When launching a business, many entrepreneurs choose to form a partnership firm because it is reasonably simple to do so.
Yet, when the company expands, the partners might want to consider turning it into a company.
Although this process may seem difficult, it is important to comprehend the advantages and legal requirements.
The process of transforming a partnership firm into a company will be discussed in this blog.
Understanding the Basics of Partnership Firm and Company
The distinction between a partnership firm and a company must be understood before beginning the conversion procedure.
A business that is owned and run by two or more partners is called a partnership firm.
The partners are completely liable for the firm's debts under the Indian Partnership Act of 1932.
On the other hand, a company is a distinct legal entity run by a board of directors and owned by shareholders.
The Companies Act of 2013 governs it, and shareholders' liability is only up to the amount of capital they have invested.
In a partnership firm, the partners share the profits and losses of the business in a predetermined ratio, and the firm's income is taxed at the individual partner's tax rate.
On the other hand, a company pays tax on its profits at the corporate tax rate, and the shareholders receive dividends based on their shareholding in the company.
Converting a partnership firm into a company has a number of benefits. Firstly, a company can enter into contracts, own property, and sue or be sued in its name because it is a separate legal entity.
By doing this, the shareholders are shielded from being held personally liable for the debts and obligations of the business.
Secondly, a company has perpetual succession, which means it continues to exist even after its directors or shareholders die or retire.
This ensures the continuity of the business and provides a sense of security to the stakeholders.
Lastly, a company has better access to funding sources, such as bank loans, equity funding, and public offerings, as it can issue shares and raise capital from the public.
This gives the company the necessary resources to expand its operations and invest in growth opportunities.
Reasons to Convert a Partnership Firm into a Company
There are several reasons why partners may consider converting their firm into a company, such as:
1. Limited Liability
As mentioned earlier, partners in a partnership firm have unlimited liability, which means they are personally liable for the firm's debts.
The liability of shareholders is limited to the extent of the amount of capital they have invested in a company.
2. Separate Legal Entity
A company is a separate legal entity from its shareholders, which means it can sue and be sued in its name. This provides greater protection for the owners' assets.
3. Raising Capital
A company can raise capital by issuing shares, which is not possible in a partnership firm. This allows the business to expand and grow faster.
4. Transfer of Ownership
In a partnership firm, the transfer of ownership is restricted and requires the consent of all partners. However, in a company, shares can be easily bought and sold, allowing for easier transfer of ownership.
5. Perpetual Succession
A company has perpetual succession, which means it continues to exist even if one or more shareholders die or leaves the company. This provides greater stability and continuity to the business.
6. Tax Benefits
A company may be eligible for certain tax benefits that are not available to a partnership firm. For example, companies may be eligible for tax deductions on certain expenses or depreciation on assets.
7. Branding
Converting a partnership firm to a company may also help in enhancing the business's brand image and credibility in the market.
A company's name and branding impact consumers and investors more than a partnership firm's name.
Procedure to follow for Converting a Partnership Firm to a Company
The procedure for converting a partnership firm into a company is as follows:
Step 1: Obtain Digital Signature Certificate (DSC) and Director Identification Number (DIN)
The first step in the conversion process is to obtain a Digital Signature Certificate (DSC) and Director Identification Number (DIN) for all the partners who will become directors of the company.
The DSC is used to sign the electronic documents required for the registration process, while the DIN is a unique identification number for the directors.
Step 2: Apply for Name Approval
The next step is to apply for name approval for the company with the Registrar of Companies (ROC).
The name should be unique and not similar to the names of existing companies or trademarks.
The name should also comply with the guidelines prescribed by the Companies Act 2013.
Step 3: Draft Articles of Association and Memorandum of Association
The Memorandum of Association (MOA) and Articles of Association (AOA) are the legal documents that govern the company's operations and define its objectives, rights, and duties of the shareholders and directors.
The MOA and AOA should be drafted in compliance with the Companies Act 2013 and should be signed by all the partners who will become shareholders of the company.
Step 4: File Forms with ROC
The next step is to file the necessary forms with the ROC, along with the MOA, AOA, and other documents, such as the consent of partners, declaration of compliance, and proof of address. The forms should be filed within 60 days from the date of name approval.
Step 5: Obtain a Certificate of Incorporation
Once the ROC verifies and approves the documents, it issues a Certificate of Incorporation, which signifies that the company is incorporated and registered under the Companies Act 2013.
Step 6: Obtain PAN and TAN
After obtaining the Certificate of Incorporation, the company needs to apply for a Permanent Account Number (PAN) and Tax Deduction and Collection Account Number (TAN) with the Income Tax Department. This is required for tax purposes and compliance with the Income Tax Act 1961.
Step 7: Transfer of Assets and Liabilities
After the conversion, the assets and liabilities of the partnership firm are transferred to the company. The partners become shareholders and the partnership.
Legal Requirements for Converting a Partnership Firm into a Company
1. Obtaining DIN and DSC
The designated partners of the partnership firm need to obtain a Director Identification Number (DIN) and a Digital Signature Certificate (DSC) by submitting the necessary documents, such as identity proof, address proof, and photographs, to the Ministry of Corporate Affairs (MCA).
DIN is a unique identification number assigned to a person intending to become a director of a company, and DSC is an electronic signature used to sign electronic documents.
2. Obtaining Name Approval
The partners need to apply for name approval for the new company through the RUN (Reserve Unique Name) facility, which can be done online through the MCA portal.
The name must be unique and comply with the naming guidelines issued by the MCA.
3. Drafting of MOA and AOA
The partners need to draft the Memorandum of Association (MOA) and Articles of Association (AOA) for the new company. MOA outlines the company's objectives, and AOA lays down the rules and regulations for the company's management and administration.
4. Filing of Incorporation Documents:
Once the MOA and AOA are drafted, the partners must file the incorporation documents, such as Form SPICe (Simplified Proforma for Incorporating Company Electronically), Form DIR-12 (Particulars of appointment of directors and the key managerial personnel), and Form URC-1 (Declaration for registration under section 366), with the ROC and pay the necessary fees. The partners also need to submit other documents such as the partnership deed, NOC from the partners, and consent of the proposed directors.
5. Obtaining Certificate of Incorporation:
After the documents are verified, the ROC issues a Certificate of Incorporation, and the company is formed.
The partners must also obtain a new PAN and TAN for the new company and update their statutory registrations and licenses.
Tax Implications of Conversion
The conversion of a partnership firm into a company has tax implications. The firm will be deemed to have transferred its assets and liabilities to the company, which may attract capital gains tax.
Additionally, the company will have to comply with the tax laws applicable to companies, such as paying corporate tax and adhering to transfer pricing regulations.
It is important to note that the tax implications may vary based on the nature of the assets and liabilities transferred and the tax laws applicable in each case.
It is advisable to consult with a tax professional before initiating the conversion process to understand the tax implications and plan accordingly.
However, it is worth noting that a company may be eligible for certain tax benefits that were not available to the partnership firm, such as tax deductions on certain expenses or depreciation on assets.
Moreover, in order to ensure compliance with tax laws and regulations, the company must maintain accurate and up-to-date financial records.
Failure to do so may result in penalties and fines from the tax authorities. It is, therefore, important for the company to establish proper accounting systems and engage the services of a qualified accountant or auditor.
While converting a partnership firm into a company can provide various benefits, including tax benefits, it is essential to consider the tax implications and comply with the tax laws and regulations applicable to companies.
Seeking professional advice from tax experts and accountants can help ensure a smooth and successful conversion process.
Read More,
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One Person Company Registration
Conclusion
In conclusion, converting a partnership firm into a company can provide numerous benefits, including limited liability, raising capital, and being a separate legal entity.
However, the process involves several legal requirements and tax implications, which must be carefully considered.
As always, seeking professional advice before making significant business decisions is advisable.
Moreover, it is crucial to carefully evaluate the potential advantages and disadvantages of converting the firm into a company before making a final decision.
Additionally, partners should consider the long-term goals of the business and how the conversion will impact their operations.
By weighing the pros and cons and seeking expert advice, partners can make an informed decision that will benefit their business in the long run.
FAQs related to Converting a Partnership Firm into a Company
1. How long does it take to convert a partnership firm into a company?
Converting a partnership firm into a company takes around 2-3 months, depending on the time taken to complete the legal formalities.
2. Can a partnership firm be converted into any type of company?
Yes, a partnership firm can be converted into any type of company, such as a private limited company, public limited company, or one-person company, depending on the requirements and objectives of the partners.
3. Is it mandatory to have a minimum number of partners to convert a partnership firm into a company?
No, having a minimum number of partners is not mandatory to convert a partnership firm into a company. However, the company must have a minimum of two directors and two shareholders. In the case of a Person Company, there can be only one director and shareholder.
4. What are the compliance requirements after converting a partnership firm into a company?
After the conversion, the company needs to comply with the legal and regulatory requirements applicable to companies, such as holding board meetings, filing annual returns and financial statements, and maintaining statutory registers. If applicable, the company must also obtain necessary registrations and licenses, such as GST registration.
