Tax implications one should know before incorporating an LLP

Most start-up owners prefer limited personal liability as far as debts of the business are concerned. At the same time, they want to benefit from a company-like status. This is where a Limited Liability Partnership (LLP) can be a convenient business structure. 

An LLP is a hybrid between a partnership firm and a private limited company. While it has a distinct legal identity, like a company, compliances and restrictions are less severe, which gives it the flavour of a partnership firm.

Why should one opt for an LLP?

In an LLP, the liability of the partners is limited to their agreed contribution in the firm. Partners are not personally liable for the firm's obligations (except in cases of fraud) or for another partner's misconduct or negligence.

How is an LLP taxed under the Income Tax Act in India?

An LLP firm must pay tax at the rate of 30% on its taxable income for FY 23-24.

If the total taxable income is more than INR 1 crore, the firm must pay an additional 12% of income tax as a surcharge.

Further, for the assessment year 2019-20 (financial year 2018-19), health and education cess calculated at 4% of tax and surcharge is payable. (For the assesment year 2018-19 (financial year 2017-18), education cess at 2% of income tax and surcharge and secondary and higher education cess at 1% of income tax and surcharge are payable)

How does an LLP file income tax returns?

It is mandatory for every LLP to file income tax returns (ITR) irrespective of income or loss earned during the year. If it is required to get its accounts audited under income tax law or any other statute, the due date of filing ITR is September 30.

An LLP, which has entered into an international transaction or any specified domestic transaction needs to furnish a report in Form No. 3CEB under section 92E. Such LLPs can file ITR till November 30. In all other cases, the due date of filing ITR for LLPs is July 31.

Can the LLP claim partner's remuneration or interest on partner's capital as a deduction?

While calculating net profit under Income Tax Act, an LLP can deduct partners' remuneration or interest on the capital contributed by them, only if -

1. Interest payable on capital is 12% p.a. or less,

2. Remuneration can be deducted on the following basis:

• On first INR 3 lacs of book profit or in case of loss - INR 150,000 or 90% of book profit, whichever is more;
• On balance book profit - 60% of book profit

It is worth noting here that the remuneration and interest as mentioned above are taxable in the hands of the partners of the LLP to the extent of deduction allowed to the LLP. Where any interest or remuneration is not allowed as a deduction to the LLP, the same will not be taxable in the hands of the partners.

Also, the LLP can't  deduct -

• any salary, bonus, commission or remuneration paid to non-working partners, or
• If remuneration or interest is not paid as per the provisions of partnership deed.

What are the tax implications on converting a company into an LLP?

If a private limited company is converted into an LLP, it would be considered 'transfer', and tax on capital gains shall be payable. Tax on capital gains arise only if the transfer value of assets of the company is higher than the book value.

Bottom Line

In a nutshell, while an LLP does enjoy some benefits that a private limited company enjoys, from an income tax perspective, it is treated at par with a partnership firm. Distinct legal identity, limited liability of partners and lower overall tax rate on LLP and partners makes it more favourable for start-up owners to set-up.

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