How to choose a Business Entity type.
Business organisation refers to all necessary arrangements required to conduct a business in an optimized manner. It refers to all those steps that need to be undertaken for establishing and maintaining relationship between men, material, and machinery to carry on the business efficiently for earning profits. This may be called the process of planning and organising which are the integral part of the business management. The arrangement which follows this process of organising the factors required for commencing and carrying on the business is called a business undertaking or organisation.
Choosing a form of business entity is crucial to a successful organization. The choice of a business entity will depend on an object, nature and size of the business of such entity which will be varied from case-to-case basis and will also depend upon the will of the owners of the business entity which they want to accomplish. The main types of business entities in India are Sole Proprietorship, Partnership, Hindu Undivided Family (HUF) Business, Limited Liability Partnership (LLP), Co-operative Societies, Branch Office and Company which may be any kind of company including one person company (OPC), private limited company, public limited company, guarantee company, subsidiary company, statutory company, insurance company or unlimited company. Further, Company formed under section 8 of the Companies Act, 2013 or under section 25 of the earlier Companies Act of 1956 is a non-profit business entity
Sole Proprietorship
The vast majority of small businesses start out as sole proprietorships. The sole proprietorship is a form of business that is owned, managed and controlled by an individual. He has day-to-day responsibility for running the business. He has to arrange capital for the business and he alone is responsible for its management. He is therefore, entitled to the profits and has to bear the loss of business. Sole proprietorships own all the assets of the business. He also assumes complete responsibility for any of its liabilities or debts. In the eyes of the law and the public, the sole proprietor and the business are one and the same.
It is the simplest and most easily formed business organization. This is because not much legal formality is required to establish it. For instance, to start a factory, the permission of the local authorities is sufficient. Similarly, to start a restaurant, it is only necessary to get the permission of local health authorities. Or again, to run a grocery store, the proprietor has only to follow the rules laid down by local administration.
Registrations available for a Proprietorship
- Udyog Adhaar (optional)
- Mandatory Licence under Shops and establishments Act from Local Bodies
- Licence under Shops and establishments Act from Labour Department (optional, subject to applicability)
- GST registration (optional, subject to applicability)
- Trademark registration (optional)
Laws applicable
- Labour Laws
- Income Tax Laws
- Gst Laws
- Other sector specific Laws
Income Taxation
Income of a sole proprietorship is the income of the Proprietor. Hence the same will be considered as individual and tax rate will be as per slabs applicable to individual. However the profits are above 15 lakhs Rupees, the Tax rate will be 30%
Partnership is an association of persons who agree to combine their financial resources and managerial abilities to run a business and share profits in an agreed ratio. Since the resources of a sole proprietor to finance, and his capacity to manage a growing business are limited, he feels the need for a partnership firm. Partnership business, therefore, usually grows out of the need for expansion of business with more capital, better supervision and control, division of work and spreading of risks.
Registrations available for a Partnership
- Udyog Adhaar (optional)
- Registration with Registrar of Firms, Kerala (optional)
- Mandatory Licence under Shops and establishments Act from Local Bodies
- Licence under Shops and establishments Act from Labour Department (optional, subject to applicability)
- GST registration (optional, subject to applicability)
- Trademark registration (optional)
Income Taxation
Partnership firms are liable to pay income tax at the rate of 30% of total profits. Profits means Income after permissible expenses.
LLP Firms are partnership firms with limited liability of partners. An LLP Firm combines the convenience of a partnership firm with the limited liability feature earlier found only in a company. An LLP Firm needs minimum two partners. It also requires minimum two Designated Partners out of which at least one should be resident of India. The two partners can also be appointed as Designated Partners. There is no requirement of minimum capital contribution to incorporate an LLP Firm.
Registrations available for a Proprietorship
- Mandatory registration under LLP Act 2008, with Registrar of LLP’s(or ROC) under Central Government
- Mandatory Licence under Shops and establishments Act from Local Bodies
- Licence under Shops and establishments Act from Labour Department (optional, subject to applicability)
- GST registration (optional, subject to applicability)
- Trademark registration (optional)
Income Taxation
Limited Liability Partnership firms are liable to pay income tax at the rate of 30% of total profits. Profits means Income after permissible expenses.
With the implementation of the Companies Act, 2013, a single person could constitute a Company, under the One Person Company (OPC) concept. The introduction of OPC in the legal system is a move that would encourage corporatization of micro businesses and entrepreneurships.. The OIPC is same as a Private Limited Company, except in the case of number of Share Holders and Directors. And also certain relaxations were given to OPC’s, like holding of meetings etc..,
Registrations available for a Proprietorship
- Mandatory registration under Companies Act 1956/2013, with Registrar of Companies under Central Government
- Mandatory Licence under Shops and establishments Act from Local Bodies
- Licence under Shops and establishments Act from Labour Department (optional, subject to applicability)
- GST registration (optional, subject to applicability)
- Trademark registration (optional, subject to applicability)
- Other sectoral registrations like NBFC, RBI, SEBI etc. (optional, subject to applicability)
Tax Implication
Net Profit of a domestic company is taxable at 30%. However, tax rate is 25% if turnover or gross receipt of the company in the previous year 2018-19 does not exceed 250 crore plus applicable surcharge
Private Company is the most common form of a business entity in India. It is also called corporate entity. Minimum two share holders and two directors are required to form a Private Company. It is considered as one of the most credible form of business entity. In this type of entity ownership is different from management. The Company is considered as a separate legal person. The liabilities of the share holders are limited. Even if the share holders are expired/deceased/disabled, company will continue and the member’s share will be there, with same rights. Profits can share as Dividend. Share Certificate is a Good under sale of goods act and can be transferable or can pledge against a Loan. Regulatory Compliances are more compare to Proprietorship, Partnership or Limited Liability Partnership and hence the credibility is also more. The compliance and non compliance costs are more.
Registrations available for a Proprietorship
- Mandatory registration under Companies Act 1956/2013, with Registrar of Companies under Central Government
- Mandatory Licence under Shops and establishments Act from Local Bodies
- Licence under Shops and establishments Act from Labour Department (optional, subject to applicability)
- GST registration (optional, subject to applicability)
- Trademark registration (optional)
- Other sectoral registrations like NBFC, RBI, SEBI etc. (optional, subject to applicability)
Tax Implication
Net Profit of a domestic company is taxable at 30%. However, tax rate is 25% if turnover or gross receipt of the company in the previous year 2018-19 does not exceed 250 crore plus applicable surcharge
Minimum 7 shareholders are required to form a Public Limited Company. It has all features of a Private Limited Company. There is no limit in the maximum number of share holders and there is no restrictions for the transferability of shares. For doing some type of business like NBFC, Portfolio management, it is required to register it as a Public Limited Company. The shares can list in a stock exchange and it can trade in an open platform. The law is very strict for Public Companies, since it affects a large number of people. More statutory complacence’s are required to maintain the status of a Public Limited Company.
Registrations available for a Proprietorship
- Mandatory registration under Companies Act 1956/2013, with Registrar of Companies under Central Government
- Mandatory Licence under Shops and establishments Act from Local Bodies
- Licence under Shops and establishments Act from Labour Department (optional, subject to applicability)
- GST registration (optional, subject to applicability)
- Trademark registration (subject to applicability)
- Other sectoral registrations like NBFC, RBI, SEBI etc. (optional, subject to applicability)
Tax Implication
Net Profit of a domestic company is taxable at 30%. However, tax rate is 25% if turnover or gross receipt of the company in the previous year 2018-19 does not exceed 250 crore plus applicable surcharge
How to choose your Business Entity type
For a new or proposed business, before selecting a suitable form of business organisation everyone should consider the following factors:
Nature of business activity : In small trading businesses, professions, and rendering of personal services, sole-proprietorship is predominant. The partnership is suitable in all those cases where sole proprietorship is suitable, provided the business is to be carried on a slightly bigger scale with help of one or more partner (owner). Where the persons intending to start a business wish to launch a business organisation clothed with a legal entity and in corporate form with a feature of having their sole ownership and control thereon, they may decide to form a One-Person Company (OPC). An alternative form of organisation where two or more persons are involved in starting the business organisation is the Limited Liability Partnership (‘LLP’) under the Limited Liability Partnership Act, 2008. A One-Person Company (OPC), LLP and limited company exist as a separate business entity in the eyes of law and this creates a wall between the personal assets of the investor and that of the business. Private Company is suitable for business operates in more than one place, with a good income source
Independence: In the case of sole proprietorship and One Person Company, the owners will get more independence in decision making, since they are the only owners. In partnership, LLP and Limited Company, all decisions are based on the approval of majority of partners/ shareholders
Scale of operations: If the scale of operations of business activities is small, sole proprietorship or a One Person Company (OPC) is suitable; if the scale of operations is modest — neither too small nor too large — partnership or limited liability partnership (LLP) is preferable; whereas, in case of large scale of operations, the company form is advantageous. The scale of business operations depends upon the size of the market area served, which, in turn, depends upon the size of demand for goods and services. If the market area is small, local, sole-proprietorship, OPC or partnership is opted. If the demand originates from a large area, partnership including LLP or Company may be adopted.
Capital requirements: In sole proprietorship, the owner may raise additional capital by borrowing, by purchasing on credit, and by investing additional amounts himself. Banks and suppliers, however, will look closely at the proprietor’s individual financial resources before sanctioning any loans or advances. Partnerships can often raise funds with greater ease, since the resources and credit of all partners are combined in a single enterprise. Companies are usually best able to attract capital because investors are assured that their liability will be limited, their operations are in public domain in the transparent manner, easily accessible and the ownership can be transferred to other investors.
Degree of risk and liability : the sole proprietor is personally liable for all the debts of the business to the extent of his entire property. Likewise, in partnership, partners are individually and jointly responsible for the liabilities of the partnership firm. Companies and LLPs have a real advantage, as far as the risk is concerned, over the other forms of business organisation. Creditors can force payment of their claims only to the limit of the company’s and LLPs assets
Stability of business: sole proprietorships are not stable, although no time limit is placed on them by law. Partnerships are also unstable, since they are terminated by the death, insolvency, insanity, retirement, admission, expulsion or withdrawal of/ by one of the partners. Companies and LLPs have the most business stability due to its feature or perpetuity being an artificial or legal person. The life of the company and LLP is not dependent upon the life of its members/partners. Members/partners may come, members/partners may go, but the company/LLP goes on forever unless and until it being wound up.
Costs, procedure, and government regulation: sole proprietorships are the easiest and cheapest to get started. There is no government regulation. What is necessary is the technical competence and the business acumen of the owner and the requirement of meeting tax liabilities. Partnerships are also quite simple to be initiated. The procedure for dissolution of partnership is also, relatively simple. Company form of business organisation is little difficult to form. It can be created by law, dissolved by law, and operate under the express provisions of the law. It has more statutory compliances and annual compliances like audit etc.
Tax implication: In smaller entities, such as sole proprietorship or partnership, tax liability is dependent on the extent of profits. However, the liability of the owner(s) is unlimited. In case of companies or LLPs the liability of shareholders is limited to the value of shares they have purchased. In case of companies or LLPs, tax liability could be higher.
