In this article, Shreya Jad pursuing Diploma in Entrepreneurship Administration and Business Laws from NUJS, Kolkata, discusses Extent and Limitation of Liability of Partners in an LLP.
Introduction
A Limited Liability Partnership (LLP) as the name suggests, is a body corporate where the liability of the partners only extends to their professional roles i.e. their liability is not unlimited, unlike the case in a partnership. This is why it is such a popular business structure. A hybrid of a company and a partnership, this structure has been looked upon with increasing approval by aspiring entrepreneurs who wish to escape the rigorous regulatory and compliance requirements of companies but also do not wish to be held personally liable for the misconduct of any partner, as per the Partnership agreement.
Section 26-31 of the Limited Liability Partnership Act lay down the extent and limitation of the partners’ liability. This article shall analyse these sections to understand the extent and limitation of liability of partners.
Section 26, Limited Liability Partnership Act – Partner as an Agent
As per this section, every partner in an LLP is an agent for the purposes of business but is not the agent of any other partner. (Section 26, Limited Liability Partnership Act, 2008)
This section segregates the liability of one partner from that of other partners. While any act of the partner would bind the LLP as a body corporate, it would not bind a partner in his individual capacity. The provisions of agency as per the Indian Contract Act (Chapter X, Section 184-220, Indian novel Act, 1872) shall be applicable, subject to Section 71 of the LLP Act (Section 71 – Application of other laws not barred: The provisions of this Act shall be in addition to, and not in derogation of, the provisions of any other law for the time being in force.)
Indian Partnership Act, also confers the role of an agent for the purpose of partnership to its partners. They too are made agents of the partnership business and not the other partners. In case of any discrepancy, the liability arising from the act of the partner shall be discharged, firstly from the firm’s assets, and if that falls short then from the erring partner’s individual assets.
Section 27 – Extent of Liability of Limited Liability Partnership
This section lays down the limitation of the liabilities incurred by the partners or the LLP as a whole. They can be classified as below:
- Liability of person not authorised to act.
- Liability of LLP if partner has incurred liability due to wrongful act or omission.
- Obligations of LLP as an entity.
- Discharge of liability of LLP.
1. Liability of Person not Authorised to Act
Section 27(1)(a) provides that LLP is not bound by anything done by a partner in his dealings with a person if the partner, in fact, has no authority to do so, and the person, he is dealing with knows that he has no authority to act so or does not know him to be a partner. This somewhat curtails the open authority given to the partners under section 26. It is important that no form of authority- express or implied is conferred upon the partner in relation to that act. If the LLP removes itself from the liability to be incurred, it will obviously have to be discharged by the partner in his individual capacity. The conditions to be satisfied for the LLP to be absolved of all liability are:
- The partner has not been conferred the authority with respect to his dealings with a person.
- The person is aware of the partner’s lack of authority.
- The person has no knowledge or does not believe the partner’s association with the LLP.
2. Liability of LLP if Partner has Incurred Liability due to Wrongful Act or Omission
Section 27(2) holds the partners and the LLP responsible if the partners incur liability of a third person by his wrongful act or omission in course of the business and in exercise of his authority. This section clearly derives its substance from Section 26 of the Indian Partnership Act which also holds the firm liable for the partner’s misconduct. The liability, however, remains concentrated to the LLP as a whole and the erring partner and does not attach itself to other partners individually. The aggrieved party may proceed in a suit against the partner and the LLP, holding them jointly and severally liable, but may not proceed against them singly.
Since the wrongful conduct/omission was carried out by the partner in course of the LLP’s business and in exercise of his lawful authority, the ultimate liability shall fall on the LLP. In case the partner has to pay the aggrieved party from his assets, he shall be accordingly reimbursed by the firm.
For an LLP to incur liability under the Act, the following conditions must be satisfied:
- Wrongful act or omission by partner.
- Act/omission in course of LLP’s business or under LLP’s authority.
- Wrongful act/omission must incur liability of third party.
Obligation of LLP as a Whole
Section 27(3) provides that any liability incurred by the LLP shall be its liability as a whole and shall not confer individually upon the partners. The LLP being an independent body corporate is eligible to enter into contracts and if such contract is vitiated, the liability rests on the LLP as a whole acting through its agents, partners etc. For instance, if the obligation is of a pecuniary nature it has to be met by the assets of the LLP and not the individual assets of the partners.
4. Discharge of LLP’s liabilities
Section 27(4) provides that the liabilities of an LLP shall be discharged from the LLP’s assets alone. This is an extension of section 27(3) which separates the liability of the LLP from that of the partners. Since an LLP is an independent entity, the liabilities incurred by it in such capacity shall be discharged from the assets of the LLP alone.
Section 28 – Extent of Liability of Partners
According to Section 28, a partner shall not be obligated as per Section 27(3) in his individual capacity merely because he’s a partner in the LLP. However, he cannot escape responsibility for any wrongful conduct done in his individual capacity, outside the ambit of his lawful authority. Furthermore, the LLP and the partner are jointly and severally liable under section 27(2), since the wrongful act done by partner was originally commissioned by the LLP, making it responsible for any loss.
The LLP can be help responsible for any loss suffered by the counterparty and both LLP and the partner can be held liable for any misdeed done by partner in the course of business-but in no event can the liability be shifted on to other partners of the LLP, the burden has to be borne by the individual partners/LLP or both but not by the other partners who had nothing to do with the act.
Section 29 – Holding Out
Section 29 lays down that any person who holds out, or allows himself to be held out as a partner of an LLP shall be held liable to the person who on faith of such representation gives credit to the LLP. This means that the partner holding out shall be bound by estoppel and prevented from escaping the liability incurred on account of any financial aid received by him or the LLP. This makes the LLP bound to the third party to the extent of the financial benefits received by them. But, that is the only liability which binds the partner by holding out and the LLP, the estoppel does not operate in a way which makes the partner by holding out partake in the LLP’s business activities. It’s only the rule of estoppel that binds the partner by holding out.
Section 30 – Unlimited Liability in Case of Fraud
Section 30 is an exception to the principle of limited liability since it imposes unlimited liability on its partners and the LLP if,
- LLP intends to defraud its creditors
- LLP is made to carry on fraudulent activities.
In such a scenario the liability of all the partners is unlimited for all or any other debts of the LLP. But even in such an event the personal assets of the partners are not to be exhausted to fulfil such other debts, but the liability extends only to the extent of the fraudulent activity carried out. The LLP can escape liability if it establishes that the fraud was carried out by the partners without the LLP’s knowledge. This would absolve the LLP of all liability and only the partner will be held liable for the fraudulent activity. Any such activity being carried out shall be punishable with imprisonment for two years and a fine. It is the responsibility of the LLP and the partner to reimburse the third party against any damages caused due to such activity.
Section 31 – Whistleblowing
This section provides reprieve from the imposition of fine or imprisonment on the partner if such partner decides to come forward and contribute valuable information about the fraud committed against which the investigation is being conducted leading to conviction of the guilty party. No partner or employee of any LLP may be discharged, demoted, suspended, threatened, harassed or in any other manner discriminated against the terms and conditions of his limited liability partnership or employment. This section, therefore tries to bring forth the fraudulent activity as expeditiously as possible.
Conclusion
The liability imposed on the partners and the LLP is mostly joint and several. The extent of such liability is determined by the nature of activities carried out by the LLP and the partners. Fraudulent activities would give rise to unlimited liability and punishment and fines. However, informing the investigating authority of the misdeeds of the company would absolve that partner of any liability and also protect his stature in the LLP.
