A business entity is an organization established by one or more individuals, which has a separate existence and is formed to carry on business or trade. A business entity chiefly decides the type of tax return the business will file apart from endowing the business with various features.
There are a number of business entities to choose from and often it is one of the toughest decision that an entrepreneur has to make while starting his new venture, whether to opt for sole proprietorship or consider a partnership, or whether to go for limited liability partnership, or consider a private limited company or a . This decision depends on the size of the business, the needs of the business, the mission and vision of the business, the future goals of the business and the availability of funds for the business among various other factors.
Usually while starting out, an entrepreneur often finds himself conflicting between going solo and opting for sole proprietorship for the start-up rather than joining forces with a partner (or partners) for a partnership firm. Sole proprietorship allows for entrepreneurs to be independent and make decisions without objections and work independently as per their convenience but the advantages of partnership can make entrepreneurs re-think their decision.
Let us first consider the features of both the types of business entities to understand them better before listing the advantages of a partnership.
Sole Proprietorship and Partnership
A sole proprietorship is where an individual is doing his own business while in a partnership there are two or more partners who are doing business together for profit.
In terms of registration, a sole proprietorship does not need to be registered except under the Shops and Establishments Act for certain types of businesses while a partnership firm needs to be registered else it cannot enforce its rights in the court of law. The partnership registration procedure is also very simple and inexpensive.
For its incorporation, a sole proprietorship does not need an agreement for its incorporation while for a partnership an agreement needs to be signed between the partners. The partnership agreement is voluntary but specifies the details and conditions within the partnership.
Since there no formal incorporation, there is also no specific statute that governs a sole proprietorship while a partnership agreement is governed by the Indian Partnership Act, 1932.
Number of Members
A sole proprietorship, as its name suggests, is owned and controlled by a single person. A partnership requires a minimum of 2 members to form the partnership and the maximum number of partners can go up to 10 for banking business and up to 20 for any other type of business.
In a sole proprietorship, the entire management is done by the owner alone and he is the supreme authority for all the decisions. However, this can even result in inefficient management to the limited supply of skill set. For a partnership, each partner has a right to take part in the management of the business. This results in a pooling of knowledge and judgement where the work can be divided among partners according to their skills and aptitudes. Therefore the collective skill pooling leads to efficient management.
A sole proprietor has to arrange for the entire capital on his own or make while in a partnership all the partners can contribute towards building the capital and arranging for funds. Thus, a partnership can raise larger financial resources than a sole proprietorship.
In a sole proprietorship, the entire liabilities of the business are borne by the owner while in a partnership the partners have limited liabilities as they are shared.
The proprietor has to bear all the risks involved in the business and its repercussions in a sole proprietorship but in a partnership, the risks are shared by the partners.
The duration of the business in a sole proprietorship is uncertain and might last as long as the owner is alive while in a partnership the duration depends on the desire and the capacity of the partners and if there are new partners added to the partnership, it could be ceaseless.
Advantages of Partnership over Sole Proprietorship
After studying the features of both the entities it is clear that partnership has advantages over proprietorship and these include-
- Capital can be raised easily and greater amount too in a partnership as in a partnership all the partners can contribute towards raising a capital, which is not the case in a sole proprietorship.
- Skills of the partners can be pooled along with knowledge, abilities and work force for the betterment of the business while in a sole proprietorship, the owner has only himself to rely on for ideas and skills.
- Losses are shared in a partnership and thus no single person feels the entire burden unlike in a sole proprietorship where losses are suffered by the owner alone.
- The partners in a partnership pay their personal income taxes on their share of the profits from the business, the partnership does not have to pay any special taxes but in a proprietorship, the proprietor has to bear the burden of all the taxes alone.
- A partnership can continue to be in existence if after one of the partners dies or opts out if they make an agreement legally that allows them to continue the partnership.
- The partners have limited liability and are a separate entity from the business unlike in a sole proprietorship. The partners are thus not personally liable in case of any debts or any other liabilities.
- Partnerships have certain rules and are governed by regulations of an authorised body which prevent it from mismanagement and help regulate it and operate it efficiently.
Thus, a partnership definitely has benefits over sole proprietorships, especially when rising entrepreneurs have to make a choice between the two.