By Yudhvir Dalal, National University of Advanced Legal Studies, Kochi
“Editor’s Note: A limited liability partnership, or LLP, is a partnership where one partner is not liable for the negligent acts of another partner or an employee, who do not act under his supervision. However, it is pertinent to note that fraud is an exception to the limited liability rule. First started in the USA in 1980, a large number of nations have now incorporated this concept in their domestic laws. In India, LLPs are governed by the Limited Liability Partnership Act, 2008, and this article discusses this Act in detail.”
In today’s modern commercial world everyone wants to decrease his liabilities and likes to live in a flexible but profitable environment. Based on the same line the new concept of Limited Liability Partnership (hereinafter ‘LLP’) has evolved. In an LLP, while the LLP itself will be liable to the full extent of its assets, the liability of its members will be limited. Partners in an LLP will not be responsible for another partner’s debts, obligations, or liabilities resulting from negligence, malpractice or misconduct. According to Black’s Law Dictionary, a limited liability partnership is a partnership in which a partner is not liable for a negligent act committed by another partner or by an employee not under the partner’s supervision.[i]
The first limited liability partnership was formed in the aftermath of collapse of real Estate and energy prices in Texas, U. S. A., in 1980. This collapse led to a large wave of Bank failures as well as savings and loan failures. The amount recoverable from the bank was small and efforts were made to recover assets from lawyers and accountants that advised the banks. Law firms and accounting firms were subject to the possibility of huge claims which could bankrupt them personally and as a result the first limited liability partnership laws were passed to shield the innocent members of these partnerships from liability. So, the birth date can be precisely identified as August 26, 1991, when Texas House Bill 278 became effective without Governor Ann Richards’ signature.[ii] After, Texas several other states in America also enacted LLP Acts, in some States may be by other names. After USA, United Kingdom passed limited liability partnership laws as “Limited Liability Partnership Act, 2000’[iii]. Afterwards, Japan, Singapore, China, Canada, Germany, Greece, Kazakhstan, Poland also enacted the LLP Laws.
India was also not far behind other nations in this field. After opening up of the Indian economy, the entrepreneurship, knowledge and risk capital had combined to provide a further impetus to India’s economic growth. In this background, a need was felt for a new corporate form that would provide an alternative to the traditional partnership with unlimited personal liability on the one hand, and, the statute-based governance structure of the limited liability company on the other, in order to enable professional expertise and entrepreneurial initiative to combine, organise and operate in flexible, innovative and efficient manner. The concept and necessity of Limited Liability Partnership was further highlighted and emerged out of the Naresh Chandra Committee Report[iv] on ‘Regulation of Private Companies and Partnership” and of the Dr. J. J. Irani Committee Report[v] on ‘Company law’. In Dr. J. J. Irani Committee Report the need of limited liability Partnerships (LLPs) and LLP Act was stated in following words:
“In view of the potential for growth of the service sector, requirement of providing flexibility to small enterprises to participate in joint ventures and agreements that enable them to access technology and bring together business synergies and to face the increasing global competition enabled through WTO, etc., the formation of Limited Liability Partnerships (LLPs) should be encouraged. It would be a suitable vehicle for partnership among professionals who are already regulated such as Company Secretaries, Chartered Accountants, Cost Accountants, Lawyers, Architects, Engineers, Doctors, etc. However, it may also be considered for small enterprises not seeking access to capital markets through listing on the stock exchange. We recommend that a separate Act be brought about to facilitate limited liability partnerships. The concept need not be addressed in Companies Act.”
Keeping in mind the need of the day, the Lok Sabha passed the Limited Liability Partnership Bill on 13 December 2008, thereafter it received the assent of the President on 7 January 2009 and got the legal status as The Limited Liability Partnership Act, 2008 (hereinafter ‘the Act’).[vi]
Salient Features of Limited Liability Partnership
Limited liability partnership is the hybrid of a company and a partnership. Although LLP Act has incorporated some provisions in tune with Partnership Act[vii] and Companies Act[viii], but it differs in several aspects. Partnership Firm is not a legal entity like a company, it is a group of individual partners.[ix] In Partnership, Firm name is only a compendious name given to the partnership and the partners are real owners of assets and partnership firm is not a distinct legal entity.[x] But, LLP per se is a body corporate formed and incorporated under this Act and legal entity separate from that of its partners.[xi] Any change in the partners of a LLP shall not affect its existence, rights or liabilities.[xii] So, an LLP shall have perpetual succession.[xiii]
LLP requires minimum of two partners.[xiv] Any individual or body corporate may be a partner in a limited liability partnership, the only conditions for an individual to become a partner is that he shouldn’t be of unsound mind or undischarged insolvent or has applied for adjudication for insolvency and his application is pending. This Act is very liberal and flexible in the sense that it allows even a single partner to carry LLP’s business for six months without any personal liability.[xv] A partner is personally liable only if he knowingly carries business as sole partner for more than six months and only to the extent of obligations incurred by LLP during that period.[xvi]
The Limited Liability Act also provides for ‘designated partners’. According to section 7, every LLP shall have two designated partners who are individuals and at least one of them shall be a resident in India. The term ‘resident in India’ here means any person who has stayed in India for a period not less than one hundred and eighty-two days during the immediately preceding one year. Any partner can also become and cease to be a designated partner according to the LLP agreement. An individual can become a designated partner only if he has given prior consent in such form and manner as may be prescribed and every LLP has to file these particulars with the Registrar within thirty days in prescribed manner. Unless expressly provided otherwise by this Act, a designated partner shall be responsible for the doing of all acts, matters and things as are required to be done by the LLP in order to comply with the provisions of this Act including filing of any document, return, statement and the like reports required under this Act or as specified in LLP agreement.[xvii] He is liable for all penalties imposed on the LLP for any contravention of those provisions.[xviii]
If two or more persons are associated for a lawful business, they have to subscribe their name to an incorporation document[xix]. The incorporation document shall be filed in such manner and with such fees, as may be prescribed with the Registrar of the State in which the registered office of the LLP is to be situated. The incorporation document shall state all the details like name of LLP, proposed business, name and address of each partner, designated partner, address of registered office of the LLP and such other information concerning the proposed LLP as may be prescribed. Further, a statement has to be filed by an advocate, or a Company Secretary or a Chartered Accountant or a Cost Accountant, who has been engaged in the formation of the LLP and by any one who has subscribed his name in incorporation document, that all the requirements of this Act and the rules made thereon have been complied with.[xx]
When the requirements under clauses (b) and (c) of sub-section 11 have been complied with, the Registrar shall retain the incorporated document and within a period of 14 days register the incorporated document and give a certificate that the limited liability partnership is incorporated by the name specified therein. On registration, an LLP, by its name, becomes capable of – suing and being sued; acquiring, owning, holding and developing or disposing of property, whether movable or immovable, tangible or intangible; having a common seal, if it decides to have one; and doing and suffering such other acts and things as bodies corporate may lawfully do and suffer.[xxi]The Act, while defining ‘LLP’ also highlights the importance of registration, as “limited liability partnership” means a partnership formed and registered under this Act.[xxii]
Extent of Liability under Limited Liability Partnership
The partners in an LLP have a limited liability. Unlike in Partnership, where a partner is also liable for the acts of other partners, in an LLP, a partner is not liable for another partner’s act. No partner would be liable for independent or unauthorised acts of the other partners or for their misconduct. Every partner of an LLP, for the purpose of business of the LLP is the agent of the LLP, but not of the other partners.[xxiii] The LLP is liable if a partner of a limited liability partnership is liable to any person as a result of a wrongful act or omission on his part in the course of the business of the limited liability partnership or with its authority.[xxiv] An obligation of the limited liability partnership whether arising in contract or otherwise, shall be solely the obligation of the limited liability partnership.[xxv] A partner cannot be made liable for the obligations of the limited liability partnership. A partner is not personally liable, directly or indirectly for an obligation of LLP solely by reason of being a partner of the LLP.[xxvi] The liabilities of the LLP shall be met out of the property of the limited liability partnership.[xxvii] The partnership firm would be liable to the full extent of its assets, while the partner would be liable only to the extent of their agreed contribution. But these protections do not affect the personal liability of a partner for his own wrongful act or omission.[xxviii] An LLP is not bound by anything done by a partner in dealing with a person if the partner in fact has no authority to act for the LLP in doing a particular act and the person knows that he has no authority or does not know or believe him to be a partner of the LLP.[xxix]
The mutual rights and duties of the partners and the mutual rights and duties of the LLP and its partners shall be determined on the basis of LLP agreement between the partners, or between the limited liability partnership and its partners.[xxx] If there is no agreement as to any matter, the mutual rights and duties of the partners and the mutual rights and duties of the LLP and its partners shall be determined by the provisions relating to that matter as set out in the First Schedule.[xxxi] So, according to section 23(4) of the Act, if there is no LLP agreement between partners then the terms of mutual rights and duties will be decided according to First Schedule. It is the First Schedule which ensures the cordial and fiduciary relation and reliable environment among partners inter se and between LLP and partners.
The different aspects of mutual rights and duties covered under First Schedule are similar to mutual rights and duties under Indian Partnership Act, 1932. According to First Schedule, all the partners of an LLP are entitled to share equally in the capital, profits and losses of the LLP. This provision is similar to Section 13(b) of the Indian Partnership Act. In M. Govinda & Co. v. Commissioner of I.T., Andhra Pradesh[xxxii], the Hon’ble Supreme Court has held that where partners have agreed to share the profits in certain proportions, the presumption is that the losses are also to be shared in like proportions. Where in a partnership the profits are shared in a certain proportion, the fair inference is that losses are to be shared in the same proportion in the absence of a contract to the contrary; the onus of proving that they are not liable for the loss lies on persons who so assert.[xxxiii]
If any partner has incurred personal liabilities or made payment in the ordinary and proper conduct of the business of the LLP or in or about anything necessarily done for the preservation of the business or property of the LLP, the LLP shall indemnify such partner. This provision corresponds to section 13(e) of the Partnership Act. While drafting the Bill leading to the enactment of the present Indian Partnership Act, the Judicial Committee had the following objects and reasons in mind:
“…..the English Act in section 24(2) provides for the indemnity of a partner by his co-partners for anything necessarily done for the preservation of the business or property of the firm. The exact grounds of the indemnity are not clear, though Pollock and Lindley seem to rest it on the doctrine of salvage. In accordance with this doctrine Lindley would confine the indemnity to cases where the property of the business is in fact preserved by the act of the partner. We are of the opinion that there is no reason why a partner should not have the emergency powers which are conceded to an agent under section 212 of the Indian Contract Act, or why the right of indemnity should not be co-extensive with the authority of the partner. We have accordingly introduced a special clause, in the terms of section 212 of the Contract Act, and have made appropriate changes in regard to the right of indemnity in clause (e) (ii) of the clause 14(now section 13).”
First Schedule also provides that every partner may take part in the management of the LLP, which is parallel to section 12(a) of the Partnership Act.
First Schedule further provides that no partner shall be entitled to remuneration for acting in the business or management of the LLP. This provision is similar to section 13(a) of the Partnership Act. In the absence of an agreement, one partner cannot charge his co-partners with any sum for compensation in the form of salary or otherwise even where the services rendered by the partners are exceedingly unequal.[xxxiv] It is well known principle that under ordinary circumstances the contract of partnership excludes any implied contract for payment of services.[xxxv] The legal position on this position has been summarised by Lindley[xxxvi] in following passage:
“Under the ordinary circumstances, the contract of partnership excludes any implied contract for payment of services rendered for the firm by any of its members. Consequently, in the absence of an agreement to that effect, one partner can’t charge his co-partners with any sum for compensation, whether in the shape of salary commission or otherwise, on account of his own trouble in conducting the partnership business…..And even where the amount of services rendered by the partner is exceedingly unequal, still, if there is no agreement that their services shall be remunerated, no charge in respect of them can be allowed in taking the partnership accounts.”
So, a partner must perform the obligations assumed by him to the extent of his ability to the benefit of the whole without regard to the services of his co-partners and without regard to his co-partners and without any remuneration for his services other than the share of the profits to which he is entitled under the terms of the contract.[xxxvii]
First Schedule also keeps an eye on unethical and anti-competitive conducts of partners. It mandates that each partner shall render true accounts and full information of all things affecting the limited liability partnership to any partner or his legal representatives. This provision intends that partners remain truthful and honest in their dealings. It is similar to section 9 of the Partnership Act, which provides for general duties of partners. In Corpus Juris Secundum[xxxviii], the nature of obligations between partners is so described:
“Except to the extent that they are regulated by the express contract between them, the status, duties and obligations of partners as to each other are implied and enforced by the law. Generally speaking, the relationship of partnership is fiduciary in character, and imposes on the members of the firm the duty of dealing with one another in the utmost good faith and with respect to partnership affairs.”
Every partner shall account to the limited liability partnership for any benefit derived by him without the consent of the LLP from any transaction concerning the LLP, or from any use by him of the property, name or any business connection of the LLP. This provision is parallel to section 16(a) of the Partnership Act. If a partner, without the consent of the limited liability partnership, carries on any business of the same nature as and competing with the LLP, he must account for and pay over to the LLP all profits made by him in that business. This provision is parallel to section 16(b) of the Partnership Act. In Pulin Bihari Roy v. Mahendra Chandra Ghosal[xxxix], where the partners were involved in salt business, it was held that the separate transactions were of precisely the same nature as the business carried on by the partnership and that there was thus a breach of duty on the part of the partner concerned by carrying a business in the same field of the competition. So, this Schedule also ensures transparency and loyalty in partners’ dealings.
When the formation or nature of LLP is in question, then mutual rights and duties get more seriousness. In the eyes of LLP, all partners are equal and no change in LLP can be made without the consent of all the partners. According to First Schedule, any matter or issue relating to the LLP shall be decided by a resolution passed by a majority in number of the partners, and for this purpose, each partner shall have one vote. No change can be made in the nature of business of the LLP without the consent of all the existing partners. Further, no person may be introduced as a partner without the consent of all the existing partners. No majority of the partners can expel any partner unless a power to do so has been conferred by express agreement between the partners. Every LLP should ensure that the decisions taken by it are recorded in the minutes within thirty days of taking such decisions and are kept and maintained at the registered office of the LLP.
Liability in Cases of Holding Out
Section 29 of the Act provides for the extent of liability of LLP in cases of holding out. It states that any person, who by words spoken or written or by conduct, represent himself, or knowingly permits himself to be represented to be a partner in an LLP is liable to any person who has on the faith of any such representation given credit to the limited liability partnership. In such situation, it doesn’t matter whether the person representing himself or represented to be a partner does or does not know that the representation has reached the person so giving credit.
A limited liability partnership in such cases is liable only when it has received the credit as a result of such representation. An LLP is liable only to the extent to which it has received credit or financial benefit in consequence of such representation. If LLP has received any benefit then it has to reimburse the creditor without prejudice to the liability of the person so representing himself or represented to be a partner.
Clause 2 of section 29 provides that if after a partner’s death the business is continued in the same LLP name, the continued use of that name or of the deceased partner’s name as a part thereof shall not of itself make his legal representative or his estate liable for any act of the LLP done after his death.
The provision of holding out is provided in the Statute in order to avoid misrepresentation by any outsider to a partnership and to protect innocent legal owners of a deceased partner. The legislation wants to protect the innocent creditors from cheating by any person on the name of any limited liability partnership.
Fraud – An Exception to Limited Liability Rule
People come together to run business only because they have trust on each other. Each partner believes that his partner would never cheat him and he will be loyal to him and partnership firm. Similarly, creditors, who put their assets in an LLP, keep faith on LLP and its partners that they will never intent to work in detriment to creditors. If any LLP or its partners or any other employee tries to defraud creditors then law comes in aid of such innocent creditor. In case of Fraud, all the protections of limited liability provided to the partners vanish.
According to section 30, if LLP or any of its partners carry out an act, with intent to defraud creditors of the LLP or any other person or for any fraudulent purpose, the liability of the LLP and the partners who acted with intent to defraud creditors or for any fraudulent purpose shall be unlimited for all or any of the debts or other liabilities of the LLP. So, in case of fraud the protective cap of limited liability becomes ineffective. In case of a fraud carried out by a partner, the LLP is also liable to the same extent as the partner. The only way for LLP to avoid its liability is to establish that LLP was not aware of the fraud carried out by the partner. So, the burden of proof to prove that the fraudulent act of partner was not within the knowledge of the LLP is on LLP.
Each person who was knowingly a party to the fraud business shall be punished with imprisonment for a term which may extend to two years and with fine which shall not be less than fifty thousand rupees but which may extend to five lakh rupees.[xl] It is not enough that law forgives the wrong doer with criminal liability only. Where an LLP or any partner or designated partner or employee of such LLP has conducted the affairs of the LLP in a fraudulent manner, then without prejudice to the criminal liability which may arise under any law applicable at that time, the LLP and any such partner or designated partner or employee shall be liable to pay compensation to any person who has suffered any loss or damage by reason of such conduct.[xli] Here also in order to avoid liability the LLP has to prove that fraudulent act of its partner, designated partner or employee was not within its knowledge.
It is not like that the guilty partner would make LLP liable and absolve himself for the loss caused to the LLP. Every partner shall indemnify the limited liability partnership for any loss caused to it by his fraud in the conduct of the business of the limited liability partnership.[xlii]This provision of indemnification corresponds to section 10 of the Partnership Act.
The onset of concept of limited liability partnership and special legislation for it is an apt step in commercial sector of India. It is very beneficial for small professional organizations (such as accounting and law firms). An LLP is preferred because it is specifically-designed to limit malpractice claims against uninvolved partners. Each partner is liable only for debts and obligations created as a result of his or her own negligence, malpractice or misconduct, or negligence, malpractice or misconduct by any person under that partner’s direct supervision.
It is an alternative corporate business vehicle that gives the benefits of limited liability but allows its members the flexibility of organising their internal structure as a traditional partnership. For creditors also it is alright as an LLP per se being a separate legal entity can be held liable to the full extent of its assets. Partners are exempted from liability only if they are innocent not when they are intentionally indulging in wrong acts. In cases of fraud the wrong doer partner as well as the LLP is unlimitedly liable, if the partner’s act was within the knowledge of LLP.
Edited by Sinjini Majumdar
[i]BLACK’S L. DICTIONARY 1230(9th ed. 2009).
[ii] 1991 TEXAS GENERAL LAWS CH. 901, SEC.84 (codified at TEX. REV. CIV. STAT. ANN. Art. 6132b, SEC. 15 ( West Supp. 1995)). Quotedin Robert W. Hamilton, Registered Limited Liability Partnerships: Present At The Birth (Nearly) (1995), availableathttp://heinonline.org/HOL/Page?handle=hein.journals/ucollr66&div=36&g_sent=1&collection=journals#1075
[iv] MINISTRY OF FINANCE & COMPANY AFFAIRS, GOV’T OF INDIA, REPORT OF THE COMMITTEE ON REGULATION OF PRIVATE COMPANIES AND PARTNERSHIP: NARESH CHANDRA COMMITTEE-II (July 2003)
[v] MINISTRY OF COMPANY AFFAIRS, GOV’T OF INDIA, REPORT ON COMPANY LAW: DR. JAMSHED J. IRANI COMMITTEE (May, 2005), available at http://www.primedirectors.com/pdf/JJ%20Irani%20Report-MCA.pdf
[vi] THE LIMITED LIABILITY PARTNERSHIP ACT, No. 6 of 2009, availableat http://www.mca.gov.in/Ministry/actsbills/pdf/LLP_Act_2008_15jan2009.pdf
[vii] THE INDIAN PARTNERSHIP ACT, No. 9 of 1932, available at http://www.mca.gov.in/Ministry/actsbills/pdf/Partnership_Act_1932.pdf
[viii] THE COMPANIES ACT, No. 1 of 1956, available at http://www.mca.gov.in/Ministry/pdf/Companies_Act_1956_13jun2011.pdf
[ix] Comptroller & auditor General v. Kamlesh Vadilal Mehta, (2003) 2 SCC 349
[x] N. Khadervali Saheb v. N. Gudu Saheb, (2003) 3 SCC 229, Malabar Fisheries Co. v. I.T. Commissioner, Kerala, AIR 1980 SC 176
[xi]Supra note6, SEC. 3, cl. 1
[xii]Id., cl. 3
[xiii]Id., cl. 2
[xiv]Supra note 6, SEC. 6, cl. 1
[xv]Id., cl. 2
[xvii]Supra note 6, SEC. 8
[xix]Supra note 6, SEC. 11
[xx]Id., sub-SEC. 1, cl. c
[xxi]Supra note 6, SEC. 14
[xxii]Supra note 6, SEC. 2(1), cl. n
[xxiii]Supra note 6, SEC. 26
[xxiv]Id., SEC. 27, cl. 2
[xxv] Id., cl. 3
[xxvi]Supra note 6, SEC. 28, cl. 1
[xxvii]Supra note 6, SEC. 27, cl. 4
[xxviii]Supra note 6, SEC. 28, cl. 2
[xxix]Supra note 6, SEC. 27, cl. 1
[xxx]Supra note 6, SEC. 23, cl. 1
[xxxi]Id., cl. 4
[xxxii] AIR 1975 SC 2284
[xxxiii] K. Pitchaiah Chettiar v. G. Subramaniam Chettiar, AIR 1934 Mad 494
[xxxiv] Hassanand Jethanand v. Bassarmal, AIR 1928 Sind 146
[xxxv] Thomson v. Williamson,  7 Bligh (N.S.) 432
[xxxvi] W.B. LINDLEY, A TREATISE ON THE LAW OF PARTNERSHIP, at 480 (Sweet and Maxwell 10th ed. 1935)
[xxxvii] Bhagwant Singh v. Commissioner of Income Tax, AIR 1952 Ass 124
[xxxviii]CORPUS JURIS SECUNDUM, vol. 36, paragraph 76
[xxxix] (1921) 34 Cal CJ 405
[xl]Supra note 6, SEC. 30, cl. 2
[xli]Id., cl. 3
[xlii] Supra note 6, First Schedule