There are various business structures such as Sole Proprietorship, One Person Company, General Partnership, Limited Liability Partnership, Private Limited Company and Public Limited Company, that an entrepreneur can choose to start a business. Choosing an ideal legal structure would be one of the first decisions an entrepreneur would make. But how to decide which business entity is ideal for your business?
In this article, we will discuss various legal entities for entrepreneurs to set up in India to run their businesses successfully.
A Sole Proprietorship is a business entity in which a single person owns, manages, and controls all the activities of the business. All the resources are funded, controlled, and utilized by the sole proprietor with the sole objective of earning profit for the business. The sole proprietorship is not a legal entity; has no distinction between the owner and the business.
All the profits generated by the business are drawn by the sole proprietor. Similarly, in case of loss, the sole proprietor bears them. Thus, the sole proprietor enjoys all the profits and bears all the losses incurred from the business solely.
The sole proprietor is the single owner of the business. The individual owns all the assets and liabilities of the business and consequently bears all the risks associated with the business.
Since there is only one owner, the controlling power always remains with the owner. This means that the owner takes business decisions by themselves, however, the owner is free to consult anyone.
The capital required to run the business is entirely arranged by the sole proprietor and it can be funded by himself/herself solely or from numerous other sources for example friends, family, or financial institutions.
A sole proprietor has unlimited liability. In other words, in case of loss, the business assets along with the personal assets of the owner may be used to pay off all the liabilities of the business.
The formation and operation of a sole proprietorship are the easiest of all business entities. There are almost no legal formalities. Most importantly, it does not require registration. However, depending on the nature of the business, it may require obtaining certain licenses or permissions from the local administration.
Advantages and Disadvantages of Sole Proprietorship
|1.||Easy to Form and Wind up||Limited Capital|
|2.||Quick Decision and Prompt Action||Unlimited Liability|
|3.||Better Control||Lack of Continuity|
|4.||Low Costs Compliance||Lack of Managerial Expertise|
|5.||Maintenance of Business Secrets||Limited Scope of Business|
|6.||Flexibility in Operation||Not Investor-Friendly|
|7.||Direct Relationship with Customers||Difficult to Obtain Loan|
Suitability of Sole Proprietorship form of Entity
Sole proprietorship form of business entity is suitable where:
- The nature of business is simple, such as internet cafes, garment businesses, etc.
- The capital requirement is small and the risks involved are not high, such as tea stalls, grocery stores, salons, etc.
- The market for the product is small and local, such as selling hardware, books, stationery, furniture, etc.
- The customers need personalized products, such as custom garments, making special types of food items, etc.
- Skilled work is required, such as making jewelry, cutting hair, or tailoring.
Sole proprietorship form of business entity is not suitable for high-risk businesses as it will put the proprietors’ personal assets at risk. Risky businesses include import-export, manufacturing alcohol, construction, hotels, etc.
The sole proprietorship form of the business entity requires the following documents:
- Aadhar Card of the Owner
- Pan Card of the Owner
- Registered Address Proof
- Open a Bank Account
Registration of sole proprietorship form of business entity is easy. It does not require any complex registration. Only a few licenses and permissions are necessary depending on the nature of the business.
The sole proprietorship is required to have:
- a business name and
- a designated business location.
Some general licenses and permissions that a sole proprietorship may require are:
- Shop and Establishment Act License: Generally, the businesses having shops and factories require this license as it acts as proof of the existence of a business.
- GST Registration: For manufacturing and trading businesses having expected turnover over INR. 40 Lakhs and INR. 20 Lakhs for special category states mandatorily require registration under GST. The businesses that do not exceed the prescribed limits have an option to choose whether to voluntarily register for GST or not. Registration under GST has both advantages and disadvantages. A detailed comparison has to be made whether voluntary registration under GST is beneficial or not for the proprietary concern.
- TAN Registration: Tax Deduction Account Number (TAN) is a 10-digit alphanumeric number issued by the Income-tax Department. It is to be obtained by all persons who are responsible for deducting tax at source (TDS) or who are required to collect tax at source (TCS).
- FSSAI Registration: FSSAI Registration requires every Food Business Operator (FBO) involved in the manufacturing, processing, storage distribution, and sale of food products compulsorily to obtain FSSAI Registration or License. FSSAI Registration is different from the FSSAI License and every FBO should obtain the necessary registration or license depending upon the size and nature of the business. It is a 14-digit number that is printed on all the food packages. The 14-digit registration number provides all details about the assembling state and producer’s permit.
The sole proprietorship form of the business entity requires the following post-registration requirements:
- Certificate of registration under the Shop and Establishment Act.
- Business licenses or registration by the State/ Central Government depending on the nature of the business. The requirements for these licenses or registration vary from state to state. As some states might require certain licenses for a particular industry while some states do not.
- Income Tax Return needs to be filed is in the name of the sole proprietor indicating income of the sole proprietorship entity.
- Utility bills such as water bills, electricity bills, internet bills, and telephone bills. All such bills must be in the name of the proprietary concern.
- Certificate of GST registration, if required.
The proprietary concern that exceeds total sales of INR. 1 Crore during the financial year (1st April – 31st March) requires an audit by a practicing Chartered Accountant.
The sole proprietorship form of business is the most common form of business entity. The rules and regulations governing it are very minimal or few; there is no minimum capital required; the profits generated are solely enjoyed by the proprietor and the main risk of the sole proprietorship form of business is that the proprietor has unlimited liability.
The concept of One Person Company (OPC) was introduced in India to encourage sole proprietors to run their businesses with a corporate entity having few legal requirements. An OPC is owned by a single person having a separate legal entity than its owner. In other words, in case of loss, the personal assets of the owner shall not be used to pay off liabilities of the OPC. However, if the owner commits a criminal act then they may be held personally liable for the OPC’s debt or loss. The OPC form of business entities enjoys various relaxations from the government in respect to general meetings, board meetings, and other compliances.
In an OPC, a single individual is the owner of the business. Therefore, a single person has control over the assets and is entitled to receive all the profits generated by the company.
An OPC does not have any minimum capital requirement. However, a nominal amount is required.
An OPC is a separate legal entity from its owner which limits the liability of its owner.
Incorporating an OPC is easy. There are a few simple regulatory compliances that have to be fulfilled to incorporate the entity.
|1.||Separate Legal Entity||Limited Business Activities|
|2.||Easy to Obtain Loans||Not Suitable for Large – High-Risk Business|
|3.||Basic Compliances||No Clear Distinction Between Ownership and Management|
|4.||Quick Incorporation||Not Investor-Friendly|
|5.||Ease of Business Administration||Higher Tax Requirements*|
|6.||Perpetual Succession||*in Comparison to a Sole Proprietorship|
One Person Company (OPC) form of business organisation is suitable only for small businesses that have maximum paid-up share capital of INR.50 Lakhs or a Turnover of INR. 2 Crores.
OPC form of business organisation is not suitable where:
- Business exceeds Paid up share capital of Rs.50 Lakhs or a Turnover of Rs.2 Crores
- Business is related to carrying out Non – Banking Financial Investment activities including investment in securities of any other corporate entity, and
- Charitable Trust
The following are the eligibility guidelines for registration of OPC:
- Only a person who is a citizen of India and resident in India
- Legal entities like companies or LLP cannot form an OPC
- A nominee must be appointed during the incorporation process
- A minor cannot become a member of the OPC
An OPC form of the business organisation requires the following documents:
- PAN card of sole member
- Passport size photograph of the sole member
- Aadhar Card
- Rent Agreement (If rented property)
- Electricity/ Water Bill (Office)
- Property Title Deed (If owned property)
- Landlord NOC (In the specific format)
- Director Consent Form (Form DIR 2)
Every OPC engaged in the business of inter-state supply of goods and services is mandatorily required to obtain registration under GST. However, in case the OPC has an intra-state business then there are no mandatory requirements to get registered unless they fall in the registration bracket.
The following requirements have to be fulfilled to obtain OPC registration:
- Minimum and maximum of one member.
- A nominee should be appointed during incorporation.
- Consent of the nominee should be obtained in Form INC-3.
- The name of the OPC must be selected as per the provisions of the Companies (Incorporation Rules) 2014.
- DSC of the proposed director.
- Proof of registered office address of the OPC.
The OPC form of business requires the following Post Registration compliance:
- At least one Board Meeting in each half of the calendar year and the time gap between the two Board Meetings should not be less than 90 days.
- Maintenance of proper books of accounts.
- Statutory audit of Financial Statements.
- Filing of income tax returns every year before 30th September.
- Filing of Financial Statements in Form AOC-4 and ROC Annual Return in Form MGT-7.
A general partnership is an association of two or more individuals who agree to share the profits of a lawful business that is managed and carried on either by all or by any, or some of them acting for all.
In other words, it is a kind of organisation where a formal agreement between two or more people is made who agree to:
- Become the co-owners;
- Distribute responsibilities for running an organization and
- Share the income or losses that the business generates or incurs.
In a partnership firm, a minimum of two persons is required and a maximum of 50 persons can start a partnership business.
In a partnership, the profits and losses are shared among the partners as agreed by them in the partnership agreement. However, in absence of an agreement, profits and losses are shared equally by all the partners.
The partners of the firm have ownership and control in the firm as agreed by them in the partnership agreement. In the absence of an agreement, it is equal. The partnership firm is not required to file its financial statements to the Government authorities enabling it to maintain financial confidentiality within the firm.
The partners of the firm make initial capital contributions as agreed while forming the partnership. They can make additional contributions depending upon the need and operation of the partnership as decided in the agreement. Capital contributions by partners may include cash contributions and other asset contributions.
Every partner of the firm has unlimited liability i.e. in case of loss, personal assets of the partners can also be used to pay liabilities of the firm. All the partners are liable jointly and severally for the debts and obligations of the firm. A partnership firm is just a name for the business as a whole. The firm means partners and the partners mean the firm. The law does not recognize the partnership firm as a separate entity distinct from its partners.
The formation and set-up of a partnership firm is relatively quick. There is no mandatory requirement to be registered. Similar to sole proprietorship, it may require obtaining certain licenses or permissions from the local administration depending on the nature of the business. The partnership firm is governed by the partnership agreement that is signed by all the partners. However, in the absence of an agreement, the partnership is governed by the Partnership Act, 1932.
The relationship between the partners of a partnership firm is contractual in nature. Every partner is an agent of other partners when acting on behalf of others. Thus, the relationship between partners is that of a principal agent.
Partnership form of business does not require mandatory registration. However, registration of partnership attracts several benefits such as any partner can file a case against other partners, a firm can file a suit against outsiders in case of disputes, claims, disagreements, etc.
The following persons are not eligible to become partners in a firm:
- Insolvent persons
|1.||Relatively Quick Formation||Unlimited Liability of Partners|
|2.||Large Capital||Lack of Longevity of Partnership Firm|
|3.||Better Manageability||High Chance of Disputes|
|4.||Advantages of Confidentiality||Divided Authority|
|5.||Benefit of Unison||Lack of Public Credibility|
|6.||Profit Incentive||Not Investor-Friendly|
|7.||Equal Ownership||Difficult to Change Partnership Pattern|
Partnership form of business organisation is suitable for comparatively small businesses such as retail and wholesale trade, professional services, medium-sized mercantile houses, and small manufacturing units. As a common practice, many organizations are initially started as partnership firms, and later when it is economically viable and financially attractive for the investors, they are converted into a company.
It is not mandatory to register a partnership firm as per the Partnership Act, 1932. However, it is better to register a partnership firm because an unregistered firm cannot avail of any legal benefits provided by the Partnership Act, 1932.
The following documents are required for the registration of a partnership firm (whether registered or not):
- Partnership Deed
- GST Registration
- Open a Bank Account
- Firm PAN Card
- Address Proof of the Firm
A registered partnership firm has the benefit to file a suit in its own name in court against a third party for a breach of contract. Whereas an unregistered firm cannot file a suit against a third party but such a third party can file against the firm.
A Limited Liability Partnership (LLP) combines the advantages of both the Company and Partnership into a single form of business entity. It was introduced in India as an alternative corporate business entity that provides the benefits of limited liability of a company but allows its members the flexibility of organising their internal management based on a mutually-arrived agreement as in the case of a partnership firm.
The partners of an LLP share profit and losses in any ratio as agreed amongst themselves in the LLP agreement. In absence of such agreement, the profit and losses shall be governed as per the Limited Liability Partnership Act, 2008.
The partners of an LLP control, share mutual rights and duties of partners as per the LLP agreement. The agreement can be drafted as per the choice of the partners. In absence of such agreement, the mutual rights and duties shall be governed as per the Limited Liability Partnership Act, 2008.
The LLP is a separate legal entity, liable to the full extent of its assets, with the liability of the partners being limited to their agreed contribution in the LLP which may be of tangible or intangible nature or both. The partners of the LLP are not liable on account of the independent or unauthorized actions of another partner or their misconduct.
Limited Liability Partnership firms are governed by the Limited Liability Partnership Act, 2008. Additionally, the LLP is governed by the LLP agreement signed between all partners.
|1.||Separate Legal Entity||LLP cannot raise funds from Public|
|2.||Relatively Quick Formation||An act of one partner may bind the LLP|
|3.||Flexibility without imposing detailed legal and procedural requirements||Under some cases, liability may extend to personal assets of partners|
|4.||Perpetual existence irrespective of changes in partners||No separation of Management from owners|
|5.||Internationally renowned form of business in comparison to Company||Substantial Level of Financial & Legal Compliance|
|6.||No requirement of minimum capital contribution||–|
|7.||No restrictions as to the maximum number of partners||–|
|8.||Partners are not liable for Act of other partners||–|
|9.||Personal assets of the partners are not exposed except in case of fraud||–|
The Limited Liability Partnership form of business entity is suitable for businesses that are service-oriented and require low investment needs.
The LLP form of the business organisation requires the following documents:
- Digital Signature Certificate for Partners
- Director Identification Number
- PAN Cards of Designated Partners
- Address Proof
- No-Objection Certificate from the landlord of the location of the registered office, for rented premises.
A private limited company is a business entity that is privately held for small to medium businesses. The liability of the members of a Private Limited Company is limited to the number of shares respectively held by them. Shares of Private Limited Company cannot be publicly traded.
Members or shareholders of a Private Limited Company have limited liability. In case of loss, the personal and individual assets of the shareholders are not at risk.
A Private Limited Company does not have any minimum capital requirement.
A Private Limited Company has a separate legal entity, distinct from its owners. It has perpetual succession i.e. even if all the members die, or the company becomes insolvent or bankrupt, the company still exists in the eyes of the law. The life of the company will be perpetual and not affected by the lives of its shareholders or members unless dissolved by way of resolution.
The company is governed by the provisions of the Companies Act, 2013. Depending upon the nature of the business, a company may attract other provisions of laws and have to comply with them.
|1.||Limited Liability||High Level of Financial & Legal Compliance|
|2.||Investor-Friendly||Lack of Confidentiality|
|3.||Separate Legal Entity||High Costs of Formation & Maintenance|
- Number of Directors: A Minimum of 2 and a maximum of 15.
- Number of Shareholders: A Minimum of 2 and a maximum of 200. However, one person can act as both director and shareholder.
- Citizenship: A private company can have a foreign director. However, at least one of the directors must hold Indian Citizenship.
- No Minimum Capital Requirement.
Private Limited Company form of business entity is suitable where:
- the volume of business is quite large
- the area of operation is widespread
- the risk involved is heavy
- there is a need for huge financial resources and manpower
- there is a need for professional management and flexibility of operations
Private Limited Company form of the business entity requires the following documents:
- ID proof: PAN card and passport of Indian and foreign directors, respectively
- Address proof: Ration card or Aadhar card or Driver’s License or Voter ID
- Residence proof: Bank statement or Electricity bill of the premise
- Notarized rental agreement
- NOC from the property owner
- A copy of the sale deed or property deed (for an owned property)
A public limited company is a business entity wherein the ownership is dispensed to the general public shareholders through the free trade of shares on stock exchanges.
Public Limited Companies are owned by large groups of people, each of whom owns anywhere from one share to thousands of shares in the company. The profits of the company are divided among the shareholders and paid to them as dividends as decided by the board of directors of the company.
The shares of a Public Limited Company are free to buy and sell to anyone. Shares can be bought or sold through the stock market. Additionally, shares can be sold to a specific individual or an entity outside the market, irrespective of whether the company is listed or not.
In a Public Limited Company, all the shareholders have limited liability. In case of loss to the company, the liability of the shareholders is limited to the amounts; they have invested in the company.
The company is governed by the provisions of the Companies Act, 2013. Depending upon the nature of the business, a company may attract other provisions of laws to comply.
A Public Limited Company form of business entity is not suitable for all types of business activities. Small scale businesses that cater to the needs of limited sections of the society, need not be incorporated as Public Limited companies. It is best suited for large-scale businesses only.
- Proof of identity of all the shareholders and directors.
- Proof of address of all the directors and the shareholders.
- PAN number of all the shareholders and directors.
- Utility bill of the proposed office i.e. proposed registered office for the company.
- A NOC (No Objection Certificate) from the landlord where the office of the company will be situated.
- Director Identification Number (DIN) of all the directors.
- Digital Signature Certificate (DSC) of the directors.
- Memorandum of Association (MOA).
- Articles of Association (AOA)
The following requirements have to be fulfilled to obtain Public Company Registration:
- Minimum 7 shareholders are required to form a public limited company.
- A minimum of 3 directors is required to form a public limited company.
- A digital signature certificate (DSC) of one of the directors is needed while submitting self-attested copies of identity and address proof.
- Directors of the proposed company require a DIN.
- An application is required to be made for the selection of the name of the company.
- An application comprising the main object clause of the company is to be made. This object clause will define what a company will pursue after its incorporation.
- Submission of the application to ROC along with the required documents like MOA, AOA, duly filled Form DIR – 12, Form INC – 7, and Form INC – 22 is needed.
- Payment of the prescribed registration fees to the ROC is required.
After obtaining approval from the ROC, the company should apply for the ‘certificate of business commencement.
Whether an entrepreneur chooses a partnership, LLP, Private Limited Company, or some other entity, taking time to choose the right business entity is crucial. Once chosen, changing entities can be difficult. And with the right help in choosing a business entity, your business may outlast you.
Choosing the ideal legal entity for your business should be done in consultation with a legal professional. Your Virtual Legal Counsel can guide you to set up the most preferred legal entity for your business. Your Virtual Legal Counsel will work with you as a partner in incorporating and protecting your business. Schedule a meeting with YVLC to discuss the ideal structure for your business to set up in India.