India: Start-Up Style – What Legal Format Fits You Best?

Last Updated: 12 December 2017
Article by Asit Mehta & Associates

Everything about a new business is exciting – except the paperwork.

There are no two ways about it – no one enjoys the documentation involved in starting their own business. From shareholders' DSC and DINs to business PAN, TAN, GST, IEC, PTR, the list of abbreviations is long and tiresome. Yet as all entrepreneurs know, these are the essentials and without compliance there is no business.

Over the years we have seen start-ups come to us earlier and earlier in the process, to discuss their options. One reason is the wide availability of information on the internet, the other is that entrepreneurs have become savvier and know the dangers of missing a step in the start-up documents and compliance process.

The very first question we ask entrepreneurs to consider is what sort of entity do they want? The answer is not always a private limited company.

Sole proprietorship

This is as simple a concept as possible – you and the firm are a single entity for all practical purposes. You may brand it what you like, but to your vendors or employees or even the tax office, there is no distinction. Just as the lone entrepreneur is going out of style, so is the sole proprietorship.

Partnership firm

This is an option when you have at least 2 business partners and it allows you to have up to 100 partners (if you're feeling adventurous). The compliance requirements are low and while the firm is a distinct entity from the partners, each partner's liability is unlimited. Naturally this is not an attractive proposition, but for a long time this was the only option available to small businesses that wanted a low compliance burden.

Limited liability partnership (LLP)

Recently introduced in India, a LLP is a partnership but with limited liability and certain differences in regulation. While a partnership reports to the Registrar of Firms, the LLP reports to the Registrar of Companies. The compliance burden is relatively higher than that of a partnership firm but lower than that of a private limited company.

Private limited company

A private limited company is the best understood structure because it has limited liability and equity rather than partnership interests. It however brings the largest compliance burden (short of a listed company) in terms of effort and cost, with a certain number of minimum filings to be done each year with the Registrar of Companies (accounts, annual general meetings, Board meetings, auditor appointment, etc.) Often start-ups structure themselves as private limited companies early on and realise that even the bare minimum compliance costs are eating into the early years' profits.

A new option: One Person Company

Another recently introduced concept is a One Person Company (OPC). This is a private limited company (with equity and limited liability) with a single shareholder (a private limited company requires two shareholders at least). While there are certain restrictions on the OPC, this is nevertheless a good option for sole entrepreneurs looking to create a larger entity than a proprietorship.

In summary

These are the options – but there are also subjective factors at play which could change a decision for good reason. For example, what are your long-term plans for the business? How many people are involved in the business and how do you see their contribution shaping up in the future? Is there a promise of sweat equity or ESOPs? Will your customers perceive a certain structure negatively? If, 3 years from incorporation, you want to transition to a different structure, how easy or difficult will it be? Answering these questions (and many more) for start-ups forms a part of our work at AMA. We believe in taking the compliance burden off start-ups so that they can focus on what's important – business.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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