Conversion of Private Limited Company to LLP

Very often it is asked, what is justification of having a private limited company? Small promoters and entrepreneurs asks questions like why to pay dividend distribution tax , why there is restriction on payment of loans and advances, Why there is restriction on acceptance of deposit from family members. There are several many issues which the promoters find very harsh and question the very continuation as a private limited company especially after introduction of Companies Act 2013.


Limited Liability Partnership (LLP) is considered to be a better choice for small companies as it has more flexibility of operation and lesser requirement of compliance. Private company or an unlisted public company has been allowed to convert into LLP in accordance with the provisions of the LLP Act, 2008. Section 47 clause (xiiib) of the Income Tax Act deals with exemptions from Capital gain Tax on satisfaction of certain conditions on and after conversion of company into LLP. The section is very important and non compliance may lead to heavy cost in the form of Capital Gains tax.

Now the question arises which company should go for conversion:

1

Company which can obtain consent of all its shareholders

2

Company which can obtain consent of all unsecured creditors

3

Company whose turnover for last three financial years did not exceed 60 lacs

4

Company  which do not have charge on any of its fixed assets

5

Company against which no prosecution has been initiated or show cause notice issued for alleged offence under Companies Act.

6

Company has been regular in filing Income Tax Return

Now let us examine the various features of Private Limited company and Limited Liability Partnership

Company

LLP

1

A legal Entity

Yes

yes

2

Registration is compulsory

Yes

yes

3

Can hold property in its own name

Yes

yes

4

Is a legal Entity which can be sued as well as it can sue third party

Yes

yes

5

Has to be registered with Registrar of Companies and must file annual accounts with Registrar.

Yes

Yes

6

Perpetuity

Perpetual succession.

Perpetual succession.

7

Statutory audit

Compulsory

Exempt if Turnover does not exceed Rs forty lacs or contribution does not exceed 25 lacs

8

Dividend Distribution Tax

Applicable

Not Applicable

9

Application of MAT

Applicable

Not Applicable

10

Restriction on receipt of Loan from shareholders and Directors

Regulated by section 58A / 73

No such restriction

11

Application of Section 2(22)(e) of the Income Tax Act.

Applicable

Not Applicable

12

Remuneration and Interest

No limit

Limit u/s 40b

Some legal Issues:

What if conditions mentioned in section 47(xiiib) are not complied?:

Section 47(xiiib) gives exemption from capital gain if the conditions mentioned in the proviso (a) to (f) is complied with.

The Kolkata Tribunal in the case of Aravali Polymers LLP vs JCIT (ITA NO 718/KOL/2014) held that capital gains exemption is not available on conversion of private limited company into LLP if exemption conditions are violated.

 In the case of Texpin Engg. & Mfg. Works [2003] 263 ITR 345 (bom)  the Bombay High Court held that there was no transfer on conversion of a firm into a private limited company as it was a statutory vesting of the properties in the company. Consequently there was no transfer as contemplated under section 45 of the Act. Even if there was a transfer there was no consideration and thus there was no question of capital gain.This argument should have been tested in the aforesaid decision of Aravali Polymers.

Whether there is liability for payment of stamp duty?

In case the private limited company is holding immovable properties in its name and on conversion to LLP the properties also vest to the firm, the question arises whether the firm is required to pay stamp duty on transfer of such assets

Ministry of Corporate Affairs on its website “FAQ on conversion of other entities into LLP and vice versa” has replied this question as under:

Since Stamp Duty is the subject reserved for the States, the LLP Act does not contain any provision for treatment of stamp duty issues. The stamp duty payable will depend upon the relevant Stamp Act prescribed by the State Government/Union Territory.”

As per decision of Bombay High Court in the case of Taxpin Engg. & Mfg. Works and A.P. High Court in the case of Vali Pattabhirama Rao vs. Shri Ramanuja Ginning & Rice Factory (P) Ltd. when the firm is converted into company under Part IX of Companies Act, 1956, the assets of the firm vest into the company and there is no transfer. The ratio of these decisions can be applied on the issue of payment of stamp duty.

There should be a provision similar to Section 394 of the Companies Act, which allows high courts to waive off stamp duty while approving amalgamations and restructuring of companies involving transfer of assets. Under this section, high courts almost always allow asset transfers arising from reconstructions and amalgamations from stamp duty. 

THANK YOU
CA Deepak k Gujrati
deepakgujrati@gmail.com

 
     
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