The unmatched pace of formation of limited liability partnerships signals the rising regulatory burden on companies.
Over six times. This is the growth in the number of Limited Liability Partnership, or LLPs, since 2012. The number is quite high when compared with less than two times growth in the number of companies that were incorporated during this period. So, what is behind the sudden popularity of LLPs?
The LLP model, introduced in 2008, is an alternative corporate business form that gives the benefits of limited liability of a company and flexibility of a partnership. Parliament had enacted the LLP Act in 2008; it came into effect in 2009. An LLP differs from a joint stock company in terms of internal governance structure. A company is regulated by statute whereas an LLP is governed by a contractual agreement between partners. An LLP has more flexibility and lesser compliance requirements compared to a company.
There were over 85,000 registered LLPs in India till February 2017. A total of 26,977 were incorporated in 2016, 28 per cent more than in the previous year. The number of LLPs grew around 81 per cent between 2014 & 2015.
Upasana Rao, Partner, Trilegal, says, "The increase in the number of LLPs can be attributed to a number of reasons. There has been a general rise in entrepreneurial trend. The LLP structure offers more flexibility to small businesses and professionals with lower compliance cost and tax burden."
Many businesses may have also shifted from company to LLP structure after the regime for private companies became stricter post the enactment of Companies Act 2013, says Rao. As per the latest data, since the inception of the LLP Act, till March 2014, 2,039 firms and companies were converted to LLPs, accounting for 9 per cent of LLPs incorporated during the period. However, incorporation of fresh entities dominated with a contribution of over 90 per cent.
This trend is healthy, says Rajesh Thakkar, Partner, Transaction Advisory Services, BDO India. "Considering the lesser compliance burden on an LLP vis-Ã -vis a company, the former is easier to operate. Also, LLP safeguards the interests of individual partners, which is a healthier trend from the point of view of promoters," he adds.
LLPs also have certain tax advantages over companies. Profits can be distributed among partners without any tax liability on the LLP. "Unlike in case of a company, where distribution of profits in the form of dividend is subject to dividend distribution tax, the distribution of profits by an LLP to its partners is tax free," says Thakkar of BDO India.
The services sector accounts for a major chunk of LLPs. For the current financial year, business services accounts for 43 per cent LLPs, followed by trading sector (12.6 per cent). Manufacturing's share is 9.3 per cent. Real estate & renting and construction contribute 9.3 per cent and 7.8 per cent, respectively. "Earlier, LLPs were better suited for the services sector due to its low capital needs as Indian laws provide a company more avenues to raise capital than an LLP. "However, recent changes under exchange control laws allowing LLPs to raise foreign direct investment without government approval (in sectors where foreign investment up to 100 per cent is permitted) and raise external commercial borrrowings, or ECBs, will make raising capital easier for LLPs, making it a more attractive option going forward," says Rao of Trilegal.
The government has allowed FDI in LLPs in a calibrated manner since May 2011. Recently, the Department of Industrial Policy and Promotion made various amendments to the consolidated FDI policy. One of the key reforms relates to foreign investment in LLPs. Previously, conversion of a company (with FDI) into a LLP was subject to government approval. The amendments removed the need for such approval. The amendments by the RBI also removed the restriction on LLPs availing of ECBs, subject to amendment in the overall ECB policy framework.
Given that LLPs have much more flexibility and limited statutory obligations for governance compared to companies, the perception of low accountability may concern investors who wish to oversee or participate in the management of LLPs. Separately, on the practical side, government authorities such as labour and excise departments are more comfortable dealing with companies than LLPs. ~