THE LEGAL ANGLETypes of business entities and their incorporation - India
India is now in the crux of global industrialization phenomena. The growing opportunities, expanding foreign relations, penetration of the World Wide Web to smaller cities, increasing widespread awareness about learning and increase in the number of “young population” in the country has given India the spotlight as one of the attractive centers for global investments. Off late, the practice of starting one’s own business in India has been given a big thumbs-up as opposed to the situation a decade earlier. Startup India (“Startup India, Stand up India” campaign) is a flagship initiative of the Government of India, intended to build a strong ecosystem for nurturing innovation and Startups in the country. Startup India campaign is based on an action plan aimed at promoting bank financing for start-up ventures to boost entrepreneurship and encourage start ups with jobs creation. It is aimed at driving sustainable economic growth and generating large scale employment opportunities. The Government, through this initiative, further, seeks to empower Startups to grow through innovation and design.
There are various kinds of business structures/entities prevailing in India. Choosing a business structure is one of the most important decisions taken by entrepreneurs. For the success of a business, it is not just necessary to have a great idea and investment. Rather, a successful business also depends on the type of structure they are using (and the business entity so established). In India, the following types of business entities can be established:
- Private Limited Company
- Public Limited Company
- One Person Company
- Unlimited Company
- Limited Liability Partnership (LLP)
- Sole Proprietorship
- Joint Hindu Family Business
- Liaison Office/Representative Office
- Project Office
- Branch Office
- Joint Venture Company
- Subsidiary Company
The Indian promoters and the foreign promoters have the option to form the Private Limited Company, Public Limited Company, Limited Liability Partnership, Unlimited Company, Partnership and Sole Proprietorship. Further, the foreign companies also have the options of forming the following type of business entities: Liaison Office/Representative Office, Project Office, Branch Office, and Joint Venture Company to carry on their business in India.
A Private Limited Company is held by a few individuals privately, having a separate legal entity. This type of entity does not permit the shareholders to trade their shares publically. It restricts its number of shares to fifty. The shareholders cannot sell their shares without the approval of other shareholders. It is a Company which restricts the right of its members to transfer its shares and it does not send invitation to the public for subscription of its shares. To incorporate a Private Limited Company, a minimum of two members are required. However, the maximum number of members can reach up to two hundred [maximum number limited to fifty as per the Companies Act, 1956 (“1956 Act”)]. Further, a Private Limited Company must have a minimum of two Directors and can have a maximum of fifteen Directors. A minimum authorized capital (paid up share capital) of Rs.1,00,000/- (One Lakh) is required for forming a Private Company in India, however, there is no upper limit. The liability of each member or shareholders is limited. It means that if a Company faces loss under any circumstances then its shareholders are liable to sell their own assets for payment. The personal, individual assets of the shareholders are not at risk. Such liability of the members or shareholders can be limited by Shares or by Guarantee.
For a Company limited by shares, the liability of its members is limited by the Memorandum of Association to the nominal amount of his/her share or so much which remains unpaid. The shareholders cannot be held liable or asked to pay more than his/her share capital invested in the Company. In a Private Limited Company, limited by Guarantee, the liability of its members is limited to the amount of liability undertaken by each of the members in the Memorandum of Association. Further, the guarantee of the members in such Companies can be called for only in the case of winding up of the Company. When the Company is a going concern, the guarantee of the members of such Companies cannot be revoked.
A Public Company is defined as a company which is not a Private Company. A minimum of seven members are required to form a Public Limited Company. However, there is no restriction on maximum number of members. It must have minimum paid–up capital of Rs. 5 lakhs. The shares allotted to the members are freely transferable. The minimum number of Directors in such Companies is limited to three, however, the maximum can be up to fifteen. A Public Limited Company can raise funds from general public through open invitations by selling its shares or accepting fixed deposits. These Companies are required to write either ‘public limited’ or ‘limited’ after their names. Further by virtue of proviso to Section 2(71) of the Companies Act, 2013 (“2013 Act” for short), a Company which is a subsidiary of a Company, not being a private Company, shall be deemed to be public Company for the purposes of the said Act even where such subsidiary Company continues to be a private Company in its Articles
A one person company (OPC) is a private organization that has only one shareholder as well as one director. This concept was introduced in India by the Companies Act, 2013 (2013 Act). Section 2(62) of the 2013 Act defines OPC as, “a company which has only one person as a member”. The concept of OPC combines the benefits of registering a Company as private and yet one person can claim all its shares. The owner of the company should be resident citizen of India and should not be a minor. Further, no person is eligible to incorporate more than a One Person Company or become nominee in more than one such company.
Method of Incorporation:-
The procedure of incorporation of Private Limited/Public Limited/ OPC can be explained as under:-
- Obtain Director Identification Number [DIN] for the proposed Director(s): DIN is a unique identification number issued by the Ministry of Corporate Affairs for an existing Director or a person intending to become a Director of a Company. DIN can be obtained by filling in the DIR-3 Application along with the following documents: Identity Proof (Copy of PAN Card), Address Proof (Copy of Passport/Election/Voter ID/ Driving Licence/ Aadhar Card/ Electricity Bill/etc.), Passport size photograph (one, recent), Current Occupation, email address of the Applicant, Contact Number and Educational Qualification. The DIR-3 has to be digitally signed by the Applicant.
- Obtain Digital Signature Certificate [DSC] for the proposed Director(s): DSC is equivalent (electronic format) of physical or paper certificate. Since the Ministry of Corporate Affairs accepts electronic submission of Forms on its website, the DSC is mandatory for all the users. It can be obtained by submitting a completely filled DSC application along with all documents as required for DIS-3.
- Select suitable Company Name, and make an application to the Ministry of Corporate Office for availability of name: After drafting of the main object of the proposed Company, the Applicant is required to file e-form INC-1 (Application for Reservation of Name) with the Registrar of Companies.
- Drafting of Memorandum of Association (MOA) and Articles of Association (AOA): After the selection of suitable name, MOA and AOA have to be drafted. Memorandum and articles of association of the company shall be signed by each subscriber to the memorandum who shall mention his name, address, description and occupation, if any, in the presence of at least one witness who shall attest the signature and shall likewise sign and add his name, address, description and occupation, if any. The witness shall be a practicing professional viz. practicing Company Secretary, Practicing Cost & Management Accountant, or practicing Chartered Accountant. Further, in case of OPC, the subscriber its memorandum shall nominate a person, after obtaining written consent of such person, who shall, in the event of subscriber’s death or his incapacity to contract, become the member of that one person company.
- Sign and file various documents including MOA & AOA with the Registrar of Companies electronically/Filing e-form:The following forms are required to be filed with the Registrar of Companies: Form No. INC-7 (declaration of compliance with the requirements of the Act on application for registration of a company), Form No. INC – 22 (notice of situation of registered office), Form No. DIR – 12 (appointment of directors of the company), and a Power of Attorney to be executed by subscribers and proposed directors (authorization by the promoters of the company to a person/s to carry out appropriate changes as suggested by the Registrar of Companies in any of the incorporation papers that have been filed). Form INC- 2 is the form for incorporation of ‘one person company’ which has to be submitted to the registrar along with the following attachments:- MOA, AOA, Proof of identity of member and nominee, residential proof of the member and the nominee, copy of PAN card of member and nominee, consent of nominee in form INC- 3, affidavit from the subscriber and first director to the memorandum in Form INC-9, list of all the companies (specifying their CIN) having the same registered office address, if any, specimen signature in form INC- 10, entrenched articles of association, proof of registered office address, copies of the utility bills. (not older than 2 months), proof that the company is permitted to use the address as the registered office of the company if the same is owned by any other entity/person, consent from the director, optional attachments.
- Payment of Requisite fee to Ministry of Corporate Affairs and also Stamp Duty: After submission of documents, the applicant is required to submit the requisite fee and stamp duty.
- Verification of documents/forms by ROC: After payment of ROC fee and stamp duties, the ROC verifies/scrutinizes all the documents and may suggest a few changes to be made in the attachments/documents.
- Issuance of certificate of incorporation by ROC: After completion of all the formalities, the subscriber shall receive the final incorporation certificate from the Registrar of Companies. On receipt of such certificate, the business can be commenced.
Section 2(92) of the 2013 Act defines an Unlimited Company as a company not having any limit on the liability of its members. Unlimited Company is a form of business organization under which the liability of all its members is unlimited. The personal assets of the members can be used to settle the debts. It can at any time re-register as a limited company under section 18 of the 2013 Act.
A Limited Liability Partnership (LLP) is a partnership in which some or all partners have limited liability. It is governed by the provisions of the Limited Liability Partnership Act, 2008 (“LLP Act” for short). The LLP is viewed as an alternative corporate business vehicle that provides the benefits of limited liability but allows its members the flexibility of organizing their internal structure as a partnership based on a mutually arrived agreement. Unlike general partnership this kind of partnership does not get terminated by the death or insolvency of the limited partners. In fact, the LLP has a perpetual succession and the LLP can continue its existence irrespective of changes in partners. It is capable of entering into contracts and holding property in its own name. A minimum of two partners are required to form a LLP, however, there is no limit on the maximum number of partners. Since LLP contains elements of both ‘a corporate structure’ as well as ‘a partnership firm structure’, it is called a hybrid between a Company and a partnership. Section 5 of the LLP Act provides that any individual or body corporate may be a partner in a LLP. Further, to form a LLP, there has to be a minimum of two partners. However, the upper limit in membership is not fixed. The LLP Act gives an LLP the utmost freedom to manage its own affairs. The partners can decide the way they want to run and manage the LLP, in the form of an LLP Agreement. The LLP Act does not regulate the LLP to a large extent; instead it allows the partners the liberty to manage it as they wish.
Chapter III of the LLP Act provides for the incorporation of the LLP and matters incidental thereto. A LLP is formed pursuant to a “limited liability partnership agreement” which is a written agreement between the partners of the limited liability partnership or between the limited liability partnership and its partners, which determines the mutual rights, and duties of the partners and their rights and duties in relation to that limited liability partnership.
For an LLP to be incorporated, at least two persons must subscribe their name to a document called an incorporation document, which must then be submitted to the Registrar of companies. There is also a requirement of fling a statement in the prescribed form, made by either an Advocate, or a Company Secretary, or a Chartered Accountant or a Cost Accountant in whole time practice in India or by anyone who subscribed his name to the incorporation document that all the requirements under the Act and the rules made thereunder are complied with in respect of the incorporation, along with the incorporation document. The incorporation document must contain information such as the name of the LLP, its proposed business, address of its registered office, the name, address and photographs of the persons who are to be its partners on incorporation/ designated partners of LLP on incorporation and such other information concerning the proposed limited liability partnership as may be prescribed.
Upon receiving the incorporation document the Registrar will retain and register it. Once the documents have been registered, the Registrar will, within a period of fourteen days, register the incorporation document and issue a certificate that the LLP is incorporated by the name specified in the incorporation document. The certificate issued by the Registrar is evidence that all the requirements have been complied with. The LLP can also be incorporated by logging on to the website of Ministry of Corporate Affairs, developed for LLP services, i.e., www.llp.gov.in and filling up Form-2 [“Incorporation Document and Statement”] and payment of the prescribed registration free as per the slab given in Annexure A of the LLP Rules, 2009, based on the total monetary value of contribution of partners in the proposed LLP. On submission of complete documents the Registrar after satisfying himself about compliance with relevant provisions of the LLP Act will register the LLP, maximum within 14 days of filing of Form-2 and will issue a certificate of incorporation in Form-16.
A partnership is governed by the provisions of the Indian Partnership Act, 1932 (“Partnership Act” for short), which defines partnership under Section 4 as “the relation between persons who have agreed to share the profits of the business carried on by all or any one of them acting for all”. A Partnership arises from a contract, and therefore, such a contract is governed not only by the provisions of the Partnership Act in that regard, but also by the general law of contract in such matters, where the Partnership Act does not specifically make any provision. A minimum of two persons are required to start a partnership business. The maximum number of partners is 10, in the case of a banking business and 20 in any other case.
A partnership is constituted by an agreement between the partners. The agreement may be in writing or oral. But from the practical point of view and particularly in view of the provisions of other Acts such as the Income Tax Act as well as Partnership Act an oral partnership is not practicable, and therefore, a partnership agreement is necessarily required to be in writing. A Partnership Agreement/Partnership Deed must essentially consist of the name and address of the firm as well as the partners, nature of the business to be carried on, date of commencement of business, duration of partnership (whether of a fixed period/project), capital contribution by each partner and profit ratio amongst the partners.
A partnership firm can be registered as per the provisions of Sections 58 and 59 of the Partnership Act, 1932, though it is not compulsory. Every change in the constitution of a partnership is also required to be registered. But if it is not registered, then there are certain handicaps stated in S.69 of the Act. A partnership firm can be registered whether at the time of its formation or even subsequently. This can be done by filing an application with the Registrar of Firms of the area in which the business is located. Application for partnership registration should include the following information: Name of the firm, name of the place where business is carried on, names of any other place where business is carried on, date of partners joining the firm, full name and permanent address of partners and duration of the firm. Every partner needs to verify and sign the application. Once the Registrar of Firms is satisfied that the application procedure has been duly complied with, he shall record an entry of the statement in the Register of Firms and issue a Certificate of Registration.
Sole proprietorship is one type of business where the business owner is the master and slave of their venture. The business owner has the complete creative and financial control over the company and takes sole ownership of the profit and loss as well. This method is best suited for individuals who wish to start a business based on one-man work in a small scale. One of the most important feature of a Sole Proprietorship is the ease of its formation. No agreement is required to be made and registration of the firm is also not essential. However, the owner may be required to obtain a license specific to the line of business from the local administration. The owner of the Sole Proprietorship has a complete control over all the aspects of his business and it is he who takes all the decisions though he may engage the services of a few others to carry out the day-to-day activities.
Starting a sole proprietorship is simple as compared to other form of Companies. Unlike, LLP or other private or public companies, in sole proprietorship, there is no requirement of filing an application before the ROC. Further, there is no requirement of a formal registration of a sole proprietorship. A person is simply required to open a bank account with the name and style and take license for varied services including service tax, VAT, IEC, Shops and Establishment License, PAN, Importer-Exporter Code, ESI, Professional Tax, Central Excise Duty, CST Registration, etc. After, obtaining the requisite license, a person can commence with his/her sole proprietorship firm in India.
Joint Hindu Family is a form of business organization wherein the members of a family can only own and manage the business. It is governed by Hindu Law. Joint Hindu Family cannot be formed or created by any contract or agreement because this organization came into existence by the operation of the “Hindu Law”. It is not formed by any agreement like partnership firm. Whenever, there is Hindu Undivided Family, there is the scope for Joint Hindu Family Business. It is not at all compulsory to register this organization because it is the result of Hindu Law. There are two types of members, i.e, Karta and coparceners. Karta is the elder male member of the family who controls and manages the business. The other family members are called as the coparceners. New members are added into the family by birth or marriage into the family, whereas the number gets reduced by death or marriage out of the family. Earlier, women were not considered as coparceners. However, with the amendments of the Hindu Succession Act, 1956 in the year 2005, women have been included in the definition of coparceners, with a right to inherit in their own names. The head of the family has full responsibility of the management of Joint Hindu Family Business. He is free to take any decision without any interference of any coparceners but he can take advice and help from the family members. The liability of Karta is unlimited because he is the only deciding authority whereas the liability of coparceners is limited up to their share in the capital of the family. Lastly, according to Hindu Succession Act, 1956, all the members of Hindu Undivided Family have equal rights to share the profits as well as losses of the business. In case of Joint Hindu Family firm registration is not at all compulsory; hence it does not enjoy any legal status.
Liaison Office is a kind of representative office which is set up to understand the business and investment environment. It is barred from taking up any commercial/industrial/trading activity and its role is limited to aggregation of information and promotion of exports/imports. It has to maintain itself out of inward remittances received from the parent company.
Foreign companies can set up temporary project offices in India for carrying out activities related to that specific project.
Foreign companies which are into manufacturing and trading activities abroad are permitted to set up branch offices in India for various purposes like rendering of professional and consultancy services, export/import of goods etc. Branch offices are not permitted to carry out manufacturing activities on their own. RBI is the statutory body that grants permission to foreign companies for setting up branch offices in India.
A Joint Venture Company is not a separate type of legal entity; it could be either a Private Limited Company, a Public Limited Company, or an Unlimited Company.
In India the sectors where 100% foreign direct investment is permitted there foreign companies can set up wholly-owned subsidiary. The wholly-owned subsidiary can be either of the following business entities:
- Private Ltd Company
- Public Ltd Company
- Unlimited Company
- Sole Proprietorship