Registration of a business as a Firm or a Company is as important as developing the right product or service that can cater to the needs of business and deliver growth in years to come. In the world of business, the two terms – firm and company, are often used interchangeably but this choice can become a grave concern for start-ups. Forming a start-up often requires having realistic approach towards the difference in the meanings, nature and characteristics of firms or companies. Start-ups often begin with limited resources and so each task completed and decision executed should be carefully planned out.
In this article, we will understand the key differences between a firm and a company from the point of its taxation and compliance requirements.
The below table and its information can be helpful in taking the right decision regarding choosing the right business structure for a start-up or a business:
| Firm | Company | |||||
| 1. Governing Act | The regulatory Act that is to be followed by the firms is the Indian Partnership Act, 1932. | The regulatory Act that is to be followed by the companies is the Companies Act, 2013. | ||||
| 2. Registration Requirement | Registration is not mandatory usually. But, in some states, it has been kept mandatory.
(It is always preferred that the firm must be registered) |
Registration is mandatory for all the companies | ||||
| 3. Separate Legal Entity | A partnership firm though has a separate legal identity; the same is not given any consideration under many circumstances. | Company is a separate entity with an ability to own assets in its name. | ||||
| 4. Liability Protection | Partners are jointly and severally liable to pay the debts of the partnership firm, in the event the firm fails to discharge the same. Even partners’ personal assets can be used to pay the liabilities of firm. | Liability of members is limited to the extent of the unpaid value of shares subscribed. No threat to shareholders’ personal assets of getting taken over. | ||||
| 5. Cost of Formation | The cost of formation is very minimal. | Cost of incorporating a company is relatively high and also there is a requirement of minimum capital contribution. | ||||
|
6. Minimum Capital requirement |
There is no such requirement of capital for business to be registered as a firm. | The minimum capital requirement is ₹ 1 lakh for private companies and ₹ 5 lakhs for public companies. | ||||
| 7. Legal Formalities | No legal formalities as such while forming or dissolving a partnership firm. | Many legal formalities are required to be completed when a company is incorporated or dissolved. | ||||
| 8. Management | Partners themselves are the management of the concern in the case of a firm. There are 2 categories of partners – working and sleeping. Working Partners are the ones who can be part of the management of the firm. | Directors form the management in the case of a company. There are 2 categories of directors – executive and non-executive. Executive directors are the ones who can be part of the management of the companies. | ||||
| 9. Foreign Participation | Foreign nationals cannot be introduced as partners in the firm. | Foreign nationals can invest under the Automatic Route i.e. they can invest in the company through private placements to earn profits in the form of dividends. This can lead to additional compliance cost to the company for required compliances of RBI. | ||||
| 10. Statutory Meetings | There is no provision in this regard for holding of any meeting by the partners. | Board Meetings and General Meetings are required to be conducted at appropriate time as per the provisions mentioned in the Companies Act, 2013. | ||||
| 11. Withdrawal of Profits | The partners can withdraw profits by way of Salary, Bonus, commission, interest on capital or other remuneration which is taxable in their hands as business income. Any withdrawal beyond the prescribed limits is disallowed in the computation of income for the firm and the firm has to pay the tax on the same. These portions of the profits are exempt in the hands of the partners thereby avoiding double taxation. | The promoters cannot withdraw any profits except in the form of dividends which can be declared by management only. Profits are taxed in the books of the company at applicable tax rates, thereby leaving no scope of withdrawal of tax free profits. Further, the dividends received are also taxed in the hands of the shareholders. There by there is a double taxation – one at the time of accruing and other at the time of distribution. | ||||
| 12. Limitation to withdrawal of profits
|
As mentioned above, the maximum prescribed amounts of salaries, bonus, commissions or other remunerations to all partners during previous year are given below: | The maximum ceiling for payment of managerial remuneration by a company (these payments are not to the owners of the Company): | ||||
|
Particulars |
Limit |
Managing or Whole-time Directors | Others Directors
|
|||
| On first 3 lakhs of book profit or in case of loss | ₹ 1, 50,000 or 90% of book profits
(whichever is higher) |
11% of the net profit of the company in that financial year | 1% of net profits of the company, if there is a managing or whole-time director | |||
| On the balance book profit | 60% of book profit | Otherwise – 3% | ||||
| 13. Tax Rates | Current Tax | Current Tax | Options Available | |||
| Sec 115BAA | Sec 115BAB | |||||
| Basic Tax | 30% | 30% | 22% | 15% | ||
| Surcharge | 12% of Tax
(if Net Income > 1 Cr) |
NI > 1 Cr | NI > 10 Cr | 10% | 10% | |
| 7% | 12% | |||||
| Education Cess
(On Tax + Sur) |
4% | 4% | 4% | 4% | ||
| 14. Regular Compliances | a. Income Tax, TDS/TCS and GST Returns
b. Tax Audit under Income Tax (No other compliance from tax or statutory point of view) |
a. Income Tax, TDS/TCS and GST Returns
b. Tax Audit under Income Tax c. Statutory Audit under Companies Act d. SEBI Compliances, in case of listed companies e. Director, Shareholders related compliance / redressal / filings (Heavy penalties and late fees in events of defaults in filing) |
||||
| 15. Taxation Relief | No taxation relief as such | Sunset Clause has been introduced for start-ups under which 100% relaxation from Tax compliance has been given to eligible start-up companies. | ||||
| 16. Presumptive Taxation | Under presumptive taxation, firms having business or profession with turnover less than ₹ 2 Crores or ₹ 50 Lakhs respectively, have an option to declare minimum profit of 6% or 8%, as applicable, of the turnover and file Income tax return without any statutory requirement for maintenance of Books of Accounts | Benefit of presumptive taxation is not available for companies. There is a statutory requirement for maintenance of Books of Accounts. | ||||
| 17. Annual Filings with ROF / ROC | No return is required to be filed with Registrar of Firms | Annual Financial Statement and Annual Return are required to be filed with the Registrar of Companies every year. There are various kind of forms which are mentioned below:
a. AOC – 4 b. MGT – 7 c. FLA Return d. DIR -3 KYC, etc. |
||||
| 18. Deferred Tax Asset / Liability
(Deferred Tax is the tax effect of timing difference. The root cause of this concept is Matching Concept of Accounting) |
The provision of Deferred Tax Asset/ Liability is not applicable. Example to the same is explained below:
Depreciation as per Books of Accounts and as per Income Tax is same. |
It is mandatory to create Deferred Tax Asset / Liability in case of company. The method of calculation of depreciation as per Income Tax Act and Companies Act are different. This leads to creation of Deferred Tax Asset or Liability in the Books of Accounts | ||||
| 19. Internal Disputes | As regulations of partnership firms are covered under the concurrent list as per the Constitution of India, every state can have their respective regulations to govern the disputes arising among the partners of the firm. The processes here can be time consuming and under efficient. | Any kind of internal disputes, whether among the management and shareholders or among the Company and the shareholders can be resolved in a time bound manner as various authorities have been created under the law like ROC, NCLT, NCLAT, SEBI, IBBI, Central Government, etc. The process is more efficient and fruitful as all these authorities are central authorities as regulation of companies is covered under the union list as per the Constitution of India. | ||||
| 20. Credit Worthiness of organization | Creditworthiness of firm depends upon goodwill and creditworthiness of its partners. Due to this shortfall of not having a separate recognition, the reach of the partnership firms is restricted to local or national level and they may find it difficult to reach at a global level. | Due to Stringent Compliances & disclosures under various laws, Companies enjoys high degree of creditworthiness. Hence, companies can scale up to global level and garner more resources over a period of time. | ||||
The above article is only for information basis. It depends upon the efficiency of the person to make the Partnership Firm or Private Limited Company successful. With efficient Partnership Firm compliance or Limited Company Compliance and planning, both the business entity types can be made equally favourable to suit the business needs.
Further, there is also a separate option to incorporate a limited liability partnership firm (LLP) which purports to have the benefits of the both the above mentioned types of constitution. But, a deeper analysis of LLP would enlighten that LLP’s are taxed at the rates similar to that of a firm, which are higher than that of companies and the level of compliances are similar to that of company. Hence, higher tax rates and more compliance, if LLP’s are evaluated from tax and compliance point of view.
From start-up point of view, all the above types of entities are eligible to be registered as start up under the Department for Promotion of Industry and Internal Trade. Hence the ultimate choice lies with the entrepreneurs of our nation.
(This article represents the views of the authors only and does not intent to give any kind of legal opinion on any matter)
Authors:
| Ashish Raithatha Associate Consultant. Email:ashish.raithatha@masd.co.in |
CA Hardik Patel, Manager Email: hardik.patel@masd.co.in |
Author Bio
“Registration of a business as a Firm or a Company is as important as …………Forming a start-up often requires having realistic approach towards the difference in the meanings, nature and characteristics of firms or companies. …….”
The write-up seems to provide a broad outline guidance for a start -up to be of assistance in initially taking a decision as to which of the two forms of ‘legal entity’ should be preferred having regard to the respective advantages and disadvantages each entails.
For a complete guide, however, the following other aspects the choice entails could not prudently be side tracked or over sighted:
1.Implications/ Incidence of Direct and Indirect Taxation laws., as amended over the years, with no break.
2. Conversion of a Firm into ‘LLP’ (having the status of a ‘company’ within its later amended meaning ) or vice versa, and its tax attendant tax and other implications.
3. The later introduced concept of ‘one- man – company’, for providing one more vehicle / form of entity open to be chosen.
In this context, attention may be drawn to the aspect of ‘ease-of-doing- business’ and the practical problems that have arisen , many not initially expected of /foreseen.
At the time before the two new forms of business entity came to be accorded legislative sanction, there were varyng practical difficulties envisaged. For a bird’s eye view of those intricacies, requiring to be borne in mind, the following two Articles (critique) published may be looked through:
LIMITED LIABILITY PARTNERSHIP- (2005) 128 Comp Cas (St) 26
CONCEPT OF LIMITED LIABILITY PARTNERSHIP – A STUDY (2006) 65 SCL 42
Not known readily, hence call for an investigative study by those having vested interests/ concerns to ascertain how far/ to what extent the further developments in the recent years since then have proved to be effective in getting rid of those hurdles in implementation of the above referred two new forms of business entities later introduced.
Some of those , as remembered offhand, may be found to have been touched upon and shared in several Posts on inter alia Facebook and Personal Blogs (‘swamilook’) ; so also on this website itself.
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