As a business owner, you must be aware of your private limited company’s financial features. Authorized capital is one crucial component that greatly affects the company’s operations and growth. In this blog post, we will discuss Authorized capital, its legal basis, and how it could affect your private limited business.
What is Authorized Capital?
Authorized capital—also called recognized capital or formal capital—is the largest share of capital a company is legally allowed to issue. It shows the whole worth of the shares the business is able to offer to owners or buyers. The company may issue shares up to the allowed capital; this capital is split into particular par value shares.
It’s important to note that approved capital varies from paid-up capital, which is the actual amount of capital that owners have given to the company by buying shares.
Legal Framework
The Companies Act controls the legal framework for accepted funds in India. The Act requires that every company have a minimum approved capital based on its kind of business. The minimum allowed capital for private limited companies is ₹1 lakh.
The Companies Act also outlines the factors for either growing or dropping allowed capital. Any changes to the approved capital have to be agreed upon by the business owners and reported to the Registrar of Companies.
Determining Authorized Capital
When finding the proper amount of approved capital for your private limited company, several things should be considered:
- Business plan and growth projections: Assess your company’s future fund needs based on your business plan and growth predictions.
- Field standards: Research the approved capital amounts of companies in your field to ensure that your company’s capital is competitive.
- Flexibility for future funding: Set the approved capital high enough to support future fundraising needs, such as offering new shares or raising loans.
- Legal requirements: Ensure that your approved cash meets the minimum legal requirements set by the Companies Act.
Implications of Authorized Capital
The amount of approved cash has several effects on your private limited company:
- Company operations: Authorized capital sets the limit for the company’s operations, as it cannot issue shares beyond this limit without raising its authorized capital.
- Fundraising: The amount of approved capital can impact the company’s ability to raise funds through the issue of new shares.
- Shareholder rights: The number of shares owned by each shareholder is determined by the company’s approved capital, which affects their vote rights and reward obligations.
- Taxation: The amount of approved capital can impact the company’s tax obligations, as it is considered an asset for tax reasons.
Changes to Authorized Capital
If your private limited company needs to change its approved capital, either by increasing or lowering it, specific legal requirements must be met. This process usually involves:
- Changing the approved capital requires the company to get permission from its owners.
- The business must provide the necessary paperwork to the Registrar of Companies, including an updated Memorandum of Association and a copy of the owners’ decision.
- The firm must pay the suggested fees to the Registrar of Companies so that the change in accepted capital can be handled.
Salient Features of an Authorized Capital
The following is a quick discussion of some of the characteristics of an authorized share capital that can be recognized and set it apart from other share capitals:
· Provide trust and reliability – Companies frequently list themselves on the stock market to gain the public’s trust so they can raise money by selling shares. It is the most dependable and trustworthy method of obtaining outside funding for the business.
· It remains with the company – The share capital stays with the company up until liquidation, where it can be put to better use.
· Shareholders get rights – One also acquires the authority to choose the company’s management when they purchase shares from a certain corporation.
· Dividend payout – The most advantageous aspect of shares is that they provide investors with a portion of the company’s earnings in the form of dividends. The shareholder’s investment determines the dividend amount.
Different Types of Capitals
The following provides a quick discussion of the various capitals (apart from an authorized capital):
· Issued Capital
The number of shares given to shareholders is known as the “issued capital,” and it has a straightforward restriction: the issued capital cannot exceed the authorized capital.
· Subscribed Capital
The sum that the public has subscribed for when a company issues capital is referred to as “subscribed capital.” So if you try to understand with an example, it will be like if a company issues 1000 shares at each ₹10 face value and the subscribed share is only 500, then the total subscribed capital will be 500*10 equals to ₹5000.
· Called up Capital
It is called up capital when a shareholder owns a certain percentage of a company’s share capital but only pays the portion that has been called up by the business.
· Paid-up Capital
It is the price a shareholder pays to purchase a share of a specific business.
· Uncalled Capital
The balance of the total capital that has not been called by the business to pay the shareholders is known as “uncalled capital.”
· Reserve Capital
It is the amount of capital a business has on hand while it hasn’t yet been liquidated.
Advantages
A few advantages are briefly discussed below.
- No burden of monthly payments – Capital companies can raise money anytime they need to with the use of shares without worrying about interest or additional costs. However, they must make instalment payments for loans. The extra earnings can then be paid out as dividends to shareholders if that is what they choose to do.
- They get more freedom to use their capital – Companies that raise capital through stock have complete discretion over how to use the money. Even promoters can occasionally leave the company by raising shares. Nonetheless, the majority of businesses use these funds for expansion and future endeavours.
- Fundraising has no set rules – A corporation is free to decide when and how many shares it wants to issue, as well as how much money it wants to raise. Only the portion of the available funds that the company actually needs can be drawn.
- Lower risk – Compared to borrowing money, raising money with shares carries an extremely low risk. A shareholder cannot force a bank into bankruptcy, unlike banks. However, in the case of loans, the business may declare bankruptcy if it is unable to pay back its debts.
Disadvantages
However, every policy has both benefits and drawbacks, some of which are as follows:
- Ownership reduces – The fact that they lost a piece of ownership is one of the key reasons why many businesses do not want to issue share capital. This is due to the fact that each share has some value to the company; if one person owns a majority of the shares, they may even be able to depose the owner from office.
- Shareholders expect higher returns – Since the rate of return is not fixed, shareholders constantly want a higher rate of return from the business. Also, as shares are a risky investment, investors strive to get as much as possible.
- It is not cost-efficient – It is challenging to raise money by selling stock shares. There are several steps and expenses involved. Sometimes, businesses need to wait months before getting the go-ahead to start their initial public offering (IPO).
- There is no tax exemption – After deducting taxes, the corporation pays dividends to shareholders. Nonetheless, businesses that have paid their loan installments can receive a small tax exception in the case of loans.
Authorized capital differs from paid-up capital.
Authorized capital and paid-up capital are two of the most significant share capital among the several share capital categories.
| Authorized Capital | Paid-up Capital |
| Authorized capital is the maximum number of shares that a corporation may issue to its shareholders. | Paid-up capital is the whole cost of the shares that were issued to the general public. |
| A firm can increase its authorized capital by getting the board’s permission. | Authorized capital includes paid-up capital. It can, therefore, only be raised if the authorized capital is raised. |
| When determining a company’s net worth, the authorized capital is not taken into account. | The paid-up capital is taken into account when determining a company’s net worth. |
| Never can the authorized capital exceed the paid-up capital. | A business may raise as much paid-up capital as is authorized. |
Calculation of Authorized Capital
Share Capital Formula
There are numerous formulas you can take into consideration to determine the share capital formula. Remember that the par value is the lowest cost a shareholder must pay to acquire one share of the corporation. Moreover, paid-in capital is excess over par value. You get more paid-in capital when you subtract the issue price from par value.
- Formula 1: Share capital is calculated by multiplying the number of outstanding shares by the issue price per share.
- Formula 2: Share capital is calculated by multiplying the number of shares by the stock’s par value plus the paid-in capital over par value.
Let’s say, for illustration purposes, that a business issues 100,000 shares at $10 each. The par value of each share is $1. Because you multiply 100,000 shares by $10, the total capital is $1 million. Because you multiply $1 by 100,000 shares, the total par value is $100,000. The difference between $10 and $1 is the increased paid-in capital per share, which is $9. The new paid-in capital is $9 multiplied by 100,000 shares, or $900,000.
Imagine a firm, however, that has a $1 million authorized share capital divided into a million common shares with a $1 par value. Yet, only 100,000 of the company’s shares are actually issued, leaving 900,000 in the company’s treasury that can be issued in the future. When you consider the business phases, it makes sense, even though the corporation is giving up $900,000 in cash.
Minimum and Maximum Authorized Capital for a Private Limited Company
Simply put, a private limited company’s minimum or maximum authorized capital under the 2013 Companies Act is Rs. 20 lakhs, and they can issue shares without requesting an increase in authorized share capital. The private corporation may have up to 50 lakhs in the capital.
Before, the Companies Act of 2013 required a private limited company to be incorporated with at least INR 100,000 in the capital. The 2015 amending act, however, eliminated the clause.
A Private Limited Company’s Paid-up Capital
On the other hand, paid-up capital refers to the actual sum of money that the business acquires through the issuance of shares to shareholders. As the corporation cannot issue shares over the allowed capital, the paid-up capital is always less than the authorized capital. The paid-up capital thus acquired is frequently used to control the company’s expenses.
When it came to a private limited company’s minimum paid-up capital, there used to be a requirement that it have a capital of $100,000. This would mean that the shareholders should spend at least $100,000 to buy the shares in order to start the firm. The Companies Amendment Act, of 2015, however, eliminated this requirement, making it possible for business owners to incorporate private limited companies without any obstacles.
Prior to the amendment, it was mandatory to deposit the stipulated ₹100,000 in the company’s bank account. Now that the provision is repealed, it’s merely enough to state the paid capital on the papers.
As a result of this provision, many businesses have begun to favour private limited corporations over other corporate forms like limited liability partnership (LLP) enterprises because acquiring financing in the latter is extremely difficult. Due to its limited liability, favourable tax treatment, and high level of client credibility, a private limited company has traditionally been preferred. The mandate to eliminate the minimum capital requirement has undoubtedly broadened the scope of private limited companies and given them a little advantage over other corporate organizations.
Process of Altering Authorized Capital
The company’s board of directors must approve any adjustments to the authorized capital. To call a meeting, you must notify every board member in writing. The meeting must be announced seven days in advance, and the notification must include the agenda’s specifics.
How to Alter the Authorized Share Capital of a Company?
1. Verify Articles of Association of the Company
Before starting the processes for doing so, it is crucial to review the Articles of Association (AOA) to make sure that there is a clause linked to the increase of the authorized share capital in the Articles of Association. If there is no such provision, the company must first modify its AOA.
Note: The majority of AOAs have language allowing for an increase in the company’s authorized share capital.
2. Convene a Board Meeting
A board meeting must be convened, and notice to the director must be given, in order to increase the company’s authorized share capital. The Board of Directors shall, at the meeting, give its approval to the increase in the authorized share capital.
After going through the entire process, a date should be set for an extraordinary general meeting to be held in order to get shareholder approval for raising the authorized share capital and amending the company’s memorandum of association.
Once the Board of Directors has given its blessing, the company secretary can finally notify the shareholders of the next extraordinary general meeting. The notice of the extraordinary general meeting should be distributed to all of the company’s shareholders, directors, and auditors based on approval.
3. Extraordinary General Meeting
Hold the extraordinary general meeting and get the approval of the shareholders to increase the authorized share capital at the time, place, and on date mentioned in the notification.
An ordinary resolution must be passed by the shareholders in order for the permitted capital to be increased.
4. File Form SH7
Following the passage of the ordinary resolution at the extraordinary general meeting, the corporation has 30 days to file Form SH7. The required paperwork is mentioned below. The required government fee for the allowed capital must also be included.
- The notice for the special general meeting
- An authorized true copy of the ordinary resolution
- The changed memorandum of association (which depicts the higher authorized capital)
The registrar would approve the filing and enhance the authorized share capital of the business if the procedure outlined in the Companies Act and the Companies Regulations were followed. The MCA portal will show the updated authorized share capital.
5. Distribution of Shares
The paid-up share capital of the firm may also be increased by issuing additional equity shares after the permitted share capital has been raised.
Conclusion
Understanding Authorized capital is essential for the smooth running and growth of your private limited business. By setting the proper amount of authorized capital and sticking to legal requirements, you can ensure that your company has the freedom to adapt to changing market conditions and chase new possibilities. However, it’s always wise to seek professional help from financial advisors or law experts to ensure that your company’s approved cash fits with its unique wants and goals.
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