Converting a Partnership Firm to LLP in India: Process, Advantages, and Considerations

In today’s dynamic business environment, many partnership firms in India are considering converting to Limited Liability Partnerships (LLPs) to avail of various benefits and ensure limited liability protection. This article explores the process and advantages of converting a partnership firm to an LLP in India, along with the necessary legal procedures, eligibility criteria, tax implications, compliance requirements, and post-conversion formalities.

Introduction

Due to their simplicity and ease of formation, partnership firms have become well-known business structures in India. However, with the introduction of LLPs, many entrepreneurs and professionals are now opting for this hybrid structure that combines the benefits of both partnerships and companies. Converting a partnership firm to an LLP offers several advantages, making it an attractive choice for many business owners.

Advantages of Converting a Partnership Firm to LLP

Converting a partnership firm to an LLP provides several benefits, contributing to the growing popularity of LLPs in India. Some key advantages include:

1. Limited Liability: One of the primary advantages of an LLP is the limited liability protection it offers to its partners. Unlike a partnership firm, where partners have unlimited liability, the liability of LLP partners is limited to their agreed contribution.
2. Separate Legal Entity: An LLP enjoys a separate legal identity from its partners. This provides credibility and enhances the perception of the business, making it easier to raise funds, enter into contracts, and attract potential clients.
3. Perpetual Succession: An LLP has perpetual succession, which means it continues to exist even if one or more partners leave or new partners join. This ensures continuity and stability in the business operations.
4. Flexibility in Management: LLPs provide flexibility in the management structure. The partners can define the roles, responsibilities, and decision-making process per their agreement, allowing for efficient business management.
5. Taxation Benefits: LLPs are taxed as partnerships and are not subject to corporate tax. Instead, the profits are taxed in the hands of the partners based on their respective income tax slabs. This can result in potential tax savings for the partners.
6. Easy Transfer of Ownership: LLPs allow for the easy transfer of ownership by adding or removing partners. This simplifies bringing in new investors or retiring existing partners, facilitating business expansion or succession planning.

Legal Process for Conversion

Converting a partnership firm to an LLP involves specific legal procedures and compliances. The process is governed by the Limited Liability Partnership Act, 2008, and the rules laid down by the Registrar of Companies (RoC). The following steps outline the conversion process:

1. Obtaining Digital Signature Certificates (DSCs): The designated partners of the partnership firm need to obtain DSCs for filing electronic forms with the RoC.
2. Obtaining Director Identification Numbers (DINs): If the designated partners do not already have DINs, they must apply for DINs from the Ministry of Corporate Affairs (MCA).
3. Name Reservation: A new name for the LLP must be selected, and its availability should be checked on the MCA’s website. Once a suitable name is chosen, an application for name reservation should be filed with the RoC.
4. Drafting of LLP Agreement: An LLP agreement must be drafted, outlining the rights, duties, and obligations of the partners, profit sharing ratio, capital contributions, and other relevant clauses.
5. Filing of Conversion Forms: The partnership firm must file Form 17 (Application and Statement for Conversion of a Firm into LLP) and Form 2 (Incorporation Document and Subscriber’s Statement) with the RoC, along with the necessary attachments and fees.
6. Obtaining Certificate of Incorporation: The partnership firm will formally become an LLP if the RoC issues a Certificate of Incorporation after reviewing the application and finding it satisfactory.

Eligibility and Requirements for Conversion

To be eligible for conversion, a partnership firm must fulfill specific criteria:

1. The partnership firm should be registered under the Indian Partnership Act 1932.
2. All partners of the firm must become partners of the LLP.
3. The partnership firm should have all necessary approvals and consents for the conversion.
4. The firm’s partners should comply with the requirements of DIN and DSC.

Procedure for Conversion

The conversion process involves the following steps:

1. Obtaining NOC and Consent: The partners of the partnership firm need to obtain a No Objection Certificate (NOC) from all existing creditors, lenders, and other stakeholders. Additionally, the consent of all partners is required for the conversion.
2. Valuation of Assets and Liabilities: An inventory of all assets and liabilities of the partnership firm must be prepared. The value of the assets and liabilities should be determined per the partners’ agreement.
3. Drafting of LLP Agreement: The LLP agreement should be carefully drafted, considering the rights, duties, profit-sharing ratio, capital contributions, and other clauses agreed upon by the partners.
4. Filing of Documents: The necessary documents, including the application for conversion and LLP agreement, should be filed with the RoC.
5. Obtaining Certificate of Incorporation: Upon approval, the RoC will issue a Certificate of Incorporation, officially converting the partnership firm into an LLP.

Tax Implications of Conversion

Converting a partnership firm to an LLP has specific tax implications that must be considered. The conversion is generally tax-neutral, meaning there is no immediate tax liability on the firm or its partners. The accumulated profits and losses of the partnership firm are transferred to the LLP, and the partners’ capital accounts are adjusted accordingly. However, specific tax provisions must be complied with, such as obtaining a Permanent Account Number (PAN) and filing tax returns for the LLP.

Compliance and Post conversion Formalities

After the conversion, the LLP must comply with various statutory requirements, including:

1. Obtaining a new LLP PAN and Tax Deduction and Collection Account Number (TAN).
2. Updating business registrations, licenses, and permits with the new LLP details.
3. Complying with yearly filing requirements, such as submitting annual returns and financial statements to the RoC.
4. Maintaining proper accounting records and books of accounts as per the LLP Act.
5. Complying with other applicable laws and regulations, such as the Goods and Services Tax (GST) and the Income Tax Act.

It is crucial to adhere to these compliance obligations to ensure the LLP operates legally and avoids penalties or legal consequences.

Common Challenges and Considerations

While converting a partnership firm to an LLP offers numerous advantages, there are certain challenges and considerations to keep in mind:

1. Tax Implications: Although the conversion is generally tax-neutral, specific tax implications may arise based on the individual circumstances of the partnership firm and its partners. Seeking professional advice from tax experts or chartered accountants is advisable to navigate the tax aspects effectively.
2. Partner Consent and Agreement: All partners of the partnership firm must provide their consent and agree to the terms of the LLP agreement. Ensuring unanimous agreement and clarity in the deal is essential to avoid conflicts or disputes in the future.
3. Reconstitution of Contracts and Agreements: The conversion may necessitate reconstitution or termination of existing contracts, agreements, or licenses held by the partnership firm. Careful evaluation and communication with relevant stakeholders are vital to ensure a smooth transition.
4. Branding and Reputation: The conversion may impact the branding and reputation of the business. Informing clients, customers, suppliers, and other stakeholders about the conversion and assuring them of continued services and commitments can help maintain trust and goodwill.

Comparison between Partnership Firm and LLP

Partnership firms and LLPs have distinct characteristics and legal frameworks. Here is a comparison of key aspects:

Aspect

Partnership Firm

Limited Liability Partnership (LLP)

Liability of Partners:

•  Unlimited liability
•  Limited liability

Legal Identity:

•   No separate legal entity
•   Separate legal entity

Management and Decisionmaking:

•   Based on the partnership agreement
•   As per the LLP agreement

Taxation:

•  Partners are individually taxed on their share of profits.
•  Taxed as per the income tax slabs of partners.

Perpetual Succession:

• Absence of perpetual succession
• Perpetual succession

Fundraising and Investments:

• Limited options
• Easier to raise funds and attract investments

Compliance Requirements:

• Relatively simpler
• More stringent and formal

Legal Formalities and Registrations:

• Fewer formalities and registrations
• More formalities and registrations

Frequently Asked Questions 

Q1: What is the difference between a partnership firm and an LLP?

A: A partnership firm does not possess a separate legal identity, and the partners have unlimited liability. In contrast, an LLP is a separate legal entity, and partners have limited liability protection.

Q2: Can all partnership firms be converted into LLPs?

A: Not all partnership firms are eligible for conversion. Specific criteria, such as registration under the Indian Partnership Act and compliance with DIN and DSC requirements, must be met.

Q3: What are the tax implications of converting a partnership firm to an LLP?

A: The conversion is generally tax-neutral, but specific tax implications may arise. Profits are taxed in the hands of the partners based on their income tax slabs.

Q4: How long does the conversion process take?

A: The conversion process can take approximately 30 to 45 days, depending on the completion of documentation and approval from the RoC.

Q5: Is it necessary to draft an LLP agreement for conversion?

A: an LLP agreement must be drafted, outlining the partners’ rights, duties, profit-sharing ratio, and other relevant clauses.

Q6: Can a partnership firm convert to an LLP without changing its name?

A: No, during the conversion process, the partnership firm must choose a new name for the LLP and obtain approval from the Registrar of Companies.

Q7: Are there any restrictions on the number of partners in an LLP?

A: An LLP must have a minimum of two designated partners, and there is no restriction on the maximum number of partners. However, it is important to comply with the rules and regulations regarding the number of partners per the LLP Act.

Q8: Can a partnership firm with existing loans and liabilities convert to an LLP?

A: A partnership firm with existing loans and liabilities can convert to an LLP. However, it is necessary to obtain the consent of all creditors and lenders and make appropriate arrangements for the repayment or transfer of such obligations.

Q9: Is it possible to convert an LLP into a partnership firm?

A: No, once an LLP is formed, it cannot be converted into a partnership firm. However, the partners may choose to dissolve the LLP and form a new partnership firm, subject to compliance with the necessary legal requirements.

Q10: Do the partners in an LLP have limited liability for the acts of other partners?

A: in an LLP, the partners have limited liability for other partners’ acts, debts, or liabilities. Each partner is responsible only for their actions, and their assets are protected from the liabilities of the LLP.