Limited Liability Partnership: An alternative choice of entity to invest into India
In recent years, Foreign Direct Investment (FDI) into India has been on the rise, with a significant percentage of such FDI originating from Singapore.
Establishing a private limited company has traditionally been a popular means by which foreign investors set up an entity for (ease of) doing business in India. While a private limited company has its advantages, such as managing shareholders liability, perpetual succession, ease of transfer of ownership, it also incurs additional tax and compliance burdens in India.
One of the key issues with setting up a private limited company is the Dividend Distribution Tax (DDT), currently at approximately 20.36 per cent, which is applicable at the time of profit distribution to shareholders. This is a tax on distribution of profit which is levied over and above the corporate tax rate of approximately 34.61 per cent. While such dividends are exempt from tax in India for both local and foreign shareholders, foreign shareholders need to consider a tax credit claim for the DDT in their respective home countries.
In Singapore, credit can be claimed for such DDT. However, since the dividend income from India is usually exempt from tax in Singapore, and the credit for DDT may not be useful, unless an investor has other qualifying foreign sourced income for which such credit can be used under foreign tax credit (FTC) pooling rules.
Owing to additional tax burden of DDT at the time of distribution of profits, the complexities surrounding claiming of underlying tax credit and other compliance burdens, Limited Liability Partnerships (LLPs) are becoming a popular mode for foreign investors operating in India.
An internationally accepted vehicle of business in the form of LLPs emerged in India post enactment of the Limited Liability Partnership Act, 2008 (LLP Act). One of the main advantages of an LLP is that it enshrines some benefits of a corporate structure (especially limited liability of shareholders) within the more flexible partnership firm format.
FDI in an Indian LLP was first permitted under the Indian Foreign Direct Investment Regulations in 2011, requiring government approval but with several restrictions. Foreign investors were concerned with these restrictions and as a result it received a very tepid response. The government of India and Reserve Bank of India (RBI) were responsive to these concerns, introducing several relaxations with an intention to provide a friendlier environment to foreign investors and provide impetus to foreign investments in India.
Key framework for foreign investments in an Indian LLP
100 per cent foreign investment permitted without prior approval
100 per cent foreign investments are now permitted in an Indian LLP under the automatic route i.e. without prior Government approval, in sectors where there are no FDI linked performance conditions, if other conditions are met. Examples of sectors where there are FDI linked performance conditions include companies in the Real Estate sector, Non-Banking Financial Companies and so on.
Foreign Portfolio Investors, Foreign Institutional Investors and Foreign Venture Capital Investors are specifically restricted from investing in an Indian LLP.
Requirement of having an Indian resident Designated Partner (DP) deleted
Foreign Investment regulations previously required a DP by way of a Company registered in India under the provisions of the Companies Act, but did not permit such DP to be any other body, such as a Trust or a LLP. Further, it was necessary that if an individual was appointed a DP he also needed to be a ‘person resident in India’.
These conditions have now been relaxed and a Foreign Company can also be a DP. Further, if an individual is appointed as DP, he or she need not satisfy the residency test under the Indian Foreign Exchange Regulations. Such DPs would however continue to comply with conditions prescribed for them under the LLP Act.
Conversion of a Company with FDI into LLP under automatic route
Conversion of a Company with foreign investment into LLP, which was previously under the Government approval route, is now permitted under the automatic route for Companies being engaged in a sector where foreign investment up to 100 per cent is permitted under an automatic route and there are no FDI linked performance conditions.
From a Foreign Investment regulations standpoint, while this seems to be a welcome move, it may still not lure many foreign investors as conditions for availing tax neutral conversion is likely to cover only small and medium enterprises. Key conditions for tax neutral conversion include sales / turnover / gross receipts should not exceed Rs 6 million over the previous three years, no amount being paid to any partner out of accumulated profits, book value of assets not exceeding Rs 50 million over the previous three years, continuity majority of ownership post conversion etc.
Other key considerations
LLPs were previously not permitted to obtain foreign loans nor make downstream investments. Downstream investments and foreign loans are now permitted for Indian LLPs with FDI. However, for foreign loans, one would have to wait until the enabling regulations for the same are amended.
From an India tax perspective, DDT is currently not applicable in the case of Indian LLPs and thus, they stand on a beneficial footing vis-à-vis a Company which is liable to dual layer of tax i.e. corporate tax at company level and DDT on declaration of dividends. Share of profits earned by partners of an LLP, are exempt from tax in India. This is a big plus-point for foreign investors who are considering repatriation of surplus profits from their Indian subsidiaries in a tax efficient manner.
Further, in light of the recent tax treaty amendments by India with Singapore, Mauritius and Cyprus, company structures have become less beneficial from a tax perspective. Investment in shares of an Indian company made on or after 1 April 2017, which are subsequently transferred by a Singapore / Mauritius / Cyprus tax resident investor, would be subject to a capital gains tax in India. Such capital gains tax do not currently apply to the transfer of partnership interests and therefore, it is opportune to explore LLP structure.
Food for thought
While LLP has the merits of a company and a partnership, an LLP structure may not always be an obvious choice for setting up an Indian entity, and each choice is determined by the merits of each case. Some considerations include what sector an Indian entity is operating in, what type of Singapore investor (i.e. strategic or private equity) is involved, the possibility of availing FTC pooling and so on.
Hence, foreign investors (including Singapore investors) should be mindful of the pros and cons of a company and an LLP structure in India, and following thereon in making the best informed decision.
Ajay Kumar Sanganeria is Tax Partner at KPMG Singapore; Vikram Mehta is Tax Senior Manager, KPMG Singapore; and Gaurav Tanna, is Associate Director, India Desk, KPMG Singapore.