There’s always a dilemma in our minds regarding which is better – A Company or A Proprietorship Business. Well, both has its own pros and cons, both has positives along with their individual drawbacks, it’s just that one needs to chose between the two depending upon the following requirements:

1. Availability of members who wish to enter into an agreement of ‘partnership’
2. The cash liquidity or capital adequacy and the expected contribution from each
3. Number of stakeholders
4. At what stage is your business? What are your long term objectives and goals?
5. Tax consequences.

 

Let’s have a quick look at comparative study between the two and the advantages and drawbacks (Forming a Company over Proprietorship)/ between them:

 

Advantages of Forming a Company:

 

Operating with Partners:

If the business is running in collaboration or contract with others, it is best to divide shareholding right from the beginning before starting the business. It is better to avoid informal agreements as they invariably run into misunderstandings and chaos.

Plans to raise funds:

If planning is made to raise money for the business, particularly using private equity funding, then registrations as a company and issue of shares in return for funding is to be made. This private equity is applicable only in case of private company.

Planning to list on a stock exchange:

 If planning to list the business on a stock exchange and raise money from the market, the company must have an operating history of at least 3 years before the offer document is filed with the exchange. A number of alterations and additions are being planned in this field for a young start up business. One of the proprietorship change is doing away with the requirements with respect to the 3 years operating history.

 

Limiting Your Liability:

A company formation can limit the liabilities or the burden of debts from the shoulders of a single individual, i.e. a single person will not be solely liable for the debts and obligations of the company. A proprietor has unlimited liability for all debts and obligations of the company which means that personal assets of the owner of the business can be attached to recover dues owed by the business.

 

 

Reasons for avoiding the formation of a company……

1. Expensive:

The business in the initial stage requires agents like chartered accountants and company secretaries to do all the basic compliances which the common man is unaware of. This involves incorporation fees which are dependent upon the authorized capital of the start-up.

2. Compliance:

A company must call, conduct, convene an Annual General Meeting (AGM)every year. It must also pay flat income tax of 30% on any income it makes and must get its accounts audited from a chartered accountant, annually whereas income from proprietorship business is clubbed with the individual’s income. Hence the sole proprietor pays a lower rate of tax depending upon your tax slab.

3. Pointless Expenditures:

As a start-up, the primary focus should be cutting down on the expenses as much as possible. Incorporation has very little benefit for individual business owners. Most young business owners incorporate a good expectation hoping that this will add credit to their business but what happens, in reality, is that the start-ups are greatly burdened with useless compliances and regulatory requirements.

 

Tax Consequences of Proprietorship:

 

The income and expenditure of a proprietor are clubbed with the individual income and expenses and this concept also applies to partnerships. The advantage is that the proprietor will get the full benefit of exemption limits based on the income tax slab to which the proprietor belongs to.

 

Taking an illustration below to give clarity to this concept:  An individual below the age of 60 pays only Rs. 1, 25,000/- income tax for the income up to Rs. 10,00,000/- (and a higher rate of 30% for income above Rs. 10,00,000/-). Hence proprietor will also be able to get the benefit of all rebates applicable to individuals.

 

Note: The fact that your proprietor business operates under a separate trade name makes no difference in the above-mentioned tax treatment. 

Company: A registered company pays a flat income tax of 30% on all its income. No exemption is applicable in the case of companies.

 

Reasons why a proprietorship business is preferred initially:

 

• The sole proprietorship is the simplest form of business and does not have a separate legal entity.
• A sole proprietorship is the easiest type of business to establish as there are no state filings required. It is an enterprise owned and operated by an individual.
• Once a sole proprietorship is created, then the business activity of selling and buying begins by default, there aren’t any more additional formalities required. A sole proprietorship is not legally separate from its owner and it offers no personal liability protection.
• The law does not differentiate between the owner’s personal assets and the business’s obligations. In fact, a sole proprietor’s assets can be and are often attached to satisfy the debt requirements and liabilities of the business. Thus if the business gets sued, proprietor’s personal assets may also be at risk and will be attached, if in any case it is required to satisfy the debts and dues.

 

CONCLUSION:

 

A conclusion can be drawn from the above-mentioned points along with the illustration that once a business matures; the proprietor can change from a sole proprietorship to a company. Maturity here cannot be defined and it need not necessarily be when the proprietor starts making profits. If a proprietor can make adequate arrangements for converting itself into a company, bearing all the expenses and still making profits, it can then opt for such option or else it is advisable to continue as a proprietor if the available resources aren’t adequate and if a person wishes to avoid the cumbersome compliances and huge expenses which are incurred by a company. But if the business wishes to grow, expand and branch out it is always advisable to input more and more experienced brains to make a small thing into a big thing.