Pankaj Bagri & Prashant Deshmukh
In the investment world, greater risk is considered as seeds to grow more returns. However, while deciding entity structure, the investor would often go for a structure which provides a definite maximum loss. That is how company structure with limited liability up to share capital became more popular as oppose to partnership firm structure where partner’s liability remains unlimited. However, from corporate governance perspective, companies are subject to cumbersome compliances.
However, Limited Liability Partnership (‘LLP’) is emerging as an attractive entity structure due to lesser administrative compliances while retaining the limited liability of company structure. Even from income-tax perspective, LLPs are treated at par with Partnership Firms. As such, LLP is liable to tax on its income while income received by partners from LLP is not taxable in the hands of the partners. Further, unlike companies, LLPs are not required to pay any dividend distribution tax.
Due to government bidding requirements, loan facilitation or for limiting a project related risk, etc., Infrastructure companies generally establish a separate Special Purpose Vehicle (‘SPV’) company for each project.
Accordingly, repatriating profits generated at SPV level to Parent company becomes cost inefficient due to dividend distribution tax. An LLP option can address this issue and one can think of converting the SPV Company into LLP. However, the existing provisions of the Income-tax Act, 1961 (‘Act’) provides for a tax neutral conversion of companies into LLP subject to satisfaction of various conditions.
One of the conditions to be satisfied is that the total sales, turnover or gross receipts in the business in any of the three previous years does not exceed Rs 60 lakhs. Another condition requires the profit-sharing ratio of the erstwhile shareholders of the company in the LLP to remain 50% or more of the profits of the LLP at any time during the period of 5 years from the date of conversion.
Since infrastructure is a capital intensive sector, a turnover of one project often runs in to crores of rupees. As such, it is barely possible for an existing infrastructure company to meet the aforesaid turnover criteria of Rs 60 lakhs in any of the three previous years.
Many infrastructure companies are keen to use LLP entity structure for carrying business in India, however, conditions prescribed for tax exemption is a major hindrance for converting to LLP. The government needs to revisit the conditions relating to Rs 60 lakh limit and continuity of 50% shareholding so as to encourage infrastructure companies to opt for LLP entity structure.
Further, section 80-IA of the Act provides for deductions in respect of profits and gains from industrial undertakings or enterprises engaged in infrastructure development, etc. One of the conditions for claiming such tax benefit by an enterprise in infrastructure sector is that such infrastructural facility is owned by a company registered in India. As such, this section requires an amendment so that even LLP in infrastructure sector can claim tax holiday under section 80-IA.
Since Government has time and again highlighted its focus on improving the infrastructure sector for strengthening of economy, infrastructure sector has set its eye on the upcoming budget with a hope that there will be some good news on LLP front.
Pankaj Bagri is a director, business tax, and Prashant Deshmukh, manager, business tax at Deloitte Haskins & Sells LLP