The Basics:
The basic question every startup or entrepreneur faces is that which business structure or setup to go for?. Then he starts searching for the same on internet , tries to discuss with friends and family , consults some local consultant & unfortunately, everybody gives a different answer, some would say its so simple proprietorship is for single person , partnership for 2 or more partners and private limited if you want limited liability of owners , some will say see if you want funds you should only go for private limited and not other forms , well in such case everyone gives answer which they perceive as right. However this makes the confusion more strong. Hence we are here to start from clearing the basics and knowing the answer practically right not theoretically.
If asked to me I would say their is no particular universal answer to the same , “It Depends” & deciding the same from start is very important to make the business more successful and profitable. One would say why does deciding such a small thing will be important to make business profitable? it’s just a small decision. However NO , no matter how small it seems its the first thing of your business and getting it right will make things much easier and simple. How? Let’s dive into the same and answer it.
The Theoretical Difference
If you search anywhere online you would get millions of post telling you the basic difference on paper of all above entities. Most of them are correct too and its gives you a good understanding of the major differences. To get you a good understanding of the same , I have also highlighted it below
The table shows a clear understanding and comparison of the various business structures in India.
| Particulars | Private Limited Company | Partnership Firm | Proprietorship |
|---|---|---|---|
| No of owners | 2-200 shareholders | 2-20 | 1 |
| Initial Capital Investment Required | Minimum One Lakh Rupees | No minimum capital as per law | No minimum capital as per law |
| Legal Status | Separate Legal Status | Separate Legal Status | No separate Legal Status |
| Liability | Liability is limited upto unpaid shares value | Unlimited Liability. Personal assets can be used to pay off debts | Unlimited Liability. Personal assets can be used to pay off debts |
| Perpetual Existence | Has a lifetime existence unless liquidated | Has a lifetime existence unless dissolved or only one partner remains | No perpetual existence ends with owners death. |
| Compliance to be done of | 1.Income Tax 2.GST 3.MCA 4.Labour Laws | 1.Income Tax 2.GST 3.MCA 4.Labour Laws | 1.Income Tax 2.GST 3.Labour Laws |
| Compliance Cost | High | Medium | Minimum |
| Who should opt | People needing funding | Closely owned family business , When people of utmost trust come together | Single person starting from own funds. |
The given table will give you a good theoretical difference of Private Limited Company vs Partnership Firm vs Proprietorship . At least now you know the basics of what each entity’s features are and what benefits each one has. Now lets check the practical aspect of the same
Also Read : Business Models , Financing your business
You can also read this good blog which we came across : Difference in entities
The Practical Difference
This is the main core of this article and also very important practical information which will allow you to take a better decision while choosing. Lets understand them in, to the point bullet points:
- Reality of Limited Liability :
Most of the theory will force you to think that once you opt for a private limited company you will be able to safeguard your personal assets, and run business tension free without worrying about debts as corporate veil will always help you if the company becomes bankrupt, or runs in losses. One need not technically worry to pay of the losses or debts, if its not possible from company assets, however I suggest you to STOP & RETHINK after reading this article about corporate veil . Is it really possible such ways? The answer is NO. MCA and Companies Act 2013 has evolved drastically in India , especially after Kingfisher Case and Gitanjali Group case they have made laws stricter and stringent for directors. A welcome act though , due to these changes directors can now no where run away from the losses and unnecessary expenses they make & fake debits they pass to profit and loss of companies at the stake of investors or share holders money. Now it is made compulsory to attach passports while registering a Director Identification Number so that no one can flea country with all the unscrupulous profits , also point to be noted is all banks take a declaration or make directors as guarantor for loans taken by their companies, so that whenever any company stops paying loans, directors personal assets can be charged. Now come to second point Creditors. Creditors are basically vendors who supply goods or services and company owes money to them for the same. In case of companies a policy for payment of bills or billing cycles are fixed and after that payments are released . Many times however companies dominate small vendors and don’t release their payments on time , in such case many creditors lodge complaints , blacklist companies and managers of those companies who delay payments. Now rethink if payments are delayed businesses blacklist you , what will happen if you become a bad debt for them. If the amount involved is huge vendors or people will literally torture you , for the same. Even if one private limited company does not work and runs on losses it would take more than a lifetime to fix your image in business market and start a new company. So unless you are a huge company and renowned director its for sure that your personal assets , image and respect are not safe even if their is corporate veil.Gone are the days when political connections and power helped you , now in the modern connected world everything is so interconnected and as news spreads like fire ,that middle class first time businessman cannot run away with his companies decisions and losses. Hence corporate veil or separate legal entity sounds good but practically is it workable or possible is a BIG QUESTION.
- Private Limited Company structure is required for funding :
Startups establishment has taken pace in recent years.
“Every person wants to start a startup but not become a entrepreneur”
If you check the definition of entrepreneur on google it says “a person who sets up a business or businesses, taking on financial risks in the hope of profit “. The main thing is that taking financial risks , but what people see is hope of profit , no one wants to start a business with their own funds everyone wants to just sell the idea show the volumes and take funding to startup. Anyways we will talk about various important aspects to attract funding in other article (if you want me to write on the same please comment below), but attracting funding is a different task and objective. Main aim of a first time businessman must be to establish a reputed brand and quickly try to achieve operational profits. The same is achievable by starting operations and achieve first few profitable sales. Understand that funding is attracted by good profits and business plan and how well you know the business and market, have you run your business at least for few years with vigour and are coming for funding as you are really short of cash , or you are just coming to do investor hopping or you yourself don’t believe if the business will become profitable. Serial investors , Venture Capitalists , are way much intelligent and knowledgable , what matters to them is volumes and profitable duplicatable sales. Founder or business person should aim to make a minimum viable product by establishing proprietorship or partnership right away and start to make sales first with his available cash. Remember we are talking about first time business persons or SME startups and not serial businessman. SME or any first time business must aim to establish and make his product or service viable in market first . Running into unnecessary compliances at initial years of private limited structure does not make sense. Focussing on your business makes sense. Afterwards you can easily shift these business to a private limited company or what structure you want its just a formality. Hence remember funding comes by a good business with minimum viable product and not from mere its structure.
- Compliance Cost:
Compliance cost between Private Limited Company vs Partnership Firm vs Proprietorship are often forgotten by the first time businessman. A private limited company as told in theoretical point has maximum number of compliances with maximum departments to comply with. A new business which knows its idea and wants to focus on running the business itself are not able to do the same without professional help and cost, and believe me even if you take professional help giving them data , following up them , checking if everything is complete becomes difficult , I know this from experience. A professional CA , CS , Lawyer (all three are needed in case of private limited company to comply taxes , corporate affairs and labour laws ) are persons who can comply for you , but giving them data on time and coordinating is also very important which requires time and energy both. Hence simplest form partnership (which don’t require many formal registrations also) or proprietorship are win win for few initial years. Focussing on business will help and save your time and energy itself. Now lets come to professional fees aspect , obviously private ltd. requires extra cost as statutory audit and MCA reporting are compulsory , it would cost you around 25000Rs more than other forms if you file with a good reliable professional. You can get tax consultants and freelancers who will file in less but they are huge risk as they might wrongly comply or when notices appear are not reachable too. Few bucks more for compliance sounds good but in initial years it is very painful to pay.
- Other Misc. Differences:
Conclusion:
I hope that after reading above you must have known the various glitches of opting for more complicated forms of entities , and also advantages to opt for them. Of course , what I had tried to convey is a conservative way to start and run business but I think its the need of the hour and it helps you start the business itself in minimum cost and in quickest way. However in my view while establishing a business a person should concentrate more on making a minimum viable product of his business idea , employ his funds or funds collected from friends and family , run the business for some initial years and if required should go for external funding. Keeping things simple will always help you in achieving reasonable organic business growth and sizeable profits.
If you have any questions or want to discuss you can comment below.
