Conversion of a firm, company or LLP: the conditions that get breached

Four conversions are done in practice: a partnership firm into a company, a sole proprietorship into a company, a company into a limited liability partnership, and a partnership firm into an LLP. Two more are attempted: an LLP into a company, and an LLP back into a partnership firm. They are not variations on one theme. Each sits in a different place in the statute, three of them carry an exemption with conditions attached, one carries no exemption at all and rests on a definition and a circular, one has no reported authority, and one cannot be done. This note works through the tax implications of all of them, sets out what breaks each exemption, identifies who pays when it breaks, and separates what is settled from what is not. Statutory references lead with the Income-tax Act, 2025 and give the Income-tax Act, 1961 equivalent, because the 1961 Act governs every assessment and appeal now in progress. Where a decided case is being described, the provision is given as it stood when the case was decided.

One note on vocabulary. The 2025 Act abolishes “previous year” and “assessment year” and uses a single tax year, which is the financial year in which the income arises: tax year 2026-27 is the year to 31 March 2027, which under the old vocabulary is previous year 2026-27 and assessment year 2027-28. Years are given below as the year ending 31 March wherever it matters.

The companion note deals with what happens inside a firm or LLP that stays a firm or LLP: admission, retirement, dilution and transfer of stake. That is firm and LLP reconstitution under section 9B and section 45(4).

Key points

• Only three conversions have an exemption clause: firm to company under section 70(1)(zd) of the 2025 Act (section 47(xiii)), sole proprietorship to company under section 70(1)(zf) (section 47(xiv)), and private or unlisted public company to LLP under section 70(1)(ze) (section 47(xiiib)).
• Firm to LLP has no clause in either Act. The no-tax position rests on the definition of firm, which includes an LLP, and on paragraph 5.6 of CBDT Circular No. 5 of 2010, which is conditional and has no legislative backing.
• The section 47(xiiib) thresholds, sixty lakh rupees of turnover and five crore rupees of assets, are tested in any of the three preceding years and have not been raised since they were introduced. They disqualify most companies that would want to convert.
• Where a condition fails at the outset, section 47A does not apply at all. It is a withdrawal provision, so the charge, if any, arises in the year of conversion. That is the holding of two Tribunal benches, never tested in a High Court and not accepted by the department, and it is frequently the taxpayer’s best point.
• Where a condition fails later, the charge on the firm to company and proprietorship to company routes falls on the successor company, not on the person whose act caused the breach: a shareholder who sells out in year four leaves the company with the tax bill. On the company to LLP route the charge is split, the asset gain falling on the LLP and the share gain on the erstwhile shareholder.
• Entity-side computation usually yields nil because the assets vest at book value. Shareholder-side computation may not: Domino Printing Science Plc values the consideration as the partnership interest received, including the share of reserves, and section 50CA substitutes a prescribed fair market value for the unquoted shares that are extinguished.
• The Texspin argument that the computation machinery fails is weaker than it looks. Section 50D, in force from assessment year 2013-14, deems fair market value to be the consideration where the consideration is not ascertainable.
• Section 72A(6B), now section 116(12) of the 2025 Act, caps an inherited loss at eight assessment years from the year it was first computed for the original predecessor, for any reorganisation effected on or after 1 April 2025.
• Section 56(2)(x) is not excluded for any of the three conversion clauses, in either Act. Nobody prices this.

Which conversions of a firm, company or LLP are exempt from capital gains?

The starting point is that a conversion is prima facie a transfer, and a transfer attracts section 67 of the 2025 Act, which is section 45 of the 1961 Act. The exemption clauses are the carve-outs, and the carve-out list is closed. Section 70 of the 2025 Act, which is section 47 of the 1961 Act, is headed “transactions not regarded as transfer” and opens with the words “the provisions of section 67 shall not apply to transfer”. If a route is not in the list, there is no exemption to claim, and the answer has to be found somewhere other than section 70.

Route	Exemption clause, 2025 Act	Exemption clause, 1961 Act	Conditions
Partnership firm succeeded by a company	s.70(1)(zd)	s.47(xiii)	four
Sole proprietorship succeeded by a company	s.70(1)(zf)	s.47(xiv)	three
Private or unlisted public company converted into an LLP	s.70(1)(ze)	s.47(xiiib)	seven
Partnership firm converted into an LLP	none	none	rests on the definition of firm and Circular 5 of 2010
LLP converted into a company	none in terms	none in terms	arguable under (zd) or (xiii) because firm includes an LLP
LLP converted back into a partnership firm	not available	not available	no mechanism under the LLP Act
Listed public company converted into an LLP	not available	not available	clause (ze) and clause (xiiib) are limited to private and unlisted public companies

Two things follow immediately. The first is that the absence of a clause is not the same as a charge. A charge requires a transfer and a computation that works; a missing exemption merely means the taxpayer has to win on those points instead of on the clause. The second is that a clause you do qualify for is not a permanent shelter. Each of the three clauses carries conditions that continue to operate for three or five years after the event, and the sanction for breaching one of them is a charge on the successor in a later year, by which time the original decision-makers have often moved on.

Is conversion of a firm or company a transfer for capital gains purposes?

Whether conversion of a partnership firm into a company, or of a company into an LLP, is a “transfer” within the definition in section 2(47) of the Income-tax Act, 1961, carried into the Income-tax Act, 2025, is the threshold question, because nothing is charged under section 45 or section 67 unless it is. It has two competing answers. They do not carry equal weight: the first is a High Court decision, the second is a Tribunal decision supported by an advance ruling. Neither has been resolved at High Court level in the LLP context.

The vesting answer. In CIT v. Texspin Engg. and Mfg. Works (2003) 263 ITR 345, the Bombay High Court considered a firm that had converted into a company under Part IX of the Companies Act, 1956. It held that section 45(4), as it then stood, was attracted only on a transfer by way of distribution of capital assets, and that on a Part IX conversion there is no distribution: the assets vest in the company by operation of the statute. The court drew the line expressly between vesting of property and distribution of property. It added two further grounds. There is no transferee distinct from the transferor, because the same undertaking continues in a different legal form; and even if there were a transfer, the computation machinery in section 48 fails, because the full value of the consideration cannot be equated with the market value of the assets that vest.

That last limb needs a health warning. Texspin was decided on assessment year 1996-97. Section 50D, inserted by the Finance Act 2012 with effect from assessment year 2013-14, provides that where the consideration received or accruing on a transfer is not ascertainable or cannot be determined, the fair market value of the asset on the date of transfer is deemed to be the full value of the consideration. The 2025 Act carries the same rule. Any argument that the machinery fails is therefore of doubtful survival for a conversion effected from assessment year 2013-14 onwards, and the nil outcome in the Tribunal cases rests not on machinery failure but on the consideration being ascertainable and equal to book value. That is a different and much narrower proposition, and it is destroyed the moment the successor records an asset at anything other than the predecessor’s book figure. The Supreme Court endorsed the vesting analysis in a different context in CIT v. Chetak Enterprises (P) Ltd. (2020) 423 ITR 267, holding that on a Part IX conversion the assets statutorily vest in the company without any need for a conveyance and the business continues uninterrupted. Part IX of the 1956 Act is now Chapter XXI of the Companies Act, 2013, and section 366 is the operative provision.

The extinguishment answer. In ACIT v. Celerity Power LLP, ITA No. 3637/Mum/2015, order dated 16 November 2018, reported at (2019) 174 ITD 433, the Mumbai Tribunal considered a private company converted into an LLP under the LLP Act, 2008. It held that this is a transfer within section 2(47): the company’s assets vest in a distinct legal person, the shareholders’ shares are extinguished, and “transfer” in the Income-tax Act is not confined to the sense the expression bears in the Transfer of Property Act. Texspin was distinguished. The Authority for Advance Rulings took the same view from the shareholder’s side in Domino Printing Science Plc, In re (2021) 433 ITR 215, holding that the non-resident shareholder’s shares were extinguished on conversion and the gain was chargeable under section 45. The Mumbai Tribunal followed Celerity again in ISC Specialty Chemicals LLP v. ITO, ITA No. 457/Mum/2025.

How to hold the two together. The distinction the Tribunal drew is between statutory vesting where the same persons continue in the same proportions with nothing extinguished, and statutory vesting where a share, itself a capital asset, ceases to exist. On a firm to company conversion the partners did not previously hold a capital asset representing the firm; their interest in the firm is not a share, and nothing of theirs is extinguished. On a company to LLP conversion they held shares, and those shares are gone. Whether that distinction can bear the weight put on it is open. Two things should be said for the taxpayer. Texspin is a decision of the jurisdictional Bombay High Court, and a Tribunal bench sitting at Mumbai is bound by it unless it is genuinely distinguishable; that is the strongest argument available, and it has not yet been run to a conclusion. And an advance ruling binds only the applicant and the Commissioner in that case; Domino Printing is persuasive material, not precedent. Senior counsel have argued in print that Celerity is wrong and that Texspin should govern both. Until a High Court says so, the safe assumption for planning is that a company to LLP conversion is a transfer, and that the taxpayer’s defence lies in the computation, not in the characterisation.

There is a separate and very important consequence of the extinguishment analysis, and it is easy to miss. If the conversion is a transfer, the shareholder is the person who made it, and the shareholder’s gain is computed separately from the entity’s. The two computations can produce completely different answers on the same facts. That is dealt with below.

Conversion of a partnership firm into a company: what section 47(xiii) requires

Section 70(1)(zd) of the 2025 Act exempts the transfer of a capital asset or intangible asset by a firm to a company as a result of succession of the firm by a company in the business carried on by the firm, if four conditions are satisfied. The 1961 Act carries the same four conditions as clauses (a) to (d) of the proviso to section 47(xiii). The 1961 clause also has a fifth condition, clause (e), but it relates only to the other limb of that clause, the demutualisation or corporatisation of a recognised stock exchange, and does not concern a firm.

The four conditions, in the order the statute puts them:

(i) All the assets and liabilities of the firm relating to the business immediately before the succession become the assets and liabilities of the company. All, not substantially all. A partner’s car parked in the firm’s books, a personal loan account, a disputed receivable left behind for convenience: each is a breach. Retaining a property in the firm and licensing it to the company, a common instinct where stamp duty is a worry, is fatal to the clause.

(ii) All the partners of the firm immediately before the succession become the shareholders of the company in the same proportion in which their capital accounts stood in the books of the firm on the date of the succession. Read that again. The test is the capital account proportion, not the profit sharing ratio. In most firms the two are different, sometimes very different, because capital accumulates unevenly while profits are shared by agreement. A firm in which A, B and C share profits equally but hold capital of Rs 80 lakh, Rs 15 lakh and Rs 5 lakh must issue shares 80:15:5, or the clause fails. Firms routinely issue shares in the profit sharing ratio and discover the problem years later. If the intended shareholding is different from the capital account proportion, the capital accounts have to be equalised before the succession. That is done by transfer between partners, or by introduction and withdrawal of capital. Either way the step has its own consequences under section 8 and section 67(10) of the 2025 Act, which are section 9B and section 45(4) of the 1961 Act.

(iii) The partners do not receive any consideration or benefit, directly or indirectly, in any form or manner, other than by way of allotment of shares in the company. Debentures are a breach. Redeemable preference shares are shares, so they do not breach this condition, but they ordinarily carry no voting rights, and the next condition is tested on total voting power; allotting them therefore defeats condition (iv) even while satisfying this one. A buy-back soon after any allotment will be examined. A loan account created in the partner’s favour in the company’s books on day one, representing the excess of the assets taken over above the share capital issued, is the commonest structure in the market and it is the commonest breach. The words “directly or indirectly” and “in any form or manner” are as wide as drafting gets.

(iv) The aggregate of the shareholding of the partners in the company is not less than fifty per cent of the total voting power, and such shareholding continues to be not less than fifty per cent for five years from the date of the succession. Three points. It is aggregate, so the partners can rearrange holdings among themselves. It is total voting power, not paid-up capital, so a class of shares with differential voting rights changes the arithmetic. And the five years run from the date of succession, so a strategic investor who wants more than fifty per cent has to wait, or the exemption goes.

The 1961 Act expresses condition (iv) as “their shareholding continues to be as such for a period of five years from the date of the succession”. The phrasing differs slightly across the three clauses and the differences are not accidental; section 47(xiv) says “continues to remain as such”, and section 47(xiiib) says “shall not be less than fifty per cent at any time during the period of five years”. The last of those is the strictest, because it tests every moment rather than a state of affairs.

Conversion of a sole proprietorship into a company: section 47(xiv)

Section 70(1)(zf) of the 2025 Act, which is section 47(xiv) of the 1961 Act, exempts the transfer of a capital asset or intangible asset by a sole proprietorship concern to a company on succession. Three conditions have to hold:

• all the assets and liabilities of the business become those of the company;
• the proprietor’s shareholding is not less than fifty per cent of the total voting power, and continues so for five years from the succession; and
• the proprietor receives no consideration or benefit other than allotment of shares.

Two practical points. First, the clause protects only the business assets. Personal assets of the proprietor introduced into the company on the same day are outside it and are an ordinary transfer. Second, there is no capital account proportion requirement, for the obvious reason that there is only one person; but if a spouse or child is made a shareholder at incorporation, the proprietor’s own holding is what must clear fifty per cent. An exact fifty-fifty split satisfies the condition, but it has no margin at all: a single nominee share, or a bonus issue that rounds the other way, takes it to forty-nine and the exemption is gone.

Conversion of a company into an LLP: the seven conditions of section 47(xiiib)

This is the clause that generates most of the litigation, and the reason is simple: two of its conditions are quantitative thresholds that have not been revised for inflation since they were introduced.

Section 70(1)(ze) of the 2025 Act exempts the transfer of a capital asset or intangible asset by a private company or unlisted public company to an LLP, and also the transfer of shares held in the company by a shareholder, as a result of conversion of the company into an LLP under section 56 or section 57 of the Limited Liability Partnership Act, 2008. The 1961 Act says the same in section 47(xiiib). Note three limits built into the opening words before any condition is reached:

• The predecessor must be a private company or an unlisted public company. A listed company cannot use the clause. The expressions take their meaning from the LLP Act.
• The conversion must be under section 56 or section 57 of the LLP Act, which are the private company and unlisted public company routes with their Third and Fourth Schedules. A transfer of the business to an LLP that is not a statutory conversion is not within the clause at all, whatever it is called in the documents.
• The clause covers the shareholder’s transfer as well as the company’s, which is what makes the shareholder-side analysis in Domino Printing so significant when the clause fails.

The conditions, lettered (a) to (f) with (ea) inserted between (e) and (f) in the 1961 Act, and restated as sub-clauses (i) to (vii) in the 2025 Act:

1961 Act	2025 Act	Condition
(a)	(i)	All the assets and liabilities of the company immediately before the conversion become those of the LLP
(b)	(ii)	All the shareholders become partners, and their capital contribution and profit sharing ratio in the LLP are in the same proportion as their shareholding in the company on the date of conversion
(c)	(iii)	The shareholders receive no consideration or benefit, directly or indirectly, other than a share in profit and capital contribution in the LLP
(d)	(iv)	The aggregate profit sharing ratio of the erstwhile shareholders shall not be less than fifty per cent at any time during five years from the date of conversion
(e)	(v)	Total sales, turnover or gross receipts in the business of the company in any of the three previous years preceding the year of conversion does not exceed sixty lakh rupees
(ea)	(vi)	Total value of the assets as appearing in the books of account of the company in any of those three years does not exceed five crore rupees
(f)	(vii)	No amount is paid, directly or indirectly, to any partner out of the balance of accumulated profit standing in the accounts of the company on the date of conversion, for three years from the date of conversion

There is no condition lettered (g). Advice that refers to one is working from a summary rather than the statute.

Condition (ea) was inserted by the Finance Act 2016 with effect from 1 April 2017. It is measured on book value, which is a small mercy, and on the total value of assets rather than net assets, which is not: a company with modest net worth but a gross asset base of six crore rupees, including a property carried at cost and a debtors ledger, is out.

Which of the section 47(xiiib) conditions actually gets breached?

The seven conditions in the proviso to section 47(xiiib) of the Income-tax Act, 1961, restated as section 70(1)(ze)(i) to (vii) of the Income-tax Act, 2025, are cumulative, and a company to LLP conversion fails if any one of them is missed. In order of how often the breach is found, on the cases and on the assessments we see:

The turnover threshold, condition (e). Sixty lakh rupees is not a business, it is a dormant shell. It is tested in any of the three previous years preceding the year of conversion, so a single good year three years ago disqualifies a company that has since shrunk. It is tested on sales, turnover or gross receipts in the business of the company, which is a wider measure than income but not an unlimited one; the words “in the business” are the only textual hook for excluding a non-business receipt, and the point is undecided. Celerity Power failed on this condition and so, on the asset limb, did ISC Specialty Chemicals. Any adviser who reaches for a company to LLP conversion for an operating business should test this first and usually stop there.

The asset threshold, condition (ea). Five crore rupees of gross book assets, again in any of the three preceding years. A company that revalued a property, or that carries a large inter-corporate deposit or a loan to a group entity, crosses it without being large.

The accumulated profits bar, condition (f). This is the one that fails after the event rather than before it, and it is the most easily avoided. The LLP may not pay any amount, directly or indirectly, to any partner out of the balance of accumulated profit standing in the accounts of the company on the date of conversion, for three years. In Aravali Polymers LLP v. JCIT, ITA No. 718/Kol/2014, order dated 27 June 2014, the LLP advanced roughly fifty crore rupees to its partners as interest-free loans out of the erstwhile company’s reserves within the three year period. The Kolkata Tribunal held that a loan is a payment out of accumulated profit for this purpose; the label does not decide it. The same reasoning reaches a payment routed through a third party, a repayment of a capital contribution that is in substance a distribution of reserves, and an LLP paying a partner’s personal expenses. Note also what the condition does not prohibit: it bars payment out of the accumulated profit standing on the date of conversion, so profits earned by the LLP after conversion can be drawn freely, provided the accounting keeps the two pools apart. Keeping them apart from day one, in a separate reserve, is the whole of the compliance.

The proportion condition, condition (b). Capital contribution and profit sharing ratio must both mirror the shareholding. Converting a company where one shareholder is to be the working partner on a higher profit share is a breach on day one.

The fifty per cent condition, condition (d). Tested “at any time during” five years. A partner’s death, a retirement, an admission of an outside investor, or an internal reshuffle can all cross it. Where the erstwhile shareholders hold exactly fifty per cent there is no headroom at all.

Condition (c) is breached less often, but note its scope: no consideration or benefit “other than by way of share in profit and capital contribution in the limited liability partnership”. A guaranteed remuneration to a partner is arguably a benefit outside those two heads. The point has not been decided, and Aravali Polymers held on its facts that condition (c) was not contravened in the way alleged, reasoning that once the company ceases to exist on conversion there is no shareholder left to receive consideration in that capacity. The case was decided against the taxpayer on condition (f), so that reasoning is not its ratio, and it should not be over-read.

A condition fails: is it a withdrawal under section 47A, or a charge in the year of conversion?

This is the most valuable single point in this area, and it is a point of law, not of facts.

Section 71 of the 2025 Act, which is section 47A of the 1961 Act, is headed “withdrawal of exemption in certain cases”. Section 71(2), which is section 47A(3), deals with a breach of the firm to company or proprietorship to company conditions. Section 71(3), which is section 47A(4), deals with a breach of the company to LLP conditions. Each says that the profits or gains not charged under section 67 by virtue of those conditions shall be deemed to be chargeable in the tax year in which the conditions are not complied with.

The words “not charged by virtue of those conditions” carry the whole argument. They presuppose that the conditions were satisfied, that the exemption was therefore available, and that an amount escaped charge because of it. Where a condition failed before or at the moment of the conversion, nothing escaped charge by virtue of the conditions, because the conditions were never satisfied. There is nothing to withdraw.

Three decisions say exactly this. Aravali Polymers held that where the accumulated profits condition was breached in the year of conversion itself, the exemption was never available and the charge arose under section 45 in that year, not by way of a deemed income in a later year. Celerity Power held that section 47A(4) operates only to withdraw an exemption validly claimed and later breached, and that eligibility falls to be determined in the year of the claim itself. ISC Specialty Chemicals followed Celerity. The Authority for Advance Rulings reached the same result by a different route in Umicore Finance Luxembourg, AAR No. 797 of 2009, ruling dated 12 March 2010, a firm to company case under section 47(xiii): because no capital gain accrued at the conversion at all, the later breach of the five year condition had nothing to bite on. That ruling was upheld when the Revenue’s challenge to it was rejected by the Bombay High Court in 2016.

Why it matters so much in practice:

• Limitation. Under the reassessment regime now in force, a notice under section 148 cannot be issued after three years and three months from the end of the relevant assessment year. That extends to five years and three months where the escaped income is represented in the form of an asset or expenditure and is fifty lakh rupees or more. On a conversion of any size the longer limb is the relevant one, but by the time a condition is breached in year four and the department takes the point, the year of conversion is frequently beyond it. Establishing that the charge, if any, belongs to the earlier year then ends the matter. The thresholds are worked through in our note on the fifty lakh threshold in section 149.
• Computation. In the year of conversion the assets vested at book value, so the entity-side computation produces nil. The department’s preferred approach under section 47A is to bring in a later fair market value, and the provision does not authorise that.
• The person assessed. The two provisions charge different people in different years.

The department’s answer is that this reading makes section 47A(3) and (4) near-redundant. It does not: the provisions still operate exactly as drafted where a company converts in full compliance and then, in year four, a partner sells down below fifty per cent, or the LLP distributes the old reserves. That is their field.

In whose hands does the capital gains charge fall on a conversion, and how is it computed?

Firm to company, and proprietorship to company. Section 71(2) of the 2025 Act, which is section 47A(3), charges the amount to the successor company. Not to the partners, not to the proprietor, and not to the shareholder whose sale caused the breach. A company can therefore be assessed in year four on a gain arising from a decision taken by one of its shareholders, over which it had no control. The commercial answer is contractual: a five year lock-in in the shareholders’ agreement or articles, a transfer restriction registered against the shares, and a tax indemnity from any shareholder who exits early, sized to the charge rather than to the sale proceeds.

The defence, if it comes to that, is Texspin. The amount that section 47A(3) brings to charge is the amount “not charged under section 45 by virtue of” the conditions. If, following Texspin and Chetak Enterprises, nothing would have been chargeable at the succession in any event, because there was vesting and not distribution and because the computation machinery failed, then the amount not charged by virtue of the conditions is nil, and withdrawing an exemption that was doing no work produces nothing.

Company to LLP. Section 71(3), which is section 47A(4), splits the charge. The gain on the capital assets and intangible assets falls on the successor LLP. The gain on the shares falls on the shareholder of the predecessor company. The words “as the case may be” tie each head of gain to its own taxpayer; it is not a joint charge and it is not elective.

The computation is where the two lines of authority part company.

On the entity side, Celerity Power and ISC Specialty Chemicals both found that the assets vested in the LLP at their book values, that the full value of the consideration therefore equalled the cost of acquisition, and that the computation yielded nil. This is a book-keeping outcome, not a legal immunity, and it survives only so long as the LLP records the assets at the company’s book values. An LLP that records assets at a revalued figure on conversion destroys the argument and creates the gain with its own entries.

On the shareholder side there are two problems, and the second is the one that is almost never priced.

The first is section 50CA, inserted by the Finance Act 2017 with effect from assessment year 2018-19 and carried into the 2025 Act. Where the asset transferred is a share of a company other than a quoted share, and the consideration is less than the fair market value determined under the prescribed rules, that fair market value is deemed to be the full value of the consideration. The shares extinguished on a company to LLP conversion are unquoted shares. If section 50CA applies, the consideration is supplied by deeming, and the finding in the Tribunal cases that the consideration was book value does not help on the share limb at all: the starting point becomes the Rule 11UA and Rule 11UAA valuation, which for a company with reserves is well above book capital. Anyone advising on a conversion that may fail its conditions has to test section 50CA before quoting a number.

The second is the authority. Domino Printing held that the full value of the consideration for the extinguished shares is the value of the partnership interest received. That value comprises the capital contribution together with the erstwhile shareholder’s share in the reserves and surplus as carried into the LLP, and it is not the same as the cost of the shares. Against that, the cost of acquisition is the original cost of the shares. A company with fifty lakh rupees of share capital and two crore rupees of reserves therefore produces a shareholder-level gain of about two crore rupees on that approach, and nil on the entity approach. Section 50CA gets to a similar place by a different route.

There is one further trap on the shareholder side. Section 49(2AAA) of the 1961 Act, restated in the Table to section 73 of the 2025 Act, fixes the erstwhile shareholder’s cost in his new LLP rights. It applies where rights of a partner referred to in section 42 of the LLP Act become the property of the assessee on conversion as referred to in section 47(xiiib). The cost of those rights is then the cost of the shares immediately before conversion. Those words import the clause, and with it the conditions. Where the conversion is non-compliant, the cost carry-over provision does not apply on its own terms, and the erstwhile shareholder is left arguing for cost from first principles when he later realises his interest in the LLP. A non-compliant conversion therefore does not merely expose a gain now; it can leave a second gain unprotected later.

Conversion of a partnership firm into an LLP: tax implications, and why there is no exemption clause

This is the most common conversion of all and it is the one the statute says least about.

There is no clause in section 47 of the 1961 Act, and none in section 70 of the 2025 Act, that covers a partnership firm converting into an LLP. The conversion clauses are firm to company, company to LLP, and proprietorship to company. The gap is deliberate, and the reason is definitional.

Section 2(23) of the 1961 Act defines “firm” to have the meaning assigned to it in the Indian Partnership Act, 1932 and to include a limited liability partnership as defined in the LLP Act, 2008; “partner” and “partnership” are extended in the same way. Section 2(45), read with sections 2(74) and 2(75) of the 2025 Act, carries the same definitions. Because a firm and an LLP are the same category of assessee, the drafters took the view that a conversion between them involves no change in the taxable person and therefore needs no exemption.

The Board said so. Paragraph 5.6 of CBDT Circular No. 5 of 2010 dated 3 June 2010, the explanatory notes to the Finance (No. 2) Act, 2009, states that as an LLP and a general partnership are being treated as equivalent, except for recovery purposes, in the Act, the conversion from a general partnership firm to an LLP will have no tax implications if the rights and obligations of the partners remain the same after conversion and if there is no transfer of any asset or liability after conversion, and that if there is a violation of these conditions, the provisions of section 45 shall apply.

Read that carefully, because it is regularly quoted as though it were an unconditional clearance. It is not. It is conditional, it names its own sanction, and it is an executive statement with no legislative counterpart: neither the exemption nor the conditions appear in the Finance (No. 2) Act, 2009 or anywhere in the statute. A taxpayer relying on it is relying on a circular that binds the department but not a court.

What the conditions mean in practice. Two things must be true on the day of conversion.

• Rights and obligations unchanged. Same partners, same profit sharing ratios, same capital account balances, same entitlements on retirement and dissolution. If the conversion is used as the occasion to redraw the profit sharing ratio, or to admit a new partner, or to let one partner take money out, the condition fails on its own terms.
• No transfer of any asset or liability. The LLP Act does the transfer by operation of law. Section 55 of the LLP Act, read with the Second Schedule, is the conversion mechanism for a firm, and section 58(4)(b) provides that on registration all property, assets, interests, rights, privileges, liabilities and obligations of the firm, and the whole of its undertaking, vest in the LLP without further assurance, act or deed. There is no conveyance to be made and none should be made. The Himachal Pradesh High Court relied on exactly this in Sozin Flora Pharma LLP v. State of Himachal Pradesh, AIR 2021 HP 44, a writ petition to have revenue records mutated in the converted LLP’s name, holding that the properties of the erstwhile firm vest in the LLP by operation of section 58(4)(b) and that no conveyance or instrument is executed, so no stamp duty or registration fee arises. That is a stamp duty decision and not an income tax authority, and it should be cited as such; but the reasoning is the same reasoning, and it is worth having.

The practical rule that follows. Do not revalue anything at or around the conversion, do not change the profit sharing ratio in the same instrument, do not let a partner draw out capital on the occasion, and do not execute a transfer deed. Do the conversion as a bare change of form, and if the commercial rearrangement is wanted, do it in a separate year with its own analysis under section 8 and section 67(10), which is section 9B and section 45(4).

One caution about that advice, and about the advice below on equalising capital accounts before a succession. Separating steps to keep each one outside a charge is legitimate where each step has its own commercial purpose and its own consequences are accepted. Where the only reason for the separation is the tax result, the general anti-avoidance rule in Chapter X-A of the 1961 Act, carried into the 2025 Act, is available to the department, and an arrangement whose main purpose is to obtain a tax benefit and which lacks commercial substance can be disregarded. Write the commercial reason down at the time. If there is not one, the separation is not a plan.

A firm to LLP conversion also raises a loss question that is easy to miss. Section 119(2) of the 2025 Act, which is section 78(2) of the 1961 Act, provides that where a person carrying on a business has been succeeded in that capacity by another person otherwise than by inheritance, nothing in the Chapter entitles any person other than the person who incurred the loss to carry it forward. If a firm to LLP conversion were a succession by another person, the firm’s accumulated losses would die on the day of conversion, and no provision corresponding to section 72A(6) or (6A) exists to save them. The answer is that it is not a succession by another person, because the LLP is the same assessee in the same category, section 2(23) putting a firm and an LLP into one class. That answer is correct, but it is the same answer that carries the no-transfer conclusion, and a taxpayer who has weakened it by revaluing or restructuring at conversion has weakened it for the losses as well.

Does section 9B or section 45(4) apply to a conversion?

This question did not exist before the Finance Act 2021 and it has no answer yet.

Section 8 of the 2025 Act, which is section 9B of the 1961 Act, applies where a specified person receives a capital asset or stock in trade from a specified entity in connection with the dissolution or reconstitution of that entity. Section 67(10), which is the substituted section 45(4), applies where a specified person receives money or a capital asset or both in connection with a reconstitution. A firm and an LLP are both specified entities. A partner is a specified person. The two provisions are dealt with in detail in the companion note on firm and LLP reconstitution.

Apply them to a conversion and three positions emerge:

Firm to LLP. On the Board’s analysis there is no change of entity and therefore no dissolution; and a conversion is not within the three limbs of the definition of reconstitution, which require partners to cease, or to be admitted, or the shares to change, while the entity continues. If the conversion is done cleanly, neither provision is engaged. If it is done alongside a change in profit sharing ratios, the third limb of the reconstitution definition is engaged, and the charge is tested on what, if anything, any partner received. This is the concrete reason not to combine the two steps.

Firm to company. The firm ceases to exist and the partners receive shares. Does section 9B apply? The better view is no, for a textual reason: what the partners receive is shares allotted by the company, not a capital asset handed over by the firm. Nothing passes from the specified entity to the specified person. The firm’s assets vest in the company by operation of section 368 of the Companies Act, which is the vesting provision that follows registration under section 366, and the company issues shares out of its own authorised capital. But the provision has not been tested, the department’s position is not known, and the risk is asymmetric, because the deemed consideration under section 9B is fair market value and the amounts would be large.

Company to LLP. Section 9B does not apply to the predecessor, because a company is expressly excluded from the definition of specified entity. The LLP is a specified entity from the date of conversion, but nothing is received by a partner on that date. The exposure here is section 47A(4) and section 45, not section 9B.

As at the date of this note, no decision has applied section 9B or the substituted section 45(4) substantively, in any context, let alone on a conversion. The Tribunal orders that mention section 9B do so only to hold it inapplicable to years before assessment year 2021-22: Gokulakrishna v. DCIT, ITA No. 1088/CHNY/2025, order dated 17 June 2025, and two later orders of the same Bench. Anyone converting today is converting against an untested statute and should say so in the file.

Converting an LLP into a company, and why an LLP cannot revert to a partnership firm

LLP into a company. Section 366 of the Companies Act, 2013 permits a limited liability partnership to register itself as a company. The income tax treatment is not expressly provided for, and most commentary treats it as unexempted.

There is a better argument than that. Section 70(1)(zd) of the 2025 Act, which is section 47(xiii) of the 1961 Act, exempts a transfer by a firm to a company as a result of succession of the firm by a company. “Firm” includes an LLP. The four conditions can all be satisfied by an LLP: an LLP has partners, it has capital accounts, its partners can take shares in the capital account proportion, and they can hold fifty per cent of the voting power for five years. On the text, the clause fits.

The counter-argument is the opening words of the definition section, “unless the context otherwise requires”, coupled with the observation that when Parliament wanted to deal with LLPs expressly it did so, in clause (xiiib). That is an argument about intention rather than text, and it is the one the department will run. There is no reported decision either way. If the route is used, the sensible course is to satisfy every condition of clause (xiii) as though it plainly applied, document the reasoning contemporaneously, and price the possibility of a dispute. The alternative, a slump sale of the LLP’s undertaking to the company under section 77 of the 2025 Act, which is section 50B of the 1961 Act, is certain but expensive; it is analysed in our note on slump sale taxation.

LLP back into a firm. It cannot be done. The LLP Act provides for conversion into an LLP only: from a firm under section 55 and the Second Schedule, from a private company under section 56 and the Third Schedule, and from an unlisted public company under section 57 and the Fourth Schedule. There is no provision for conversion out. The only ways back are a sale of the undertaking to a firm, which is a transfer on any view and which is taxed as a slump sale under section 77 of the 2025 Act, being section 50B of the 1961 Act, or a winding up. If the exit is effected instead by distributing the LLP’s assets to its partners, section 8 and section 67(10), being section 9B and section 45(4), apply in addition, because an LLP is a specified entity and a dissolution is expressly within section 9B. Conversion into an LLP is therefore a one-way decision, and that should be weighed before it is taken, particularly by a professional firm considering the move for limited liability reasons alone.

What the successor company or LLP inherits: cost, written down value and holding period

A conversion that qualifies is not taxed, and the deferred gain has to be picked up somewhere. It is picked up by giving the successor the predecessor’s cost.

Cost of acquisition. Section 49(1)(iii)(e) of the 1961 Act covers a capital asset that became the property of the assessee under a transfer referred to in clause (xiii), clause (xiiib) or clause (xiv) of section 47. For such an asset the cost of acquisition is the cost for which the previous owner acquired it, increased by the cost of improvement. The 2025 Act restates this in the Table to section 73, where entry 1 sweeps up the whole family of inherited-cost cases and names section 70(1)(zd), (ze) and (zf) expressly.

Holding period. Because the cost is determined under section 49(1), the period for which the previous owner held the asset is included in the successor’s holding period. A property the firm held for eleven years does not restart its clock in the company’s hands.

Written down value of depreciable assets, and a gap that catches people. Explanation 2C to section 43(1) of the 1961 Act deals with a block of assets transferred by a private company or unlisted public company to an LLP. Where the section 47(xiiib) conditions are satisfied, the actual cost of the block in the LLP’s hands is the written down value it had in the company’s hands on the date of conversion. The 2025 Act carries the same rule into section 41, its written-down-value provision, keyed to section 70(1)(ze).

There is no equivalent provision for a firm succeeded by a company, and none for a proprietorship succeeded by a company, in either Act. That asymmetry is a real drafting gap and it cuts both ways:

• For the taxpayer, there is an argument that the company’s actual cost is the value at which it records the assets, which on a Part IX or section 366 conversion may exceed the firm’s written down value, giving a higher depreciation base. This is a real and long-standing planning position.
• For the department, the answer is Explanation 3 to section 43(1), carried into the actual cost provisions of the 2025 Act. It lets the Assessing Officer determine the actual cost himself, with the prior approval of the Joint Commissioner, where he is satisfied that the main purpose of the transfer was to reduce tax liability by claiming depreciation on an enhanced cost. Expect this to be invoked on any material step-up.

The practical advice is to record the assets at the firm’s written down value unless there is a commercial reason not to, and if there is, to have the reason and the valuation on the file before the return is filed, not after the notice arrives.

What does not travel at all: minimum alternate tax credit. Section 115JAA of the 1961 Act denies the predecessor company’s accumulated tax credit to the successor LLP on a conversion under the LLP Act. For a company that has paid minimum alternate tax for several years, this is frequently the largest single number in the decision, and it is the one that is discovered after the event rather than before it. It should be quantified in the memorandum alongside the losses.

Depreciation in the year of conversion. The aggregate depreciation allowable to predecessor and successor together cannot exceed what would have been allowable if the succession had not taken place, and it is apportioned between them in the ratio of the number of days for which the assets were used by each. In the 1961 Act this is a proviso to section 32(1), counted as the sixth proviso on the official text and as the fifth by some commentaries; it is safer to cite it by its content than by its ordinal. The 2025 Act tidies this up into section 33(5), which cross-refers to section 70(1)(zd), (ze) and (zf) and to the succession provision, and provides for allowance on a pro rata basis by days.

Carry forward of losses on conversion, and the eight year cap in section 72A(6B)

Losses are frequently the reason for the conversion, and they are the most fragile thing being carried across.

The enabling provisions. Section 116(8) of the 2025 Act, which is section 72A(6) of the 1961 Act, deems the accumulated loss and unabsorbed depreciation of a firm or proprietary concern to be those of the successor company, where the conditions of section 70(1)(zd) or (zf) are fulfilled. Section 116(10), which is section 72A(6A), does the same for a company succeeded by an LLP under section 70(1)(ze). Note that both are conditional on the exemption clause being satisfied. If the conversion fails the conditions, the losses do not travel at all, quite apart from any capital gains charge.

The recapture. Section 116(9) and section 116(11) of the 2025 Act are the provisos to section 72A(6) and (6A). If any of the conditions is not complied with, the set-off of loss or allowance of depreciation already made in the successor’s hands is deemed to be its income in the year of non-compliance. So a breach in year four does not merely stop the losses; it reverses the relief already taken and brings it back as income in one year. This recapture is separate from and additional to the capital gains charge under section 71.

The eight year cap, new and widely missed. Section 72A(6B), inserted by the Finance Act 2025 with effect from 1 April 2026 and enacted as section 116(12) of the 2025 Act, applies to any amalgamation or business reorganisation effected on or after 1 April 2025. Where a loss forming part of the predecessor’s accumulated loss is deemed to be the loss of the successor, it can now be carried forward for not more than eight assessment years. Those eight years are counted from the assessment year for which the loss was first computed for the original predecessor entity, not from the reorganisation. “Original predecessor entity” is defined, in section 72A(7)(ab) of the 1961 Act and section 116(13)(c) of the 2025 Act, as the predecessor in the first reorganisation.

Three consequences:

• A loss that is already five years old arrives at the successor with three years left, not eight. The old practice of using a conversion to refresh the clock is over.
• The clock runs from the original predecessor, so serial reorganisations do not help. That is what the provision is for.
• There are two different dates and they should not be conflated. The provision takes effect from 1 April 2026, but by its own terms it bites on reorganisations effected on or after 1 April 2025. A conversion done in the year to 31 March 2026 is within it.

One point of construction worth noting: the cap speaks of “any loss forming part of the accumulated loss”. Unabsorbed depreciation is dealt with separately in sub-sections (8) and (10) and is not accumulated loss, so there is an argument that the cap does not reach it. The argument is available; it has not been tested.

Section 79. Once the losses are in the successor company’s hands, section 79 of the 1961 Act, carried into the 2025 Act in the same terms, applies to that company in the ordinary way. It reaches only a company in which the public are not substantially interested. Within that class, a later change in beneficial shareholding of more than forty-nine per cent denies carry forward of the business loss, though not of unabsorbed depreciation. The exceptions in section 79(2) apply, including the seven year relief for an eligible start-up. In practice the fifty per cent condition in clause (xiii) already restricts the shareholding for five years, so the two operate together, but section 79 continues after the five years have run and the point should be tracked beyond the exemption period.

Does section 56(2)(x) apply to a conversion of a firm, company or LLP?

A conversion that qualifies is outside the capital gains charge. It is not outside the charge on the recipient.

Section 92(2)(m) of the 2025 Act, which is section 56(2)(x) of the 1961 Act, charges any person who receives money or specified property without consideration or for a consideration below stamp duty value or fair market value, subject to thresholds. A company, an LLP and a firm are all persons. The exclusion for relatives does not help, because “relative” is defined only in relation to an individual and a Hindu undivided family.

The exclusion that matters is the one for transactions not regarded as transfer, and it operates by naming a closed list of clauses. In the 1961 Act, clause (IX) of the proviso to section 56(2)(x) excludes receipts under a transaction not regarded as a transfer under clauses (i), (iv), (v), (vi), (via), (viaa), (vib), (vic), (vica), (vicb), (vid), (vii), (viiac), (viiad), (viiae) and (viiaf) of section 47. Clause (xiii), clause (xiiib) and clause (xiv) are not in that list. The 2025 Act repeats the gap: section 92(3)(g) excludes transactions not regarded as transfer under section 70(1)(a), (c), (d), (e), (f), (g), (i), (j), (k), (l), (n), (o), (t), (u), (v) and (w), and not (zd), (ze) or (zf).

So on the statutory text, a successor company that receives the firm’s land and building, or its shareholdings, for shares worth less than their stamp duty value or fair market value is within section 56(2)(x); and so is an LLP receiving the same from a converting company.

Two things limit the exposure and one aggravates it.

• “Property” is a closed list: immovable property being land or building or both, shares and securities, jewellery, archaeological collections, drawings, paintings, sculptures, any work of art, bullion and, since the Finance Act 2022, a virtual digital asset. Plant and machinery, stock in trade, receivables and goodwill are outside it. For most manufacturing and service businesses the exposure is confined to the factory or office premises and to any investments.
• Consideration is not absent. The successor issues shares, and it takes over liabilities. The argument that the consideration equals the value received is strong, and where the clause (xiii) or (xiiib) conditions are met the arithmetic is usually designed to make it so.
• But the stamp duty value of immovable property is a deemed figure. Where the property is carried in the books at a historic cost and the shares issued are measured against book net worth, the gap between book value and stamp duty value is exactly the exposure, and it is not small in a firm that has held premises for twenty years.

There is no reported decision on the point and no circular addressing it. It should be identified in the memorandum before the conversion, and the share issue should be sized against the stamp duty value of any immovable property rather than its book value where that can be done without breaching the capital account proportion condition.

Worked example: conversion of a company into an LLP that fails the turnover test

This worked example takes a conversion of a private company into an LLP that breaches the sixty lakh rupee turnover condition in section 47(xiiib), and follows the consequences through both the entity-side and the shareholder-side computations.

XYZ Private Limited has three shareholders. A holds 30,000 shares, B holds 15,000 and C holds 5,000, each of face value Rs 100, all subscribed at par many years ago, so the paid-up capital is Rs 50 lakh and each shareholder’s cost is his subscription. Reserves and surplus stand at Rs 2 crore. The balance sheet carries factory land and building at cost of Rs 60 lakh, against a stamp duty value today of Rs 3 crore; plant at a written down value of Rs 90 lakh; and net current assets of Rs 1 crore. Net assets at book are therefore Rs 2.5 crore. Gross assets in the books have never exceeded Rs 3.1 crore.

Turnover was Rs 71 lakh in the year to 31 March 2024, Rs 58 lakh in the year to 31 March 2025 and Rs 52 lakh in the year to 31 March 2026. The business has been shrinking. The company converts into XYZ LLP on 1 July 2026, that is in tax year 2026-27, under section 56 of the LLP Act. Because the conversion falls after 1 April 2026, the Income-tax Act, 2025 governs it, and the 1961 Act equivalents are given alongside.

The turnover condition fails. The three tax years preceding the year of conversion are the years to 31 March 2024, 2025 and 2026. Turnover exceeded sixty lakh rupees in the first of them. Because section 70(1)(ze)(v), which is condition (e) of the proviso to section 47(xiiib), is tested in any of the three years, one year is enough, and it does not matter that the company has been well under the threshold ever since. The asset condition is satisfied, but that does not help; the conditions are cumulative.

Consequence 1: the withdrawal provision is not in play. The exemption was never available, so there is nothing to withdraw. On Celerity Power, Aravali Polymers and ISC Specialty Chemicals, the charge, if any, arises under section 67, which is section 45 of the 1961 Act, in the year of conversion, tax year 2026-27. Section 71(3), which is section 47A(4), does not apply.

Consequence 2: the entity-side computation is nil. The LLP records the assets at the company’s book values. The full value of the consideration equals the cost of acquisition and the computation produces nothing. That is the holding in Celerity Power and in ISC Specialty Chemicals, and it holds only because the LLP did not revalue.

Consequence 3: the shareholder-side computation is not nil. On Domino Printing, the full value of the consideration for the extinguished shares is the value of the partnership interest received, comprising the capital contribution and the share of reserves carried into the LLP, that is Rs 50 lakh plus Rs 2 crore, or Rs 2.5 crore. The aggregate cost is Rs 50 lakh. The aggregate gain is Rs 2 crore, long-term, split in the shareholding ratio: A Rs 1.2 crore, B Rs 60 lakh, C Rs 20 lakh. Nothing has been received in cash by anybody.

That is not the only route to the same place. The shares are unquoted shares, so section 50CA has to be tested: if the consideration is taken to be less than the fair market value determined under the prescribed rules, that fair market value is substituted. For a company whose net assets are Rs 2.5 crore against paid-up capital of Rs 50 lakh, the prescribed valuation lands close to the same Rs 2.5 crore. The book value defence that worked on the entity side does not answer a provision that supplies the consideration by deeming.

So the number that has to be defended is about Rs 2 crore. Three things answer it. Domino Printing is an advance ruling on a non-resident’s facts, and it binds only the applicant and the Commissioner in that case. The Tribunal in two later cases found the consideration to be ascertainable and equal to book value. And section 50CA is directed at a transfer for a consideration, not at an extinguishment in which the erstwhile shareholder receives a bundle of rights rather than a price. It is a respectable defence. It is not a certainty, and nobody should convert on the assumption that it will be accepted.

Consequence 4: no cost carry-over for the partners’ rights. The Table to section 73, entry 5, which is section 49(2AAA) of the 1961 Act, applies only where the rights became the assessee’s property on a conversion referred to in section 70(1)(ze), which is clause (xiiib). This conversion is not one. When A later transfers his interest in the LLP, he has no statutory cost, and he will be arguing about it a second time.

Consequence 5: the losses do not travel. Section 116(10), which is section 72A(6A), is conditional on the clause being satisfied. Any brought forward business loss or unabsorbed depreciation of XYZ Private Limited is lost on conversion. So is any accumulated minimum alternate tax credit.

Consequence 6: the receipt charge is open. The LLP has received land and building carried at Rs 60 lakh with a stamp duty value of Rs 3 crore. Section 92(2)(m), which is section 56(2)(x), is not excluded for this clause in either Act. Whether the consideration furnished by the assumption of liabilities and the grant of partnership rights meets that stamp duty value is a question of fact that nobody addressed in the documents. It should have been addressed.

The whole of this outcome turned on Rs 11 lakh of excess turnover in a year three years before the conversion, in a business that has shrunk every year since. That is the character of this clause.

Worked example: a partnership firm converted into a company that breaks in year four

ABC and Co. has three partners. Capital accounts stand at Rs 80 lakh for A, Rs 15 lakh for B and Rs 5 lakh for C. Profits are shared equally. The firm carries a business loss of Rs 40 lakh first computed for the year to 31 March 2022, which is assessment year 2022-23 under the old vocabulary and tax year 2021-22 under the new. It converts into ABC Private Limited on 1 April 2026, in tax year 2026-27, under section 366 of the Companies Act, so the Income-tax Act, 2025 governs it.

The first trap is at the outset. The instinct is to issue shares one third each, because that is how profits are shared. Condition (ii) requires the proportion of the capital accounts, which is 80:15:5. Shares must be issued 80,000, 15,000 and 5,000 out of 1,00,000 of Rs 100 each, or the clause fails on day one. If the partners want equal holdings, the capital accounts must be equalised before the succession, and that equalisation is itself a change in the partners’ respective shares which has to be tested under section 8 and section 67(10) of the 2025 Act.

The second trap is the loss clock. Assume the conditions are met and the loss travels under section 116(8), which is section 72A(6). Because the succession is effected after 1 April 2025, section 116(12), which is section 72A(6B), caps the carry forward at eight years from the year for which the loss was first computed for the original predecessor. That year is the year to 31 March 2022. Eight years from it run out with the year to 31 March 2030. The succession happens in the year to 31 March 2027, so the company inherits four years of set-off, not eight.

The third trap is in year four. In the year to 31 March 2030, A sells 55,000 of his 80,000 shares to an outside investor. The aggregate holding of the erstwhile partners falls to 45,000 shares, or forty-five per cent. The fifty per cent condition, section 70(1)(zd)(iv) and condition (d) of the proviso to section 47(xiii), is breached.

What follows is charged on the company, not on A:

• Section 71(2) of the 2025 Act, which is section 47A(3), deems the profits or gains not charged at the succession by virtue of the conditions to be chargeable in the hands of the successor company in the year of breach. Note a difference between the two Acts that matters: section 71(2) says the amount is chargeable under the head “Capital gains”, while section 47A(3) says only that it is “the profits and gains chargeable to tax” of the successor company, without naming a head. Which head it falls under decides whether a brought forward capital loss can absorb it, and for a company that has just inherited losses that is exactly the question that gets asked.
• Section 116(9), which is the proviso to section 72A(6), deems the loss already set off in the company’s hands to be its income in the same year.

A meanwhile pays capital gains tax on his own share sale in the ordinary way and walks away. The company is left with two charges arising from a decision it did not take. This is why the five year lock-in belongs in the articles and the shareholders’ agreement, backed by an indemnity, and why it should be diarised rather than remembered.

The company’s defence on the first charge is Texspin and Chetak Enterprises: if nothing would have been chargeable at the succession in any event, because there was vesting and not distribution, then the amount “not charged by virtue of the conditions” is nil and section 71(2), which is section 47A(3), yields nothing. The second limb of Texspin, that the computation machinery fails, is weaker now that section 50D supplies a fair market value where the consideration is not ascertainable, so the argument should be run on distribution rather than on machinery. And a third point has to be dealt with separately: A’s sale is itself a change in the beneficial shareholding of more than forty-nine per cent, so section 79 bites on the inherited business loss in its own right, independently of the recapture. None of these defences helps against the loss recapture under section 116(9), which is unconditional.

Where the income tax department attacks a conversion, and what usually answers it

These are the points an Assessing Officer takes on a conversion of a partnership firm into a company, or of a company into an LLP, and the answer that is available on each.

The attack	What is usually behind it	The answer
Shares issued in the profit sharing ratio instead of the capital account ratio	Nobody read the capital account proportion condition	None. Fix it before the succession, not after
A partner’s loan account in the successor’s books	The assets taken over exceeded the share capital issued	Capitalise the excess. A loan account is a benefit other than shares
An asset left behind in the firm	Stamp duty on immovable property	None within the clause. Price the stamp duty or abandon the exemption
Interest-free loan or advance to a partner within three years of a company to LLP conversion	Partners want their money	Aravali Polymers is against you. Ring-fence the pre-conversion reserve in a separate account from day one
Turnover marginally over sixty lakh rupees in one of the three years	The threshold was set in 2010	None. Test it first; if it fails, consider a slump sale instead
Section 47A invoked for a condition that failed at the outset	The later year is open and the earlier one is not	Celerity Power, Aravali Polymers, ISC Specialty Chemicals. Section 47A is a withdrawal provision. No High Court has ruled
Fair market value substituted for book value on a company to LLP conversion	The department wants a number	Aravali Polymers struck this down. The gain, if any, is computed on the values at which the assets were actually recorded
Shareholder-level gain on the extinguishment of shares	Domino Printing, and section 50CA on unquoted shares	The Tribunal line finds the consideration to be book value and ascertainable. Test section 50CA and the Rule 11UA valuation before quoting a number
Depreciation claimed on a stepped-up cost after a firm to company succession	No written down value carry-over provision exists for clause (xiii)	Explanation 3 to section 43(1) is the department’s tool. Have the commercial reason and the valuation on file before filing
Section 9B applied to a conversion	The provision is new and wide	Nothing passes from the entity to the partner. Shares are allotted by the company out of its own capital

What is still open on conversion of a firm, company or LLP

These are the points on which there is no authority, and they should be described as open in any opinion rather than smoothed over:

• Whether a firm to LLP conversion is a transfer at all. No reported decision, in either direction, on the income tax question. The position rests on section 2(23) and on Circular 5 of 2010, which has no legislative backing.
• Whether section 9B or the substituted section 45(4) can apply to any conversion. No reported decision on either provision in any context.
• Whether section 47(xiii) covers an LLP succeeded by a company, given that “firm” includes an LLP. The text supports it. Nothing else does yet.
• The conflict between the Tribunal line and Domino Printing on shareholder-side computation. Both are live. Neither has been tested in a High Court.
• Whether Celerity Power correctly distinguished Texspin. The distinction between statutory vesting with and without extinguishment of a share is doing a great deal of work.
• Whether section 56(2)(x) reaches a conversion under clause (xiii), (xiiib) or (xiv). The exclusion list omits them in both Acts. Nobody has litigated it.
• Whether the eight year cap in section 72A(6B) reaches unabsorbed depreciation as well as accumulated loss. The words suggest not.
• Whether guaranteed remuneration to a partner after a company to LLP conversion is a benefit outside “share in profit and capital contribution” for condition (c).
• Whether section 50CA applies to the extinguishment of shares on a failed conversion. On the text it does. Nobody has litigated it, and it would displace the book value reasoning on the share limb.
• Whether the machinery-failure limb of Texspin survives section 50D for any conversion from assessment year 2013-14 onwards.

Documents to keep, and the five year compliance calendar

The exemption under section 47(xiii) or section 47(xiiib) is not claimed in a form; it is claimed by the facts, and the facts have to be provable five years after the conversion. What should be on the file:

• The capital account statement as at the date of succession, signed, showing the proportion in which shares are to be issued, and the share allotment tying to it exactly.
• A schedule of every asset and every liability taken over, with a statement that nothing was retained, and an explanation for anything that was.
• The turnover and gross asset figures for each of the three preceding years, taken from the audited accounts, evidencing compliance with conditions (e) and (ea) before the conversion is executed.
• A separate ledger for the pre-conversion accumulated profit of a converted company, opened on day one, so that a later distribution can be shown to come from post-conversion profits.
• A lock-in in the articles and the shareholders’ agreement for five years, with a transfer restriction and a tax indemnity, and a diary entry for the fifth anniversary.
• A board or partners’ minute recording that no consideration or benefit other than shares, or other than profit share and capital contribution, passed to anyone.
• The valuation, if the successor records any asset above the predecessor’s book value, obtained before the return is filed.
• A note of the loss position, identifying the assessment year for which each loss was first computed for the original predecessor, so that the section 116(12) cap can be applied correctly.

For a firm to LLP conversion, the file should additionally record that the partners, the profit sharing ratios and the capital accounts are unchanged, that nothing was revalued, and that no instrument of transfer was executed.

Conversion provisions mapped: Income-tax Act 1961 to Income-tax Act 2025

Income-tax Act, 1961	Income-tax Act, 2025
s.45 charge on capital gains	s.67
s.47 transactions not regarded as transfer	s.70
s.47(xiii) firm succeeded by a company	s.70(1)(zd), conditions restated as (i) to (iv)
s.47(xiiib) company converted into an LLP	s.70(1)(ze), conditions restated as (i) to (vii)
s.47(xiv) proprietorship succeeded by a company	s.70(1)(zf), conditions restated as (i) to (iii)
s.47A withdrawal of exemption	s.71
s.47A(3) firm or proprietorship breach	s.71(2), charged on the successor company
s.47A(4) company to LLP breach	s.71(3), charged on the LLP or the shareholder
s.48 mode of computation	s.72
s.49(1)(iii)(e) cost carry-over	s.73, Table entry 1
s.49(2AAA) cost of LLP partner’s rights	s.73, Table entry 5
s.50B slump sale	s.77
s.50CA unquoted shares, FMV deemed	carried into the 2025 Act
s.50D consideration not ascertainable	carried into the 2025 Act
s.79 change in shareholding of a closely held company	carried into the 2025 Act
s.55(2)(a)(iii) cost of goodwill nil	s.90(3)(c)
s.56(2)(x) receipt for inadequate consideration	s.92(2)(m); exclusions in s.92(3)
s.9B deemed transfer on reconstitution	s.8
s.45(4) as substituted	s.67(10)
Expl. 2C to s.43(1) WDV on company to LLP	s.41
Sixth proviso to s.32(1) apportionment of depreciation	s.33(5)
s.72A(6) firm or proprietorship to company	s.116(8); proviso becomes s.116(9)
s.72A(6A) company to LLP	s.116(10); proviso becomes s.116(11)
s.72A(6B) eight year cap	s.116(12); definition in s.116(13)(c)
s.78(2) succession otherwise than by inheritance	s.119(2)
s.170 succession otherwise than on death	s.313
s.2(23) firm includes an LLP	s.2(45), with s.2(74) and s.2(75)
s.297 repeal and savings	s.536

Two numbering traps are worth flagging. Section 47A becomes section 71, which has three sub-sections where the old provision had four, so the sub-section numbers shift: section 47A(3) is section 71(2) and section 47A(4) is section 71(3). Citing “section 71(3)” when you mean the firm to company breach is a mistake that changes who is assessed. And the depreciation apportionment rule stops being a proviso and becomes a numbered sub-section, which removes a long-running argument about whether it is the fifth proviso or the sixth.

A conversion is one of the few tax decisions that binds people for five years after it is taken, and that charges somebody other than the person who breaks it. It is worth an hour of arithmetic on three old turnover figures before it is done, and a diary entry for the fifth anniversary after it is.

Related reading: Firm and LLP reconstitution: section 9B, section 45(4) and the disputes, the companion note on changing the partners rather than the legal form; Slump sale taxation: section 50B, section 77 and the disputed issues, the alternative where the conditions in section 47(xiiib) cannot be met; Will, trust, LLP or HUF partition: the tax overlay, on choosing between the structures before any of this arises; and Which Act governs an appeal filed today?, on the 1961 and 2025 Act transition that runs through this whole subject.

This note is general commentary on the law as at 23 September 2026 and is not advice on any matter. The position in a particular case depends on its own facts.