When it comes to people thinking of building their start-up, a business idea is just a first step that follows a much more significant step to cross – How do you bring that idea in the market? And to make your idea a reality, what you need more than anything, is to structure a company that lets your idea to successfully step into the market.
It’s noteworthy, that once setting their foot in the market, barely 5% of the start-ups survive what they stand for. This tells that simply having a great idea and vision for a business is not enough. It’s equally (if not more) crucial to actually set up a right company structure – and this is the part that most people casually overlook. Starting your own company is always a hassle, especially with all the legal mumbo-jumbo & no single solution. And even once you’ve started, new issues just keep popping up.
So for this month’s Start-up Saturday, Headstart Community, Indore chapter, hosted a seminar on ‘How to create a Company’ and invited a renowned Chartered Accountant, mentor-cum-advisor to many Start-up ventures, CA Navin Khandelwal, who provided with some of these Thumb-rule understanding of the legalities concerning a perfect company structure for your business.
Which Company structure to Prefer?
Deciding upon a structure of the company is necessary when you plan your start-up. But as is mostly the case, the initial business plan is discussed over a cafe table among your friends, with the ‘terms and conditions’ written over a tissue paper. But those might not always suffice to create your own company. There are primarily five structures to opt from:
- Private Limited Company (Pvt. Ltd.)
- Limited Liability Partnership (LLP)
- One Person Company (OPC)
The legal jargon surrounding each of these forms can leave your entrepreneurial minds in an added confusion. So, pinning at the thumb-rules, these forms can be short-listed with what you aim for the company.
PROPRIETORSHIP AND PARTNERSHIP
The Proprietorship and Partnership work on an essential trust and goodwill among its founding members. While Proprietorship deals with a one-person ownership, while partnership works on a multiple-ownership basis. Mainly, this is the point till when those ‘tissue paper promises’ hold any value. These structures don’t require any registrations. But, while the pros can seem convenient, the cons aren’t as easy. For starters, liabilities against the companies deem the owners personally liable. This structure often meets less of growth, than Pvt. Ltd. And LLPs.
So, as long as your business plans to a small-scale growth in mind, ‘keeping it close’ and keeping it safe, or if your idea is still under test before you feel to go full throttle with your plan, you can prefer these structures.
PRIVATE LIMITED STRUCTURE (PVT. LTD.)
When it comes to a notably large company structure, Pvt. Ltd. is a go-to for startups. But why would companies prefer Pvt. Ltd. structure over other structures? Why should you (or, should you not) prefer this structure? While in partnerships, the owners ARE the company, here the owners only make up a part of the company. The business and the founders are separate entities.
- Funding for the company:
Any start-up requires a financial backing that is attained through funding. Now, this needs to be stated that it’s very difficult to raise funds from the banks, AKA Debt Funds. So the next best option aside from asking your friends and family for money, (which you’ve probably already done by now), you look for investors to financially aid in your business plan as Equity Funds – where your investors can provide the financial spine to your company in return for equity shares of the company.
Pvt. Ltd.s allow the owners to share the company equities with potential investors, making it a preference over other structures.
- Brand-Oriented business:
In case of creating a Brand value in the market, it’s important to make certain who your target audience is. While catering a B2C service, a brand-based setup is more suited to grow. And while aiming for a brand-based business, it’s profitable to switch for a Pvt. Ltd. Setup.
Although on an advisory note, instead of structuring your brand beforehand, it would be best to test the market waters for your product or service over a partnership form. Once you find yourself comfortable with the response and reception, then it’s best to switch to the Pvt. Ltd. Structure.
- Employee Stock Ownership Programme (ESOP)
Starting a company doesn’t simply require partners and board members. It also requires employees to run the company smoothly. But when in initial stages, how do you employ people, when you are barely making enough money? Well, hoping that your answer isn’t “hiring interns and over-exploit them against ‘exposure’” (don’t get any ideas), one way of keeping your employees motivated for the company, is to provide them with company stocks deemed to mature in due time.
Pvt. Ltd. structure enables you to exercise stock ownership policies, where your employees can grow along with the company.
- Tax Benefits:
In case you are aiming to get tax benefits, it’s always better to opt for Pvt. Ltd. or LLP structure – especially if you register for GST. It’s optional for companies to pick GST registration on the initial stages, but it’s compulsory once your turn-over reaches 20 Lacs limit. The benefits of GST registration is that your business receives a tax waiver on most commodities that are raw materials for your company – ‘Input Taxes Credit’.
So, if you are a B2B company, registering for GST is a good idea, especially if you require raw material input.
- Selling the business off
Everyone works hard for their businesses, but just as the stats suggest, 90% of them fail to thrive in the market – and the ones that do survive, do it in a cut-throat competitive environment. No one likes to see their business go, but sometimes, owners are left with no other choice.
I’m not saying that it’s a conscious choice to make, but in case of transferring the ownership of your company, it’s easier done with a company with a Pvt. Ltd. structure.
Going through all those perks, picking a Pvt. Ltd. structure definitely sounds like a safe bet. But, it does come with its disadvantages. So what are the pointers that put this structure below Proprietorship and partnership? Let’s give it a closer look.
- Shutting a business down
Starting with the worst idea – What if the company doesn’t work and I wish to quit? Being unregistered, partnerships can easily be dissolved; proprietorship can easily be disowned. You can wake up the next day, and have no business to worry about. But that’s not the case with a Pvt. Ltd. company.
Been registered under Ministry of Corporate Affairs, your company cannot be closed unless a proper procedure is pursued.
- Compliance Issues
While going for a Pvt. Ltd. structure, your company is undertaken by certain regulatory bodies of the govt. This implies that there are rules and regulations that apply to your company, and that your company should abide by them. The rules include proper tax payments, compliance costs and other legal requirements.
Since yours is a government registered company now, it’s your responsibility, as the owner, to be wary of the regulations that you fall under, and abide by them. ‘Not knowing’ cannot be used as an excuse against compliance issues.
- Terms of Understanding among Co-Founders:
Remember that tissue-paper agreement you four friends earlier agreed upon? Pvt. Ltd. terms do not associate those co-owners’ division of ownership with respect to their contribution in the company. It’s important for the partners to properly decree a Co-Founder Agreement, setting all the terms and conditions stating the input assets for each partner, and avoid any loopholes.
So in case a founder decides to leave the company, it requires an intricate set of words and legal documents to make sure that it doesn’t leave your company empty-handed.
LIMITED LIABILITY PARTNERSHIP (LLP)
LLPs function very close to a Pvt. Ltd. structure, with a fundamental difference between them. LLP is a structure that is more preferred for the companies that provide service in the field of multi-disciplinary consultation – for example, Law firms, Chartered Accountants etc.
While in Pvt. Ltd., all the owners share the liabilities; in an LLP, the liabilities are restrained to the discipline that is held liable, leaving the rest of the owners at bay. Although, unlike proprietorships and partnerships, your companies are subjected to a ‘Limited Liability’, if registered under Pvt. Ltd. or LLP structure – limiting your losses to just the initial investments.
This is also important, that while the proprietorship and partnership based companies, require no audits, LLPs and Pvt. Ltd. are liable to CA audits.
ONE-PERSON COMPANY (OPC)
An OPC structure is ideal if you prefer to start a company on your own. The number of people required is just one. And as you develop, and plan to expand the structure to better forms, the conversion is very easy.
Once you have decided out of these business structures, you will have all of the most important bases to begin your own business. Keep in mind that just the right form is not the mantra of success for a business. But use the plan you’ve created to consistently work on your business to be able to fall in that 5 % of a successful start-up.
KEY THINGS TO REMEMBER:
- Be aware of the compliances and legal regulations that apply to your company.
- Be Careful about your CIBIL score. Maintaining a proper score allows you to get bank loans very conveniently, which would be rather difficult with a negative CIBIL score.
- Go through all the documents that are being submitted to the govt. by yourself, even if your CA is personally taking care of it. The information must be verified because changing it at a later stage would be a throb.