Since India is a land of diversity that constitutes a mixed economy, many types of business entities can be established across the country, such as private limited and public limited companies, sole proprietorships, limited liability partnership companies. In India, for the sake of clarity for the novice businessmen and to reduce the complexity of the various types of business entities, we have the following six types of legal business entities, which both Indian and foreign companies may form:
- Sole Proprietorship
- Partnership
- Limited Liability Partnership
- Private Limited Company
- Public Limited company
- One Person Company
1. Sole Proprietorship
This is the easiest and oldest form of business entity that can be set up in India. Under this scheme, a single person is an owner and the sole worker of the entire undertaking, which is generally small in size. He is the sole bearer of all profits and losses incurred during the course of business.
Such a company is not distinct from that of its owner and is not a separate legal entity. The identity of the owner is synonymous with that of the owner’s business and the personal assets of the owner are not separate from the assets of the business. In fact, no separate PAN (Permanent Account Number) must be created for a business entity such as the owner’s PAN. In this situation, therefore, ownership is not transferable.
These business entities are free of formalities and do not require any complex rules for their functioning. Special registrations under the provisions of the Government may therefore be made on the basis of need and not a necessity. There are a large number of examples of sole proprietors in India, ranging from a modest fruit vendor to an average shop owner.
Sole proprietorship has various benefits, such as ease of establishing a company, confidentiality of companies, swift decision-making and versatility of operations. But the issue with this form of company is that it can not expand beyond a certain extent due to the limited resources and capital attached to the establishment.
2. Partnership
The partnership is a type of business entity in which 2 or more people join hands and come together to conduct lawful business. However, the number of members should not exceed 10 in the case of banking business’ and 20 in the case of ‘other business.’
Partnership firms do not have separate legal existence from their owners. Every partner has an equal say in business decisions and all gains and losses that arise in the normal course of business are fairly distributed among all partners. But no partner can sell his share to others without the permission of the other partner.
The biggest advantage of the partnership is that you have access to a larger pool of capital, goods and services, ideas, skills and opportunities that further expand the business environment.
In accordance with the Indian Contract Act, 1872, the responsibility of each partner is joint which means that each partner is liable to be compensated for any default or debt on the part of anyone partner. While this clause is of considerable benefit to consumers, it is a cause of great annoyance for business partners as their liability under such model is unlimited. Such a corporation ceases to exist, with the death or insolvency of either of its members.
3. Limited Liability Partnership
The Limited Liability Partnership (LLP) is the most preferred type of business entities. It is regulated by the provisions of the Limited Liability Act, 2008. The Limited Liability Partnership is a separate legal entity from its members and requires a separate Permanent Account Number (PAN). A Limited Liability Partnership must have at least 2 partners and at least 2 individuals as Designated partners, out of which at least one is resident in India. There is a duty to monitor the annual accounts to be audited on a regular basis.
In LLP, the personal assets of the members are not affected, especially in cases of bankruptcy, as the maximum liability of the members is determined by their share of capital or investment in the business. The LLP setup allows its members to retain flexible ownership, but the liability of each partner is limited, which means that no partner is responsible for the default of other partners.
Due to its structural and organizational versatility, it is valuable for small and medium-sized enterprises in general and for service-sector enterprises in particular.
4. Private Limited Company
Private Limited Company is the most preferred and common model among foreign investors in India, as it is also one of India’s most sophisticated business entities. Such organizations need to maintain a record of all transactions and accounts. Company assets vary from personal assets.
For such a corporation, there must be a minimum of 2 and a maximum of 50 members, whereby the shareholders have the privilege of exchanging and transferring their shares to others, thus making them new shareholders. Shareholders’ liability is limited to the extent of their share of the assets.
Private Limited Companies can be of three types:
- Company limited by shares: the liability of the members is limited by the amount of shares held by the members.
- Company limited by guarantee: the responsibility of the members is limited to the amount agreed to be added to the assets of the company.
- Unlimited Company: no limitation on the liability of the members.
It is an expensive process of incorporation and it takes a lot of time to set up, via a lengthy legal procedure.
5. Public Limited Company
The Indian Companies Act, 1956, lays down rules for the creation of a public limited company which is a voluntary association of members with limited liability and is a separate legal entity. Its existence is not affected by the death or bankruptcy of any of its shareholders. Such companies must have at least 7 members, but there is no upper limit to the number of members.
This entity has many benefits, such as continuity of the life of the company, no limitation on the sale of shares, a larger amount of capital, stability, the flexibility of management and limited liability.
Nonetheless, public limited companies have many disadvantages, including the scope for frauds, undemocratic control of the Board of Directors, which has the power to make decisions, because the shareholders do not have the right to participate in the day-to-day operations of the company, thereby creating room for directors to make personal profits.
Some examples of such companies are State Bank of India, Steel Authority of India Ltd. and Coal India Ltd. Etc.
6. One Person Company
Section 2(62) of the Companies Act defines a One Person Company (OPC) as a company which has only one person as its member. In addition, the members of a company are no more than subscribers to its memorandum of association or its shareholders. Therefore, the OPC is essentially a corporation that has only one shareholder as its leader.
The concept of a single-person company has been introduced by the Company Act, 2013, which allows the sole owner of a business to enter into a corporate framework. This allows a single investor to form a limited liability company on its own. The structure of a one-person company is similar to that of a business without the ills generally faced by the proprietors. One of the most important features of a one-person company is that the risks mitigated are limited to the extent of the value of shares held by that person in the company.
This article has been written by Rishab Bhalla, 3rd Year, BALLB student at JEMTEC School of Law, Affiliated to GGSIP University.
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