In this blog post, Kritika Sureka, a student pursuing BA LLB (3rd Year) at KIIT School of Law and a Diploma in Entrepreneurship Administration and Business Laws by NUJS, compares and contrasts between an unlimited company and a company limited by either shares or guarantee.
What is a company?
The Companies Act does not define what a company is in terms of its features. According to section 2(20) of the Companies Act, 2013 any company which is incorporated under this act or under previous company law is said to be a company. But this definition under the act does not provide a clear meaning of company. For this purpose, we can see the definition given by Lord Justice Lindley who said that “a company is an association of many persons who contribute money or monies worth to a common stock and employed in some trade or business and who shares the profit and loss arising therefrom. The common stock so contributed is denoted in money and is the capital of the company. The persons who contribute to it or to whom it pertains are members. The proportion of capital to which each member is entitled is his share. The shares are always transferable although the right to transfer is often more or less restricted.”
The incorporation of companies can be either as limited liabilities companies or unlimited liabilities company. Further, they may be incorporated as public companies or private companies. Limited liabilities company may be divided further into three following heads:-
- Companies limited by shares.
- Companies limited by guarantee.
- Companies limited by guarantee having share capital.
Companies limited by guarantee
A company which does not have share capital is a company limited by guarantee. The profits that are earned are again re – invested. This company has a separate status, or legal identity i.e. activities can be carried out in the name of the company, for example buying and selling the property, employment of people, borrowing money, defending legal suits. It also implies that protection is given to the members from being held liable in their personal capacity for debts arising in the business of the company.
A company limited by guarantee is the structure that is legally preferred for most non-profit organisations, charity societies, clubs and other similar organisations. Such companies are non-profit companies, as the profits are not distributed to the members but rather retained in the company or used for different purposes. Mostly the articles for these companies need to be drafted specifically for that organisation in particular, and this is a work which needs specialisation.
Why should one opt for a company limited by guarantee?
The reason why a non-profit organisation or a community project is established in the form of a company which is limited by guarantee is similar to the reason why a company limited by shares is established by a profit making business. When a charity or community project is in the form of a company limited by guarantee, then protection is given to the people who run the company so that they are not held personally liable for any debts.
- Limited liability- if a community project, charity or non-profit project is not registered in the form of a limited company then the administrators who are running it, for example, the managing committee can be held liable in a personal capacity for debts which are unpaid. There can be a huge risk because some community groups can be organisations whose liabilities cannot be done away with easily. For instance, they can have premises on the leasehold or financial contracts for equipment. If there is a lack of income to meet these expenditures, then it can result in insolvency and the people running it may be in trouble for any unforeseen circumstances.
- Members, not shareholders – unlike a company limited by shares, this company does not have shareholders a company limited by guarantee has one or more members.
Company limited by shares
Companies limited by shares are defined under section 2(22) of the companies act 2013. As per the companies limited by shares, the members have their liability limited by the memorandum to the amount, if any, unpaid on the shares respectively held by them. No member of a company limited by shares can be called upon to pay more than the nominal value of the shares held by him. If the shares of the shareholder are fully paid up, he has nothing more to pay. But in the case of partly paid share, the unpaid portion is payable at any time during the existence of the company on a call being made, whether the company is a going concern or is being wound up. These types of companies are quite common in the commercial, trading and industrial world. Such companies are characterised with an authorised share capital of a specific amount and liability of each member of such is limited to the unpaid amount of shares and premium, if any, held by him.
Why should one opt for a company limited by shares?
- Liability is limited: the company shareholders will only be liable for any debt the company accrues according to their own level of investment and no more. This emerges as one of the biggest advantages of running a business in the form of a limited company. Even if a situation of financial difficulty arises in the company, the personal finances, as well as the personal assets of shareholders, are protected. Limited liability specifically becomes important in the case of companies who want to provide services of high value which can lead to claims and liabilities in the public sphere.
- No taxation of profit – a shareholder in such a company is at an advantaged position because whatever accrues from the shares in the form of dividends is not taxable. Also, limited companies are only taxed on their profits and therefore they are not liable to pay higher tax rates which are usually placed on sole traders or partnerships.
- Separate entity- the limited company is deemed to be a separate entity from its owners. Therefore the company has the advantage to existing beyond the life of its members.
- Limited liability helps to boost professional status and reputation as it creates an impression that the business is grounded, dedicated and reliable.
- A company limited by shares will help an individual to sell shares to other people to raise finance and protect the name of their business.
As per section 2 (92) of the act, a company having no limitation on the liability of its members is an unlimited company. Section 3 (2 c) of companies act, 2013 allows a company to be formed as an unlimited company. Hence members or partners are required to meet the needs of the company in varied aspects or debts without any limit over their liability at the time of liquidation. They are liable to cover its debts fully. Therefore the personal property of members, partners and directors can be used for recovering the debts of the company. Directors are liable not to the creditors of the company rather only to the company and liquidators are appointed to ask the members to contribute their personal assets according to the requirement. Thus, only by the calls of the liquidator, members use their personal assets for discharging the company’s debts doing its winding up. In other words, the liability of an unlimited company is similar to that of partners, but unlike partners, no direct proceeding can be made over members. If may or may not have share capital.
Under section 18, a registered unlimited company may subsequently convert itself into a limited liability company, subjects to provisions such as any liabilities, debts, applications or contracts in regard to or entered into, by or on behalf of the unlimited liability companies before such conversions are not affected by such conversions. Also, it can re-register as a limited company through alterations in liability clause of a memorandum of association and article of association. Also, this re-registration will not affect any debt, liabilities or contracts or obligation of the company.
The most important feature of the unlimited company is that it can purchase its own shares without any restrictions. Accordingly, they can either purchase their own shares or can advance monies to someone else to purchase its shares.
Why should one opt for an unlimited company?
- The biggest advantage of the unlimited company is that it can be registered with or without share capital.
- It can increase or reduce its share capital without any restriction as the new Companies Act 2013 does not apply to it.
- Unlike limited companies, section 67 is not applicable to these type of companies; they can purchase their own share.
- No statutory meeting is required for this type of company.
- For any alteration in its share capital, a special resolution needs to be passed.
- If a person is a director of more than one company, then while calculating the maximum number of companies in which he can be a director, the unlimited company will be excluded.
- The provision given in section 66 of the company’s act, with respect to reducing share capital will not apply to unlimited companies for two reasons.
- Liability is unlimited
- Liability of outsiders is not affected.
- The provision given in section 66 of the company’s act, with respect to buying back securities, will not apply to unlimited companies for two reasons
- There is no requirement of capital redemption (CRR)
- Liability of outsiders is not affected.
Hence, every form of business structure has its own pros and cons that one can enjoy according to the nature of business, amount of capital and other factors. Similarly, under Company’s Act 2013, Indian companies enjoy some set of advantages while operating under different tires and cooperate sectors.
A close comparison between companies limited by shares, company limited by guarantee and unlimited company:
|S.no||Basis of distinction||Guarantee company||Limited by shares||Unlimited companies|
|1.||Definition as per the companies act, 2013||[sec.2 (21)] “Company limited by guarantee” means a company having the liability of its members limited by the memorandum to such amount as the members may respectively undertake to contribute to the assets of the company in the event of its being wound up.||[sec.2 (22)] “Company limited by shares” means a company having the liability of its members limited by the memorandum to the amount, if any, unpaid on the shares respectively held by them.||[sec.2 (92)] “Unlimited company” means a company not having any limit on the liability of its members.|
|2.||Meaning- required as to memorandum||The memorandum states that members shall have limited liability to the extent of the amount that they have guaranteed to pay to the company at the time of its winding up.||The memorandum states that .members shall have limited liability to the extent of the amount (if any) unpaid on the shares held by them but the liability of the company is never limited.||The memorandum states that members have unlimited liability .i.e. The liability of each member extends to the whole amount of the company’s debt and liabilities.|
|3.||Object||They are generally formed to provide specific service to the public and are non-profit making business. Thus having specific objects and detailed rules pertaining to which areas they want to work upon.||They are formed for profit-making and have very general objectives and clauses which allow them to pursue any legal activity or trade.||They are formed for profit-making and liability is unlimited.|
|4.||Share capital||May or may not have share capital.||Must have share capital.||May or may not have share capital.|
|5.||Shareholders||There are no shares – hence there are no shareholders. Instead, the company will have ‘members’.||Owners of shares are called shareholders of the company.||As they may or may not have share capital hence, they may or may not have shareholders.|
|6.||Extent of liability of members||All members are liable to pay the amount that they have guaranteed to pay to the company in the winding up of the company. Also, if the company has a share capital, the members are liable to pay unpaid calls on shares in addition to the guaranteed amount.||The extent of liability is determined by the face value of shares.||The extent of liability of each member extends to the whole amount of the company’s debts and liabilities.|
|7.||When does liability arise||The liability of the members arises only at the time of winding up the company .i.e., under no circumstances he can be compelled to pay the guaranteed amount during the lifetime of the company.||The liability of members can be enforced at any time during the existence and also during the winding-up of the company.||The liability arises at the time of winding up of the company.|
|The profits are not distributed to the members but rather retained by the company or used for different purposes.||Profit is been distributed to shareholders as a dividend.||Profit is been distributed to shareholders as a dividend.|
|9.||Type of business||A guarantee company (having no share capital) is suitable in those cases where the initial capital requirement is not required or where funds can be arranged from another source like fees charges, endowment, donations or from borrowings.||All type of business with a motive to earn profits.||All type of business with a motive to earn profits. But needs to be a private company.|
|10.||Examples||Bharat Egg Producers Association.||Reliance Industries limited.||Amway India enterprises private limited.|
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