Limited Liability Partnerships (LLPs) have grown increasingly popular as a business structure due to their flexibility, ease of operation, and limited liability for partners. LLPs blend elements of both partnerships and corporate entities, making them a preferred choice for businesses, particularly professional firms, start-ups, and small businesses.
One key question that arises in the taxation of LLPs is whether the share of profit from an LLP is exempt from tax for the partners under any section of the Income Tax Act. The answer lies in Section 10(2A) of the Income Tax Act, 1961.
Tax Treatment of LLPs in India
Before delving into the specific provision, it is essential to understand how LLPs are treated for tax purposes in India. LLPs, with LLP registration in Bangalore unlike companies, are not taxed as separate entities. Instead, they follow a structure similar to that of traditional partnerships where profits are taxed at the entity level, and partners are not taxed separately on the same income. This means that the LLP pays tax on its profits, but the distribution of those profits to partners is not subject to additional tax.
This distinction is crucial as it directly impacts the taxability of a partner’s share of the profits from the LLP.
Section 10(2A) of the Income Tax Act: Exemption for Share of Profit
Section 10(2A) of the Income Tax Act, 1961, provides clarity on the tax treatment of the share of profit received by a partner from an LLP. This section specifically states that the share of profit received by a partner from an LLP is exempt from tax in the hands of the partner. This provision ensures that there is no double taxation—once at the LLP level and again in the hands of the partner.
Key Points of Section 10(2A):
- Exemption in Partner’s Hands: The profit share of a partner from the LLP is fully exempt in their hands under Section 10(2A).
- No Double Taxation: This ensures that the same income is not taxed twice—once at the LLP level and again at the partner level.
- Applicability: The exemption applies to both professional LLPs and those engaged in trade, business, or any other activity. The section is not limited to specific types of LLPs.
Illustration of Section 10(2A) in Action
Suppose an LLP generates a net profit of ₹10,00,000 in a financial year. The LLP will be taxed on this amount as per the applicable tax rate (currently 30% plus cess and surcharge). Once the tax liability is settled by the LLP, the balance profit is distributed among the partners according to the agreed profit-sharing ratio.
For instance, if Partner A is entitled to 50% of the profits, they would receive ₹5,00,000 as their share. This ₹5,00,000 is exempt in the hands of Partner A under Section 10(2A). Partner A does not have to pay any further tax on this amount, ensuring that only the LLP pays tax on the total profit.
Tax on Other Income of LLP Partners
While the share of profit from the LLP is exempt under Section 10(2A), it's important to note that not all income received by partners from the LLP is exempt. For instance, remuneration, salary, interest, and other payments made by the LLP to partners are taxable in the hands of the partners. This income is taxed as per the individual partner's applicable slab rates.
Remuneration and Interest to Partners
- Remuneration: Payments made to partners as remuneration for services provided (as per the LLP agreement) are considered income and are taxable in the hands of the partners. However, the LLP can claim these payments as deductible expenses, subject to the limits specified in Section 40(b) of the Income Tax Act.
- Interest on Capital: If the LLP pays interest on capital contributions made by partners, such interest is taxable as income in the hands of the partners. Like remuneration, this interest can be claimed as a deduction by the LLP, subject to limits.
Example:
Partner B contributes ₹20,00,000 as capital in the LLP. The LLP pays interest on the capital at a rate of 12% per annum (as per the LLP agreement). In this case, the interest income of ₹2,40,000 will be taxable in the hands of Partner B, even though their profit share from the LLP is exempt.
Taxation of LLPs
While Section 10(2A) provides an exemption for partners, LLPs with online LLP registration in Bangalore themselves are subject to tax. LLPs are taxed at a flat rate of 30% on their total income, irrespective of the nature of their activities. Additionally, LLPs are also liable for surcharge (if applicable) and health and education cess at 4% on the total tax liability.
- Alternate Minimum Tax (AMT): LLPs are subject to Alternate Minimum Tax (AMT) if they claim certain deductions under Chapter VI-A or Section 10AA of the Income Tax Act. The AMT rate is 18.5%, and if the LLP's normal tax liability is lower than the AMT liability, the LLP has to pay tax at the AMT rate.
- Filing of Returns: LLPs are required to file their income tax returns using Form ITR-5. This form is specifically designed for entities such as LLPs, AOPs (Association of Persons), and BOIs (Body of Individuals). The due date for filing the return depends on whether the LLP is required to undergo an audit.
Key Compliance Requirements for LLPs
To ensure that they benefit from tax provisions, LLPs must adhere to certain compliance requirements:
- Maintaining Books of Accounts: LLPs are required to maintain proper books of accounts and financial statements. They must prepare a balance sheet, profit and loss account, and other relevant financial documents at the end of each financial year.
- Audit Requirements: LLPs with a turnover exceeding ₹40 lakhs or contributions exceeding ₹25 lakhs are required to have their accounts audited by a Chartered Accountant.
- Filing of Annual Returns: LLPs must file their annual returns (Form 11) with the Registrar of Companies (RoC) within 60 days from the close of the financial year.
Conclusion
In summary, Section 10(2A) of the Income Tax Act provides a clear exemption for the share of profit received by a partner from an LLP, ensuring that such income is not taxed in the hands of the partner. This provision prevents double taxation, making LLPs an attractive option for businesses looking for both operational flexibility and tax efficiency. However, other payments made by LLPs to partners, such as remuneration and interest on capital, are taxable in the hands of the partners. Therefore, while the profit share is exempt, partners must account for other income streams while planning their taxes.
By understanding the tax provisions related to LLPs and ensuring compliance with statutory requirements, businesses and their partners can make the most of the benefits offered by the LLP structure.
