Comparing Liability in Private Limited and LLP in India

Introduction

When new entrepreneurs want to launch a business, there is often contemplation on which business type or form can best suit their company. 

There are various classifications based on the core characteristics, ownership, liabilities, etc.—the two most well known among them are a private limited company (PLC) and a limited liability partnership (LLP).

In the light of the above, in this blog, we discuss both an LLP and a PLC to help you understand the key differences between them with special reference to liability.

A brief overview of a PLC and an LLP in India

Registration process – The Private limited company registration process and the LLP registration process are very similar, with some differences in the documents and forms being filed for incorporation. 

Registration cost – The government fee for incorporation of an LLP is significantly cheaper when compared to the government fee for incorporation of a PLC. Also, the number of documents that have to be printed on non-judicial stamp paper and notarized for an LLP registration is less when compared to that of a PLC registration.

Features – Both LLP and PLC offer many of the same features. LLP and PLC are both separate legal entities with assets and liabilities that are separate from those of the promoters.

Ownership – PLC offers more flexibility for the promoters when it comes to ownership and ownership sharing. The ownership of a PLC is determined by its shareholding. In an LLP, there is no such clear distinction between the owners and management. 

Compliance – Tax compliance requirements are similar for both PLCs and LLPs. However, when it comes to compliance relating to the Ministry of Corporate Affairs (MCA), LLP enjoys significant advantages. An LLP does not have to have its accounts audited if its annual turnover is less than Rs. 40 lakhs and its capital contribution is less than Rs. 25 lakhs.  A PLC, on the other hand, would have to file an annual return of audited financial statements with the MCA each year.

Fines and penalties – The penalty for non-compliance or late filing of documents with the MCA is most of the time higher for an LLP, as a flat fee of Rs. 100 per day is levied when the non-compliance continues with no cap on the liability.

Importance of liability in business registration

One of the biggest advantages of a registered business (PLC, LLP, or one-person company) is that it affords limited liability protection to its members. As a result, the business’s promoters wouldn’t be held personally responsible for its debts.

Private limited liability

Definition and PLC characteristics

According to the Companies Act, 2013, a PLC is a company whose articles of association (AOA) restrict the transferability of shares and prevent the public from subscribing to them. This is a distinct feature that differentiates PLCs from other types of public companies.

The following are a PLC’s fundamental characteristics:

• A minimum of two stockholders is required.
• Two directors are necessary at a minimum.
• The required minimum share capital is Rs. 1 lakh.
• A DPIN is necessary for all directors.
• There should be at least one authorized partner who lives in India.
• Shareholders’ personal liability is capped at the share price.
• The company’s restricted status makes it more enticing to customers, lenders, and investors.
• The company may sell shares to raise capital.

Liability of directors and shareholders

The major liabilities of a director of a PLC include the following:

• Liability to the company
• Ultra-vires act: Directors have powers subject to the company act, memorandum of association (MOA), and articles of association (AOA), and exceeding these makes them personally liable.
• Negligence: If there is a failure to exercise care and caution by the directors, they are deemed negligent in their conduct and are personally liable for the consequent damages.
• Criminal liability
• Vicarious liability: The criminal liability arising from the actions of the person in control of the company will be attributed to the company, not the other way around.
• Fraud under the companies act: A director can only be prosecuted if he has played an active role with criminal intent.

Liability of a PLC

In a PLC, the liability of each member or shareholder is limited. Therefore, even in the case of a loss under any circumstances, the shareholders are liable to sell their own assets for repayment.

The following table shows the responsible person for the following liabilities in a PLC:

Ways to limit liability

A limitation of liability clause in a contract limits the amount of money or damages that one party can recover from another party for breaches or performance failures.

A limitation of liability clause serves to limit the amount and types of compensation one party can recover from the other party. It caps the liability incurred by one party and reduces the risk of a claim by the other party.

LLP liability

Definition and features of an LLP

LLP is an alternative corporate business form that offers the benefits of limited liability to the partners at low compliance costs. It also allows the partners to organize their internal structure like a traditional partnership.

According to the Limited Liability Partnership Act of 2008, an LLP is an incorporated partnership with limited liability and perpetual succession.

It is a suitable form of business organization for small and medium enterprises.

The following are an LLP’s primary characteristics:

• A body corporate and independent legal entity from its partners, LLP is a separate legal entity. The succession is unbroken in the LLP.
• The rights and duties of the partners of an LLP and those of the LLP and its partners shall be governed by an agreement between the partners or between the LLP and the partners.
• The partners’ liability is restricted to the amount of their agreed-upon investment in the LLP, which may be both tangible and intangible in character.
• LLP shall maintain annual accounts reflecting a true and fair view of its state of affairs. Every LLP must file an annual statement of finances and solvency with the Registrar.
• If necessary, the central government has the authority to appoint a qualified inspector to look into the affairs of an LLP.
• LLPs are exempt from the application of the Indian Partnership Act, 1932.
• Each LLP must have a minimum of two partners as well as a minimum of two designated partners, one of whom must be an Indian resident.

Liability of partners

The clause of indemnity states that the LLP must protect its partners from any kind of liability or claim incurred by them while carrying on the business of the LLP. The partners should also agree to indemnify the LLP for any loss caused by any breach committed by them.

Every partner of an LLP would be, for the purpose of the business of the LLP, an agent of the LLP but not of the other partners. The liability of partners shall be limited except in cases of unauthorized acts, fraud, and negligence. Nevertheless, a partner is not held personally responsible for the bad deeds or omissions of another spouse.

Any obligation owed by the LLP, whether derived from a contract or another source, is its own responsibility. The liabilities of the LLP shall be met out of the property of the LLP.

What is the liability of a partner upon reduction of the minimum number of members in an LLP?

The Act provides for a minimum of two partners to carry on an LLP. If at any time the number of partners of a LLP is reduced below two and the LLP carries on business for more than six months while the number is so reduced, the person who is the only partner of the LLP during the time that it carries on business after those six months and who has knowledge of the fact that it is carrying on business with him alone shall be personally liable for the obligations of the LLP incurred during that period.

Liability of the LLP

Generally, each limited-liability partner is personally liable for her share of the partnership. In other words, if each limited liability partner owns a 1/3 share of an LLP, each is responsible for 1/3 of the partnership’s debts.

Partners in typical partnership firms have unlimited liability towards their collective debts and legal consequences. This means that their own assets are liable for attachment to meet the firm’s debts and liabilities.

LLP is liable for wrongful acts or omissions of a partner done in the course of business or with the authority of the LLP. A partner is not personally responsible for the LLP’s debts. However, he or she is liable for his or her own wrongful acts or omissions.

Ways to limit liability

An LLP is liable to the full extent of its assets, but the liability of the partners is limited to their agreed contribution to the LLP.

The liability of a partner is constrained to the agreed-upon contribution under an LLP structure. However, neither partner is responsible for the independent or unlawful actions of any other partners, protecting each partner from joint liability brought on by the wrongdoing or misconduct of another partner.

The most direct way for parties to limit their liabilities under a contract is by (i) excluding liability for certain types of losses through an exclusion of liability clause or (ii) putting a financial cap on liability for such losses through a limitation of liability clause.

Comparison between private limited and LLP liability

1) Liability of owners

A PLC offers more flexibility for the promoters when it comes to ownership and ownership sharing. The ownership of a PLC is determined by its shareholding, and a PLC can have up to 200 shareholders. Furthermore, there is a distinct separation between the owners of shares and the management in a PLC because the shareholders do not directly engage in the management of the company. Hence, a PLC is advantageous when it comes to ownership and management features.

In an LLP, there is no such clear distinction between the owners and management. In an LLP, the LLP partners hold ownership of the LLP and also hold powers to manage the LLP. Therefore, a partner in an LLP will be both an owner and a manager, whereas in a PLC, the shareholders (owners) do not necessarily have to have management powers.

2) Liability of the entity

Three groups serve as the main divisions of liabilities. These liabilities fall into three categories: short-term, long-term, and contingent. Current and long-term liabilities are going to be the most common ones that you see in your business.

3) LLP as an entity in terms of taxation

LLC taxation is quite flexible. In essence, the LLC has a choice as to how it will be taxed each tax year. For instance, it might prefer to be treated as a corporation and pay corporate income tax on net income. Sophisticated tax planning becomes possible with LLCs because tax treatment can vary by year.

4) LLP as a whole as an entity

LLPs are just like LLCs but are designed for professionals who do business as partners. They allow the partnership to pass through income for tax purposes but retain limited liability for all partners.

A PLC refers to a privately held, legally recognized business entity that is owned by private stakeholders. The legal terms of this type of company are defined as per Section 2(68) of the Companies Act, 2013.

A PLC must register as a taxpayer in its own right and is regarded by the law as a separate legal entity. With its own rights and obligations, it leads a life apart from its owners. The owners of a PLC are the shareholders. The managers of a PLC may or may not be shareholders.

5) Differences in legal protection

As a non-limited business, personal assets can be at risk if the business fails, but this is not true for a PLC. The “limited” in a PLC refers to liability. This protects your personal assets in the event of debt, losses, or legal claims against your company.

PLCs have a constitution (AOA) to guide the shareholders and directors and regulate their relationship with the company and each other. PLCs have an endless lifespan; a director’s or shareholder’s passing does not end their existence.

A PLC is required by law to register as a taxpayer in its own right and is considered a separate legal entity. It lives independently from its owners and has its own rights and obligations.

The liability of a partner is constrained to the agreed-upon contribution under an LLP structure. However, neither partner is responsible for the independent or unlawful actions of any other partners, protecting each partner from joint liability brought on by the wrongdoing or misconduct of another partner.

Unlike an LLC (limited liability company), all partners have limited liability protection, which means they are not personally liable for the debts and obligations of the LLP. This makes an LLP a good choice for businesses that involve multiple owners, as each partner has his or her own protected interests.

Regulation of an LLP

In LLPs, the internal governance structure is regulated by a contractual agreement between partners. In contrast, a joint-stock company’s internal governance is regulated by the Companies Act, 1956. There is no difference between management and ownership in an LLP, as there is in a company.

Differences in governance and compliance

Tax compliance requirements are similar for both PLCs and LLPs. However, when it comes to compliance relating to the MCA, LLP enjoys significant advantages. An LLP does not have to have its accounts audited if its annual turnover is less than Rs. 40 lakhs and its capital contribution is less than Rs. 25 lakhs. An LLP would, however, have to file LLP Form 8 and LLP Form 11.

A PLC, on the other hand, would have to file an annual return of audited financial statements with the MCA each year.

Fines and penalties

The penalty for non-compliance or late filing of documents with the MCA is most of the time higher for a LLP, as a flat fee of Rs. 100 per day is levied when the non-compliance continues with no cap on the liability. Therefore, it is important for the promoters of an LLP to be aware of the due dates and file the required documents with the registrar on time.

Conclusion

Recap of the differences in liability for both registrations

Hereunder, we provide a recap of the differences in liability between a PLC and an LLP:

Liability of owners

• A PLC offers more flexibility for the promoters when it comes to ownership and ownership sharing. 
• However, in an LLP, there is no such clear distinction between the owners and management.
• LLC taxation is quite flexible. In essence, the LLC has a choice as to how it will be taxed each tax year.
• In the eyes of the law, an LLP is treated as a separate legal entity. It is a hybrid between a company and a partnership firm as it incorporates properties from both structures.
• With an LLP arrangement, each partner’s liability is capped at the amount of their agreed-upon contribution. Furthermore, neither partner is responsible for the independent or unlawful actions of any other partners, protecting each partner from joint liability brought about by the wrongdoing or misconduct of another partner.
• In an LLP, all partners have limited liability protection, which means they are not personally liable for the debts and obligations of the LLP.
• In LLPs, the internal governance structure is regulated by a contractual agreement between partners.
• The ownership of a PLC is determined by its shareholding, and a PLC can have up to 200 shareholders.
• A PLC must register as a taxpayer in its own right and is regarded by the law as a separate legal entity. With its own rights and obligations, it leads a life apart from its owners.
• The word “limited” in a PLC refers to liability. This protects your personal assets in the event of debt, losses, or legal claims against your company.
• PLCs have a constitution (AOA) to guide the shareholders and directors and regulate their relationship with the company and each other.

Differences in governance and compliance

Tax compliance requirements are similar for both PLCs and LLPs. However, when it comes to compliance relating to the MCA, an LLP enjoys significant advantages. 

A PLC, on the other hand, would have to file an annual return of audited financial statements with the MCA each year.

Which is better: a PLC or an LLP?

If you plan to run a small business with a partner and with limited capital, an Limited Liability Partnership registration in India is the right fit. On the other hand, if a business is looking for aggressive growth and substantial funds, it should opt for a Private Limited Company Registration in India.

A PLC is supposed to hold the board and general meetings within the specified timelines, which are not applicable for an LLP.

It is mandatory for a PLC to write an MOA and AOA that mention the objectives, business activities, company information, and shareholding details. The LLP agreement suffices in the case of an LLP.

Based on what we’ve covered so far, we believe that everyone who is interested in learning about the fundamental differences between an LLP and a PLC in terms of liability will find this blog to be of use.