Small businesses often register as proprietorships or partnership firms to evade the cost of company registration and other post-registration legal and tax compliances. However, not registering as a company may cause unforeseen problems for businesses. This blog discusses in detail what kind of problems can potentially arise and what benefits can company registration offer to small businesses.
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Limited Liability Partnership
Small businesses desperately need funding for their growth and expansion, but often fail to deliver profits to their shareholders, fault on loans, and accumulate debts from creditors. Such outcomes are a result of their limited scale of business operations and low turnovers.
An increase in dues increases the liabilities of partners and subscribers. The conditions are worse in cases of proprietorship and partnership firms as the owners and partners are completely responsible to pay all the dues of the business. However, in the case of OPCs and limited companies (public and private), the liabilities of the subscribers are restricted to their stakes in the company, meaning they are only required to pay such amount of dues which corresponds to the percentage of their capital contribution in the company. Therefore, registration as limited companies is recommended for small businesses in India.
Protection against unlimited liability
OPCs and limited companies operate as separate entities from their owners. This saves the owners from being liable to pay the dues of their companies from their bank accounts and enables the business to have a separate bank account for all such payments and activities.
Contrarily, proprietorship and partnership firms do not operate as separate entities and make the owners personally liable for all payments and dues of the business. It is not mandatory for proprietorships and partnership firms to have a separate bank account for carrying out business transactions and payment activities.
Most small businesses in India exist in the unorganized sector. The government has been making consistent efforts to formalize them. It has offered several incentives like lowering tax rates, easy return filing, tax deductions, etc. Added to it, the government has also been nudging start-ups to grow and enhance the ease of doing business with schemes like Start-Up India and Digital India.
Smaller businesses need such assistance from the government in the starting days of their operations. Hence, it is advisable for them to register as a company in order to avail the benefits of these government initiatives.
Convenient for e-commerce businesses
E-commerce has been trending as a mode of business in India in the past few years. The industry is expected to reach over USD 70 billion by value at the end of 2022. Several start-ups and small businesses, which begin activities at a smaller scale for a limited customer base, are gradually shifting their operations online, recognizing and realizing the potential for rapid growth and development.
For such aspiring businesses, a company status is apt as there are hardly any restrictions on capital, investments, number of shareholders, number of shares issued, no of directors and managers appointed, area of operation, etc. Moreover, e-commerce businesses need to collaborate with banks and payment gateways to facilitate online payment on their websites. For this purpose, banks and payment gateways prefer registered entities like companies, over unregistered entities like proprietorship and partnership firms (optional to register).
Credible for investment
A private or public limited company guarantees better returns to investors when compared to proprietorships and partnerships, and is hence, more reliable for investments. Moreover, a registered company can easily get listed in the stock exchange market to raise funds. They can also apply for debt financing from banks and other financial institutions across India.
However, raising funds or applying for credit will be difficult for unregistered proprietorship and partnership firms as they are less reliable to investors and creditors.
Although small businesses usually sell their products locally, e-commerce has enabled them to expand their businesses across India. However, for this, they require efficient shipping and delivery services across states in compliance with rules and guidelines for inter-state travel. Such rules become easier to comply with if the company is legally registered in India. Hence, proprietorships and partnerships, for which registration is not legally mandatory, are not recommended for small businesses looking forward to expanding operations in the near future.
It is also advisable for small businesses to register as a company because a company has multiple shareholders sharing its ownership. It also has a Board of Directors which is empowered to appoint new directors, managers, and board members if a position gets vacant due to resignation or death. This means that a company, once established, will continue to operate, regardless of significant positions getting vacant.
This privilege is not enjoyed byproprietorships and partnership firms. A proprietorship lives and dies with its owner. There is no concept of inheritance. The only way to keep the business alive after the death of the proprietor is to transfer its ownership by selling it. Even in the case of a partnership firm, if a partner dies, the firm gets automatically dissolved.
Registering businesses can be a hefty task for small businesses and start-ups, especially in terms of money. However, no registration can potentially hurt the business in the long run. To avoid such issues, small businesses are strongly recommended to register themselves and eventually operate as an organized/formalized business in India.