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J. B. Nagar CPE Study Circle Topic : Limited Liability Partnership Presented by: Mr. Divyesh V. Mehta (Chartered Accountant). TAXATION OF LLP Conversion of Private Limited Company or Unlisted Company.

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J. B. Nagar CPE Study Circle

Topic: Limited Liability Partnership

Presented by:

Mr. Divyesh V. Mehta

(Chartered Accountant)

Property of M/s Vinod K Mehta & co

taxation of llp conversion of private limited company or unlisted company

TAXATION OF LLPConversion of Private Limited Company or Unlisted Company

A corporate business vehicle that enables professional expertise and entrepreneurial initiative to combine and operate in flexible, innovative and efficient manner, providing benefits of limited liability while allowing its members the flexibility for organizing their internal structure as a partnership.

Section 56 and 57 of the Limited Liability Partnership Act, 2008 allow conversion of a private company or an unlisted public company (hereafter referred as company) into an LLP.

In the Budget 2010 , There are amendments in Income tax Act relating to conversion of Private / Unlisted Limited Company into Limited Liability Partnership (LLP)

These amendment at a glance are :

1) Capital Gain Exemption.

2) Carry forward and set off of losses.

3) Written down value of assets.

4) MAT credit.

5) Amortization of expenditure

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capital gain exemption
CAPITAL GAIN EXEMPTION

Condition for Exemption :

It is proposed that the transfer of CAPITAL ASSETS on conversion of a company into an LLP will not attract capital gains tax as per Sec. 47(xiiib) subject to satisfying the following conditions:

  • All assets and liabilities of the company become the assets and liabilities of the LLP
  • Shareholders of the company become partners of the LLP in the same proportions as their shareholdings in the company.
  • No consideration other than share in profit and capital contribution in the LLP arises to partners.
  • The erstwhile shareholders of the company continue to be entitled to receive at least 50 per cent of the profits of the LLP for the period of five years from the date of conversion.
  • Total sales turnover or gross receipts in business of the company do not exceed Rs.60 lakh in any of the three preceding previous year.
  • No amount is paid, either directly or indirectly to any partner to any partner out of the accumulated profit of the company for a period of three years from the date of conversion

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analysis of various conditions relating to exemption
Analysis of various conditions relating to Exemption

Definition of word “sales, turnover or gross receipts” are not defined in Act but the same analyzed in Guidance note issued by ICAI on Audit Under Section 44 AB of IT Act. Relevant Para of the Guidance note is reproduced as under :

  • “Para 5.6 : The term turn over for the purposes of this clause may be interpreted to mean the aggregate amount for which sales are effected or services rendered by an enterprise. If sales tax and excise duty are included in the sale price , no adjustment in respect thereof should be made for considering the quantum of turn over. Trade discounts can be deducted from sales but not the commission allowed to third parties. If however, the excise duty and/or sales tax recovered are credited separately to excise duty or sales tax Account(being separate accounts) and payments to the authority are debited in the same account , they would not be included in the turnover. However, sales of scrap shown separately under the heading “Miscellaneous Income “ will have to be included in turn over .”
  • “Para 5.7 : Considering that the word “sales” , “Turnover“ and “Gross receipts” are commercial terms, they should be construed in accordance with the method of accounting regularly employed by the assessee. Section 145(1) provides that income chargeable under the head “Profits and gains of Business or Profession“ or “Income From Other Sources” should be computed in accordance with either cash or mercantile system of accounting regularly employed by the assessee . The method of accounting followed by the assessee is also relevant for the determination of sales, turnover or gross receipts in the light of the above discussions.”

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comments observations on the term turn over
Comments / Observations On the term Turn Over
  • Whether Share of Profit From Partnership Firm Constitute TURN OVER ?
  • Excise , VAT should be included in turn over ?
  • Interest Income ?
  • Rental Income ?

As such companies carrying on business and having turnover beyond this limit will not be able to get the benefit.

But those companies which are investment companies or which have income from house property , capital gains and income from other sourcesirrespective of the amount of such income can take the advantage of conversion . Companies in business need to plan for three years so as to bring the turnover below Rs. 60 lakhs before it can take the advantage of this newly-introduced provision.

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comments observations on the term share holder
Comments / Observations On the term Share Holder
  • Whether Registered Share Holder or Beneficial Share Holder ?

(Supreme Court in the context to Sec 2 (22) (e) in case of Rameshwarlal Sanwarmal v CIT 122 ITR 1 (1980) has held Share Holder means registered share holder and not beneficial owner)

  • Share Holder means Equity Share Holder or Preference Share Holder ?
  • Only paid up share capital as capital in the same proportion and balance reserves in any ratio?

till when ? Next day?? Warrant holders?

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comments observations of the term consideration
Comments / Observations of the term Consideration
  • Whether Interest on Capital / Remuneration will be consideration ?
  • Whether Bonus Shares issued out of Revaluation Reserve can be consider as consideration ?
  • Whether Revaluation Reserve can be credited to Partners capital post conversion ?

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Meaning of the term “at least 50 per cent of the profits of the LLP remains for the period of 5 years “
  • Share of Remuneration to Partners (Working Partners) different from Share of Profit is eligible for exemption ?
  • Change in Partnership due to Death , Insolvency, etc ?

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Meaning of the term amount is paid, either directly or indirectly to any partner to any partner out of the accumulated profit

Comments & Observations – Accumulated Profit

Accumulated Profit is not defined , but reference may be invited to various judgements delivered in case of sec 2(22)(e)

Supreme Court in case of CIT v Urmila Ramesh (96 Taxmann 533) has held that “The amount should in other words be in the nature of profits which the company could have been distributed to its share holder. This would clearly exclude return of part of capital to the company, as the same can not be regarded as profit capable of being capitalized, the return of capital itself.”

  • Profit u/s 41(2) is not part of accumulated Profit (CIT v Urmila Ramesh

(96 Taxmann 533)

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comments observations accumulated profit
Comments & Observations – Accumulated Profit
  • Share Premium is Accumulated Profit ?
  • Revaluation Reserve is accumulated Profit ?
  • Bonus Shares issued before conversion to Share Holder before Conversion ?
  • How payment to be considered as paid out of accumulated profits
  • Original or new partners also??
  • Whether indirectly covers loan etc like 2(22)?
  • Whether it means no dissolution for 3 years of exempted LLPs ??
  • A person should be partner at the time of formation or payment or both ??

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issues un resolved still pending
ISSUES UN RESOLVED – STILL PENDING
  • Applicability of the Provisions ONLY to CAPITAL ASSET
    • The Provision of Section 47 (xxxib) relating to exemption is applicable only to capital assets.

It means , where in case of a company , where the Stock in Trade ( such as Properties or Bullion) are transfer on conversion NO EXEMPTION WILL BE AVAILABLE

Supreme Court in case of ALA Firm v CIT (189 ITR 285) has held that in taking accounts for the purpose of dissolution , since the firm and the partners , being commercial men , would value assets on real basis and not on cost or other value appearing in the books of accounts. There for at the time of dissolution value of closing stock should be taken at market value and not at cost and the difference is income. Similarly ,principles would apply at the time of conversion of a company into LLP

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other laws should be consider before conversion
Other LAWS should be consider before conversion :
  • The Exemption is not available laws are involved and the same are
    • STAMP DUTY
    • STATE TAXES (VAT )
    • CENTRAL EXCISE
    • SERVICE TAX
    • BANK BORROWING
  • While stamp duty causes substantial outflow, in other matters necessary paper work needs to be done. Inder Indirect Taxes , carry forward of Cenvat Credit and set off not consumed may not available,
  • Further, one needs to be cautious about the penal provision in the LLP Act for various defaults such as not filing documents in time, etc, which are quite harsh.

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impact on share holder of converted pvt ltd company
Impact on Share Holder of converted Pvt. Ltd. Company
  • In case of conversion of closely held company in to LLP (section 45 applies) , there will be an extinguishment of Rights of the share holder in the shares of company.
  • But, there is Failure of computation mechanism as no consideration flowing to shareholders directly
  • Alternate View : No exemption provided in any case , so whether it can be interpreted to mean that legislature in its wisdom feels that no liability arises to shareholders in any case
  • If Taxable , It will create great Hardship , if the shares were acquire at discount and resultant difference will be capital gain.
  • In case of Demerger and Amalgamation there is specific exemption as specified in section 47(vid) and (vii). Which is not exist for LLP

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withdrawal of exemption
WITHDRAWAL OF EXEMPTION

It is also proposed to amend the section 47A to provide that if the conditions stipulated above are not complied with , the benefit availed by the company shall be deemed to be the profits and gains of the successor LLP chargeable to tax for the previous year in which the requirement are not complied with.

  • It may be noticed that of the conditions stated above, while the conditions a,b,c,e (Sec 47 (xiiib)) are one time conditions.
  • The conditions d and f (Sec 47 (xiiib) ) are conditions which have to be satisfied in future years.
  • Therefore , it can be seen that if the conditions above stated are not satisfied , no benefit would be available under the amendments to the LLP and consequently, the section 47A would not apply.
  • However, if the conditions d or f or both are violated, it is then that the section 47A would come into play.

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carry forward and set off of losses
CARRY FORWARD AND SET OFF OF LOSSES
  • Carry forward and set off of business loss and unabsorbed depreciation to the successor LLP, will be allowed if the above mentioned conditions 1 to 6 satisfied.
  • The business loss to be set off against ANY SOURCE OF INCOME in the year of conversion and to allow carry forward of business loss for a fresh period of eight years.
  • This would mean that in the year of conversion the business loss of the company can be set off against income from any source or head and the balance , if any can be carried forward and set off against the business income of the LLP for eight further years.
  • It will, however, be necessary that the company in the year of loss must have filed the returns within the time allowed under the Section 139(1) and further that in the hands of the company the eight year period should not have elapsed.
  • Unabsorbed depreciation, of course, in any case can be set off against any source or head and can be carried forward indefinitely.
  • In the year of succession, the depreciation is to be computed as though no such conversion took place and is to be pro-rated between the predecessor company, and the successor LLP based on the date on which succession took place.

Property of M/s Vinod K Mehta & co

written down value sec 43 6
WRITTEN DOWN VALUE ( SEC 43(6) )
  • It is proposed that the actual cost of the block of assets as in the case of the successor LLP shall be the written down value of the block of assets as in the case of the predecessor company on the date of conversion.
  • It is also provided that the cost of acquisition of the capital asset for the successor LLP shall be deemed to be the cost for which the predecessor company acquired it.

Property of M/s Vinod K Mehta & co

mat credit
MAT CREDIT
  • Credit under the section 115JAA in respect of the MAT paid by the company shall not be allowed to the successor LLP.

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amortization of expenditure
AMORTIZATION OF EXPENDITURE
  • The successor LLP shall be eligible to claim the amortization of expenditure incurred under the VRS (Voluntary Retirement Scheme) by the company for the remaining period in terms of the Section 35DDA.

Property of M/s Vinod K Mehta & co

company as a partner in llp
Company as a partner in LLP

Contribution of investments at book value Sec 45(3)

  • If contribution is of unlisted companies, it should be before 1st june,2010
  • It saves future MAT and DDT on funds generated and long term capital gain earned on sale of such transfer portfolio
  • it may save liability on dividend distribution , if any under Sec2(22) (c )
  • Date of holding for investments for LLP starts from date of transfer. it means LLP needs to hold the same for one year to claim long term benefits
  • Whether interest payment on capital account balance of company as partner is fatal to claim for LTC exemption???

Property of M/s Vinod K Mehta & co

comparision between company and llp
COMPARISION BETWEEN COMPANY AND LLP

Property of M/s Vinod K Mehta & co

comparison between company and llp
COMPARISON BETWEEN COMPANY AND LLP

Property of M/s Vinod K Mehta & co

comparision between company and llp1
COMPARISION BETWEEN COMPANY AND LLP

Property of M/s Vinod K Mehta & co

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Tax Savings under LLP Structure as compared with Private/Public limited Company (When the annual net Profit is upto 25 Lacs) Rs. 5,65,720 Savings

Property of M/s Vinod K Mehta & co

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Tax Savings under LLP Structure as compared with Private/Public limited Company (When the annual net Profit is upto 25 Lacs) Rs. 5,65,720 Savings

Property of M/s Vinod K Mehta & co

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Tax Savings under LLP Structure as compared with Private/Public limited Company (When the Annual Net Profit is Upto 25 Lacs) Rs.5,65,720 Savings

Property of M/s Vinod K Mehta & co

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Tax Savings under LLP Structure as compared with Private/Public limited Company (When the Annual Net Profit is Upto 25 lacs) Rs.5,65,720 Savings

Property of M/s Vinod K Mehta & co

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C.A Divyesh V Mehta

Partner

Vinod K Mehta & Co

(Chartered Accountants)

Email id: dvsmehta@gmail.com;

Contact Nos:+91 9819238681

Property of M/s Vinod K Mehta & co