High-net-worth individuals turn to LLPs for tax optimisation


DELHI NEWS: High-net-worth Experts say that High Net Worth Individuals (HNWIs) are registering Limited Liability Partnerships (LLPs) more frequently in an effort to minimize their tax obligations. LLPs are a desirable option for tax planning because they provide a special benefit that allows HNIs to pay less in taxes.

LLPs differ from other business forms in that they are liable to a tax rate of 34.94% on their entire income. A salient characteristic of limited liability partnerships (LLPs) is their profit distribution exemption from taxation, thereby imposing a single tax layer. When HNIs decide to register their investments under an LLP, this factor is critical in mitigating their tax liability.

Lokesh Shah, a partner at IndusLaw, provides an example of a hypothetical situation to highlight the potential advantages. The dividend income from an HNI’s investment in X Ltd. would typically be subject to a tax rate of 42.74% (39% under the new tax regime) for people in the highest tax bracket if the HNI received dividends from the company within a given fiscal year. On the other hand, the effective tax rate on dividends received from X Ltd would be 34.94% if the HNI owned shares of X Ltd through an LLP.

Read also: Income Tax on HNIs: Department launches 360-Degree profiling of HNI tax evaders

The favourable tax treatment provided by limited liability companies (LLPs) has made their utilisation an attractive option. Experts emphasize that using these kinds of tax planning strategies is permissible within the bounds set by law.

“LLPs pay taxes at a lower rate than high-net-worth individuals who are in the highest tax bracket. Even if one or more partners temporarily change their residential status, an LLP established in India will generally be considered an Indian tax resident. Regardless of a partner’s residency, an LLP’s profits are entirely tax-exempt, according to S Sriram, a partner at Lakshmikumaran and Sridharan. AUM Capital’s National Head of Wealth, Mukesh Kochar, stated that LLPs are subject to the highest surcharge of 12% and HNIs with higher incomes are subject to a surcharge of 27%. Due to the significant variation in the surcharge, the base rate for a higher slab is 30% in both situations; however, there is an approximately 30% tax rate arbitrage.8%, which is huge for an ultra HNI.

Therefore, by forming LLPs with family members acting as the ultimate investors, these HNIs can save taxes. According to Kochar, the higher tax bracket for LLPs is 34.944%, whereas it is 42.744% for Ultra HNIs. Experts state that in order for HNIs to reduce their tax liability, they must make investments or incur expenses. The Income Tax Act of 1961’s Section 80C allows for a deduction of up to R150,000 when calculating an assessee’s total income. The Public Provident Fund (PPF), Equity Linked Savings Scheme (ELSS) mutual funds, National Savings Certificates (NSC), Employee Provident Fund (EPF), tax-saving fixed deposits, payment of life insurance premiums, child tuition fees, and principal repayment on home loans are among the investment vehicles that HNIs typically use to deplete the entire limit.

HNIs generally invest in government-issued bonds under Section 54EC of the Income Tax Act, 1961 in order to seek exemption from capital gains income by investing the capital gains amount. There is a 5-year lock-in period on these bonds. A lot of other options that were previously open to HNIs were eliminated by the Finance Act of 2023. These include taxing gains from market-linked debentures at individual slab rates, eliminating the exemption for insurance policies with an annual premium of more than Rs 5 lakh, and imposing a ceiling / cap of Rs 10 crore for capital gains invested in residential real estate, Shah continued.

Read also: Income tax notices made thousands of individuals worried

HNIs flocking to Gift City

It’s interesting to note that HNIs move their family offices purposefully to GIFT City and other low-tax jurisdictions outside of India in order to maximize their investment returns. Established in GIFT City, Family Investment Funds (FPIs) are eligible for 10-year tax exemptions and lenient exchange control regulations, which facilitate flexible fundraising and international investment opportunities. Furthermore, some nations that are only a three-hour flight away from India have little to no personal income taxes, according to Sriram.

Thousands of HNIs may have left India, according to recent reports, though it’s possible that other factors than tax savings played a role. In any event, moving to a nation with lower taxes can result in tax savings of nearly 40% on income sourced outside of India, the speaker continued. To lessen the effects of taxes, newer investment instruments are also being utilized. Even though over the past ten years, the potential for tax savings through sophisticated investment structures has greatly decreased, tax laws always take time to adjust to new tax-saving strategies. stated Sriram.

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