Charter capital as security for activity of Limited Liability Partnership (LLP)

January 21, 2015

Dura lex, sed lex

Law “On amendments to certain legal acts of the Republic of Kazakhstan  dedicated to dramatic improvement of conditions for entrepreneurial activity in the Republic of Kazakhstan” No 269-V ЗРК was adopted on December 29, 2014 (hereinafter the “Law”). This Law stipulates certain new provisions in several legislative acts, among such provisions is amending Article 23 (2) of Law on Limited Liability Partnerships (LLP(s)). As per the amended article 23, the minimum charter capital[1]amount of an LLP that fall under category of small-scale,  is established at “zero” and in our view, such amendment is incorrect from either practical or legal view, i.e. theory of law and law formality.

Since an LLP is a commercial organization, it should have certain funds for carrying out business activity and therefore be capable to have material liability. Besides this, such beginning funds (property) is required for have financial, tax and labor relations and, that’s why law-makers set the lower limit size for an LLP.  In current law of the Republic of Kazakhstan, such capital is commonly referred “charter capital” and pursues the following purposes:

  1. Starting purpose. The founders of an LLP are carving out and transferring part of their property into property of an LLP, intending to start business activity of an LLP.
  2. Guarantee purpose. The charter capital amount is a total monetary value of an LLP’s obligations, which were undertaken by the LLP. Here we can emphasize idea of professor, Mr. F. Karagusov on law nature of charter capital of joint-stock companies, which is applicable to LLP as well: “… the requirement of minimum amount of charter capital is also the protection measure of interest of creditors, such requirement could be considered as “bottom” for possible losses of company (partnership – hereinafter noted by me – Y.M.), and such bottom is reached the company (partnership) could not operate further and subject to rehabilitation or liquidation with all consequences for its shareholders (participants), creditors and market itself”[2]. A founder is transferring its property to an LLP.

As it is being emphasized bythe academic literature, the guarantee purpose of charter capital is being demonstrated by the fact that the founders cannot make any rash and incorrect decisions, as they are transferring their property. Accordingly, they are reasonably expected to carry out business in a good faith and reasonable and diligent manner, as no business development and profit generation are possible without proper performance of the obligations. Otherwise, a participant (founder) can lose its participatory shares (property transferred into charter capital).

  1. Determination purpose. The general rule is that participating interest (equity stake) of each participant in LLP’s property of each participant is determined by virtue of charter capital.
  2. Restriction purpose. The restriction purpose of an LLP lies in the liability of participants for losses within the amounts of their contributions to charter capital of an LLP, and when such amount is zero any risk of losses is excluded. When there are no risks of material losses, no matter how diligent and fair an individual is, there will be a high risk of abuse of impunity.  Therefore, it appears that the legislators legalized “impunity of participants of LLP” from unreasonable and unfair management of an LLP.
  3. Information purpose (advertisement). This purpose is being demonstrated by the fact that ghe higher amount of the charter capital, the higher degree of trust is.

As follows from the aforementioned, all purposes of charter capital are based on the material value, i.e. the purposes and legal capacity of an LLP depend on size, and factual availability of charter capital of an LLP and this statement can apply also to foreign laws. Below is table in with information on capital requirements set for for foreign legal entities in forms similar to a Kazakh LLP, in particular it shows that no country allows a zero capital amount.

It is also obvious that zero charter capital can hardly have starting, advertising, determination and the most important one – a guarantee one. Even a zero capital LLP is registered, it will definitely need further financing and funds for starting and developing its business. However, who does want to finance a zero capital LLP and how does such LLP return borrowed funds? Is there any risk from such LLP for other entities?

It should be noted that the amendments on charter capital were made only to paragraph 2, clause 23 in Law on the LLP(s), while all other provisions remained unchanged, e.g. the definition “limited liability partnership” is the same. It still means partnership founded by one or several entities with a charter capital divided into participatory shares in the amounts, set out in the foundation documents. A question whether it is reasonable to divide zero?  It is elementary school rule that if zero is divided by any number the result will be zero.

Another example, paragraph 1, clause 23 Law on LLP stipulates that the charter capital of an LLP is formed by combining contributions of founders (participants). A contribution shall mean that some material items are contributed, again the question is what kind of property can be combined for zero result?

It is worth to mention that such uncertainties are running through all laws on LLP(s) of the Republic of Kazakhstan and it evidences poor development of the Law.

Thus, a zero capital requirement for charter capital of an LLP is unreasonable and incorrect, because the legislators did not consider legal nature of charter capital. Although a charter capital has common characteristics, still it has certain peculiarities depending on legal form of a legal entity. The universality of charter capital is that it is a legal tool not only for settling different issues associated with interests of participants and an LLP itself, but also it is a legal security for business startup, legal capacity of an LLP, protection of creditors, employees and budget revenues through taxes collection by virtue para 3, article 8 Civil Code of the Republic of Kazakhstan.

A well-known phrase recurs to us: «We tried our best, you know the rest.”

Perhaps the legislators made clumsy assistance instead of improvement of entrepreneurial conditions?

Table – Charter capital requiremetns in different states (the amount of relevant charter capital converted to the tenge as per the official currency rate of National bank of Kazakhstan as of 12 January 2015)

NoStateAnalogue of LLPMinimum amount of the charter capital (general rule)
1.Chinese Peoples RepublicLimited Liability Company30 000 RMB (KZT[3] 884 400)
2.GermanyLimited Liability Company (Gmbh)Euro 25 000 (KZT 5 401 000)
3.ArgentinaLimited Liability CompanyThere is not any fixed amount of minimum charter capital, however, it is stated that charter capital shall be reasonable due to business activity.
4.Slovak RepublicLimited Liability Company5 000 Euro (KZT 1 080 200)
5.SpainLimited Liability Company3 000 Euro (KZT 648 120)
6.AzerbaijanLimited Liability CompanyThere is not any fixed amount of minimum charter capital; however, the charter capital shall not be less than it is required due to satisfy requirements of creditors.
7.Russian FederationLimited Liability Company (Soiety)10 000 RUB (KZT 29 800). Meanwhile directly stated that charter capital determined minimum amount of property guaranteeing interests of creditors (Article 14 of Law on LLS).

[1] In some states “charter capital” is called “authorized capital”

[2] Karagusov F.S. Basis of corporate law: tutorial. – Almaty: Scientific publishing center of Caspian Social University, 2010. P. 86

[3] Abbreviation of Kazakhstan national currency – tenge ( USD 1 = KZT 183.05)
Yersultan Mussaliyev