Experts from Taxmantra show you the way
One of the most important decisions startups need to make when starting the business is about the organization of the business. Startups face dilemma, whether to go for Limited Liability Partnership (LLP) or Limited Company (Company), as whether you choose a Company or a LLP will determine who can share ownership of the business, management of the business, how the business is taxed and who will be held liable for the business’s debts. The facts enumerated below will guide startups to decide on form of business:
Objectivity of Founder
LLP is an alternative business form that gives the benefits of limited liability of a Company and the flexibility of a general partnership.
Startups should decide based on their long term objectivity, in the initial stage, the size of operation would be small, but they should ask themselves where they want to see their startup down the line say five years. It may so happen that when the scale of operations gets big, they would need to infuse additional stake holders and professionals in the management from outside to manage the day to day affairs of the business.
The structure and governing law of Company makes it easier for infusion of stake-holders, investors, professionals in the Company. LLP is more suitable is the startups is intending to run a small scale concern covering a particular area.
Another point to note here is that a Company enjoys better creditability and confidence of investors, stake holders, partners as compared to LLP due to adherence to stringent compliances under Company Law, Income Tax and other laws in force.
Incorporating Cost and Procedures
Incorporating a LLP is cost effective compared to a Company, as the minimum statutory fee for incorporation of a Company is Rs.6000, whereas that of LLP is Rs. 800.
Forming LLP requires lesser legal compliances, for instance, at the time of incorporation, neither LLP Agreement nor the state in which it is incorporated, and is required to be filed and can be filed within 30 days from the date of registration in Form 3. In addition to Form 3, for incorporating a Company or LLP, different Forms are applicable with respect to (i) Name Approval, (ii) Details of directors/ partners, and (iii) Place of registered office.
Also, a Company is required to incorporate with minimum paid up capital of Rs.1 Lacs, whereas there is no such minimum specified limit in case of LLP. Also, unlike Companies, compliances such as holding of statutory meetings, quarterly board meetings and similar compliances are not required for LLPs.
Taxation and Audit compliances
Both LLP and Limited Company are taxed at a flat rate of 30% plus EC & SHEC. However no surcharge will be payable by LLPs whereas Companies will be liable to surcharge at 5% if the net income exceeds Rs.1 Crore for the Financial Year 2011-12.
LLP is liable to Alternate Minimum Tax @ 18.5 % with effect from financial year 2011-12 on the adjusted total income if regular income-tax on total income of LLP is less than the Alternate Minimum Tax. Companies are already liable to pay Alternate Minimum Tax on the adjusted total income (that is, on book profit) at rates: If the book profit does not exceed Rs.1crore – 19.06 per cent and if the book profit exceeds Rs.1crore then at the rate of 20 per cent.
Companies are required to pay advance tax in four quarterly installments, (i) On or before 15 June – not less than 15 per cent of tax payable, (ii) On or before 15 September – not less than 45 per cent of tax payable, (iii) On or before 15 December – not less than 75 per cent of tax payable, and (iv) On or before 15 March – not less than 100 per cent of tax payable, whereas, LLPs are required to pay in three installments: (i) On or before 15 September – not less than 30 per cent of tax payable, (ii) On or before 15 December – not less than 60 per cent of tax payable, and (iii) On or before 15 March – not less than 100 per cent of tax payable
LLP is tax efficient as Dividend Distribution Tax (DDT) is not applicable on LLP and Companies are liable to pay DDT @ 16.609 percent (i.e. inclusive of surcharge and education cess) on such dividends.
Companies are mandatory required to get their accounts audited annually whereas for LLPs only those having turnover more than Rs.40Lacs or Rs.25Lacs contribution in any financial year are required to get their accounts audited annually as per the LLP Act;
The LLP Act provides that the partners of such LLP if decided not to get audit of the accounts of the LLP then such LLP shall include in the Statement of Account and Solvency a statement by the partners to the effect that the partners acknowledge their responsibilities for complying with the requirements of the Act and the Rules with respect to preparation of books of account and a certificate in the Form 8. However no such relaxation is provided to Companies.
Ownerships and debt exposure
In LLP, the designated partners have the right to manage the business directly unlike Companies, where there is no direct relationship between ownership and management. In a Company, the stakeholder appoints board of directors to run and manage day to day affairs of Company.
Thus, forming LLP is suitable for startups, where the business is to be managed by few partners who are each making a similar contribution and are drawing similar salaries and the objective of the founder is to have direct control over the affairs of the business.
Thus, there is no absolute rule that makes one business entity better than the other. The selection of same should be purely a case specific based on factors such as the objectivity of the founder, business rationale, funding requirement, ownership and management control and such other factors.
Read Alok’s previous article on Accounting & Taxation