LLP or Private Limited? Why Your Agreement Template Matters

How are the two structures governed?

A private limited company is a creature of the Companies Act, 2013. Its constitution is its memorandum and articles, its owners hold shares, its directors manage it, and a great deal of what governs it, from related-party transactions to share transfers, sits in the Act itself. A private company needs at least two members and two directors, unless it is a one person company.

An LLP is governed by the Limited Liability Partnership Act, 2008. Under Section 6 it must have at least two partners, and under Section 7 at least two designated partners who are individuals, at least one of whom is resident in India. Its owners are partners, and under Section 23 their mutual rights and duties, and their rights and duties in relation to the LLP, are governed by the LLP agreement. The statutory framework is considerably lighter. That lightness is the attraction, and it is also why provisions drafted against the Companies Act have nothing to attach to.

Side by side

What happens if an LLP has no agreement, or a bad one?

Section 23 provides that where there is no agreement on a matter, the mutual rights and duties of the partners are governed by the First Schedule. Among other things, the First Schedule provides that partners share equally in capital, profits and losses, and that every partner may take part in management. Those defaults are rarely what founders with unequal contributions intend.

Consider an example. Two founders form an LLP. One contributes ₹20 lakh and works part-time; the other contributes ₹2 lakh and works full-time. They file a short agreement copied from a company template that refers to "shares" and "the board" and says nothing coherent about profit sharing. When the business turns a profit and the founders disagree, the profit-sharing clause may be found to have nothing to operate on, and the First Schedule default of equal sharing may fill the gap. Neither founder intended that.

An LLP agreement, and any changes to it, also have to be filed with the Registrar within the prescribed time, and the agreement attracts stamp duty under the applicable State law. A document sitting unsigned in a shared drive does not do the job.

What does not translate from a company template?

• Share transfer restrictions, ROFR and tag-along: an LLP has no shares, so the analogous provisions govern transfer of a partner's interest and work differently.
• Articles of association: an LLP has an LLP agreement, so the company-law point about mirroring the SHA in the articles does not apply in the same form.
• ESOPs: employee share options under Section 62(1)(b) of the Companies Act, 2013 are a company concept and do not map onto an LLP.
• Preference shares, liquidation preference and anti-dilution: the instruments investors use are company instruments.
• Board meetings and resolutions: an LLP acts through its partners as the agreement provides.
• Section 188 related-party approvals and Sections 185 and 186 on loans and investments are Companies Act provisions with no direct LLP counterpart.

Which structure should you choose?

An LLP often suits a professional practice, a consultancy, a family business or a services firm that will be funded by its partners and does not plan to issue equity to employees or outside investors. Compliance is lighter, and profit can be shared among partners as the agreement provides. Tax treatment differs from a company and should be checked with a tax advisor for your numbers.

A private limited company usually suits a business that intends to raise external equity, grant ESOPs, or eventually be acquired or listed. Institutional investment is generally structured through a private limited company, because the instruments investors use, preference shares with defined rights, option pools, and the governance machinery around them, are company-law constructs. An LLP can raise capital, and foreign investment into LLPs is permitted only in certain sectors and on conditions, but not in the shape a venture investor expects.

That is the practical reason founders who intend to raise institutionally either incorporate as a company at the outset or plan a conversion before the round. Leaving it until an investor is at the table adds a workstream at the point when speed matters most.

Does the choice affect personal liability?

Both structures give limited liability, but in slightly different ways. In a company, shareholders' liability is limited to any unpaid amount on their shares, and directors carry the statutory duties and liabilities the Companies Act places on them. In an LLP, the LLP is a separate legal entity, and a partner is generally not personally liable for the LLP's obligations merely because they are a partner. A partner remains personally responsible for their own wrongful acts, and fraud can expose partners to unlimited liability.

In practice, the bigger risk for founders in both structures is personal guarantees. Banks and landlords commonly ask founders to guarantee a loan or a lease personally, and a guarantee overrides the limited liability that the structure would otherwise give. Read any guarantee as carefully as the main agreement, whatever entity you use.

How much compliance does each structure need?

A private limited company has the heavier load. It must hold board meetings, maintain statutory registers, hold an annual general meeting, have its accounts audited every year regardless of size, and file annual accounts and an annual return with the Registrar. Most companies need a company secretary or a compliance firm on retainer, at a cost that can run from several thousand to a few lakh rupees a year depending on activity.

An LLP files an annual statement of accounts and solvency and an annual return. An audit is required only above turnover or contribution thresholds set by the rules, so many small LLPs are not audited. That lighter load is the main reason small service businesses choose the LLP route. Both structures must still file income tax returns and comply with GST and other laws that apply to the business.

If you are converting

Conversion runs in both directions. The LLP Act, 2008 provides for conversion of a private company into an LLP under Section 56 and the Third Schedule. An LLP can register as a company under the Companies Act, 2013, which contains provisions for companies capable of being registered. Both routes are used regularly, but each is a process with filings, approvals, creditor and partner consents, and tax conditions, rather than a form-filling exercise.

The documents also need to be rewritten rather than renamed, because the LLP agreement and the articles do different jobs. On conversion to a company, partners' interests become shares, and the SHA and articles have to be drafted from scratch around that new capital structure. Contracts, bank accounts, licences, intellectual property registrations and employee arrangements all need updating to the new entity.

The specific steps and the tax treatment depend on your situation and are worth taking to a company secretary and a tax advisor together, since the two sides interact and getting one right while ignoring the other is the usual failure mode.

What to check in the document you have

Read the document you are actually working from and see which statute it assumes. References to shares, shareholders, articles of association, board resolutions and the Companies Act indicate a company template. References to partners, contribution, designated partners and the LLP agreement indicate an LLP template.

A hybrid, which happens when a company template is edited by search and replace, is the worst outcome, because it reads as though it works. If you find one, have it redrawn properly rather than patched. The points to cover in a proper LLP agreement are contribution, profit and loss sharing, management and voting, admission and exit of partners, transfer of a partner's interest, restrictions on competing business, dispute resolution and what happens on the death or retirement of a partner.

Be explicit on money. A simple profit clause might read: "The net profits and losses of the LLP in each financial year shall be shared between the Partners in the ratio 60:40, irrespective of their capital contributions, and each Partner shall be entitled to monthly remuneration as agreed in writing from time to time." Clear wording like this displaces the equal-sharing default and avoids the most common partner dispute.