Difference Between LLP And Partnership Firm: Which One to Choose?

When it comes to establishing a business, two popular options are Limited Liability Partnership (LLP) and Partnership Firm. Both structures have their own advantages and considerations, and understanding the differences between them is crucial for making an informed decision. In this article, we will explore the dissimilarities between LLP and Partnership Firm.

Understanding Limited Liability Partnership (LLP)

A Limited Liability Partnership (LLP) is a legal business entity that combines the flexibility of a partnership with the limited liability protection of a corporation. In an LLP, partners enjoy the freedom to manage the business while having their personal assets safeguarded from the liabilities of the partnership. It is a distinct legal entity separate from its partners, which allows for more efficient operations and increased credibility.

Importance of Limited Liability Partnership (LLP)

The following are the importance of Limited Liability Partnership (LLP):

• Limited Liability Protection: The primary significance of an LLP lies in its limited liability protection. Unlike in a general partnership, where partners have unlimited personal liability, an LLP shields partners from being personally responsible for the debts, obligations, or misconduct of other partners. This protection ensures that personal assets are safeguarded, providing peace of mind to the partners.
• Flexibility in Management: LLPs offer greater flexibility in terms of management and decision-making compared to other business structures. Partners can choose how they want to govern the partnership, distribute profits, and allocate responsibilities, as long as they adhere to the agreed-upon terms outlined in the LLP agreement. This flexibility allows partners to tailor the structure to their specific needs and objectives.
• Tax Benefits: LLPs enjoy favorable tax treatment in many jurisdictions. Generally, LLPs are considered pass-through entities, meaning the profits and losses of the partnership flow through to the partners’ personal tax returns. This avoids the issue of double taxation often faced by corporations. Additionally, partners can deduct business expenses, potentially reducing their overall tax burden.
• Credibility and Perpetual Succession: An LLP, being a registered legal entity, often holds more credibility and legitimacy in the eyes of clients, investors, and suppliers. It can enhance the ability to secure contracts, access financing, and attract talented individuals. Furthermore, an LLP has perpetual succession, meaning it continues to exist even if a partner withdraws or passes away, ensuring continuity and stability for the business.

Benefits of Limited Liability Partnership (LLP)

The following are the benefits of Limited Liability Partnership (LLP):

• Partnership Flexibility: LLPs allow for both active and passive partners, enabling individuals to invest in a business without assuming management responsibilities. This flexibility makes it an attractive option for professionals in fields such as law, accounting, architecture, and consulting.
• Shared Management and Accountability: In an LLP, partners share the management responsibilities and decision-making processes. This collaborative approach promotes accountability, as partners are collectively responsible for the success and growth of the business. It encourages open communication and the pooling of diverse skills and expertise.
• Limited Compliance Requirements: Compared to corporations, LLPs often have simpler compliance requirements. The administrative burden is relatively lighter, with fewer formalities such as board meetings, shareholder resolutions, and extensive record-keeping. This allows partners to focus more on core business operations and growth strategies.
• Access to Investment and Expansion: LLPs have the advantage of attracting investment from external parties by offering partnership interests. This opens up avenues for expansion and diversification. Furthermore, partnerships can convert into LLPs, facilitating a smoother transition and providing partners with additional opportunities for growth.

Understanding Partnership Firm

A Partnership Firm is a business structure formed by two or more individuals who come together with a mutual agreement to carry out a business and share its profits and losses. In this type of business entity, partners contribute capital, skills, and resources to achieve common business goals. Partnership firms are governed by the Indian Partnership Act, 1932, and operate under a partnership deed that outlines the rights, responsibilities, and profit-sharing ratios among partners.

The Partnership Firm is typically established through a legal agreement known as a partnership deed, which outlines the terms and conditions governing the partnership. The deed usually includes information regarding the partners’ capital contributions, profit-sharing ratios, decision-making authority, and procedures for admitting or retiring partners.

Importance of Partnership Firm

The following are the importance of Partnership Firm:

• Ease of Formation: One of the significant advantages of a partnership firm is its simplicity of formation. Unlike other complex business structures, a partnership can be established with minimal legal formalities. Partners can draft a partnership deed, specifying the terms of the partnership, and register it with the appropriate authorities. This ease of formation encourages entrepreneurs to collaborate and start businesses swiftly.
• Shared Resources and Expertise: Partnership firms benefit from the combined resources, skills, and expertise of the partners. Each partner brings their unique talents, knowledge, and experience to the table, enabling the firm to access a wider range of resources and competencies. This collective effort enhances decision-making, problem-solving, and overall business performance.
• Division of Responsibilities: Partnerships allow for the division of responsibilities and workload among partners. Partners can specialize in different areas of the business based on their skills and interests. This specialization ensures that each partner can focus on their respective domain, leading to increased efficiency and productivity. Moreover, partners can complement each other’s strengths and cover each other’s weaknesses, fostering a balanced and well-rounded business approach.
• Shared Risks and Losses: In a partnership firm, partners share not only the profits but also the risks and losses of the business. This shared liability provides a cushion against individual failures or setbacks. Partners can support and assist each other during challenging times, reducing the burden on individual partners. This aspect promotes a sense of unity and shared responsibility, encouraging partners to work collaboratively towards the success of the firm.

Benefits of Partnership Firm

The following are the benefits of Partnership Firms:

• Flexibility: Partnership firms offer flexibility in terms of decision-making and business operations. Partners can make decisions collectively, taking into account different perspectives and opinions. This flexibility enables swift adaptation to market changes, making the firm more responsive and agile. Additionally, partners can modify the partnership agreement as per the evolving needs of the business and partners’ interests.
• Taxation Advantages: Partnership firms enjoy certain tax benefits. The profits earned by the partnership are taxed at the individual partner’s income tax rates rather than the higher corporate tax rates. This can result in significant tax savings for the partners, especially if they fall into lower tax brackets. Additionally, partnerships have fewer compliance requirements compared to companies, reducing administrative burdens.
• Confidentiality and Privacy: Partnership firms operate with relatively less public scrutiny compared to publicly traded companies. The partnership deed and financial information are not readily accessible to the public, providing a certain level of confidentiality and privacy. This aspect can be advantageous for businesses that prefer to maintain a low profile or protect sensitive information.
• Continuity and Succession: Partnership firms can ensure continuity even in the absence or retirement of a partner. The partnership deed can include provisions for the admission of new partners or the transfer of partnership rights to existing partners. This allows the business to carry on seamlessly, preventing disruptions and ensuring a smooth transition of ownership.

Difference Between LLP And Partnership Firm

LLP (Limited Liability Partnership) and Partnership Firm are two common forms of business structures, each offering distinct advantages and disadvantages. Understanding the differences between them is crucial for entrepreneurs seeking to establish a business.  The following are the dissimilarities between LLP and Partnership Firm:

• Legal Structure: The most significant difference between LLP and Partnership Firm lies in their legal structures. A partnership firm is an unincorporated business entity where two or more individuals come together to carry out a business for profit. It is governed by the Indian Partnership Act, 1932. On the other hand, an LLP is a separate legal entity created under the Limited Liability Partnership Act, 2008. It provides limited liability to its partners, similar to a company, while retaining the flexibility of a partnership.

• Liability: In a Partnership Firm, the partners have unlimited liability. This means that the partners are personally liable for the debts and obligations of the firm. If the partnership firm incurs losses or faces legal actions, the partners’ personal assets can be used to settle the liabilities. In contrast, an LLP offers limited liability protection to its partners. Their liability is limited to their agreed contribution to the LLP, and personal assets are not at risk.

• Formation and Registration: Forming a Partnership Firm is relatively simpler and less formal compared to an LLP. A partnership firm can be established through a partnership deed, which outlines the terms and conditions of the partnership. However, it is advisable to register the partnership firm with the Registrar of Firms to avail certain legal benefits. On the other hand, an LLP requires registration with the Registrar of LLPs. The registration process involves filing the necessary documents and paying the required fees.

• Management and Decision-Making: In a Partnership Firm, the partners have the freedom to manage the business as they see fit, unless otherwise specified in the partnership deed. The decisions are typically made by mutual consent, and each partner has an equal say unless otherwise agreed upon. In an LLP, the partners have the flexibility to decide the management structure as per the LLP agreement. They can appoint designated partners who will be responsible for the day-to-day operations and compliance requirements of the LLP.

• Taxation: Both Partnership Firms and LLPs are taxed as a partnership for income tax purposes. In a partnership firm, the firm’s income is taxed at the partnership level, and the partners are also taxed individually on their share of the partnership income. LLPs follow a similar taxation structure. However, an LLP is required to pay a minimum alternate tax (MAT) if its income tax liability is below a certain threshold.

• Continuity and Succession: A Partnership Firm does not have perpetual existence. It dissolves upon the death, retirement, or insolvency of any partner, unless otherwise specified in the partnership deed. In contrast, an LLP has perpetual succession. It can continue its existence irrespective of changes in partners. The LLP agreement defines the rights and obligations of the partners, and the LLP can be dissolved only as per the provisions mentioned in the agreement.

• Management and Decision-Making: In a Partnership Firm, all partners have equal rights and responsibilities. They share profits and losses based on the agreed ratio and are involved in the day-to-day management and decision-making of the business. In an LLP, partners can have different roles and responsibilities, and they can choose to have a designated partner who manages the affairs of the LLP. This allows for flexibility in managing the business.

• Transferability of Ownership: A Partnership Firm does not have a separate legal identity, so the transfer of ownership can be complex. A partner can transfer their share of profits to another person, but the incoming partner does not become a partner of the firm. In an LLP, ownership can be easily transferred by making changes to the LLP agreement and filing the necessary forms with the ROC. This provides greater flexibility for admission or retirement of partners.

Choosing Between LLP and Partnership Firm

Deciding between an LLP and a Partnership Firm depends on various factors, including the nature of the business, the level of personal liability protection desired, tax considerations, and the management structure preferred. Here are a few key points to consider:

• If personal asset protection is a priority and the business have the potential for liabilities, an LLP is generally more favorable due to its limited liability feature.
• If the business is relatively low-risk and partners are comfortable with personal liability, a Partnership Firm can be a simpler and more cost-effective option.
• Tax considerations should also be evaluated, as the tax implications differ for each structure. Seeking advice from a tax professional is advisable.
• The desired management structure and decision-making processes should align with the partners’ preferences and individual roles within the business.

Contact the Legal Window Team straight away to register your preferred company. Our professionals are here to help you with all of the complexities and processes, as well as to guide you through the selection of the best company structure for you.

Conclusion

In conclusion, while both LLP and Partnership Firm offer flexibility and ease of establishment, they differ significantly in terms of legal structure, liability protection, formation and registration requirements, management structure, taxation, and continuity. Entrepreneurs must carefully evaluate their business goals, risk appetite, and long-term plans before choosing the most suitable option for their venture. Seeking professional advice from chartered accountants or legal experts is highly recommended to make an informed decision and ensure compliance with applicable laws and regulations.