FDI & Limited Liability Partnership

The concept of Limited Liability Partnership (LLP), although has been popular in the West especially amongst professional consultants like law firms, accountancy firms, architecture firm etc, but is in a nascent stage in India.

The principal statute regarding LLP, which also introduced this concept to India, is the Limited Liability Partnership Act, 2008 (LLP Act). LLP Act has given the Indian business community an alternate and additional business/organizational structure through which it can conduct its businesses. In India, LLP has been defined to mean a body corporate formed and incorporated under the LLP Act.1 The LLP Act stipulates two requirements for organizing and registering a LLP viz.,

1. a partnership; and
2. registration.

Thus LLP combines the advantages of both "the company" and "the partnership firm" in a single form of organization. According to media reports, by February this year more than 3000 LLPs had been registered in India.

Rationale Behind LLP Structure

The LLP structure is available worldwide and especially in countries like United Kingdom, U.S.A, Australia, Singapore, where professional firms of lawyers, accountants, auditors are formed as LLPs. However, in India, professional firms which adopted a sole proprietary firm or partnership structure were not able to successfully meet the challenges of international competition and scale up.

It should be noted that the traditional structures used in India by consultancy firms other than trust, provides for unlimited and personal liability on the partners or the sole proprietor i.e., if a firm is wound up, even the personal assets of the partners or sole proprietors can be used to satisfy the creditors' claims. Such a system may have worked in past but due to increasing gloablisation and increase in operations of these kinds of business and possibility of huge professional liability claims, these traditional structures have become a sword of Damocles hanging over the partners and sole proprietors.

The exact need for the LLP has been articulated in the Limited Liability Partnership Bill, which was tabled in Rajya Sabha on December 15, 2006.It states: "With the growth of the Indian economy, the role played by its entrepreneurs as well as its technical and professional manpower has been acknowledged internationally. It is felt appropriate that entrepreneurship, knowledge and risk capital combine to provide a further impetus to India's economic growth. In this background, a need has been 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, organize and operate in flexible, innovative and efficient manner."

The Limited Liability Partnership Act, 2008 received the assent of the President of India on January 7, 2009 and has come into effect from March 31, 2009. Very recently, the Ministry of Corporate Affairs, through the issue of two circulars, has allowed chartered accountants to form limited liability partnership firms, or LLPs.

Use of LLP for Infrastructure Project

The LLP can carry out any lawful business. The term "business" has been defined under the LLP Act to include every trade, profession, service and occupation2. Thus there is no restriction on LLPs which prohibits them from undertaking any lawful business including any infrastructure projects. However, the current bidding guidelines of NHAI and other government authorities does not permit the LLPs to participate in the bid process for undertaking the infrastructure projects, but steps are being taken at various levels to include LLPs as an entity for participation in bidding for infrastructure projects.

Similarly Section 80(IA) benefits cannot be availed by LLPs as the same can be availed only by the "company" undertaking infrastructure facility. Evaluation of the "LLP structure" visa- vis the "company structure" would be required before arriving at the conclusion for undertaking the infrastructure project through LLP structure. Since LLP is a separate legal entity, the borrowings from banks and financial institution will be easier.

Foreign Direct Investment (FDI) in LLP in India

Furtherance to the Consolidated FDI Policy issued by Department of Industrial Policy and Promotion ("DIPP") (Circular 2 of 2010), the DIPP placed on its website a discussion paper calling for views/suggestions from the stakeholders to review the extant policy whether the government should allow FDI in LLPs. In the discussion paper, the DIPP had sought views and suggestions by 31 October 2010 on whether and to what extent foreign investment should be allowed in LLPs offering legal and brokerage and other professional services.

The industry has generally advocated for FDI in LLP, and consequently the DIPP by its circular dated May 20, 2011 has amended the FDI Circular (Press Note 1 of 2011) to include FDI in LLP and regulate the same. The FDI in LLP has been allowed by the DIPP, subject to following restrictions:

1. FDI will be allowed only in LLPs which are engaged in the sector where 100% FDI is allowed through automatic route3 and where no performance linked restrictions4, like minimum captialisation, etc., is imposed;
2. No FDI in LLP is allowed, if the investee LLP is engaged in agricultural/plantation, print media or real estate;
3. An Indian company having FDI can invest in a LLP, provided that both the investing company and investee LLP are engaged in sector where 100% FDI is allowed through automatic route and where no performance linked restrictions, like minimum capitalization, is imposed;
4. LLPs with FDI cannot make downstream investments;
5. Foreign contribution/investment is allowed in LLP if the contribution comes in the form of cash consideration by inward remittance or debit to NRE/ FCNR accounts maintained by the authorised dealers;
6. If a LLP has FDI, then it can have a designated partner5 which is a company incorporated under the Companies Act, 1956 (Indian) and not any other body like LLP or trust;
7. For such LLP, the designated partner in order to be resident in India6 should satisfy the requirements prescribed in Foreign Exchange Management Act, 19997 in addition to requirements prescribed under proviso to Section 7 (1) of Foreign Exchange Management Act, 1999;
8. The designated partners are liable for compliances with LLP and subject to penalty if any;
9. Investment in LLPs by foreign institutional investors and foreign venture capital investors is not permitted. Furthers LLPs have not been allowed to avail external commercial borrowings;
10. Conversion of a company with FDI into a LLP will be allowed only if the above conditions have been met and prior approval of the Foreign Investment Promotion Board/Government has been obtained for the conversion;

Although, allowing FDI in LLP is a step in the right direction and will increase the popularity of LLP structure and may also make foreign investors, especially the smaller one or one with small appetite for investment in India, interested and happy but some of the restrictions above are unnecessary and in few cases counterproductive.

For Instance

1. The circular does not explain the rationale of not allowing FDI in cases where government/ FIPB approval is required or the investment has to meet certain criterion. FDI in these cases can be subject to the same restriction as FDI in companies engaged in such sectors are;
2. The LLP structure is popular as a holding structure. Therefore, not allowing LLP (with FDI) to make downstream investment may adversely affect FDI in LLPs. At least, if the downstream investee company or LLP is engaged in a sector where 100% FDI is allowed, (without any restriction, condition or approval) then allowing downstream investment would be harmless;
3. LLPs are not allowed to take ECBs, investment from FII and foreign venture capital investments. It is not clear why this restriction have been imposed, especially with regard to investment by FII and foreign venture capital investors when FDI in LLPs is allowed given that the last few FDI circulars have tried to put FII investment and FDI on the same footing.

Allowing FDI in LLP has been welcomed by the industry. However, it is hoped that the special restrictions imposed FDI in LLP and on LLP having FDI are temporary in nature and these will be removed when the regulators deem fit. It is hoped that FDI in LLP will be treated similar to FDI in a company in the near future.

1. Section 2 (n) of the LLP Act.
2. Section 2 (e) of LLP Act.
3. No approval from government or Foreign Investment Promotion Board is required.
4. For e.g., in NBFC's there is minimum capitalization requirement for making a FDI.
5. Section 2 (j) read with Section 7 of LLP Act deals with designated partners.
6. Section 7 (1) of the LLP Act states that every LLP should have two individual as designated partners and one of them should be "resident in India".
7. Section 2 (v) (i) of the Foreign Exchange Management Act, 1999 which defines person resident in India.