In India, we have basically three types of business structures, namely Sole proprietorship, Partnership firms, and Company (private or public); however, a new hybrid form of partnership firm and Company known as Limited liability (LLP) emerged a few years ago. Each structure has its pros and cons, and it depends upon the individual circumstances of each business owner as to which structure will best suit their business. These include the level of personal liability you are willing to take for business debts, your tax position, the level of administration you want to do, and how you want your business to be perceived.
Ownership and control
The forms of Sole Proprietorship and partnership firms limit the number or type of people who can invest in your business. If you’re seeking a large number of investors or international investors, you may opt for an LLP or a Company.
If you desire to maintain a direct relationship between ownership and management of the business, limited liability partnerships (LLPs) are preferable over limited Companies. However, if the objective is to maintain complete authority, the sole proprietorship form of business is best suited.
Flexibility
Where is your Company headed, and which type of legal structure allows for the growth you envision? Turn to your business plan to review your goals and see which structure best aligns with those objectives. Your entity should support the possibility for growth and change, not hold it back from its potential.
Complexity
When it comes to startup and operational complexity, nothing is simpler than a sole proprietorship. You register your name, start doing business, report the profits, and pay taxes on your income. However, it cannot be easy to procure outside funding. Partnerships, on the other hand, require a signed agreement to define the roles and percentages of profits. Corporations and LLCs have various reporting requirements with state governments and the federal government.
Registration and maintenance costs
The registration cost in most cases is very similar. However, proprietorship firms are easy to form and inexpensive. As registration is a one-time cost, you should focus on the maintenance cost. It mainly includes the cost of compliance. The compliance level in a company is the highest, followed by an LLP. Law provides continuous and event-based compliance. However, you might want to compromise on the cost for the benefits offered by a specific structure.
Liability
When you are looking to minimize your liability, you can generally rule out sole proprietorships and partnership firms right away because there is a lack of liability protection in these two forms. With these two forms, the business is not regarded as a separate legal entity from you, so your assets are part of the business. This means that if the business is sued for whatever reason, your assets are at stake. In a partnership form of business, your assets are at stake for anything that affects your partner’s
reliability
Companies and LLPs are more credible structures. Professional certification and centralised registration offer them higher credibility. Further, the financial and other data are accessible to the public, so third parties can easily rely on such structures. However, a structure like a sole proprietorship has minimal credibility of its own. Instead, it is dependent on the owner’s credibility.
Continuity of existence
Businesses heavily depend on promoters, but this affects their survival. For new companies, it may not be essential. However, it is undoubtedly necessary in the long term, especially for funding. Investment agencies prefer business continuity for a safer investment. Companies and LLPs best offer it. Businesses at the pilot stage can choose an informal structure that is easy to convert later.
Taxation Structure
There is a defined tax structure for each form. Some structures that are separate legal entities are taxed directly, such as a Company and an LLP. A partnership firm is also a different entity for tax purposes. All these forms attract 30% basic tax (except small companies @25%). The income of a Proprietorship firm is taxed in a slab of 5 to 30% post basic exemption limit. You must understand the tax structure of any form to plan the tax liabilities best.
Privacy of documents
Specific business structures require making all documents part of the public record and accessible to all. While documents in the Company are fully accessible to the public, the LLP Agreement remains private. If you wish not to disclose the details of your business, choose the structure of your Company carefully.
Types of business structures
The most common types of business entities are sole proprietorships, partnerships, limited liability companies, corporations, and cooperatives. Learn more about each type of legal structure here.
1. Sole proprietorship:
This is the simplest form of business entity. With a sole proprietorship, one person is responsible for all the Company’s profits and debts.
Proprietorship costs vary, depending on which market your business is part of. Generally, your early expenses will consist of state and federal fees, taxes, equipment needs, office space, banking fees, and any professional services your business decides to contract. Some examples of these businesses are freelance writers, tutors, bookkeepers, cleaning service providers, and babysitters.
Here are some of the advantages of this business structure:
Easy setup. A sole proprietorship is the simplest legal structure to set up. If you’re your business and only you, this might be the best structure for your business. There is very little paperwork since you have no partners or executive boards to answer to.
Low cost – Costs vary depending on which state you live in, but generally, the only fees associated with a proprietorship are license fees and business taxes.
Tax deduction – Since you and your business are a single entity, you may be eligible for certain business tax deductions, such as a health insurance deduction.
Easy exit —or forming a proprietorship is as easy, and so is exiting one. As a single owner, you can dissolve your business at any time with no formal paperwork required. For example, if you start a daycare center and wish to fold the Company, you can refrain from operating the daycare and advertising your services.
2. Partnership
Two or more individuals own this entity. There are two types: a general partnership, where all is shared equally; and a limited partnership, where only one partner has control of the operation while the other person (or persons) contributes to and receives part of the profits. Partnerships carry a dual status as a sole proprietorship or limited liability partnership (LLP), depending on the entity’s funding and liability structure.
The cost of a general partnership varies, but it is more expensive than a sole proprietorship, because you want an attorney to review your partnership agreement. The experience and location of the attorney can affect the price range. A general partnership must be a win-win for both sides for it to be successful.
3. Limited liability company
A limited liability company (LLC) is a hybrid structure that allows owners, partners, or shareholders to limit their liabilities while enjoying the tax and flexibility benefits of a partnership. Under an LLC, members are shielded from personal liability for the business’s debts if it cannot be proven that they acted illegally, unethically, or irresponsibly in carrying out the business’s activities.
4. Corporation
The law regards a corporation as an entity separate from its owners. It has its legal rights, independent of its owners – it can sue, be sued, own and sell property, and sell the rights of ownership in the form of stocks. Corporation filing fees vary by state and fee category.
- Limited liability. Stockholders are not personally liable for claims against your corporation; they are only liable for their investments.
- Continuity. Corporations are not affected by death or the transfer of shares by their owners. Your business continues to operate indefinitely, and it is preferred by investors, creditors, RS, and consumers.
- Capital. Incorporating your business makes it much easier to raise large amounts of capital from multiple investors.
5. Cooperative
A cooperative (co-op) is owned by the same people it serves. Its offerings benefit the Company’s members, also called user-owners, who vote on the organization’s mission and direction and share profits. Advantages that cooperatives offer include:
- Lower taxes. Like an LLC, a cooperative doesn’t tax its members on their income.
- Increased funding. Cooperatives may be eligible for federal grants that help them get started.
- Discounts and better service. Cooperatives can leverage their business size to obtain discounts on products and services for their members.
