Unlimited Liability: Why Sole Proprietorships & Partnerships Must Be Careful By DHARANI KUMAR - February 15, 2016 Last Updated at: Sep 14, 2022 19414 On 22nd September 2020, the Indian parliament passed a bill to amend the Companies Act, 2013, and decriminalise various compoundable offenses. This has been done to help small companies, partnership firms, and LLPs by reducing the litigation burden on them. However, the Finance Minister said that matters related to fraud, deceit, and injuries to the public interest will be dealt with firmly. All businesses take on risk, but the degree varies. You would also want specific ownership or partnership if you run a company that does not involve you taking loans or accepting deals involving significant liabilities. Indeed, a private company, one-person or limited liability partner may be better than run. This is because these business formations are expensive to start and have a long list of regulations that need to be complied with on an annual basis. This is not so for sole proprietorships or general partnerships. If the risk, however, is large, this argument does not hold. Here’s why: Personally Liable Sole proprietors and partners have unlimited liability. The unlimited liability means that if you’re unable to repay the debts of the business, your creditors can go after whatever you own. So you could lose any of your possessions that would allow them to recover the amount. Surely this is not something you would want to risk if you’re running a business that involves sums larger than you can handle if something goes wrong. Therefore, a sole proprietorship or general partnership should only be run on a small scale. If you’re a trader or running a home business, go for it. But anything larger and you might be making a mistake. Your LLP Registration is easy now Not a Separate Entity Sole proprietorship concerns and general partnerships do have their names, but they aren’t separate legal entities. Private limited companies, OPCs and LLPs, on the other hand, have a legal existence on their own. This is why proprietorships and partnerships usually cease to exist if the promoters leave. This is not the case with registered businesses as they have a life of their own, which also means that the directors or partners running them do not have unlimited liability. Their liability is limited only to the extent of their contribution to the business. Their possessions can never be touched. Other concerns of Sole Proprietorship: There are few other major concerns when handling a sole proprietorship company. They are as follows: The owner’s responsibility is one of the main limitations in a sole proprietorship. If the business fails, it can cause a dent on the owner’s wealth and might make their prospects a tough attempt. The other concern is that a sole owner has only limited capital access. The money they can take from their savings may not be sufficient for business expansion. Also, banks and financial institutions are still hesitant to lend to ownerships. A sole proprietorship’s life cycle is uncertain and dependent on its holders. An incapacitated owner can adversely affect the company, and can even result in the company being closed down. Without its master, a sole proprietorship can not proceed. A single owner has minimal management power as well. They can’t be a specialist in all the business sectors. Also, limited resources may mean that competent people can not be hired to assist them. It can lead to mismanagement and sometimes poor decisions for the organization. Other concerns of Partnership: Similarly, there are few major concerns with Partnership firms as well. They are as follows: Complications occur when one partner passes away. A partnership interest is often non-transferable through inheritance as the remaining partner may not wish to be in partnership with the person inheriting the interest of the deceased partner. Partners may make provisions in the partnership agreement to avoid separation due to death if both parties agree to recognize those who inherit the interest of the deceased as partners. It is necessary to share decisions in a partnership. If the partners have a conflict over the ways of business operations, their business and personal relationships may face issues. Any benefits generated by the partnership must be shared between all partners. The more partners, the fewer profits would be assigned to a single partner. Also, Read: Is an LLP Agreement Mandatory Addition of Designated Partner in LLP How Much Does It Cost to Register a LLP in India Conclusion Therefore, even if you’re already running a sole proprietorship or partnership, you should regularly come back to this question: can I handle the risk personally? If the answer is no, go ahead and register a private limited company. If the risk your business is taking is large, we’re sure that your earnings are enough to justify the additional expense on compliance (which can be as low as Rs. 30,000 a year, after accounting for even auditing costs).