A corporation or company is a separate legal entity which can be formed for variety of reasons such as profit making business, charitable and club or societies. The process by which a new or existing business is registered as a separate legal entity with the government is known as incorporation.
Separate legal entity means, the company is separate and distinct from its owners and managers.
Through the process of incorporation, a company is created under the law as a separate legal entity. In India a business can not operate as a separate legal entity unless and until it has been incorporated with the ministry of corporate affairs.
Due to the incorporation of business, a private or public company is capable to enter into contracts and carry out businesses under its own name, separate from owners or shareholders.
As per companies act 2013, a single person or more can form a company in India. A sole member can incorporate a One Person Company as per Companies Act 2013 by subscribing to the memorandum of association. Similarly, two or more persons can incorporate a private or public limited company.
The article of association (AOA) and memorandum of association (MOA) of a company specify the legal name of the company, its place of business, type of company registered, the bylaws and the nature of its business. After registration, the certificate of incorporation gives life to company in the sense that it represents a contract between the company and its shareholders. These MOA and AOA can be amended anytime after registration by following the standard procedures of companies act 2013. After getting the certificate of incorporation from government, your company will be considered as incorporated.
Why you should incorporate your business
To start a business for profit, you need not register it with the government. However, when your business becomes bigger day by day, you start incurring business debts and liabilities. By incorporating your business as a company, you enjoy three major advantages:
- you can limit your personal liability risk towards the business,
- easy to transfer ownership, and
- allow new investors join in or easy to raise capital.
Limiting your liability to business debts
The biggest fear of a sole proprietor or partners is that they are liable to business debts.
For instance, if the business results in failure or in case of bankruptcy, the proprietor or partners not only lose business assets, such as plant, machinery, furniture and inventory, but also person assets, such as jewelry, cars, residential building and investments.
In case of a OPC, private and public limited company, promoters personal assets will not be part with business assets in order to settle business debts. This means, if a company or corporation fails to settle creditors liabilities, then they may force to sell assets of the corporation in order to settle debts. If assets of the company is not sufficient, then promoters liability will be restricted up to the value of the share capital, creditors of the company does not have rights over the personal assets of promoters/shareholders to settle corporate liabilities.
Easy to transfer ownership
In case of a proprietorship and Partnership firm, you need to transfer each and every business assets in order to transfer the whole business. To do such transfer, you have to see how books of accounts are maintained otherwise it will be a nightmare.
On the other hand, if the business operates as a company, transfer is just a sale and purchase of shares. You are not required to transfer each and every business assets used by the company in order to transfer business.
Easy to raise capital
If you want new investors to invest in your company, then you are required to issue certain shares based on the amount invested. Such shareholders will enjoy company’s profit or loss based on their percentage of holding.
However, a proprietor doesn’t have such advantages. In case of additional investors, the proprietorship must be converted to Partnership and the partner will be personally liable for business debts. Similarly, a partnership business requires to take the investor as a additional partner in return of a certain percentage on company’s profit or loss and personal liability to business debts.
A general question asked by promoters is “Can we save tax by incorporating a private limited Company”. Answer to this question can be Yes or No, it depends. Remember, tax can be saved with proper planning and by following provisions of income tax act, 1961 in order to avoid disallowance of expenses. If you do not maintain books of accounts as required to be maintained or maintain it haphazardly, then it can cost you a lot.