As it pertains to starting a new business in India, beginning with the right business structure is critical. There are multiple options available in for starting business in India and each structure provides different value while having its own drawbacks. Therefore, it can be a balancing act to choose the right one among them.
This article aims to provide clarity about different business structures for starting a business in India, their requirements, advantages and disadvantages etc. However, you must decide what structure you want for your new business based on your unique business requirement. If you are still unsure, consult business service professionals like us to help decide the best structure for your new business in India.
Contents
What Are The the Criteria for Starting a New Business in India?
Some of the criteria to consider while starting a new business in India are as follows:
Starting the Business
a) Ease of Starting the Business
b) Size of the Business
c) Investment
Running the Business
a) Liability
b) Legal Compliances
c) Audit Requirements
Growing the Business
a) External Funding
b) Growth Potential
What Are The Different Kinds of Business Structure for Starting a New Business in India?
The Different kinds of Business Structures in India are as follows:
Proprietorship is a business entity formed in the name of a single person – they own, manage and control the operations of the business.
Requirements for a Sole Proprietorship
Number of Members
Started by a single person who must be a Citizen and a Resident of India.
Investment
No minimum capital prescribed for starting a proprietorship.
Name
It does not require any name approval or registry. Any trade name can be used provided it does not clash with an existing brand name.
Advantages of a Sole Proprietorship
Easy to start
No mandatory registrations required under law. Although, it may need registrations or licenses specific to the nature of business.
Lower investment
Proprietorships can be started with minimal amount of investment.
Easy legal compliances
Since Sole Proprietorships are not governed by any specific law, the legal compliances are minimal.
Lesser income tax
As a Proprietorship has only a single owner, no separate tax is required to be paid by it besides the owner's income tax.
Disadvantages of a Sole Proprietorship
Liability
Sole proprietor is fully liable. The individual owner’s assets will be impacted in case of business debts.
Perpetual Succession
Business continuity ends with the death or departure of the owner.
External Funding
Raising funds for the business can be hard since they cannot issue stocks
Growth Potential
Low growth potential in the long run.
Who should start a Sole Proprietorship?
Small businesses with low complexity and low initial investment can look to start a Sole Proprietorship.
A Private limited company is a company which is owned by a small number of individuals known as Shareholders. The shareholders bear limited liability – proportional to the number of shares held by them. A Private limited company is registered for pre-defined objectives.
Requirements for a Private Limited Company
Number of Members
Can be started with anywhere from 2 to 200 members. It needs at least 2 directors to start operations.
Investment
Must have a minimum paid-up capital of ₹1,00,000 (a higher amount may be prescribed from time to time)
Name
Name approval is required from MCA. It must use the words “private limited” after its name.
Advantages of a Private Limited Company
Separate Legal Entity
A private limited company is recognized as a separate entity legally with perpetual existence. It can have a PAN number, bank accounts, licenses, approvals, contracts, assets and liabilities in its unique name.
Easy Transferability
As the ownership of a company is represented by shares, the ownership of a company can be transferred to any other legal entity or person in India or abroad easily - in part or whole. The directors can also be replaced to ensure business continuity.
Limited Liability
A private limited company provides limited liability protection to its shareholders. In case of any unforeseen liabilities, it would be limited to the company and not impact the shareholders.
Funding
A company can raise equity capital from persons or entities interested in becoming a shareholder. Entrepreneurs can raise money from angel investors, venture capital firms, private equity firms and hedge funds.
Disadvantages of a Private Limited Company
More Difficult to Start
Can only be started with precise legal formalities.
Legal Compliances
Stringent legal compliances as per The Companies Act 2013
Termination
A liquidator is required for the termination of the company
Audit Requirement
Mandatory audit of accounts every financial year by a Chartered Accountant
Who should start a Private Limited Company?
Startups and Businesses with high growth potential – especially those that expect to raise funding in the future – should consider starting a Private Limited Company.
Limited Liability Partnership(LLP) is a hybrid of a partnership firm and a private limited company. It has lesser compliance compared to Private limited companies. However, unlike a partnership firm it has limited liability for its partners.
Requirements for a Limited Liability Partnership
Number of Members
At least two individuals are required to be appointed as Designated Partners. One of the two must be an Indian resident.
Address
Must have a place of business in India as a registered office for the LLP.
Name
Name approval is required from MCA. It must use the words “LLP” after its name.
Advantages of a Limited Liability Partnership
Separate Legal Entity
An LLP is recognized as a separate legal entity other than its partners. As per the Limited Liability Partnership Act, 2008 - an LLP can contract with other entities, take legal action, own assets and borrow funds in the name of the LLP itself.
Flexibility
LLP Contract Agreement clarifies operating structure of an LLP which includes the rights and responsibilities of the partners. This structure helps to protect the interest of partners in case of loss due to an unlawful act by another partner.
Limited Liability
As an LLP can enter into a contractual relationship in its own capacity, it allows the partners to safeguard their personal assets. In case of any unforeseen liabilities, liability of any partner is restricted to their capital contribution as per the LLP agreement.
Easier Compliance
An LLP does not require a mandatory audit until a certain level of turnover/contribution is reached. LLPs do not have compliances related to board meetings, statutory meetings, etc. unlike other company structures. This makes it more cost effective to maintain.
Disadvantages of a Limited Liability Partnership
Transfer of Ownership
If a partner wants to transfer his/her ownership rights then he/she has to obtain the consent of all the partners.
Legal Compliances
An LLP must file Annual Statement of Accounts & Solvency and Annual Return with the Registrar each year. Income Tax Return must also be filed to the Income tax department for the LLP.
Number of partners
A limited liability partnership must have at least two members. If one member chooses to leave the partnership, the LLP may have to be dissolved.
Inclusion of Indian Citizen as a Partner
An NRI/Foreign national who wants to incorporate an LLP in India shall have at least one partner who is an Indian citizen. Two foreign partners cannot form an LLP without having one resident Indian partner along with them.
Who should start a Limited Liability Partnership?
Owing to the flexibility in its arrangement and operation, LLPs is a suitable vehicle for small enterprises
Limited Liability Partnership(LLP) is a hybrid of a partnership firm and a private limited company. It has lesser compliance compared to Private limited companies. However, unlike a partnership firm it has limited liability for its partners.
Requirements for a Partnership Firm
Number of Members
At least two individuals are required to be appointed as Designated Partners. One of the two must be an Indian resident.
Address
Must have a place of business in India as a registered office for the LLP.
Name
Name approval is required from MCA. It must use the words “LLP” after its name.
Advantages of a Partnership Firm
Shared Responsibilities
The partners in a partnership firm share the responsibility to work and manage the business together. Responsibilities for a particular field or task can be assigned to one or more partners by indicating the same in a Partnership Deed.
Minimal Compliance
Registered/unregistered Partnership Firms are not required to file any annual returns, & financial statements of a partnership firm would not be made publicly available. Also, unlike an LLP, the accounts of a partnership firm are not required to be audited.
Operational Flexibility
A Partnership firm is operated on the basis of the Partnership deed executed by the partners, mutually. However, the Deed can be changed according to the requirement even after it is registered. There are no limitations or restrictions on the partners in regards to running the business, if covered by the signed agreement.
Financial Returns for Partners
Partners involved with the firm get various types of returns for their capital as well as their individual efforts. The working partner also receives remuneration in addition to the interest on capital and share of profit, as may be agreed by the partners.
Disadvantages of a Partnership Firm
Liability Protection
A partnership firm does not provide the partners with limited liability protection. Consequently, the partners would be held personally liable in case of any loss or liability.
Lifespan
Partnerships do not have perpetual existence. This is because existence of the partnership is tied to the partners & it would cease to exist when partners dissolve the partnership.
Transferability
Any license or registration obtained in the name of the partnership cannot be transferred to any other person or entity.
Fundraising
A partnership cannot raise equity funds from angel investors, venture capital firms or PE funds. Banks & other Financial Institutions also prefer to lend to Companies than Partnership Firms
Who should start a Partnership Firm?
The Partnership Firm is best suitable for starting any business having small scale of operations and requires flexibility in operations.
One Person Company is a new concept introduced in The Companies Act, 2013. It has single ownership (similar to sole proprietorship) while maintaining a corporate structure (like Private limited company).
Requirements for a One Person Company
Number of Members
Minimum 1 director is required, upto 15 directors may exist.
Succession
The person forming an OPC must identify a person (with their written consent) as a nominee of the OPC in case of death of the member.
Name
Name approval is required from MCA. It must use the words ‘One Person Company’ or ‘OPC' within brackets in the name of the company.
Advantages of a One Person Company
Separate Legal Entity
It is recognized as a separate entity legally with perpetual existence. It can have a PAN number, bank accounts, licenses, approvals, contracts, assets and liabilities in its unique name.
Lesser Compliance
Requires lesser compliance compared to other types of companies (except Proprietorship).
Limited Liability
Liability is limited to the paid-up share capital of the company. In case of any unforeseen liabilities, it would be limited to the company.
Funding
Funds from banks and other financial institutions can be raised easily. This is due to the transparent business structure and easily verifiable, publicly available data.
Disadvantages of a One Person Company
Legal Formalities
Requires more legal formalities than a sole proprietorship.
Legal Compliances
Stringent legal compliances as per The Companies Act 2013
Lock in Period
2 year lock in period before an OPC can be converted into a Private/Public limited company.
Audit Requirement
Mandatory audit of accounts every financial year by a Chartered Accountant
Who should start a One Person Company?
A company managed by a single owner who is interested in a corporate structure (like that of a Private Limited Company) can start an OPC.
Conclusion
Ensuring that all the points mentioned above are carefully considered while choosing the right business structure for your business is vital. Choosing the right business structure before starting new business in India can save you a lot of trouble later. It is even possible to change the corporate structure to a different one if you have the right legal partner to help you navigate the complexities of business registrations.
