENT OF PARTNERSHIP LAWS
Corporations and Partnerships have been a primary form of business structure for a long time now. For more than a century, partnership law has offered an all-embracing and lucid alternative to corporate law. Although, the two bodies of law have much in common, historically they have differed sharply on the role of the contract and private ordering in structuring the firm.
Partnership law encourages private ordering through bargaining by providing an agreement amongst partners. In contrast, corporate law historically has provided a mandatory framework for firm structure highly resistant to shareholders’ attempts to define their relationships through bargaining. Proponents of private ordering within firms prefer the freedoms of partnership law to the mandates of corporate law, and over time they have enjoyed some success in extending the bargaining model from partnership law to corporate law.
However, certain inherent limitations of both these forms of businesses make them unsuitable for certain businesses. This ultimately led to the evolution of certain hybrid forms of business structures such as limited partnerships, limited liability partnerships, limited liability limited partnerships etc.
CONCEPT OF A LIMITED LIABILITY PARTNERSHIP (LLP)
A LLP as its name implies is essentially a partnership with limited liability. It is a business entity akin to a body corporate having a legal personality separate from that of its partners and combines features of both companies and partnerships. The entity provides the internal flexibility of a partnership i.e. by allowing the partners to adopt whatever form of internal organization they prefer while at the same time limiting their liability with respect to the LLP to their individual contributions.
While the LLP gives the benefit of limited liability to its partners, it does not shield them from legal liability arising from their own personal acts, which are not done for and on behalf of the LLP. In other words, such partners continue to be personally liable for their own negligence and for other wrongful acts committed in their personal capacity.
The LLP is formed by way of incorporation or registration under the governing law. The LLP being a creature of statute (similar to a body corporate) is upon incorporation, an entity that can potentially last indefinitely and can survive changes to its partners. Similar to a body corporate, all property and assets acquired by the LLP belongs to the LLP and not to its individual partners. Similarly all debts and obligations of the partnership arising due to contract, tort or otherwise are assumed by the LLP. In the event of winding up of the LLP, the assets of the LLP are available for distribution to its creditors. The partners are then liable to contribute to the assets of the LLP to the extent they have agreed to do so in the partnership agreement. Any surplus assets are distributed among the partners.
The push for the creation of limited liability partnership grew from several factors, such as general increase in the incidence of litigation for professional’s negligence and the size of claims; the risk to a partner's personal assets, when the claim exceeds the sum of the assets and insurance cover of the partnership; the growth in the size of partnerships; increase in specialization among partners and the coming together of different professions within a partnership.
However, the concerns centered on the fact that partners had unlimited personal liability irrespective of any fault or any degree of fault on the part of a particular partner and the partners generally. The level of protection that a limited liability partnership affords to its partners is an important factor that led to the proliferation of this form of business structure. Major professional and venture capital firms around the world prefer this form of business over the others. The following paragraphs will discuss the limited liability partnership laws around the world.
LLP LAWS IN UNITED STATES OF AMERICA (USA)
The idea for the LLP has been credited to “a twenty-odd person law firm from Lubbock,” Texas[2]. Their idea, which led to the enactment of the first LLP statute in Texas in 1991, was a reaction to the legal fallout from an economic calamity. The LLP was a direct outgrowth of the collapse of real estate and energy prices in the late 1980s, and the concomitant disaster that befell Texas’s banks and savings and loan associations. Texas led the nation in bank and savings and loans failures during the 1980s[3].
The US Federal Deposit Insurance Corporation (“FDIC”), having made huge payouts to depositors, did its best to recover some of its losses from those who were (or might arguably be) legally responsible for the losses. Of course, directors and officers of the failed financial institutions were pursued, but their personal assets were dwarfed by the size of the losses.
Naturally, the FDIC looked in all directions for defendants who could provide more meaningful compensation for its losses, and its gaze fell on accountants and lawyers who had provided professional services to the failed institutions. Large accounting firms and law firms that had a relationship with the failed institutions were particularly inviting targets because, not only would they have liability insurance, but the personal wealth of their many partners would be available to help satisfy any judgment.
If the FDIC could show that one member of a professional firm was guilty of wrongful conduct in their professional relationship with a failed financial institution, all members of the firm would be personally liable. This gave the FDIC considerable leverage in its negotiations with firms and their insurers where there was substantial evidence that one or more members of the firm had fallen short in discharging their professional duties or were parties to outright fraud.
The enactment of Texas legislation allowed members of certain professions who were carrying on business as ordinary partnerships to register as LLPs. Once a firm was registered as a LLP, each partner was shielded from personal liability claims against the firm arising from any future malpractice of other members of the firm.
The “Texas model” for LLP legislation has two key characteristics. Firstly, its liability shield only covers professional malpractice claims. Secondly, the liability shield does not protect a professional for personal malpractice, that is, where they were personally involved in the wrongful conduct or had direct supervisory responsibility over those who were personally involved in the wrongful conduct.
After Texas passed its LLP legislation, most other states quickly followed its lead. Today all 51 states have passed laws that permit the formation of a LLP[4].
A limited liability partnership is considered as a special type of partnership that requires a special filing with the State where the partners operate. This partnership form offers all partners the right to participate in the management and the operation of a partnership without subjecting themselves to unlimited personal liability as is the case in general partnerships[5].
However, if the special laws governing it are not precisely followed, they can be held as general partnership in a court of law. Moreover, if the partners want, the old partnership agreement can continue to govern the newly formed LLP. A partnership, especially a limited liability partnership, transacting business in any state other than the state of domicile is required to register with the Secretary of State of the foreign state as a foreign partnership and file a statement of foreign qualification[6].
LLP LAW IN JERSEY
The Channel Island of Jersey[7] is a British Crown Dependency[8]. In 1997, Jersey enacted the Limited Liability Partnership (Jersey) Law 1997. The driving force that led to the codification of the legislation was that the major Accountancy firms in UK were facing a number of high profile lawsuits arising out of real/alleged audit failures. But even after their long campaign, they could not secure liability concessions from the UK government. As a result they approached the Jersey Authorities in mid 1990s to enact similar legislation[9].
The Jersey LLP Bill was drafted by Ernst & Young and Price Waterhouse (now part of PricewaterhouseCoopers), at a private cost of more that £1 million[10] and was designed to dilute ‘joint and several’ liability and reduce the redress available to audit stakeholders[11]. To secure business, Ernst & Young and Price Waterhouse portrayed themselves as fierce rivals, but in pursuit of lower liabilities and dilution of third party rights they co-operated and developed a joint strategy. Jersey hoped to financially gain from its LLP legislation in the hope that the lower liability obligations would attract major firms to locate there and improve government finances by paying annual registration levies.
The Bill was “championed by the Island’s leading politicians”[12] who also promised to ‘fast track’ it, effectively displacing the previously agreed legislative programme[13] persuading some to conclude that Jersey was offering its ‘legislature for hire’[14] to enable major accountancy firms (or international capital) to hold other nation-states (e.g. the UK) to ransom. The approach to Jersey was accompanied by a threat that if the British government failed to match the liability concessions, the firms would relocate their operations to Jersey[15]. The threat was sufficient to discipline the UK government and it promised similar legislation “within a week”[16]. The UK government eventually enacted the LLP legislation and the firms did not register in Jersey.
The externally drafted legislation was described by a member of Jersey parliament as
“not offshore tax avoidance, on which our finance industry is built, but offshore liability avoidance”[17].
As per the Jersey Law, a LLP is required to pay a £10,000 as registration fee, which makes it affordable only to businesses of stature. Every LLP must also have a registered office in Jersey at which it must maintain those records specified in Article 8(4) of the law, which shall be available for inspection by partners. The names and addresses of all the partners of a LLP will be a matter of public record. However, LLPs will not be required to file partnership agreement, accounts or to have their accounts audited; they must, however, maintain proper accounting records.
On a closer look at the provisions of the law, one finds that the provisions are somewhat similar to legislation in the State of Delaware (US). The law allows partners to take an active part in the management of a partnership whilst retaining their own individual limited liability. Every LLP will be required to make a £5 million provision for judgments against the partnership and to compensate creditors. This financial provision against debts and liabilities of the partnership will have to be maintained throughout the life of the partnership and will not be permitted to be made the subject of a security or set-off[18].
Despite actually having a separate legal personality, the Jersey limited liability partnership is treated as a partnership for taxation purposes. It will hence be fiscally transparent i.e. tax is levied on the individual partner’s share of profits rather than the overall partnership profit. In this respect the LLP is also similar to the Scottish general partnership structure.
LLP LAW In United Kingdom (UK)
In early 1997 the UK Department of Trade and Industry (“DTI”) circulated a consultation paper that begins with the statement that the UK government had announced its intention to bring forward legislation at the earliest opportunity to make limited liability partnership available to regulated professions in the UK. As already discussed this was a result of the pressure exerted by the major UK accountancy and law firms which were expected to take advantage of the Jersey LLP.
The UK Limited Liability Partnerships Act 2000 came into force on 6 April 2001[19]. A limited liability partnership provided the organisational flexibility and tax status of a partnership with limited liability for its members.
The Act classifies partners into two categories namely ‘members’ and ‘designated members’. A limited liability partnership must have at least two, formally appointed, designated members at all times. Designated members are similar to executive or managing directors and the company secretary of a company. If there are fewer than two designated members then every member automatically becomes a designated member. By virtue of section 24 of the UK Companies Act 1985, where a limited liability partnership continues for more than six months with a single member, then that member becomes liable jointly and severally with the LLP for the debts of the firms contracted for during that period.
The management structure of a limited liability partnership is governed by its agreement among members and LLP and members inter se. The agreement should cover the sort of issues dealt within a normal partnership agreement. It is however not mandatory to file the same with the Registrar. The Act vide First Schedule provides for certain default provisions which shall apply if the members agreement is silent on a certain issue.
A limited liability partnership is also considered to be a 'Legal Person' in its own right, and can operate in the same way as a company in most respects. However the one important difference between a LLP and a limited company is the way in which the profits are taxed, with each member of the partnership being taxed according to the share of the profits that they receive rather than the LLP paying tax directly on its profits.
LLPs are required to produce and publish financial accounts with a similar level of detail to a similar sized limited company and will have to submit accounts and an annual return to the Registrar of Companies each year. This publication requirement is far more demanding than the position for normal partnerships and some specific accounting rules may lead to different profits from those of a normal partnership. The Act applies the provisions of company law and insolvency law, with appropriate modifications, to LLPs.
LLP LAW IN SINGAPORE
In Singapore, a Study Team on Limited Partnerships (“LPs”) and Limited Liability Partnerships (“LLPs”) was set up by the Ministry of Finance in November 2002. Its terms of reference were to work out the details of the legal framework governing limited partnerships and limited liability partnerships. The Singapore Limited Liability Partnership Act 2005 came into effect on April 11, 2005. By having a close look at the legislation, one can conclude that the Singapore LLP Act is broadly modelled on the Delaware Revised Uniform Partnership Act (the “Delaware Code”).
LLPs are required at all times to have at least two partners, with the exception that if a LLP is left with only one partner, the sole remaining partner will be given a grace period of up to two years to find a new partner. If the LLP continues with less than two partners for more than two years, the sole remaining partner assumes unlimited liability and is vulnerable to winding-up by the courts.
It is mandatory for a LLP to have a local manager who is a natural person aged twenty one years and above and does not have a questionable character and must also meet other requirements specified under the LLP Regulations, including those pertaining to solvency. One of the important characteristics of a manager is that he need not be a partner of the LLP.
Although the LLP structure is available to all types of businesses yet it is not subject to full financial reporting and disclosure requirements, for example, relating to its capital contributions and changes to capital, making this a suitable vehicle for small businesses and new start-ups. Further, it is also not mandatory to file the partnership agreement with the Registrar.
LLPs are required to ensure that the partnership name is followed by the words ‘limited liability partnership’ or the acronym ‘LLP’. Invoices and official correspondence are also required to carry the name, registration number and a statement that the partnership is registered with limited liability. Additionally, LLPs formed by conversion of existing unlimited partnerships are required to carry a statement regarding the conversion and the effective date on all official correspondence and invoices for 12 months.
LLPs are also required to file a declaration of solvency or insolvency, which will be publicly available. Failure to file a declaration of solvency implies insolvency leaving the LLP vulnerable to winding-up action by creditors. As a measure of creditor protection, there is a claw-back mechanism, which allows LLPs to recover amounts distributed to its partners within a period of three years preceding the commencement of the winding up of a LLP.
INDIAN SCENARIO
In India, businesses operate mainly as companies, sole proprietorships and partnerships. Each of these business structures has its own advantages and shortcomings and is subject to different regulatory and tax regimes.
In May 2005, the Expert Committee on Company Law headed by Dr J. J. Irani (“Irani Committee”) recommended the introduction of Limited Liability Partnerships (“LLPs”) as a new form of business entity in India. This recommendation followed close on the heels of a similar recommendation made in 2003 by the Naresh Chandra Committee (II), set up to look into reform of the Companies Act and Partnership Act, that the time was ripe for introduction of LLPs in India.
Both the Committees were of the view that introducing LLPs 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 (LLCs) which are governed by the Companies Act, 1956. In addition to an alternative business structure, LLPs would foster the growth of the services sector, in particular the growth of professional firms, which would in turn increase their global competitiveness.
Acting on the recommendations of the reports of these committees the Ministry of Company Affairs on November 2, 2005 released a Concept Paper on Limited Liability Partnership Law. The concept paper comprises of sixteen chapters and five schedules.
ISSUES FOR CONSIDERATION
Some of the important issues that need in depth analysis, debate, discussion and deliberations are as under:
1. WHETHER LLP FORM OF BUSINESS STRUCTURE SHOULD BE MADE AVAILABLE TO PROFESSIONALS ONLY?
The Naresh Chandra Committee had recommended that the LLP form should be initially made available only to those providing defined professional services like lawyers, company secretaries, accountants and the like. To be eligible for this form of partnership, the profession must be governed by a regulatory Act that adequately controls and disciplines, errant professional conduct. Such professions may be notified by the Department of Company Affairs from time to time. LLP may be extended, at a later stage, to other services and business activities once the experience gained with the LLP form of organisation has been evaluated and tested.
However, the Concept Paper does not restrict the LLP form to professionals. Speaking to Business Line, a senior Company Affairs Ministry official said the Ministry had worked in close coordination with the small and medium enterprises (SMEs) to see how the concept could be extended to the manufacturing sector. Requests were made to the Ministry by the SMEs to expand the ambit of the LLP concept to other businesses and not restrict it to the professionals and the services sector, the official said. During the course of deliberations with experts, it was felt that to encourage SMEs, this concept could be a good option, as the crux of the LLP form is the flexibility of the partnership, the official said.
It is felt that the recommendation made by the said Committee is not tenable, firstly because it runs contrary to an important objective of having the LLP structure, which is to encourage entrepreneurship. Secondly, new business ideas inevitably fall outside the scope of traditional professional services. Thirdly, the LLP contains features which are particularly useful to entrepreneurial start-ups and small and medium enterprises, so there is no justifiable reason to restrict it to professional firms only. Fourthly, it is observed that the LLP Statutes in countries like UK, Jersey and Singapore do not restrict the LLP form to professionals only. Fifthly, even established professional firms are now in the quest of expanding their existing range of services. For example, accounting and law firms are in today’s ever increasing globalised environment seeking to provide complimentary services such as management consultancy, stock brokering, credit rating and market research, etc. If LLPs are restricted to professionals only, can such related businesses of these professionals be housed under the same LLP structure? Sixthly, if LLP form is restricted to professionals only then which professionals shall qualify to enjoy this benefit. If Company Secretaries, Chartered Accountants and Advocates qualify on the basis that they are subject to strict rules/code of conduct, can the same be made applicable to other professionals also like financial advisors, stock brokers and real estate agents etc.? Lastly, considering the time, efforts and resources that it takes to bring a new legislation into existence and amend it, it is not practical to restrict the LLP structure to professional firms only. In view of the above, the approach adopted by the Concept Paper seems justified.
2. SHOULD A LIMITED LIABILITY PARTNERSHIP BE REQUIRED TO HAVE COMPULSORY INSURANCE?
The Naresh Chandra Committee had recommended that there should be insurance cover and/or or funds in specially designated, segregated accounts for the satisfaction of judgments and decrees against the LLP in respect of issues for which liability may be limited under law. The extent of insurance should be known to, and filed with the RoC, and be available for inspection to interested parties upon request. However, the Concept Paper does not provide a limited liability partnership to have compulsory insurance.
It is debatable, whether a limited liability partnership should be required by law to maintain insurance cover and/or or funds in specially designated, segregated accounts for the satisfaction of judgments and decrees against the LLP.
In order to increase the assets available for distribution in the event of a successful claim against the LLP, certain statutes impose a minimum bond or compulsory insurance. For example, Article 6 of the Jersey Act requires an LLP to make financial provision for a sum of £5 million to be paid by a bank/insurance company to creditors of the LLP upon the dissolution of the LLP.
However, as already discussed, one of the main reasons for the enactment of the first LLP statute in Texas in 1991, was that the US Federal Deposit Insurance Corporation (“FDIC”) trapped accountants and lawyers who had provided professional services to the failed institutions. Large accounting firms and law firms that had a relationship with the failed institutions were particularly targeted because, not only they had liability insurance, but the personal wealth of their many partners would be available to help satisfy any judgment. This gave the FDIC considerable leverage in its negotiations with firms and their insurers where there was substantial evidence that one or more members of the firm had fallen short in discharging their professional duties or were parties to outright fraud. Therefore, it is felt that if compulsory insurance is provided for, it will be more of a subject of exploitation and misuse rather than serving as a safeguard.
Further, it is also felt that the requirement of compulsory insurance will deter small and medium enterprises and new entrepreneurial set-ups. In addition, it is difficult to determine the amount of the insurance. Therefore, the approach adopted by the Concept Paper seems justified.
3. Should a limited liability partnership be required by law to have its accounts audited and filed with the Registrar?
The Naresh Chandra Committee had recommended that the standards of financial disclosures would be the same as, or similar to, that being prescribed for private companies subject to privilege already available between a professional and his or her client in maintaining confidentiality.
The Concept Paper does not provide for the accounts of the LLP to be audited and filed with the Registrar. However, limited liability partnerships are required to maintain proper books of accounts relating to its affair for each year of its existence on accrual basis and according to the double entry system of accounting, and the same shall be maintained at its registered office for a period as may be prescribed.
In Jersey, all LLPs are required to maintain accounting records but there is no statutory requirement for the accounts to be audited or filed with the Registrar[20]. In Delaware (US), an LLP is only required to file an annual report, containing information relating to non-financial items such as the name, address and number of partners in the LLP.
In UK, the accounting and audit requirements for LLPs are similar to those of companies. This approach of treating LLPs as if they were companies has been criticized and cited as a reason why the UK LLP model is not as widely used.
It is felt that a LLP in this regard should be treated like a general partnership rather as a private company. Therefore, a LLP may not be required by law to have its accounts audited, or filed with the Registrar.
4. WHETHER THE LLP AGREEMENT SHOULD BE FILED WITH THE REGISTRAR?
The Naresh Chandra Committee had recommended that the relations inter se the partners and between the partners and the LLP may be governed by individual agreements between the parties concerned. Such agreement must be filed with the RoC; changes made in the agreement will also have to be filed with the RoC. The LLP agreement should contain information as may be prescribed by the Department of Company Affairs.
The Concept Paper adopts the same approach and provides that information as may be prescribed in Regulations and form part of limited liability partnership agreement and any changes made therein shall be filed with the Registrar in the manner and form as may be prescribed.
However, UK and Singapore LLP Statutes do not require LLPs to file their LLP agreement with the Registrar.
5. WHAT OTHER LEGISLATIONS, RULES, REGULATIONS AND PROCEDURES NEED TO BE AMENDED FOR FACILITATING A SMOOTH ENTRY OF LLP?
Limited liability partnership is a new entity which contains features of both a company and a partnership. Therefore, apart from the issues highlighted above, it is important to consider the applicability of all other laws on the LLP. It is felt that the introduction of LLPs will require amendments in several legislations and Regulations for example the SEBI Regulations, Tax Laws, Banking Regulations, the parent Acts of Statutory Bodies like ICSI, ICAI and ICWAI and their respective Rules and Regulations etc.
Further, there remains the important issue of how the proposed LLP Act should be structured to deal with every aspect of this new entity. The UK approach is to have a basic LLP Act dealing with key elements of the new entity and to apply all other relevant legislation to LLPs through Regulations. These Regulations state how the provisions of these other legislations should be modified to apply to the LLP. However, this approach has been criticized.
SUMMARY AND CONCLUSION
The LLP is a new business entity, which seeks to combine the benefits of limited liability with the flexibility of partnership. To ensure that these benefits are not abused, the proposed Indian LLP Act must impose sufficient safeguards to protect third parties who deal with LLPs. At the same time the compliance requirements must not be too onerous to turn businesses away from adopting the LLP vehicle. The challenge for policy makers will be to find the appropriate balance to ensure that the LLP becomes a useful alternative to Indian businesses and professionals.
In conclusion, it should be stated that the recommendation of the Naresh Chandra and the Dr Irani Committees to introduce LLPs in India has been made with the aim of steering the domestic Indian market towards global integration. Considering the fact that India is progressively making efforts to move up the technological and innovation ladder, and increase its participation in global trade and commerce, Concept Paper on LLP Law is wholly welcome.
2. SHOULD A LIMITED LIABILITY PARTNERSHIP BE REQUIRED TO HAVE COMPULSORY INSURANCE?
The Naresh Chandra Committee had recommended that there should be insurance cover and/or or funds in specially designated, segregated accounts for the satisfaction of judgments and decrees against the LLP in respect of issues for which liability may be limited under law. The extent of insurance should be known to, and filed with the RoC, and be available for inspection to interested parties upon request. However, the Concept Paper does not provide a limited liability partnership to have compulsory insurance.
It is debatable, whether a limited liability partnership should be required by law to maintain insurance cover and/or or funds in specially designated, segregated accounts for the satisfaction of judgments and decrees against the LLP.
In order to increase the assets available for distribution in the event of a successful claim against the LLP, certain statutes impose a minimum bond or compulsory insurance. For example, Article 6 of the Jersey Act requires an LLP to make financial provision for a sum of £5 million to be paid by a bank/insurance company to creditors of the LLP upon the dissolution of the LLP.
However, as already discussed, one of the main reasons for the enactment of the first LLP statute in Texas in 1991, was that the US Federal Deposit Insurance Corporation (“FDIC”) trapped accountants and lawyers who had provided professional services to the failed institutions. Large accounting firms and law firms that had a relationship with the failed institutions were particularly targeted because, not only they had liability insurance, but the personal wealth of their many partners would be available to help satisfy any judgment. This gave the FDIC considerable leverage in its negotiations with firms and their insurers where there was substantial evidence that one or more members of the firm had fallen short in discharging their professional duties or were parties to outright fraud. Therefore, it is felt that if compulsory insurance is provided for, it will be more of a subject of exploitation and misuse rather than serving as a safeguard.
Further, it is also felt that the requirement of compulsory insurance will deter small and medium enterprises and new entrepreneurial set-ups. In addition, it is difficult to determine the amount of the insurance. Therefore, the approach adopted by the Concept Paper seems justified.
3. Should a limited liability partnership be required by law to have its accounts audited and filed with the Registrar?
The Naresh Chandra Committee had recommended that the standards of financial disclosures would be the same as, or similar to, that being prescribed for private companies subject to privilege already available between a professional and his or her client in maintaining confidentiality.
The Concept Paper does not provide for the accounts of the LLP to be audited and filed with the Registrar. However, limited liability partnerships are required to maintain proper books of accounts relating to its affair for each year of its existence on accrual basis and according to the double entry system of accounting, and the same shall be maintained at its registered office for a period as may be prescribed.
In Jersey, all LLPs are required to maintain accounting records but there is no statutory requirement for the accounts to be audited or filed with the Registrar[20]. In Delaware (US), an LLP is only required to file an annual report, containing information relating to non-financial items such as the name, address and number of partners in the LLP.
In UK, the accounting and audit requirements for LLPs are similar to those of companies. This approach of treating LLPs as if they were companies has been criticized and cited as a reason why the UK LLP model is not as widely used.
It is felt that a LLP in this regard should be treated like a general partnership rather as a private company. Therefore, a LLP may not be required by law to have its accounts audited, or filed with the Registrar.
4. WHETHER THE LLP AGREEMENT SHOULD BE FILED WITH THE REGISTRAR?
The Naresh Chandra Committee had recommended that the relations inter se the partners and between the partners and the LLP may be governed by individual agreements between the parties concerned. Such agreement must be filed with the RoC; changes made in the agreement will also have to be filed with the RoC. The LLP agreement should contain information as may be prescribed by the Department of Company Affairs.
The Concept Paper adopts the same approach and provides that information as may be prescribed in Regulations and form part of limited liability partnership agreement and any changes made therein shall be filed with the Registrar in the manner and form as may be prescribed.
However, UK and Singapore LLP Statutes do not require LLPs to file their LLP agreement with the Registrar.
5. WHAT OTHER LEGISLATIONS, RULES, REGULATIONS AND PROCEDURES NEED TO BE AMENDED FOR FACILITATING A SMOOTH ENTRY OF LLP?
Limited liability partnership is a new entity which contains features of both a company and a partnership. Therefore, apart from the issues highlighted above, it is important to consider the applicability of all other laws on the LLP. It is felt that the introduction of LLPs will require amendments in several legislations and Regulations for example the SEBI Regulations, Tax Laws, Banking Regulations, the parent Acts of Statutory Bodies like ICSI, ICAI and ICWAI and their respective Rules and Regulations etc.
Further, there remains the important issue of how the proposed LLP Act should be structured to deal with every aspect of this new entity. The UK approach is to have a basic LLP Act dealing with key elements of the new entity and to apply all other relevant legislation to LLPs through Regulations. These Regulations state how the provisions of these other legislations should be modified to apply to the LLP. However, this approach has been criticized.
SUMMARY AND CONCLUSION
The LLP is a new business entity, which seeks to combine the benefits of limited liability with the flexibility of partnership. To ensure that these benefits are not abused, the proposed Indian LLP Act must impose sufficient safeguards to protect third parties who deal with LLPs. At the same time the compliance requirements must not be too onerous to turn businesses away from adopting the LLP vehicle. The challenge for policy makers will be to find the appropriate balance to ensure that the LLP becomes a useful alternative to Indian businesses and professionals.
In conclusion, it should be stated that the recommendation of the Naresh Chandra and the Dr Irani Committees to introduce LLPs in India has been made with the aim of steering the domestic Indian market towards global integration. Considering the fact that India is progressively making efforts to move up the technological and innovation ladder, and increase its participation in global trade and commerce, Concept Paper on LLP Law is wholly welcome.
[1] The views expressed are personal. The author can be contacted at aurobindo@gmail.com
[2] Hamilton 1995 at 1073.
[3] Hamilton 1995 at 1069.
[4] See Alan R. Bromberg & Larry E. Ribstein, Bromberg & Ribstein On Limited Liability Partnerships, The Revised Uniform Partnership Act, And The Uniform Limited Partnership Act (2001) 15 (Aspen 2003) (hereinafter Bromberg & Ribstein “Limited Liability”). Some states, including New York, California, Nevada and Oregon, only offer LLP status to professional firms.
[5] Margaret Bartschi, Foundations of Business Organizations for Paralegals, p. 3.
[6] Angela Schneeman, The Laws of Corporations, and other Business Organizations, p. 42.
[7] The Channel Islands consist of five island. These are Jersey, Guernsey, Sark, Herm and Alderney. Jersey is by the far the largest of these islands. Each island has its own government.
[8] http://www.cia.gov/cia/publications/factbook/geos/je.html
[9] Cousins et al, 1999.
[10] The Accountant, November 1996, p. 5
[11] Globalization and its discontents: Accounting firms buy limited liability partnership legislation in Jersey by Prem Sikka, University of Essex
[12] Financial Times, 26 September 1996, p. 7
[13] Accountancy, September 1996, p. 29
[14] Hampton and Christensen, 1999a
[15] Cousins et al., 1998
[16] Financial Times, 28 June 1996, p. 22; 24 July 1996, p. 9
[17] Jersey Evening Post, 25 July 1996, p. 1
[18] http://www.volaw.com/pg405.htm
[19] http://www.slogold.net/uk_limited_liability_partnership.html
[20] Article 9, Limited Liability Partnerships (Jersey) Law 1997
