Direct Tax Laws and International Taxation · Business Restructuring

Conversion and Succession of Business: Tax Rules and Conditions

Updated 11 October 2026 · Fact-checked

Conversion or succession means a firm or proprietary concern is taken over by a company, or a private or unlisted public company by an LLP, under the conditions of section 70(1)(zd), (zf) or (ze). Section 116 then passes accumulated loss and unabsorbed depreciation to the successor. A breach of conditions makes earlier set-offs taxable income.

Understand Conversion and Succession of Business

A business often changes its legal form as it grows. A partnership firm or a sole proprietor may want to become a company. A private company may want to become an LLP. Without a special rule, each change could trigger tax on transfer of assets and could strand the old entity's losses. The Income-tax Act, 2025 gives relief if prescribed conditions are met.

The conditions sit in section 70(1). Clause (zd) covers a firm succeeded by a company. Clause (zf) covers a proprietary concern succeeded by a company. Clause (ze) covers a private company or unlisted public company succeeded by an LLP. Read the exact wording of these clauses in your study text. In substance they require the successor to take over all assets and liabilities, the owners to receive only shares (or a profit share in an LLP) and nothing else, and the original owners to keep a minimum stake for a minimum period.

This topic page focuses on section 116, which deals with losses. Under sub-section (8), the accumulated loss and unabsorbed depreciation of the predecessor firm or proprietary concern are deemed to be the loss or depreciation allowance of the successor company for the tax year in which the reorganisation took place. Sub-section (10) does the same for a company converting into an LLP. The normal set-off and carry-forward rules then apply.

Accumulated loss has a narrow meaning. It is the business loss (head Profits and gains of business or profession), excluding speculation loss, that the predecessor could still have carried forward under section 112 had the reorganisation not happened. Unabsorbed depreciation is the depreciation allowance still to be allowed to the predecessor.

There are two safeguards. First, if the section 70 conditions are not complied with, the set-offs already made are deemed to be the successor's income in the year of non-compliance (sub-sections (9) and (11)). Second, for reorganisations on or after 1 April 2025, the inherited loss can be carried forward for not more than eight tax years after the tax year in which the loss was first computed for the original predecessor entity (sub-section (12)).

Key rules to remember

Firm or proprietary concern to company: loss transfer: Predecessor's accumulated loss + unabsorbed depreciation = deemed loss / depreciation of the successor company for the tax year of reorganisation; Section 116(8). Applies when the conditions of section 70(1)(zd) (firm) or 70(1)(zf) (proprietary concern) are met.
Company to LLP: loss transfer: Predecessor company's accumulated loss + unabsorbed depreciation = deemed loss / depreciation of the successor LLP; Section 116(10). Predecessor must be a private company or unlisted public company meeting section 70(1)(ze).
Consequence of non-compliance: Set-offs made in any tax year = income of the successor, taxed in the year of non-compliance; Section 116(9) for companies, 116(11) for LLP. The tax falls in the year of breach, not in the earlier years.
Eight-year limit: Inherited loss can be carried forward for at most 8 tax years after the tax year the loss was first computed for the original predecessor entity; Section 116(12). Applies to reorganisations effected on or after 1 April 2025. The clock does not restart.
Accumulated loss: Business loss, excluding speculation loss, that was eligible for carry forward under section 112 in the predecessor's hands; Section 116(13)(a). Losses under other heads are not covered.
Conditions for relief: Section 70(1)(zd): firm to company. Section 70(1)(zf): proprietary concern to company. Section 70(1)(ze): private or unlisted public company to LLP; Check the exact conditions in the clause text. Section 116(4) conditions apply to amalgamation, not to these conversions.

How to solve Conversion and Succession of Business questions

Use this order for any question on conversion of a firm, proprietary concern or company, or on succession by a company or LLP.

1Identify the predecessor and the successor. Firm or proprietor to company, or private or unlisted public company to LLP. A listed public company or other type is outside these clauses.
2Pick the matching clause of section 70(1): (zd), (zf) or (ze). Then test each stated condition against the facts: assets and liabilities taken over, consideration only by shares or profit share, and the owners' minimum stake for the minimum period.
3If a condition fails at the start, the relief is not available. Say so and stop the loss transfer.
4If the conditions are met, list the predecessor's accumulated loss (business loss excluding speculation loss) and unabsorbed depreciation. Leave out losses under other heads and speculation loss.
5Treat these as the successor's loss for the tax year of reorganisation. Then apply the usual set-off and carry-forward rules against the successor's income.
6Check the eight-year limit for reorganisations on or after 1 April 2025. Count from the tax year in which the loss was first computed for the original predecessor entity.
7Check for later breach. If a condition is violated after the conversion, add all earlier set-offs to the successor's income in the year of breach.
8Close with a clear conclusion: what is carried forward, until which tax year, and what becomes taxable.

Quickest way: Four-check shortcut

When to use it: Use in MCQs and short case questions where you must decide quickly whether loss transfer is allowed.

Check the pair: firm or proprietor to company, or private or unlisted public company to LLP.
Check that the section 70(1) conditions are met now and still met later.
Check the loss: only business loss (not speculation) and unabsorbed depreciation pass over.
Check the clock: eight tax years from the first computation of the loss, for reorganisations on or after 1 April 2025. If a condition is breached, the earlier set-offs are taxed in the year of breach.

Common mistakes in Conversion and Succession of Business

Applying the section 116(4) conditions (three years of business, three-fourths of fixed assets, five-year holding) to a firm or proprietor converting into a company.
Section 116 is one long section and amalgamation comes first, so students assume its tests apply everywhere.
Fix: Sub-section (4) is tied to amalgamation under sub-section (1). For conversions, the test is the conditions of section 70(1)(zd), (ze) or (zf).
Carrying forward speculation loss or losses under other heads to the successor.
Students read 'accumulated loss' as every loss the predecessor had.
Fix: Section 116(13)(a) covers only business or profession loss, excluding speculation loss, that was eligible for carry forward under section 112.
Taxing the earlier set-offs in the year they were claimed after a breach.
Students think the relief is cancelled retroactively.
Fix: Sub-sections (9) and (11) deem the set-offs to be income of the successor in the year in which the non-compliance occurs.
Restarting the eight-year clock from the date of conversion.
Students treat the successor as a fresh taxpayer.
Fix: Sub-section (12) counts from the tax year for which the loss was first computed for the original predecessor entity. This applies to reorganisations on or after 1 April 2025.
Treating a conversion into an LLP as available to any company.
Students remember 'company to LLP' and forget the type of company.
Fix: Sub-section (10) covers a private company or unlisted public company only. A listed company does not qualify.
Quoting the old Act's section numbers or 'previous year' language.
Notes from the Income-tax Act, 1961 are still in circulation.
Fix: For the June 2027 term, use the Income-tax Act, 2025 with the terms 'tax year', and sections 70 and 116.

Worked examples

Example 1

M/s Rao & Sons, a partnership firm in Pune, is succeeded by Rao Industries Pvt Ltd in tax year 2026-27 and meets all conditions of section 70(1)(zd). On the date of succession the firm has: business loss ₹6,00,000 first computed for tax year 2024-25 (eligible for carry forward under section 112), speculation loss ₹40,000, and unabsorbed depreciation ₹1,00,000. State what passes to the company and the last tax year up to which the business loss can be carried forward.

Show the solution

The conversion is firm to company, so section 116(8) applies because section 70(1)(zd) conditions are met.
Accumulated loss counts only business loss excluding speculation loss. So ₹6,00,000 qualifies and the speculation loss of ₹40,000 does not.
Unabsorbed depreciation of ₹1,00,000 also passes to the company.
Both are deemed to be the company's loss and depreciation allowance for tax year 2026-27, the year of reorganisation.
The reorganisation is after 1 April 2025, so sub-section (12) applies. The loss was first computed for tax year 2024-25.
Carry forward is allowed for not more than eight tax years after 2024-25, that is 2025-26 to 2032-33. The last tax year is 2032-33.

Answer: ₹6,00,000 business loss and ₹1,00,000 unabsorbed depreciation pass to the company. The ₹40,000 speculation loss does not. The business loss can be carried forward up to tax year 2032-33.

Example 2

Following the succession in the earlier example, Rao Industries Pvt Ltd set off ₹2,50,000 of the inherited loss in tax year 2026-27 and ₹1,75,000 in 2027-28. In tax year 2028-29 the original partners' shareholding falls below the level required by section 70(1)(zd), so a condition is breached. What is the tax effect?

Show the solution

Section 116(9) applies when conditions of section 70(1)(zd) are not complied with.
The total set-off already made is ₹2,50,000 + ₹1,75,000 = ₹4,25,000.
This amount is deemed to be income of the company chargeable to tax.
It is taxed in the year of non-compliance, which is tax year 2028-29, and not in 2026-27 or 2027-28.
The earlier years' assessments are not reopened on this ground. The deemed income is added in 2028-29. The company's current business income for 2028-29 is computed separately and taxed in the usual way.

Answer: ₹4,25,000 is deemed income of the company in tax year 2028-29, in addition to its other income for that year.

Exam tips

Write the clause number with the structure. Say 'firm to company: section 70(1)(zd); proprietor to company: 70(1)(zf); company to LLP: 70(1)(ze)'. It shows the examiner you know the law.
In case questions, hunt for the breach. A share sale by the original owners, a shortfall in shareholding, or a change in the business is usually planted to test section 116(9) or (11).
Always separate speculation loss from business loss. It is an easy half mark in a numerical answer.
For MCQs, remember the eight-year rule is counted from the first computation of the loss for the original predecessor entity, and only for reorganisations on or after 1 April 2025.
Close every answer with a recommendation: whether to convert, what the owners must keep in place, and for how long.

Practice questions from Business Restructuring

Conversion and Succession of Business in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Conversion and Succession of Business: frequently asked questions

Can a partnership firm's losses be set off in the hands of the company that succeeds it?

Yes, if the conditions of section 70(1)(zd) are met. Under section 116(8), the firm's accumulated loss and unabsorbed depreciation are deemed to be the company's loss and depreciation for the tax year of succession. Normal set-off and carry-forward rules then apply, subject to the eight-year limit in sub-section (12).

Does a sole proprietor converting into a company get the same loss benefit?

Yes. Section 116(8) covers a proprietary concern succeeded by a company that meets the conditions of section 70(1)(zf). The proprietary concern's accumulated loss and unabsorbed depreciation are treated as the company's.

What happens if the conditions are broken after the conversion?

The set-offs already made are deemed to be the successor's income. They are taxed in the year in which the non-compliance occurs. Sub-section (9) applies to a successor company and sub-section (11) to a successor LLP.

Which companies can convert into an LLP with loss carry forward?

Only a private company or an unlisted public company that meets the conditions of section 70(1)(ze). Section 116(10) then passes its accumulated loss and unabsorbed depreciation to the LLP.

For how long can inherited losses be carried forward?

For a reorganisation on or after 1 April 2025, not more than eight tax years after the tax year for which the loss was first computed for the original predecessor entity. The period does not restart when the business changes form.