Limited liability partnership a new business model

92 33rd National Convention of Company Secretaries

LIABILITY PAR
ARTNERSHIP
LIMITED LIABILIT Y PARTNERSHIP —
A NEW BUSINESS MODEL

AUROBINDO SAXENA*

INTRODUCTION CONCEPT OF LLP
The inclination to collaborate to accomplish certain A limited liability partnership (LLP) is a hybrid
commercial objectives has a long history. The corporate business vehicle that has a perpetual
commercial magnetism of such collaborations and a need succession and separate legal entity. It not only provides
to govern their business ultimately led to the codification the benefits of limited liability but also allows its partners
of corporate and partnership laws. the flexibility of organizing their internal structure as a
general partnership.
GENESIS AND DEVELOPMENT OF PARTNERSHIP
LAWS The push for the creation of limited liability
partnership grew from several factors, such as general
Corporations and Partnerships have been a primary increase in the incidence of litigation for professional’s
form of business structure for a long time now. For more negligence and the size of claims; the risk to a partner’s
than a century, partnership law has offered an all- personal assets, when the claim exceeds the sum of
embracing and lucid alternative to corporate law. the assets and insurance cover of the partnership; the
Although, the two bodies of law have much in common, growth in the size of partnerships; increase in
historically they differed sharply on the role of the specialization among partners and the coming together
contract and private ordering in structuring the firm. of different professions within a partnership.

Partnership law encourages private ordering through However, the concerns centered on the fact that
bargaining by providing an agreement amongst partners. partners had unlimited personal liability irrespective of
In contrast, corporate law historically has provided a any fault or any degree of fault on the part of a particular
mandatory framework for firm structure highly resistant partner and the partners generally. The level of protection
to shareholders’ attempts to define their relationships that a limited liability partnership affords to its partners
through bargaining1 . Proponents of private ordering is an important factor that led to the proliferation of this
within firms prefer the freedoms of partnership law to form of business structure. Major professional and
the mandates of corporate law, and over time they have venture capital firms around the world prefer this model
enjoyed success in extending the bargaining model from of business over the others.
partnership law to corporate law.
The following paragraphs discuss the limited liability
However, certain inherent limitations of both these partnership laws around the world.
forms of business have made them unsuitable for certain LLP LAWS IN UNITED STATES
businesses. This ultimately led to the evolution of certain
hybrid forms of business structures such as limited The idea for the LLP has been credited to “a twenty-
partnerships, limited liability partnership, limited liability odd person law firm from Lubbock,” Texas2 . Their idea,
limited partnerships etc. which led to the enactment of the first LLP statute in

* Assistant Education Officer, The ICSI. The views expressed are personal views of the author and do not necessarily reflect those
of the Institute.
1 Robert W. Hillman, The Bargain in the Firm: Partnership Law, Corporate Law, and Private Ordering Within Closely-Held Business
Associations.
2 Hamilton 1995 at 1073.

BACKGROUNDER

92

Limited Liability Partnership — A New Business Model 93

Texas in 1991, was a reaction to the legal fallout from partnership in a court of law. Moreover, if the partners
an economic calamity. The LLP was a direct outgrowth want, the old partnership agreement can continue to
of the collapse of real estate and energy prices in the govern the newly formed LLP A partnership, especially
.
late 1980s, and the concomitant disaster that befell a limited liability partnership, transacting business in any
Texas’s banks and savings and loan associations3 . state other than the state of domicile is required to
register with the Secretary of the foreign state as a foreign
The enactment of Texas legislation allowed partnership6 .
members of certain professions who were carrying on
business as ordinary partnerships to register as LLPs. Once LLP LAW IN JERSEY
a firm was registered as an LLP each partner was
,
The Channel Island of Jersey7 is a British Crown
shielded from personal liability claims against the firm
Dependency8 . In 1997, Jersey enacted the Limited
arising from any future malpractice of other members
Liability Partnership (Jersey) Law 1997. The driving force
of the firm.
that led to the codification of the legislation was that
The “Texas model” for LLP legislation has two key the major Accountancy firms in UK were facing a number
characteristics. Firstly, its liability shield only covers of high profile lawsuits arising out of real/alleged audit
professional malpractice claims. Secondly, the liability failures. But even after their long campaign, they could
shield does not protect a professional for personal not secure liability concessions from the UK government.
malpractice, that is, where they are personally involved As a result they approached the Jersey Authorities in
in the wrongful conduct or have direct supervisory mid 1990s to enact similar legislation9.
responsibility over those who are personally involved in The Jersey LLP Bill was drafted by Ernst & Young
the wrongful conduct. and Price Waterhouse (now part of
After Texas passed its LLP legislation, most other PricewaterhouseCoopers), at a private cost of more than
states quickly followed and today all 51 states have £1 million 10 and was designed to dilute ‘joint and
passed laws that permit the formation of an LLP4 . several’ liability and reduce the redress available to audit
stakeholders11 .
A limited liability partnership is considered as a
special type of partnership that requires a special filing The Bill was “championed by the Island’s leading
with the State where the partners operate. This politicians”12 who also promised to ‘fast track’ it,
partnership form offers all partners the right to participate effectively displacing the previously agreed legislative
in the management and the operation of a partnership programme13 persuading some to conclude that Jersey
without subjecting themselves to unlimited personal was offering its ‘legislature for hire’14 to enable major
liability as is the case in general partnerships5. accountancy firms (or international capital) to hold other
nation-states (e.g. the UK) to ransom. The approach to
However, if the special laws governing it are not Jersey was accompanied by a threat that if the British
precisely followed, they can be held as general government failed to match the liability concessions,

3 Hamilton 1995 at 1069.
4 See Alan R. Bromberg & Larry E. Ribstein, Bromberg & Ribstein On Limited Liability Partnerships, The Revised Uniform Partner-
ship Act, And The Uniform Limited Partnership Act (2001) 15 (Aspen 2003) (hereinafter Bromberg & Ribstein “Limited
Liability”). Some states, including New York, California, Nevada and Oregon, only offer LLP status to professional firms.
5 Margaret Bartschi, Foundations of Business Organizations for Paralegals, p. 3.
6 Angela Schneeman, The Laws of Corporations, and other Business Organizations, p. 42.
7 The Channel Islands consist of five island. These are Jersey, Guernsey, Sark, Herm and Alderney. Jersey is by the far the largest
of these islands. Each island has its own government.
8 http://www.cia.gov/cia/publications/factbook/geos/je.html
9 Cousins et al, 1999.
10 The Accountant, November 1996, p. 5.
11 Globalization and its discontents: Accounting firms buy limited liability partnership legislation in Jersey by Prem Sikka, University
of Essex.
12 Financial Times, 26 September 1996, p. 7.
13 Accountancy, September 1996, p. 29.
14 Hampton and Christensen, 1999a.

BACKGROUNDER


the firms would relocate their operations to Jersey15 . LLP LAW IN UNITED KINGDOM
The threat was sufficient to discipline the UK government
In early 1997 the UK Department of Trade and
and it promised similar legislation “within a week”16 .
Industry (“DTI”) circulated a consultation paper that
The UK government eventually enacted the LLP
begins with the statement that the UK government had
legislation and the firms did not register in Jersey.
announced its intention to bring forward legislation at
The externally drafted legislation was described by the earliest opportunity to make limited liability
a member of Jersey parliament as “not offshore tax partnership available to regulated professions in the UK.
avoidance, on which our finance industry is built, but As already discussed in preceeding paragraphs this was
offshore liability avoidance”17 . a result of the pressure exerted by the major UK
accountancy and law firms which were expected to take
As per the Jersey Law, an LLP is required to pay a advantage of the Jersey LLP .
£10,000 as registration fee, which makes it affordable
The UK Limited Liability Partnerships Act 2000 came
only to businesses of stature.
into force on 6 April 200119 providing limited liability
The Act classifies partners as 'partners' and partnership the organisational flexibility and tax status
'designated partners'. Every LLP must also have a of a partnership with limited liability for its members.
registered office in Jersey at which it must maintain those The Act classifies partners into two categories
records specified in Article 8(4) of the law, which are namely ‘members’ and ‘designated members’. A limited
available for inspection by partners. The names and liability partnership must have at least two, formally
addresses of all the partners of an LLP are also a matter appointed, designated members at all times. Designated
of public record. Similarly, LLPs are not required to file members are similar to executive or managing directors
partnership agreement, accounts or to have their and the company secretary of a company. If there are
accounts audited; they must, however, maintain proper fewer than two designated members then every member
accounting records. automatically becomes a designated member. By virtue
On a closer look at the provisions of the law, one of section 24 of the UK Companies Act 1985, where a
finds that the provisions are somewhat similar to limited liability partnership continues for more than six
legislation in the State of Delaware (US). The law allows months with a single member, then that member
partners to take an active part in the management of a becomes liable jointly and severally with the LLP for
partnership whilst retaining their own individual limited the debts of the firms contracted for during that period.
liability. Every LLP is required to make a £5 million The management structure of a limited liability
provision for judgments against the partnership and to partnership is governed by its agreement among
compensate creditors. This financial provision against members and LLP and members inter se. The agreement
debts and liabilities of the partnership are required to should cover the sort of issues dealt within a normal
be maintained throughout the life of the partnership partnership agreement. It is however not mandatory to
and are not permitted to be made the subject of a file the same with the Registrar. The First Schedule of
security or set-off18 . the Act provides for certain default provisions which
are applicable if the members agreement is silent on a
Despite actually having a separate legal personality, certain issue.
the Jersey limited liability partnership is treated as a
partnership for taxation purposes. It is rather fiscally A limited liability partnership is also considered to
transparent i.e. tax is levied on the individual partner’s be a ‘Legal Person’ in its own right, and can operate in
share of profits rather than the overall partnership profit. the same way as a company in most respects. However
In this respect the Jersey LLP is also similar to the Scottish one important difference between an LLP and a limited
general partnership structure. company is the way in which the profits are taxed, with

15. Cousins et al., 1998.
16 Financial Times, 28 June 1996, p. 22; 24 July 1996, p. 9.
17. Jersey Evening Post, 25 July, 1996, p.1.
18 Jersey Evening Post, 25 July 1996, p. 1.
19. http://www.volaw.com/pg405.htm

BACKGROUNDER


each member of the partnership being taxed according correspondence are also required to carry the name,
to the share of the profits that they receive rather than registration number and a statement that the partnership
the LLP paying tax directly on its profits. is registered with limited liability. Additionally, LLPs
formed by conversion of existing unlimited partnerships
A LLP is required to produce and publish financial are required to carry a statement regarding the conversion
accounts with a similar level of details to a similar sized and the effective date on all official correspondence
limited company and to submit accounts and an annual and invoices for 12 months commencing 14 days after
return to the Registrar of Companies each year. This the date of registration.
requirement is far more demanding than the position
for normal partnerships and some specific accounting LLPs are also required to file a declaration of
rules may lead to different profits from those of a normal solvency or insolvency, which will be publicly available.
partnership. Further, the Act applies the provisions of Failure to file a declaration of solvency implies insolvency
company law and insolvency law, with appropriate leaving the LLP vulnerable to winding-up action by
modifications, to LLPs. creditors. As a measure of creditor protection, there is
a claw-back mechanism, which allows LLPs to recover
LLP LAW IN SINGAPORE amounts distributed to its partners within a period of
three years preceding the commencement of the
In Singapore, a Study Team on Limited Partnerships
winding up of an LLP .
(“LPs”) and Limited Liability Partnerships (“LLPs”) was
set up by the Ministry of Finance in November 2002, to INDIAN SCENARIO
work out the details of the legal framework governing
In India, businesses mainly operate as companies,
limited partnerships and limited liability partnerships. The
sole proprietorships and partnerships. Each of these
Singapore Limited Liability Partnership Act, 2005 came
business structures has its own advantages and
into effect on April 11, 2005. By having a close look at
shortcomings and is subject to different regulatory and
the legislation, one can conclude that the Singapore
tax regimes. The idea that there should be the
LLP Act is broadly modelled on the Delaware Revised
opportunity in India to organize as an LLP emerged out
Uniform Partnership Act (the “Delaware Code”).
of the Report of the Naresh Chandra Committee on
A LLP is required at all times to have at least two Regulation of Private Companies and Partnership and
partners, with the exception that if the LLP is left with Report of the Dr. J. J. Irani Expert Committee on
only one partner, the remaining sole partner is given a Company Law. After studying the major LLP statutes
grace period of up to two years to find a new partner. If around the World it is suggested that the Singapore LLP
the LLP continues with less than two partners for more Act, 2005 along with the Indian Companies Act, 1956
than two years, the remaining sole partner assumes with apposite adaptations and modifications may form a
unlimited liability and is vulnerable to winding-up by base to the Indian LLP statute.
the courts.
ISSUES FOR CONSIDERATION
It is mandatory for a LLP to have a local manager
who is a natural person aged twenty one years and above Some of the important issues that need indepth
and does not have a questionable character and must analysis, debate, discussion and deliberations are as
also meet other requirements specified under the LLP under:
Regulations, including those pertaining to solvency. One 1. Whether LLP form of business structure should
of the important characteristics of a manager is that he be made available to Professionals only ?
need not be a partner of the LLP .
2. Whether LLP Agreement should be made
Although the LLP structure is available to all types mandatory to be filed with the Registrar ?
of businesses yet it is not subject to full financial reporting
3. What contents of the LLP agreement should
and disclosure requirements, for example, relating to
be filed with the Registrar ?
its capital contributions and changes to capital, making
this a suitable vehicle for small businesses and new start- 4. Whether foreign individuals should be allowed
ups. Further, it is also not mandatory to file the partnership to be a partner or not ?
agreement with the Registrar. 5. Whether LLPs should be allowed to have one
LLPs are required to ensure that the partnership general partner with unlimited liability or not ?
name is followed by the words ‘limited liability 6. Whether manager should be a partner of LLP
partnership’ or the acronym ‘LLP’. Invoices and official or not ?

BACKGROUNDER


7. Whether LLP should have a limit on the number designed to not only attract venture capital from offshore
of partners it can have ? institutional investors but also to retain domestic
8. What should be the extent of liability of a investment. Some of the advantages of this form of
partner ? business structure include low cost of incorporation,
unlimited capacity, limited individual liability, flexible
9. How should the LLPs be taxed ? management structure, tax benefits and less audit and
filing requirements.
10. What should be the disclosure requirements
for an LLP ? However, at the same time this form of business
11. What should be the procedure for existing firms, structure is susceptible to abuse as well. Probably the
private companies and unlisted public weakest link is the private limited liability partnership
companies to convert to LLP ? agreement. Especially, after the Enron collapse, it is felt
that limited liability has a degree of correlation with
12. How should the Act deal with foreign LLPs ? professional lapses and malpractices. The OECD also
13. What should be the procedure for the merger, identifies limited liability partnership as being a corporate
amalgamation and demerger of LLPs ? vehicle, which is vulnerable to misuse, principally for
the reason that it is less regulated than corporations.
14. What should be the procedure for the winding
up and dissolution of LLPs ? The limited liability partnership form of business
structure is keenly awaited in India. However, such
15. What provisions of the Companies Act, 1956 introduction will require amendments in several
should apply to LLPs ? legislations and Regulations. Therefore, an in-depth
understanding of the concept is inexorable.
16. What all other legislations, rules, regulations
and procedures need to be amended for References
facilitating a smooth entry of LLPs ?
1. Alberta Law Review, (1998). Limited Liability
17. What can be the various forms of contribution? Partnerships and other hybrid business entities,
Edmonton, Alberta Law Reform Institute.
18. Whether a partner can bring his share of
contribution in installments ? 2. Angela Schneeman, The Laws of Corporations,
and other Business Organizations, Thomson
19. For how long an LLP should be allowed to carry
Delmar Learning, p. 42.
on business with less than two partners ?
20. Should the audit of financial records be made 3. Jonathan Walker, Limited Liability Partnerships:
mandatory for all LLPs ? True Partnerships ?

21. Should LLPs be required to file an annual report 4. Joseph A McCahery, Theo Raaijmakers, Erik P
with the Registrar ? M Vermeulen, The Governance of Close
Corporations and Partnerships: Us and European
22. What should be the period of claw back ? Perspectives, Oxford University Press, p. 361.
23. What should be the disqualifications of a partner 5. Linda L Crawford, Edward J O’Donnell, Florida
and manager ? Real Estate Broker’s Guide, Dearborn Real
24. Whether the provision for compulsory insurance Estate Education, p. 30.
for LLPs be provided ?
6. Linda L. Crawford, David S. Coleman, Florida
25. Who shall regulate and administer the LLPs ? Real Estate Principles, Practices & Law, Dearborn
Real Estate Education, p. 89.
CONCLUSION
7. Margaret Bartschi, Foundations of Business
Following international trends, predominantly those
Organizations for Paralegals, Thomson Delmar
in the United States of America, United Kingdom and
Learning, p. 3.
Singapore, the debate on Limited Liability Partnership
(LLP) structure in India is recent one. This structure is 8. Michael K de Chiara, Michael S Zetlin, New
recognized as the “world’s best practice” structure, York Construction Law, Aspen Publishers, p. 21.

BACKGROUNDER


9. Morris, P and Stevenson, J., (1997a). The
., Partnership Law, Corporate Law, and Private
Jersey Limited Liability Partnership; A New Legal Ordering Within Closely-Held Business
Vehicle for Professional Practice, Modern Law Associations.
Review, Vol. 60, pp. 538-551.
12. Scott E. Waxman and Eric N. Feldman,
10. Morris, P., and Stevenson, J., (1997b).
Delaware Limited Liability Partnerships.
Accountancy Firms and the Jersey Limited
Liability Partnership, Business Law Review, April, 13. Sikka, P (1996b). Secrecy is the aim of those
.,
pp. 80-83. who want limited liability in Jersey ”,
11. Robert W. Hillman, The Bargain in the Firm: Accountancy Age, 5 September, p. 10.

BACKGROUNDER

Limited liability partnership a new business model

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