5 questions you must ask yourself before incorporating your startup

9th Nov 2015
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What is the first thing we should do after opening a new business? Incorporating it into a legal entity like private limited or partnership firm, right?

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No, wrong.

The first thing should be finding a customer for your product, even if it isn't ready yet. That may be considered a contradictary piece of advice to a traditional lifestyle business. If you are opening a business where you will start getting revenue from the first day, then you must incorporate your business before opening your shop.

But Internet startups don’t make money for months. They just have expenses on product development and marketing to find customers who can try their products free of cost.

You should answer these questions before deciding for incorporation.

#1. Will my customer need a proof of legal business entity?

This is rare, but if you are selling to big corporations, then they may need to see documents like bank cheque book, sales/service tax number or age of the company. You can not open the bank account without establishing a legal firm.

If your customer wants to see just a visiting card or letterhead then you can print these documents without any legal formality. You can use any tentative name for your business.

#2. When will I have my first revenue?

If you are sure that revenue will start happening in a month or so, then it’s time to fill the forms of incorporation. You can accept the cheque or cash before you get a bank account. Company incorporation takes time in India, so it’s better to start a month before you get your first income.

#3. Do I need any approvals from government authorities?

Most Internet companies can start building products without any government approval but if your business needs some sort of consent from a department, then you should first incorporate your company. I am sure you don’t want to face legal issues like Uber/Ola taxi aggregators faced in Delhi.

#4. Do I need external funding?

There are two type of external funds for startups – bank loans and venture capital funding. Banks approve loans to companies which have some physical assets and brick and mortar stores. There could be an exception if your Internet business is qualified for the bank loan. Angel investors and VCs invest into startups by taking some equity that is the intangible asset.

You can not accept VC/seed funding without establishing yourself as a private limited company. You have to allot shares to investors, and that can happen only with a legally formed company.

But you can wait till you get confirmation from the investors. Some accelerator and funding platforms need you to be an established firm. If you are ready for getting funded, then apply for company incorporation.

#5. Can I get some rebate/benefits from government schemes?

If you are a business qualified for any benefit from government or corporation then it’s better to incorporate before applying. There are some benefits from Central and State governments for startups. If your business is related to renewal energy, agriculture, health or education then you may find some monetary help through schemes.

Some private companies also support startups that are working on the social cause. You don’t have to be an NGO for qualifying such benefits.

How to decide between private limited/proprietorship/partnership/LLP

If you are building a company in which you will share ownership with co-founders, employees and investors then go for private limited. There are expenses to incorporate and maintain a private limited, and you have to comply with government regulations throughout the year. It’s a headache, but it’s worth the efforts when you have sufficient resources and money.

If you are the sole owner and intend to remain so, then go for proprietorship. Virtually no documentation is required as your PAN will be used for taxation and identification of your business. You have to get a separate bank account in your company's name.

If you are opening a business with partners and have a fixed share of ownership, then go for a partnership firm. You can get everything on a stamp paper and open a bank account after getting a PAN. If your company gets into any legal trouble, then all partners will be liable for the loss. Authorities can seize your personal assets to recover the losses.

There is Limited Liability Partnership, where you incorporate your partnership with limited liability. You have to do more paperwork than a simple partnership, and there will be more compliances with government regulations.

Take advice from an expert like chartered accountant before taking your final decision.

Image credit "ShutterStock"

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