What is Separate Legal Entity of a Company?

The Indian business ecosystem is one of the largest across the globe. With that said, there are so many options to form a business. Many factors come into play when you are trying to choose the appropriate form of business. One major factor that makes the decision making process easy for entrepreneurs is the separate legal entity of a company. With this benefit, even pvt ltd company registration gained popularity. At a glance, it may seem like a complex legal terminology, but we’re here to make it easy for you. In this blog, we discover what isseparate legal entity in Company Law, its meaning and how adversely it can affect the business owners. 

What is a separate legal entity in Company Law?

There are formal and informal business structures in India. Two out of all the formal business structures, ie,. Companies and limited liability partnerships have the advantage of being recognised as a separate legal entity. When a business or an organization, ie., an entity undergoes an incorporation process as per the company laws of India, it gets a separate legal existence. This means that a company and its owners are considered as two different parties, and the company exists separately from its owners. This is the meaning of separate legal entity. As a result of the separate legal entity of a company, it also has access to a lot of benefits that help in the growth of business. 

Also Read: What is a private limited company?

Which businesses are a separate legal entity? 

The following two types of business structures have their own separate legal entity and perpetuity. 

Companies

There are many different types of company in India. These are Companies registered under the companies act, 2013, enjoy the status of having a separate legal existence. This protects the company and its members, both, from the actions of the other. It doesn’t matter if you opt for private limited company registration or for public company registration, these characteristics are a part and parcel of this business structure. 

Limited Liability Partnerships

LLPs are a form of hybrid business structure. They have certain characteristics of PLCs and others of the partnership firms. The features of LLPs include them being a separate legal entity and having perpetuity. Nowadays, most people are going forward with online LLP registration in India due to its many benefits. 

Now that we know which business structures have these two unique and advantageous features, let’s understand the importance of having a separate legal entity. 

Also Read: How to choose the appropriate business structure?

What cannot be a separate legal entity?

Informal business structures cannot be a separate legal entity under the company laws. The reason behind being the fact that these types of entities are unorganized, small and usually owner oriented. Let’s see in brief, what cannot be covered under the meaning of separate legal entity: 

Sole Proprietorship 

This form of business is a one man show. Here, the owner is responsible for all the activities of the business and his liability is unlimited. This type of business is more suitable for small business owners. You can check out the Advantages of Sole Proprietorship Registration. 

Partnership Firm

Whether registered or unregistered, partnership firms in India are not formal business structures and do not get entitlement as a separate legal entity. Here, the liability of partners also remains unlimited. Read more about the benefits of partnership firm registration. 

Advantages of having a separate legal entity of a Company

Perpetual Succession

With the benefit of a separate legal entity of a company, tags along the boon of perpetual succession. This term refers to the fact that even after the death of a company owner, the company will continue to exist. The advantage is only possible because of the separate legal existence of the company. If you have long term plans for your business, this benefit is definitely something to look up to. 

A long span of life

Perpetuity means that even if the partners/shareholders leave the organization, the organization can continue existing freely. Due to this, the existence of partners will not affect the company. Hence, making it easy for an organization to exist after the life of its promoters. Usually, companies have a short life span only when they are incorporated with a purpose and the purpose is met. 

High Credibility

Having a separate legal existence makes the company more credible to the public at large. As a result of the organisation being a separate legal entity, its identity is not completely reliable on its partners or promoters. Further, the growth that a company can achieve from its perpetual nature also reflects the image of the company.

Financial assistance for a separate legal entity

Investors tend to invest in entities where they have the trust and faith. The high credibility that the separate legal entities have helped gain the trust of investors. So, when considering financial assistance these formal business structures have a head start as compared to the informal structures. 

Limited Liability

The liabilities of the members and partners is only limited to the capital they bring in or any other amount, if expressly stated as such. The members are not personally liable to the creditors of the company. For more information on this, also read: Limited Liability Benefits for Company Owners.

Taxability

The members and directors of a separate legal entity do not have to pay tax on the income of the company. In  case of profits, the company pays tax to the government. The dividends are tax free for members of an LLP.

Charter Documents

As the company is a separate legal entity in company law, it has two important documents known as the charter documents, that govern its operations. The importance of an MOA cannot be understated. This memorandum of association includes all the basic details of a company such as its name, registered office address, and its capital details. Along with this, the Articles of Association of companies also equally pan out its governing rules, such as the responsibilities of the shareholders and procedure for winding up. 

Exceptions to the separate legal entity of a company

Everything in life comes with an exception. So does the feature of being a separate legal entity. Let’s look at the circumstances when the boon of separate legal existence ceases to exist. 

Members reduce beyond the limit

There is a minimum requirement of members. For example, in a Pvt. Ltd. Companies there must have at least 2 members and in a public company, at least 7. If a situation arises where the members reduce from thai, then for such a time period, all remaining members become liable for the actions of the company at a personal level. 

Investigation of Company

If a company is under investigation, the inspector has the power to investigate other companies (under the same management) even if the subsidiary is a separate company.   

Directors acting beyond powers

When any director steps out of their shoes and takes certain harmful actions against the company, such as defrauding the creditors, then the veil of separate legal entity is lifted, and the directors are held accountable for the wrongful actions in the name of the company. 

Non-refunded application money

If the application money is not refunded to the applicant who has not allotted the shares within stipulated time then directors are liable to pay interest to them.

Improper use of name

The directors are personally liable for not using the name of the company such as LTD or PVT LTD in a proper way in any contract or bill of payment.

Pre-Incorporation

Promoters are personally liable for all contracts made before incorporation of the company if the company does not adopt the said contracts.

Non Payment of Taxes and Liabilities post-dissolution

The director is liable to pay any unpaid tax and repayment of loans arising after the dissolution of the company.

Others

Directors are liable in many other cases such as not maintaining books of accounts or registers, not holding AGM and other compulsory meetings, non-filing of annual returns with MCA, default under any other ACT.

How is the separate legal entity beneficial for business owners? 

Mitigating Risks

Having a veil between the business owner and the organization is usually beneficial in mitigating future and potential risks for the business owners and other stakeholders such as creditors and investors. 

Ease in Transfer of Ownership

When there is a separation in the existence of the two, transferring ownership becomes a lot easier for the business owners. 

Access to Investors

Since the company has a perpetual succession, many investors will be automatically more attracted to invest therein. 

Conclusion

A company with its perpetual existence and a separate legal entity proves to be advantageous. With such great powers, also come the responsibilities of the directors and partners. The decision of choosing the right business structure for your startup can be overwhelming. So, connect with the experts at Legalwiz.in and get the best options suitable for you!