Presentation Firms and AOP PDF

Challenge Us
Firm and Limited Liability Partnership

Association of Person
Overview of Tax aspects
May 27, 2016 | Chennai
Pranith Golecha and Varatharaj Kumar

Silent Features – Partnership Firm
• Persons who have entered into partnership with one another are called
partners individually and a firm collectively
• A partnership is a common vehicle in India for carrying on business activities

on a small or medium scale.
• Under partnership law, a partnership firm is not a legal entity, but it only
consists of individual partners for the time being to generate income or get
profit.
All rights reserved | Preliminary & Tentative

• However, for income-tax and sales tax purposes, it has limited identity and
has been considered as the legal entity.
Silent Features - LLP
• Body corporate and separate legal entity
• Perpetual succession
• Partners/ LLP shall be governed by LLP Agreement
• LLP is liable to the extent of its assets and Partner’s are liable to the extent
of agreed capital contribution in the LLP Agreement

Framework of Taxation of Firms and LLP
• ‘Firm’ - Not been defined under the Act
• Section 2(23) of the Act - Firm, partner and partnership have the meanings,
respectively assigned to them in the Indian Partnership Act, 1932.
• A firm is taxed as a separate legal entity for income tax purpose
• From the Assessment Year 2010-11 onwards these provisions are also
applicable to Limited Liability Partnership

Framework of Taxation of Firms and LLP
• Tax rate for firm - 30 percent plus surcharge and cess
• Any salary, bonus, commission or remuneration (by whatever name called)

paid/payable to partners is allowed as a deduction to the firm – Subject to
conditions and restrictions
• Interest on partner’s capital is allowed as deduction – Subject to conditions

and restrictions
The share of the partner in the income of the firm is not included in

•
computing his total income
Content
• Residential Status
• Interest deductibility
• Remuneration and book profit
• Contribution of assets into the Firm / LLP
• Retirement of Partner
Taxation in the hands of partners – other issues

•
• Carry forward of loss
• Conversion
• Business models
Residential status
• Residential status determined qua firm u/s 6(2) read with sec 6(5)
• “A firm is said to be resident in India in any previous year in every case

except where during that year the control and management of its affairs is
situated wholly outside India”
- Mere activity in one place does not create residence

- ‘Control and management’ refers to controlling and directing power/
“head and brain”

- ‘Affairs’ are those which have some bearing to income
- De facto control, not de jure control relevant
Supreme Court ruling in the case of Narottam (23 ITR 454) and Naik (14 ITR
334)
Residential Status
Foreign Control and

Company Management • All directions are given from
outside India
Outside India • All the commercial and

Management decision are taken
India
outside India
LLP

Applicable tax rate for
business income?
India holding company as LLP?
Foreign Control and Management is fully

Company outside India
Outside India
India
Capital gains tax Investment holding
LLP Company subject to FEMA
rate – 10%
conditions

Indian Indian
LLP
Company 1 Company 2
Conditions under section 184 of the Act
• A firm must be evidenced by an instrument;
- The deed must be in writing;
- Partnership should not be by conduct or oral partnership;
• Profit sharing ratio of partners must be specified in the instrument
• A certified copy of the instrument should be submitted

• There should not be any failure as mentioned in section 144 of the Act
Interest to Partners
• Section 40(b) provides the following limitation on deductibility of interest,

subject to following conditions:
- Payment of interest to be authorized by and to be in accordance with

partnership deed [LLP Agreement]
- Interest to relate to a period falling after the date of partnership deed
- Interest should not exceed 12% per annum

- Interest paid to an individual partner acting in a representative capacity,
(on loan/ capital provided) otherwise than in representative capacity
- Interest paid to an individual partner on behalf of, or for the benefit of

any other person
Interest to Partners
• Whether partner can claim interest on loan borrowed against the interest on
capital invested in Firm
Held Yes – Delhi High Court in the case of Karan Raghav Export (2010 (11)
TMI 111)
• Partner’s capital is used for purpose other than business – Interest on capital
allowed

Held No – Munjal Sales Corporation (2008 (2) TMI 19)
Interest to Non-resident Partners
Foreign Act:
Company
• Business income
Interest
on Capital
Outside India
India Treaty:
LLP • Interest income

• Dividend income
Under the treaty - Interest income
(Sunil V Motiani (ITA No.
• Business income
276/Mum/2012) • Other income
Remuneration of Partners
• Remuneration should be paid only to a working partner;

- Should the working partner be only an individual?
- The partner must be actively engaged in the business of the LLP
Activities performed Activities not performed Is he a working
partner?
Framing business policies No participation in implementation and other routine Yes
jobs
Business decision making No participation in implementation and other routine Yes
jobs

Effecting Business No participation in administrative and other routine Yes
transactions jobs
Attends general No participation in decision-making Yes
administration
Performs routine jobs No participation in decision-making Yes
Conditions under section 40(b) of the Act
Activities performed Activities not performed Is he a working
partner?
Partner on account of No knowledge of the business performed by the LLP No

relationship and/or capital
Partner on account of No participation in the working of the business No

relationship and/or capital
Temporarily carries on some Otherwise no participation No

work in the absence of a
regular partner

Hence, the functions of a working partner would include
• Planning;
• Organizing;
• Directing;
• Staffing; and
• Controlling the core of business namely, production, marketing, finance, etc
Conditions under section 40(b) of the Act
• Remuneration must be authorised by the partnership deed;

- What does Circular No. 739 say?
• Remuneration should not pertain to period prior to partnership deed; and
• Remuneration should not exceed permissible limit
Book Profit Amount deductible in respect of remuneration to partners under

section 40(b) of the Act
If book profit is negative Rs 1.5 lakhs

In case book profit is positive On first 3 lakhs of book profit – Rs 1.5 lakhs or 90 percent of book
profit whichever is more
On balance – 60 percent of book profit
How to Compute ‘Book Profit’ for the purpose of section
40(b) of the Act
Steps involved in Computation of ‘Book Profit’
Steps to Compute ‘Book Profit’
Step 1 Find out the net profit of the LLP as per Profit and Loss Account
Step 2 Make adjustment as provided in sections 28 to 44DB of the Act

Step 3 Add remuneration to partners if debited to the Profit and Loss Account
Implications of manner of computation of ‘Book Profit’
• Income of other heads of income such ‘Income from House Property’,

‘Capital Gains’ and ‘Income from other sources would not form part of total
income.
• Treatment of Brought forward Business Loss – To be ignored
• Treatment of other permissible deductions from section 80C to section 80U

of the Act – To be ignored
• Issues

• Will interest income earned on Fixed Deposits held by a LLP for business
purpose form part business income or not?
• Whether remuneration paid and allowable under section 40(b) of the Act
can be disallowed under section 40A(2) of the Act
Transfer of Capital Asset into Firm by Partner
Partners Act:
• Amount recorded in
Contribution of
Intangibles as
the books of the e firm
capital - Deemed to be the
full value of the
Firm / LLP consideration

LLP Act:
• Sec 32 of LLP Act r/w
Rule 23 of LLP Rules
Transfer of Capital Asset by Firm to Partner
• Per section 45(4):
“The profits or gains arising from the transfer of a capital asset by way of distribution of
capital assets on the dissolution of a firm or …or otherwise, shall be chargeable to tax as the
income of the firm, association or body, of the previous year in which the said transfer takes place
and, for the purposes of section 48, the fair market value of the asset on the date of such
transfer shall be deemed to be the full value of the consideration received or accruing as a
result of the transfer”
• Conflicting views on whether s 45(4) applies on retirement of a partner
• In any event, it has been held in HC judgments that sec 45(4) does not apply to a case of
retirement/ dissolution where cash is paid out to a partner on retirement as per the terms of
the partnership deed

o CIT vs Dynamic Enterprises 40 taxman.com 318 (Kar)
• In such cases, SC decisions that the receipt should not be taxable in the hands of the partners
since it represents realization of a right rather than transfer
o Malabar Fisheries Co. vs CIT 120 ITR 49 (SC)
o CIT vs Mahanbhai Pamabhai 165 ITR 166 (SC)

Challenge us | 21
Transfer of Capital Asset by Firm to Partner
Retirement – Provisions in Partnership Act and LLP Act
• Section 37 of the Partnership Act:

“Where any member of the firm has died or otherwise ceased to be a partner,
and the surviving or continuing partners carry on the business of the firm with
the property of the firm without any final settlement of accounts as between
them …”
• Section 24(5) of the LLP Act: Retiring shall be entitled to receive from the
limited liability partnership:

- an amount equal to the capital contribution of the former partner
actually made to the limited liability partnership; and
- his right to share in the accumulated profits of the limited liability
partnership after the deduction of accumulated losses of the limited
liability partnership, determined as at the date the former partner ceased
to be a partner”
Challenge us | 22
Carry forward and set off losses – Change in constitution
of LLP
Section 78 of the Act
• Section 78 of the Act provides that where there is a change in the
constitution of the LLP on account of death/retirement, the firm shall not be
entitled to carry forward of so much of the loss as is attributable to such
partner
Manner of computation
Step 1 Ascertain the share of the outgoing partner in the profit/loss of the LLP in the year
of change in the constitution of LLP

Step 2 Compute the share of loss of outgoing partner in the brought forward loss
Step 3 The difference between step 1 and step 2 (in case of profit in the year of change of
constitution) or the aggregate of step 1 and step 2 (in case of loss in the year of
change of constitution) cannot be allowed to be set off and carry forward
Carry forward and set off losses – Change in constitution
of LLP
Section 78 of the Act
• However, it must be noted that this provision only covers a situation when a
partner goes out of the firm. It does not, however cover a case of change in
profit sharing ratio or the case of admission in partnership.
LLP has perpetual succession, so whether retirement or death will be treated as change in
constitution?

Dissolution of Firm and Succession
• Profit or loss arising from transfer of a capital asset by way of distribution of

capital assets on dissolution of Firm is chargeable to tax as income of the
Firm in the tax year in which the said distribution takes place
• The fair market value of the asset on the date of such distribution shall be
deemed to be the full value of the consideration received or accrued as a
result of the distribution
• The partners of the firm at the time of dissolution shall be jointly and
severally liable for the amount of any tax, penalty or any other sums payable

as determined under the scrutiny proceedings
• Separate assessment to be made on predecessor firm and successor firm in

case of succession which is not covered under section 187 (ie on change in
constitution of the firm)
Taxation of Partners- Recent update
• CBDT clarifies that the partner’s share of profit in the firm’s total income
is exempt in the hands of partner even if the income is exempt in the
hands of the firm
• The “total income” of the firm for the purpose of interpretation of Section
10(2A) of the Act, includes income which is exempt or deductible under
various provisions of the Act
• Accordingly, the income of the firm is to be taxed only in the hands of the
firm and under no circumstances it can be taxed in the hands of its

partners
• Accordingly, the entire profit credited to the partners’ accounts in the firm
would be exempt from tax in the hands of such partners, even if the
income chargeable to tax becomes nil in the hands of the firm on account
of any exemption.
Taxation of Partners – Transfer of LLP interest
Treaty – Taxable only in

Residence state:
F Co. 1 F Co. 2
1. Mauritius
2. Singapore
3. Philippines
Outside India
Transfers 4. South Africa
India
interest 5. Denmark
6. France
7. Germany

8. Japan
LLP 9. Netherlands
Under the treaty, will the LLP be treated as Company?

Conversion
COMPANY LLP
To
LLP COMPANY
To
FIRM COMPANY
To

FIRM LLP
To
Business Models
Company or LLP AOP or LLP Investment holding model
Promoter holding
F Co. F Co company/ Investment LLP
Outside
India
India I Co.
I Co. 1 I Co. 2
Company LLP

Project •Recurring savings (DDT and MAT
related)
Advantages: •One time tax savings (MAT related at
the time of divestment)
• No MAT •NBFC neutralization
• No DDT
AOP LLP
Lower tax cost with mitigation of
Association of Persons exposure
Business Models
Projects Cash Pooling
Companies
I Co. 1 I Co.2
Rs 100 Rs 1 Cr.
Project Co.1 Project Co.2 Project Co.3
Partnership
LLP1 LLP2 LLP3

Free circulation of cash
More tax efficient repatriation without No deemed dividend
MAT outflow
Risk in each of the project can be
alignated
Taxation of LLP – In a Nutshell
• LLP are taxed at effective rate of 30% (plus surcharge and education cess)
• AMT (levied @ 18.5% on Adjusted Total Income*) introduced on LLP by

Finance Act, 2013 w.e.f 1 April 2013
• No dividend distribution tax on its profit distributions
• Loss attributable to a retiring partner cannot be carried forward
• Share of profits of the LLP received by the partners is exempt in the hands of

the respective partners
• Interest on capital paid to partners is allowed as a deduction to the LLP

Company to LLP
All assets and liabilities should be transferred
All the shareholders becomes partners in LLP – Consideration should

be in the form of capital contribution and profit sharing
Turnover and assets should not have exceeded INR 60 lakhs and INR
5 crore respectively in the last 3 years

Shareholders should collectively hold atleast 51 percent of the profit
sharing ratio for 5 years
No repatriation out of accumulated profit for 3 years

Tax neutrality – violation of prescribed condition
Two level test has to be satisfied for conversion to be tax neutral for Company as well to
shareholder
Level 1
Satisfaction of •There should be a transfer under the charging section for capital
“Transfer” gains i.e., section 45 of the Income-tax Act, 1961 (“the Act”)
definition
Level 2
Satisfaction of •Satisfaction of prescribed conditions to exclude from the
Yes prescribed definition of transfer under section 47(xiiib) of the Act
exemption condition
Yes
Conversion is Tax

No Neutral
• Conversion by operation of law is not a Transfer - Madurai Mills Co Ltd (89 ITR 45)
• Conversion of firm to company will not be treated as ‘Transfer’ – The Bombay High
Court in the case of CIT Vs Texspin Engg & Mfg Works (263 ITR 345)
The Gujarat High Court in the case of R L Kalathia (66 taxmann 249)
TAXATION OF AOP
May 27, 2016 | Chennai
Pranith Golecha
AOP TAXATION
 Concept of AOP
 Definition of Person
 Members of AOP – Judicial Precedents
 Residential status of AOP
 Taxability of members and AOP (with case studies)
 Examples

 Key takeaways
Concept
CONCEPTof
OFAOP
AOP
• AOP is a separate taxable entity under • Some of the parameters to ascertain

the Act – distinct from its constituting the existence of an AOP have been
members – Section 2(31) of the Act mentioned below:
• The term AOP has not been defined in  Two or more persons associate
the Act – no single test or guiding themselves with the object of
principle. Fact driven deriving income, profits or
gains
• There is no formula of universal
application as to what facts, how many  Voluntary combination
of them and of what nature, are
 Common purpose
necessary to come to a conclusion
that there is an AOP – Supreme  Joint management
Court

 Mutual rights and obligations
• Judicial precedents on the subject  Joint execution of work
 Joint and several liabilities of
members
 Sharing of profits in agreed
proportion between the members
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QUOTE, UNQUOTE – HOW THE LAW EVOLVED
• combinations of individuals
• combination of persons formed for the promotion of a joint enterprise
• join in common purpose, or to join in an action”.
• produce income jointly. It is not enough that the persons receive the income
jointly.

• The liability to tax depends upon the earnings of profits by a unit and not upon its
ultimate division
• Two or more persons associate themselves;
• Joint and several liability resulting in the sharing of profits and losses
| 37
KEY PROVISIONS
Section Particulars
Sec. 2(31) Definition person
Sec. 6(2) Residential status of AOP
Sec. 40(ba) Remuneration to the members of AOP
Sec.67A Method of computing a member’s share in the income of

association of persons or body of individuals
Sec.86 Share of member of AOP – taxability

Sec.167B Charge of tax where share of member's in association of persons or
body of individuals unknown – AOP taxation
Sec. 110 Rebate, if any in the hands of the members of AOP
| 38
DEFINITION OF PERSON – SECTION 2(31)
• The term ‘person’ is defined under section 2(31) of the Act to include an ‘AOP’
• Finance Act, 2002 brought a clarification by inserting an Explanation to section 2(31),

which provided that an AOP shall be deemed to be a person, whether or not it was
formed or established or incorporated with the object of deriving income, profits or
gains
Why
What are we
Amendment?
discussing?
• Prior to 2002, certain bodies claimed that they did not fall under the definition of
“person” due to sole reason that they were not formed with the sole intention of

having any income or profits or gains.
How does it impact?
• Thus, earning of income, profits or gains by a combination of person could no longer
be regarded as a pre-requisite for the combination of persons to be considered as an
AOP
| 39
SECTION 2(31) – OBJECT OF DERIVING INCOME NOT
NECESSARY?
Finance Minister Speech
“The advisory group has also recommended deletion of various exemptions

granted to incomes of approved or notified bodies or institutions, including
educational and medical institutions. I do not think that the exemptions
allowed to these institutions and bodies, which are fulfilling social objectives,
should be withdrawn. However, I propose to require all such bodies and
institutions to file returns of income every year so as to enable a periodical
verification of whether the prescribed conditions, which primarily relate to
Controversy? application of the income, are being fulfilled and also to enable the
prescribed authority to withdraw the approval or notification of such entities if
they are found to have violated any such conditions.”

Memorandum and notes to clause 3 are reproduced below:
“It is proposed to insert an Explanation in the said clause (31) of the said
section so as to provide that an association of persons or a body of
individuals or a local authority or an artificial juridicial person shall be
deemed to be a person, whether or not, such person or body or authority or
juridicial person was formed or established or incorporated with the object of
deriving income, profits or gains.”
| 40
SECTION 2(31) – OBJECT OF DERIVING INCOME NOT
NECESSARY?
Circular 8, 2002.
Under the existing provision contained in clause (31) of section 2, the expression
"person" includes an individual, a Hindu undivided family, a company, a firm, an
association of persons or a body of individuals, whether incorporated or not, a local
authority and every other artificial juridical person, not falling within any of the above
definitions. Although, the definition of "person" is inclusive and starts with the qualifying
words "unless the context otherwise requires", in some cases, a claim has been made
that certain bodies do not fall within any of the definition of "person" provided in clause
(31) of section 2 due to sole reason that they are not supposed to have any income or
profits and gains.

To clarify the correct legal position, an Explanation in clause (31) of section 2 has been
inserted through Finance Act, 2002 so as to provide that an association of persons or a
body of individuals or a local authority or an artificial juridical person shall be deemed to
be a person, whether or not, such person or body or authority or juridical person, was
formed or established or incorporated with the object of deriving income, profits or gains.
| 41
MEMBERS OF AOP – JUDICIAL PRECEDENTS
• A Limited Company with other companies (in Joint venture) can be members of AOP
– Ganga Metal Refining Co (P) Ltd Ltd 67 ITR 771 (Cal)
• Minors can be members of AOP but with consent of lawful guardian – G. Murugesan
& Bros (1973) 88 ITR 432 (SC)
• A Co-operative society can be member of AOP – Salem District Urban Bank Ltd
(1940) 8 ITR 269 (Mad)
• Two or more individuals obtaining benefit of commission on sales can constitute an
Association of Persons – Sunil Krishna Paul (1969) 71 ITR 618 (Cal)
• The erstwhile partners of a firm, (where the firm and all its partners were declared
insolvent and the firm was dissolved but the business of the firm was carried on by

the receiver appointed by the court) can constitute an Association of Persons. In such
a case, the assessment of erstwhile partners of a firm has to be made in the status of
an AOP – George Talkies Circuit (1988) 171 ITR 386 (Raj)
• Joint ownership of properties by two persons, receiving income jointly without any
joint efforts cannot form AOP – Gool C. Dalal & Perin C. Dalal 184 ITR 248 (KAR)
| 42
RESIDENTIAL STATUS OF AOP
The residential status of the AOP would determined on the basis of place of control and
management of AOP
Control and
Management
Situated Situated
wholly or wholly outside
partly in India India

AOP would be treated as Indian tax AOP would be treated as Non-Resident
resident - worldwide income liable to tax -
in India Only Indian income liable to tax in India
Residential Status of AOP
What constitutes ‘control and management of affairs’
Control and management means controlling and directive power. It means de facto control and
management and not merely the right to control or manage – Nandlal Gandalal (1960) 40 ITR 1
(SC)
The word ‘affairs’ means affairs which are relevant for the purposes of the Act and which have some
relation to income – V.V.R.N.M. Subbayya Chettiar (1951) 19 ITR 168 (SC)
Control and management of the affairs of assessee in the relevant year is material and not in any
subsequent or earlier accounting period – Sri Raja K. V Narasimha rao Bahadur (1950) 18 ITR
181 (Mad)

SO WHAT IF AOP IS CONSTITUTED? – Discussed in next few slides
Disadvantages/ practical challenges where AOP
constituted
Loss incurred is Salary, bonus,
No clarity on whether benefits remuneration
not available for carry forward
under the tax treaty are available paid to members
once the AOP is ceased to exist.
to AOP shall be disallowed
Further, the members shall not be
eligible to claim the [section 40(ba)]
losses of the AOP
Where costs are

Credit against incurred by the members
advance taxes paid individually, the following
by members may not challenges shall arise:
be available to Disadvantages - Accounting of such expenses; &
the AOP - Allowability of such
of AOP
expenses
The AOP shall be

required to obtain a PAN in its name,

maintain books of accounts, comply
with the withholding tax provisions, Though the share of
file return of income and pay income earned from the AOP is not
advance taxes taxable in the hands of individual
Depreciation on members, the same is included while
assets owned by the computing “book profits” under MAT.
members would not be This could lead to double taxation where
available to the AOP as members individual members are
of AOP may not be regarded taxable under MAT
as owners of the assets
Other ISSUES AND CONCERNS
Tax inefficiencies in case the of AOP taxation:
Worldwide income may be taxable in the hands of the AOP on net basis – however members
share of profit will be exempt in the hands of the respective members;
AOP exposure in EPC contracts – (discussed in subsequent slides)
Rate of tax – 42.024 percent, if one of the AOP participant is a foreign company
Whether the share of the members of an indeterminate AOP is exempt in the hands of the
members?
Whether credits should be given to AOP where TDS certificate are in the name of the members?
treaty benefits jeopardized;
inability of consortium partners to carry forward and set off losses of consortium;

availability of tax credit in Home country could be an issue for Foreign members
Income from the entire contract (including offshore supplies) may be taxed on net basis – however
if the payments to member of the AOP for the offshore supplies are deductible in the hands of the
AOP (subject to section 40 (ba) of the Act), the same may not be taxable in the hands of the
members since title of the goods transfers outside India;
| 46
ISSUES AND CONCERNS
Lack of clarity on exchange control regulations in setting up a AOP (which has a non-resident
member);
DDT is not applicable;
MAT would not be applicable. However AMT is applicable,
Transfer Pricing regulations would be applicable for international transactions between the AOP
and the members;
Practical issues / difficulties under exchange control regulations in repatriation of post tax profits to
foreign members;
The assignees would need to be in the payroll of AOP – practical issues in obtaining Visa for
assignment of employees
Under the Direct Tax Code, 2010 (‘DTC’)

the AOP would be taxed at 30 percent
Payments to members in the form of FTS, interest on debts etc would be an allowable
deduction while computing the taxable income of the AOP
| 47
Computation of member’s share of income(S.67A)
Section 67A of the Act provides for the following methodology for determining the share
of a member in the income of an AOP when the share of each member is known and
determinate:
• Step 1- Compute the income of the AOP in accordance with the provisions of the Act
• Step 2- Payments of the nature specified in section 40(ba) of the Act are deducted
from the amount determined at Step 1 above. The balance amount will be
apportioned between the members in their profit sharing ratio
• Step 3- Payments of the nature specified in section 40(ba) of the Act are added to

the amount determined at Step 2 above to arrive at the share of a member in the
income of an AOP
EPC Contracting in India | 48

Allowability of expenses – Section 40 ba
• Any payment by way of interest/ salary/ bonus/ commission/ remuneration to any

member of AOP is not allowed as deduction in the hands of AOP [section 40(ba) of the
Act]
• If the AOP receives as well as pays interest to its members during the previous year then
the excess interest paid over and above the interest received shall be disallowed.
• The above provisions shall not apply

• Where an individual is a member in his individual capacity and receives interest by
such individual from AOP on behalf of any other person(karta of HUF).
• Where an individual is a member on behalf of or for the benefit of any other person
(karta of HUF) and is paid to members other wise than in his representative
capacity. (Refer issues and concerns for detailed discussion)
TAXABILITY OF AOP AND ITS MEMBERS – in a
nutshell
Share of Members are determinate
Scenario Rates of Tax for AOP Share of Member

None of the members have Rates applicable to individual Shares of members to be
income in excess of included in their total income.
maximum amount not Rebate under section 110
chargeable to tax(covered by can be claimed(Section 86
finance act slab rates Section Proviso clause (b))
167B not applicable)
Any of the members have Maximum Marginal Rate Shares of the members not
total income (before including (MMR) to be included in their total
their share from AOP) income (section 86

exceeding maximum amount clause(a))
not chargeable to tax(Section
167B(2)(i))
Any of the members having To the extent of that Shares of the members not
total income chargeable to member's share, such higher to be included in their total
tax at a rate higher than rate and balance at MMR income (section 86
MMR(Section 167B(2)(i)) clause(b))
TAXABILITY OF AOP AND ITS MEMBERS
Share of Members are Indeterminate
• The shares of Members of an AOP in the whole or any part of the income of the AOP is
deemed to be indeterminate or unknown, if such shares (in relation to the whole or any
part of such income) are indeterminate or unknown on the date of formation of the AOP
or at any time thereafter.
• Tax is chargeable on the total income of the AOP at MMR

• Where any member of the AOP is subject to a rate higher than the MMR, tax is
chargeable on the total income of the AOP at such higher rate
Dissolution/Discontinuance of AOP
Section 177 of the Income Tax Act
• The Assessing officer shall make the assessment of AOP, disregarding the
discontinuance or dissolution.
• All provisions including penalty provisions shall apply
• Member of the AOP or the legal representative of a deceased member shall be jointly
and severally liable for tax and penalty.
• If the AOP is discontinued during the assessment proceedings, then such proceedings
shall be continued against the persons referred above from the stage as it stood at the
time of disallowance.
• If notice is served on one of the members of AOP, assessment shall be valid.

Illustrations

SECTION 167B not applicable
AOP
Share
determinate and
known
50 50
Resident Individual A Resident Individual B

• Taxable Income of Members ( excluding share of income from AOP)
A Rs 200,000 B Rs 225,000
| 54
SECTION 167B(1)
Share AOP
indeterminate
and unknown

Indian Co Resident Individual
| 55
SECTION 167B(1) - Proviso
Share AOP
indeterminate
and unknown

Indian Co Foreign Co Resident Individual
| 56
Section 167B (2)(i)
AOP
Share
determinate and
known
40 60

Income of AOP Rs 500,000
Taxable Income of Members ( excluding share of income from AOP)
A Rs 3,00,000 B Rs 40,000
| 57
SECTION 167B(2)(ii)
Share AOP
determinate and
known
30
50 20

• Profits of the AOP = Rs 600,000
| 58
Section 86 Proviso 1 clause(a)
AOP
Share
determinate and
known
40 60

Profits of AOP Rs 500,000
Taxable Income of Members ( excluding share of income from AOP)
A Rs 3,00,000 B Rs 40,000
| 59
SECTION 86 Proviso 1 Clause (a)
Share AOP
determinate and
known
30
50 20

• Profits of the AOP = Rs 600,000
| 60
SECTION 86 proviso 1 clause (b)
AOP
Share Income of the
determinate and AOP Rs.6,00,000
known
50 50

A Rs 200,000 B Rs 225,000
| 61
SECTION 86 Proviso 2
AOP
Share Income of the
determinate and AOP Rs.1,60,000
known
50 50

A Rs 200,000 B Rs 225,000
| 62
Numerical illustrations
IPL Associates has two members RR(40%) and CSK(60%)
Income of IPL associates for the year 7,00,000 for AY 2016-17
Compute the taxable profits of member of AOP
a) RR and CSK have their income other than AOP income respectively as Rs.1,00,000 and
Rs.3,50,000
b) RR and CSK have their income other than AOP income respectively as Rs.1,00,000 and
Rs.2,00,000

Numerical illustrations – (a)
Particulars IPL RR CSK

Status AOP Individual Individual
Income 8,00,000 1,00,000 3,50,000
Add: Share income of AOP NA Nil* Nil*
Total Income 8,00,000 1,00,000 3,50,000
Tax computation (800000 x 30%) Below BEL (350000-
250000)*10%
Tax on total income 2,40,000 Nil 10,000
Less: Rebate u/s87A NA Nil 5,000
Tax payable 2,40,000 Nil 5000

Add: Edu.Cess @ 2% 4,800 Nil 100
Add. SH&EC @1% 2,400 Nil 50
Total Tax Payable 2,47,200 Nil 5150
*Note: Since one of the member’s income exceeds the Basic Exemption Limite(BEL),the
income of the AOP is charged to tax @ MMR(Section 167B(2)(i).
Consequently share of income from members is not included in the total income of
members as per Section 86 Proviso 1 Clause (a)

Numerical illustrations – (b)
Particulars IPL RR CSK
Status AOP Individual Individual
Income 8,00,000 1,00,000 2,00,000

Add: Share income of AOP NA 3,20,000 4,80,000
Total Income 8,00,000 4,20,000 6,80,000
Tax computation slab rates Slab rates Slab rates

Tax on total income 75,000 17,000 51,000
Less: Rebate u/s87A NA 5000 NA
Tax payable 75,000 12,000 51,000
Add: Edu.Cess @ 2% 1500 240 1020
Add. SH&EC @1% 750 120 510
TOTAL TAX 77,250 12,360 52,530

Average rate of tax NA 2.94% 7.73%
Share income x AR NA 3,20,000 x 2.94% 4,80,000 x 7.73%
Rebate u/s 110 NA 9408 37104
Total Tax after rebate 77,250 2952 15,426
*Note: Since none of the member’s income exceeds the Basic Exemption Limit(BEL),the
income of the AOP is charged to tax @slab rates as per finance act(S167B not applicable).
Consequently share of income from members is included in the total income of members
as per Section 86 Proviso 1 Clause (b)
Compute the share income of Mr.XY
Mr.XY is a member of two AOPs namely “XXX & CO” and “XY & AB”
XXX & co have income chargeable at normal rates of tax(finance act rates).
Implies Other members of XXX does not have income chargeable at normal rates of
tax.
Mr.XY receives interest of Rs.3,00,000, salary of Rs.1,50,000, share income of

Rs.1,00,000

XY & AB owns a house property jointly(share equally) in Chennai. Interest on borrowed
capital Rs.6,00,000.
House property is self occupied
| 66
Paticulars Amount in Rs. Amount in Rs.
Income from House Property

Net annual value NIL
Less: Deduction u/s 24(5,00,000 x 50%) (restricted to 2,00,000) 2,00,000 2,00,000
Profits and gains from business or professions(income from AOP)
Salary 4,00,000
Interest 1,50,000
Share income 1.00,000 6,50,000
Goss total income 4,50,000
Less: Chapter VIA deductions NIL
Total income
Tax on total income 20,000
Less: Rebate under section 87A 5000

Tax after rebate 15000
Edu.cess@2% 300
Hsc.cess@1% 150
Tax payable 15450
Average rate of tax(Total tax payable/Total income)=3.43% (15450)
(6,50,000 x 3.43%= 22,295)(rebate restricted to 15,450)
Net tax payable NIL

• Inferences
• Under Section 26, Where the house property is owned by two or more persons whose
share is definite and ascertainable, the income from such property shall be taxed in the
individual assessment of members .
• The deduction under section 24 is available to each co owner indepently.
• Since the AOP is chargeable to tax at normal rates, the member is eligible for rebate
under section 110

ISSUES AND CONCERNS

ISSUES AND CONCERNS
Deductibility of expenses incurred by members of the AOP
• The terms ‘interest’, ‘salary’, ‘bonus’, ‘commission’ or ‘remuneration’ have not been
defined under the Act.
• Further there are few judicial precedents with regard to Section 40(ba) of the Act.
• However, rationale of the same can be drawn from judicial decisions on the erstwhile
section 40(b) of the Act that impose a similar restriction in the case of payments made
by a partnership firm to its partners.
Complete prohibition on deduction
• The Madras High Court in the case of R. A. Goodsir And Company, Madras vs

CEPT (16 ITR 367) which involved payment of commission by a firm to its partners
has held that the prohibition under section 40(b) of the Act is absolute in terms and
makes no distinction on the basis of the nature of payment and/ or the capacity in
which the payment is received by the partner.
• A similar view has been taken by the Karnataka High Court in Mysore Bangle Works
v. CIT (157 ITR 411),

ISSUES AND CONCERNS
Deduction available to members for services rendered not in the capacity of

member
• The Madras High Court in Commissioner of Income Tax vs. Chitra Kalpana (169
ITR 678) held that where ever a partner is under a legal obligation to provide his
services or capital and yet charges for such services and capital, the payment made
cannot be allowed while computing the firm’s income because of section 40(b).
• The High Court also considered the case of a partner having vacant premises in which
the business of the partnership firm could be run. It observed that surely the partner is
not bound to gratuitously allow the building to be used by the firm or its business. He
is not bound to provide his premises free of rent. If the firm occupies a property

belonging to a partner and pays rent, such payment of rent is not made impermissible
as deduction under section 40(b) of the Act.
• Thus wherever a partner is under a legal obligation to conduct the partnership

business or provide capital for the business, the amounts paid to him by way of salary,
bonus, commission or other remuneration and interest are made impermissible as
deduction in computing the firm's income. Further where he is not under a legal
obligation, the payments may be permissible.

ISSUES AND CONCERNS
However this view was distinguished by

• In the case of CIT v Rajam Ramaswamy & Sons (2008) 298 ITR 325 (Mad.), the
High Court has held that where payments made to partners were not in their capacity
as partners but were made for the specific services rendered by them, the payments
could not be disallowed following the decisions Chitra Kalpana (Supra) and CIT vs
Gemini Productions (110 ITR 847).
• This view was again however not accepted by the Gujarat High Court in CIT vs
Yoganand Textiles (202 ITR 869).
• The High Court held that to the extent expenditure is incurred by a partner in respect
of work done for the firm, the provisions of section 40(b) of the Act will not be
attracted. It is only the net remuneration in the hands of the partners which will attract
the restrictions laid down in section 40(b) of the Act and not the entire amount paid to

the partner.
• In another decision, the Bombay Tribunal has held in the case of Inspecting
Assistant Commissioner vs. Indian Lime Corporation (8 ITD 908), that
reimbursement of expenses incurred by a partner company in providing its staff
members to the assessee firm could not be treated as remuneration paid by the firm
to its partner within meaning of section 40(b) of the Act.

ISSUES AND CONCERNS
40(A)(2) vs 40(ba)
• It may also be pertinent to note that section 40A (2) of the act also prescribes that
payment made by an AOP to its members, etc would be disallowed to the extent it is
considered as excess or unreasonable by the assessing officer.
• The above section supports the view that not every payment made by an AOP to its
members would be hit by the provisions of section 40(ba).
• Considering the above judicial precedents, deduction can be claimed for payments
made to members provided it is demonstrated that the:
• Expenditure is incurred on behalf of the AOP and
• Reimbursement is on a cost - to - cost basis and does not include any element of
profit.

• Any profit element will however be disallowed under section 40(ba) of the Act.
• Having mentioned the legal position, it is relevant to mention that the tax authorities
might take a contrary view and hold that that the payments to the members by the
AOP is in the nature of appropriation of profits and would thus not be eligible for
deduction.
• The matter is not free from doubt and may involve litigation in view of the conflicting
decisions of the various courts.

ISSUES AND CONCERNS
44C vs AOP
• The deduction under section 44C of the Act, which is available only to a non - resident
entity, is restricted to 5% of the adjusted income or the actual expenses which ever is
lower.
• No deduction is available in the event the non-resident entity has a taxable loss.
• As stated this deduction is available only to non-resident entities.
• Since the residency status of the AOP would be that of a resident (wherein the entire
control and management is not outside India), head office expenses incurred by the
Head offices of the members of the AOP will not be deductible in computing the profits
of the AOP.

ISSUES AND CONCERNS
MAT Provisions on members of AOP
• The share of profits from the AOP will have to be considered while preparing the
annual accounts of the constituent member companies.
• Even though the share of profits is not taxable, the same will have to be considered in
computing the book profits of the company member as required under section 115JB
of the Act.
• In some cases this can lead to double taxation of the same income in two hands, once
in the hands of the AOP under the normal provisions of the Act and again in the hands
of the constituent members under the provisions of the MAT, if their income tax liability
under MAT (after inclusion of share of income from the AOP) exceeds income tax
payable under the normal provisions of the Act.

ISSUES AND CONCERNS
Set off and carry forward of losses of an AOP

• Under the provisions of the Act business loss can be carried forward for eight tax
years while unabsorbed depreciation can be carried forward indefinitely to be set off
against income under the respective head.
• The business loss and unabsorbed depreciation can be carried forward only in the
hands of the AOP and not in the hands of the constituent members.
• In this connection the findings of the ITAT Kolkata Bench ‘E’ in the case of Birla Tyres
Vs. Jt. CIT (88 ITD 1) are relevant.
• In this case the Tribunal on a careful examination of the section pertaining to the set
off and carry forward of losses, the definition of an ‘assessee’ and ‘person’ in the
Income-tax Act and the contents of Circular 551 issued by the CBDT came to a
conclusion that the assessee being a member of an AOP is not allowed to set off the

share of loss suffered by the assessee in the AOP.
• This has an adverse affect on some of the members of the AOP, which may have
other income taxable in India, as they will not be able to offset the loss incurred by
them in the project against their taxable profits earned from other sources in India.

AOP EXPOSURE IN EPC CONTRACTS

RECENT TRENDS: TAX RISKS
• It is a common practice in India now days that Companies join hands to execute big
projects. In such cases contract is awarded to a consortium working together under an
overall co-ordination/ consortium agreement. An overall umbrella agreement or performance
guarantee is given by the consortium leader for successful completion of the project.
• The need for having a Consortium arises due to the following reasons
• Complexity and magnitude of projects (e.g. EPC contracts)
• Different technical capabilities required
• Time constraints for project completion
• Better co-ordination / management of the Project (e.g. Turnkey contracts)
• Regulatory requirements for minimum net worth, requirement of Indian partner, etc (e.g.
PPP)

The courts have analysed some of the clauses of the agreement which provided as under:
• Each member has unrestricted access to any work carried out by the members in
connection with the Project and shall assist each other in the completion of the work.
• The JV members are jointly and severally liable for the satisfactory execution and
completion of the work in all respects
| 78
RECENT TRENDS: TAX RISKS
• In the event of insolvency of a member, the other members are irrevocably appointed to act
for that member
• the agreement also provides for reassignment of work by the other members in case a
member commits substantial breach of its obligations.
• The sum received by JV towards payment for the work done by defaulting member shall be
used to compensate any loss/damage resulting from the default of that member
Based on above the courts have held the relationship between the parties brings an AOP into
existence and the income would be taxed accordingly.
• Accordingly, it is important to ensure that scope of work of the parties to the consortium is
clearly defined and each partner is responsible for its respective scope of work and agree to

bear their own cost or retain their profits separately.
• It should be specifically mentioned in the agreement that the intention of the parties is not to
carry on business in common with the other parties with a view to profit and that it is their
intention to utilize the consortium safely for the better cooperation with the customer and the
division of the work and income under the contract.
• Further, it should be ensured that there is no common control or connection between the
works to be done by the consortium members.
| 79
EPC – ACTIVITIES AND REVENUE STREAMS
Activities envisaged under a Classification of

typical EPC contract revenue streams
Offshore supply of equipment, materials Offshore supplies
Offshore design, project management & control Offshore services
Onshore supply Onshore supplies
Onshore civil/ non-civil works- unskilled Local services

Onshore installation services - skilled Onshore technical
services
In subsequent slides, we have given a snapshot of the taxability of each component in a

typical EPC contract
Cross border EPC contracts – Key income tax issues | 80

CBDT INSTRUCTION 1829 – WITHDRAWAL
Taxability of turnkey contracts considered in Instruction No 1829 [1989]
Instruction 1829 recognised –
 Consortium structure for execution of large contracts
 Coordination agreement to ensure guaranteed performance
 Taxability of multiple scope /multiple contractors on stand-alone basis

Limited reach – was issued for hydro-electric power project
Withdrawn wef July 2009 [after favorable AAR ruling in Hyosung Corp case]

CBDT INSTRUCTION 1829 – WITHDRAWAL (CONT)
CBDT Instruction 1829 – Key features

Instruction discussed taxability in case of the following:
 Consortium of companies involved in executing individual scopes of work
 Presence of coordination agreement to ensure guaranteed performance
 Accrual of income from equipment sale on FOB basis if title passes outside India, not
deemed to accrue or arise in India - existence of overall coordination agreement not to
impact this taxability
 Planning, design and engineering services rendered in India / abroad to be taxable as FTS
as per the provisions of the Act / treaty – not liable to be taxed as Royalty
 Clubbing of distinct scope of work

Though originally intended for turnkey hydro-power project, taxpayers rely on the
Circular while executing other projects

Circular No.7 of 2016 dated March 7,2016
CBDT lays down criterion where consortium of contractors formed for executing EPC /
turnkey contracts will not be treated as Association of Persons (AOP) for taxation
purposes; CBDT specifies 4 attributes of consortium arrangement wherein it will not be
treated as AOP –
(1) Where each member is independently responsible for executing its part of work
through its own resources,
(2) each member earns profit or incurs losses based on performance of the contract
falling strictly within its scope of work,
(3) men and materials used for any area of work are under the risk and control of
respective consortium members and
(4) control and management of the consortium is not unified and common management
is only for the inter-se coordination between the consortium members for administrative

convenience.
The Circular also states that there may be additional factors, depending upon specific
facts of a particular case, which will need to be considered while taking a view in the
matter.

Circular No.7 of 2016 dated March 7,2016
• It has been further clarified that the Circular would not be applicable to cases where all
or some of the consortium members are Associate Enterprises (AEs) as per Indian
Transfer Pricing regulations. Such cases will be decided by the Tax Officer in view of
relevant provisions of the Domestic tax laws and judicial precedents in this regard.
Key Takeaways
• The issue of AOP taxation has been a contentious issue with several judicial
precedents1both,in favour and against the taxpayer(s).
• The issue is generally decided on the basis of specific facts of each particular case
• Taxpayers were relying on the judicial precedents pronounced for determination.

• Even though the circular would provide a broad guidance on deciding the criteria for
AOP, it has given the scope for tax authorities to decide the cases where AE s are
involved.

Case study
ABCUS
Offshore Supplies &

Offshore Services
Outside AOP/
Consortium
India
India

Onshore Supplies
Customer XYZIndia
Onshore Services
Case study
• The implications if the structure (Consortium of ABC US & XYZ India) is considered as a
resident AOP:
• Entire profits (including offshore supplies) would be taxed @ 42.23% where the share of
the members is indeterminate
• Any other income (not related to India) from activities carried out by the consortium may
be covered under the tax net, AOP being a resident entity
• There would be restriction on the charges by members to the AOP (section 40(ba) of the
Act)
• There would be difficulty in claiming the credit of taxes paid by AOP in the hands of
foreign members
• Non-availability of treaty benefits to the foreign members
• MAT provisions may lead to double taxation in certain cases

• Benefit of set off/ carry forward not available to individual members

Case study
S. No Clause reference Facts of the Case- Risk of AOP Facts of the Case- May not exist
1 Intention clause Intention of the JV members to Each of the parties expressly

collaborate for all the work agreed that it is not their
associated with the project, intention through the joint
which is to be managed on a venture to carry on business in
joint basis by all the members. common with the other parties
with a view to profit. Further,
intention of the parties is to
utilize the joint venture safely
for better co-operation of their
relationships with the employer.
2 Demarcated Payments are made to the The revenue stream for each

revenue account of JV for all the party was clearly defined.
streams services rendered by it as per
the payment schedule. Paid separately to the Bank
account of each of the
members.

Case study
S. No Clause Facts of the Case- Risk of Facts of the Case- May not
reference AOP exist
3 Joint and The JV agreement provided Each party would bear its own
several liability that the members are jointly losses and retain all profits
and severally liable in terms of arising from the performance of
the Contract awarded to the its requisite scope of work.
JV irrespective of any internal
arrangement between the JV
partners.
4 Common Association with a 'common The purpose should not be to

purpose design' to provide services to earn the income jointly. Loss of

the client and the common act one member should not be
/ objective of the JV members shared among other members.
is to earn income in the wake
of such services.

Case study
reference AOP exist
5 Demarcated Each member had Separate and independent
scope of work unrestricted access to any scope of the work of each
work carried out by the partner.
members in connection with
the Project. In the Van Oord Case, the AAR
also quoted an example in the
Reassignment of work by the case of a building contractor. It
other members in case a was observed that a building
member commits substantial contractor may associate with
breach of its obligations. a plumber and an electrician to
execute a building project.

Though all these persons are
driven by a profit-making
motive, but that by itself does
not make the three persons
liable to be taxed as an AOP, if
each one has a designated
and independent role to play in
the building project.

Case study
reference AOP exist
6 Common Single member co-ordinating No single partner should not
Control the whole show, deciding upon manage the whole show and
matters concerning other take decisions in relation to
members. matters concerned with other
members. Each party to make
its own arrangement for
execution of work independent
from that of its JV partner and
there should not be any control
or connection between the
works to be done by all

members.

AOP - Other obligations
• AOP would be required to apply for Permanent Account Number with Indian tax
authorities by May 31 following the tax year within which it is taxable in India.
• Indian income tax return would need to be filed by the AOP by the due date offering
profits to tax.
• AOP would be required to maintain specified books of accounts like cash book,
journal, ledger, bills etc
• Every AOP carrying of profession in India, whose gross receipts from such profession
exceeds tax audit limit, is required to prepare its accounts and tax audit report [in the
prescribed format] under the Indian tax laws and get it certified.
• AOP would be required to deposit advance tax in fixed installments. The due dates for
payment of advance tax installments and quantum of advance tax payable thereon

applicable to the AOP in respect of its taxable income for tax year are the same as in
the case of individuals
Advance tax installment Advance tax payable
On or before September 15 30 percent of total tax liability
On or before December 15 60 percent of total tax liability
On or before March 15 100 percent of total tax liability
| 91
LANDMARK DECISIONS?

HYUNDAI ROTEM CO. AND MITSUBISHI CO. VS DIT
(AAR)
Issue under determination
Whether the consortium of companies for the purpose of bidding and executing the
contract of Delhi Metro could be assessed as independent companies or as an AOP?
Factors considered by AAR to rule out AOP:

Scope of work of members of consortium is specifically defined and it is mutually exclusive
to each other - no interchangeability or overlapping of the work to any substantial extent;
Work performed by each member is qualitatively different and each member has distinct
skills –substitution of the other JV member in place of an insolvent member NOT possible;
Each party bears its own loss and retain its profits separately;

Specific recording in the agreement - No intention of the parties to create a partnership,
joint venture or any other legal entity among the consortium members
Each consortium member shall be operating on its account and shall not act as an agent on
behalf of the other members
AAR observed that - Merely coming together and acting in cooperation with each other for the purpose of
executing the work while each member carries on its own scope of work independently does not reasonably
lead to the conclusion that an AOP has been formed

HYOSUNG’S CASE (AAR)
Issue under determination
Whether the sums received by Hyosung for offshore supplies (CIF basis) are liable to
be taxed in India under the Act and India-Korea treaty ?
Ruling and principles emerging

Taxability of offshore supplies – Not taxable because:
 Transfer of title passed outside India - possible even where Hyosung was responsible for
loss / damage till final disposal of such goods - Risk need not pass simultaneously with title
in goods. Hence NOT not taxable (even if on CIF basis)
 Activities (like testing and commissioning) undertaken in India post supply of goods – no portion
of income from offshore supplies taxable

…KEYS TAKE AWAYS
All agreements [including Internal agreement (if any )] between the parties should
clearly spell out that the arrangement is not intended to carry on any common
business between the parties involved
A clear statement in the agreements that the consortium is purely for top line and that
no sharing of profit/ losses between the parties involved is envisaged
Bid submitted should state the scope of work.
Scope and consideration of work undertaken should be separately specified in all the
agreements including the bid documents entered into by the parties
There should be documentation to substantiate the work to be executed by respective
party

Preferably, there should not be a joint and several liability towards Project Owner
Parties to the consortium should not provide guarantee for performance of contracts
being executed by each other
In case a common guarantee is provided by the consortium, a counter guarantee
must also be executed between the parties to the consortium
…KEYS TAKE AWAYS
Expenses related to each party’s separate scope of work to be met out of their
separate bank accounts
The parties to the consortium should not have access to work performed by each
other
Demonstrate that there is no unrestricted access to work carried out by each party
and that the skill set of each member is different
All parties to the consortium should bear their own losses and retain their profits
separately
All the parties should maintain separate books of account related to their separate
scope of work

No sharing of resources (financial, technical or otherwise) between any of the parties
to the consortium, each of them should independently perform their scope of work
Clear documentation in the agreement that a single agreement (if required) entered
into only to comply with requirements of the customer
Q&A

Thank You
Pranith Golecha
+91 9884781599
Pranith.golecha@bmradvisors.com
Varatharaj Kumar
+91 9940545380
varatharaj.kumar@bmradvisors.com

DISCLAIMER
This presentation provides general information

existing as at the time of preparation. The
presentation is meant for general guidance and no
responsibility for loss arising to any person acting or
refraining from acting as a result of any material
contained in this publication will be accepted by BMR
Advisors. It is recommended that professional
advice be taken based on the specific facts and
circumstances. This presentation does not

substitute the need to refer to the original
pronouncements.
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Firm and Limited Liability Partnership

Pranith Golecha and Varatharaj Kumar

• A partnership is a common vehicle in India for carrying on business activities

All rights reserved | Preliminary & Tentative

• Body corporate and separate legal entity

• Partners/ LLP shall be governed by LLP Agreement

All rights reserved | Preliminary & Tentative

• A firm is taxed as a separate legal entity for income tax purpose

All rights reserved | Preliminary & Tentative

• Tax rate for firm - 30 percent plus surcharge and cess

• Any salary, bonus, commission or remuneration (by whatever name called)

• Interest on partner’s capital is allowed as deduction – Subject to conditions

All rights reserved | Preliminary & Tentative

• Remuneration and book profit

• Contribution of assets into the Firm / LLP

Taxation in the hands of partners – other issues

All rights reserved | Preliminary & Tentative

• Carry forward of loss

• “A firm is said to be resident in India in any previous year in every case

- Mere activity in one place does not create residence

All rights reserved | Preliminary & Tentative

Foreign Control and

Outside India • All the commercial and

All rights reserved | Preliminary & Tentative

Foreign Control and Management is fully

All rights reserved | Preliminary & Tentative

• A firm must be evidenced by an instrument;

- The deed must be in writing;

- Partnership should not be by conduct or oral partnership;

• Profit sharing ratio of partners must be specified in the instrument

• A certified copy of the instrument should be submitted

All rights reserved | Preliminary & Tentative

• Section 40(b) provides the following limitation on deductibility of interest,

- Payment of interest to be authorized by and to be in accordance with

- Interest to relate to a period falling after the date of partnership deed

- Interest should not exceed 12% per annum

All rights reserved | Preliminary & Tentative

- Interest paid to an individual partner on behalf of, or for the benefit of

All rights reserved | Preliminary & Tentative

All rights reserved | Preliminary & Tentative

• Remuneration should be paid only to a working partner;

All rights reserved | Preliminary & Tentative

Partner on account of No knowledge of the business performed by the LLP No

Partner on account of No participation in the working of the business No

Temporarily carries on some Otherwise no participation No

All rights reserved | Preliminary & Tentative

• Remuneration must be authorised by the partnership deed;

Book Profit Amount deductible in respect of remuneration to partners under

All rights reserved | Preliminary & Tentative

Steps to Compute ‘Book Profit’

Step 2 Make adjustment as provided in sections 28 to 44DB of the Act

All rights reserved | Preliminary & Tentative

• Income of other heads of income such ‘Income from House Property’,

• Treatment of Brought forward Business Loss – To be ignored

• Treatment of other permissible deductions from section 80C to section 80U

All rights reserved | Preliminary & Tentative

All rights reserved | Preliminary & Tentative

• Conflicting views on whether s 45(4) applies on retirement of a partner

All rights reserved | Preliminary & Tentative

o Malabar Fisheries Co. vs CIT 120 ITR 49 (SC)

o CIT vs Mahanbhai Pamabhai 165 ITR 166 (SC)

• Section 37 of the Partnership Act: