This article is written by Hema Modi, a second year student of Pravin Gandhi College of Law, Mumbai. It provides an overview of the Nature of company, types of companies, the advantages and disadvantages of incorporating a company and the procedures required for the incorporation, along with landmark judgments.
This article lay emphasis on the The Companies Act, 2013. Since this Act, being complex in itself, creates confusion in the minds of the people and they are afraid of establishing his/her company due to the intricacies involved in it. Therefore, this article has been written to help those people to understand the types of company, the rules and regulations and the procedure required to incorporate a company under Registrar of Companies.
Definition of company
According to Black law’s dictionary, the definition of company is “a voluntary association of a certain number of people having some common interests united by some commercial or industrial undertaking to carry out legitimate business.”
The Companies Act of 2013 in India defines company in the Section 2(20) as “a company incorporated under this actor under any previous company law”. This means that any corporation which is incorporated and registered under this Act or under other previous company Act will be called as a company.
A company is considered to be an artificial legal person according to Indian Constitution which have an independent legal entity and a common legal seal for its signatures.
Corporate Personality and Advantages of Incorporation
Independent Corporate Existence
A company is said to have an independent corporate existence since its incorporation because it holds a separate legal entity. In law, a company is considered to be an artificial person having similar rights and obligation as a natural person but no physical or natural existence. The property of the company is possessed by it and not by the individual members. All the contracts, entered into or any transactions made, are in the name of the company and not in the name of its members. A company can enter into partnership with other individuals or other companies and can buy any number of shares, debentures of another company. It can also join other companies by ascertaining to their terms and conditions.
The famous landmark case of Bates v. Standard Land Co., the question of the distinction of the personality of a person and a company was brought before the court. The court held that members of the company were the pillars by which any act or important decision can be taken by it.
The principle of independent existence of companies was established in india by the judgement of the High Court of Allahabad in the case of In Re: The Kondoli Tea Co. Ld. vs Unknown where it was held that the company was a seperate body altogether from the shareholders.
One of the most important and essential advantages of incorporation and registration of companies is the limited liability. The term “limited liability” means the condition where the shareholders or the proprietors of the company are legally liable only for the debts which are equal to the nominal value of their shares invested. In other words, private assets of the shareholders are not at risk if the company goes into incurring debts or when the company becomes bankrupt.
To explain in simple words, if the company is not limited company, then if the company fails, then the personal assets like property, cars,etc. are seized for clearing his debts.
The literal meaning of the term “perpetual succession” is the continuance of a company or an incorporated firm unaffected by death of any of its members or the transfer of the company’s shares to a new entity.
This is a major advantage of a company because even though members come and go, but the company never dies and it enjoys the same rights and privileges. The company continues to exist for an indefinite period of time until the company shuts down due to some other reason. This also reduces the legal entanglements like deregistering of company and then again registering, etc. which happens in other business areas.
According to Section 44 of the Companies Act, 2013, the shares,debentures or any other interests of any member in a company shall be movable as well as transferable in the manner provided by the articles of the company. This means that the investors of the company are free to liquidate shares or encash money, whenever they are willing to at any point of time. This helps and motivates the investors to invest their money as they can get back their investments easily.
The company is considered to be a separate independent legal entity formed by unification certain number of investors having some common business goals. The property or assets owned by the company does not belong to any of the members of the company. No members can claim the property and use it for personal purposes. If he/she does so, then they will be held liable for criminal misappropriation of company funds. Hence, the company has the full right to hold and enjoy property in its own name.
Capacity for suits
A proven fact is that where a right exists, there exists a liability, as well. Therefore, if the company has the right of incorporation, then there are certain liabilities for which it can be held liable. The company, hence, can sue as well be sued by other companies and people. The beneficial part is that no member, whether the managing directors or other directors, can be sued in the name of the company.
Professional management refers to systematic management and administration of the company or the organisation. This helps the company to increase the productivity of the employees, optimum use of resources, reduce costs, accountability of employees and their effective control.
Access to money market
Money markets are those markets that trade in short-term loans between banks and other financial institutions. The participants of the money market is the banks that lend money to one another and to large companies when the companies are running short of company. The companies have a shoulder behind their back on which they can rely on for receiving funds in their need.
Lifting the Corporate Veil
A ‘corporate veil’ is a fictional veil or a covering to the corporation when it gets incorporated under The Companies Act, 2013. The incorporation of company makes the company a separate and independent legal entity. Moreover, The Supreme Court of India in the case of R C Cooper v. Union Of India, had held that company is an artificial person. Therefore, the shareholders or members of the corporation cannot be held liable for it. Although there is the concept of limited liability and separate identity of a company which benefits the members, yet the shareholder may be held liable for the debts or other illegal activities of the incorporation. This principle is known as ‘Lifting the Corporate Veil’.
When it becomes necessary to determine the legal character of a corporation
It becomes necessary to determine the legal character of a corporation when the members like directors or the shareholders of the company start committing fraud, or other activities which are not in confirmation with the existing law.
The morale behind this is that a corporation although identified to be an artificial entity, yet it cannot perform any tasks or jobs without its agent i.e., it is incapable to do any work on its own. Hence, when its agent does or perform any illegal task in the name of the company, in order to reach to the right culprit, lifting of the corporate veil becomes necessary.
In the landmark judgment of Saloman v. Saloman Ltd. Co., the English law court held that company and its members are separate entity and therefore, the property owned by the company does not belong to its members. This paved the way for many members to commit illegal activities inside the veil of the corporation. However, later in due course of time, the court held that if the court feels that it is necessary to lift the corporation, then they can do that anytime and reach the real culprit.
For benefit of revenue
An incorporated company have to necessarily pay taxes on the revenue generated by the company. Evasion of tax is illegal and has always been disregarded by the court.
In the landmark case of RE: Dinshaw Mackenzie Petit v. Unknown case where the founders of the company with the objective of enjoying high income and huge dividends, opened four new sham companies. The income generated through initial company was added into these four companies and the founder of the company was repaid in the form of pretended loan. In this way, the founder of the company divided his income in four parts and utilised the tax benefits. However, the court held that the formation of four companies was only to evade super tax and hence lifting of corporate veil was important here.
When company conceived and brought forth for fraudulent purposes
The judicial intervention is necessary for the courts to highlight the fraudulent activities of the company and to reach the right culprit who was responsible for those acts. With the passage of time, courts have performed their duties well and recognised the situations for lifting the corporate veil as and when necessary.
In the case of Gilford Motor Company v. MR. Horne, Mr. Horne was an ex-employee of the Gilford Motor Company. According to the terms of contract, he cannot solicit customers. However, in order to gain advantage, he founded another company in the name of his wife and solicited the customers. The company took legal action against him and filed a case in the court. The court in its judgement held that Mr. Horne had established the company with the strategy and intention to do fraud under the mask of the corporate identity. Therefore, the corporate veil has to be lifted here.
Another case of Jones v. Lipman, a man contracted to sell his land and thereafter changed his mind in order to avoid an order of specific performance. The Hon’ble Judge, specifically, referred to the judgements in Gilford v. Horne and held that the company here was “a mask which (Mr. Lipman) holds before his face in an attempt to avoid recognition by the eye of equity” he awarded specific performance both against Mr. Lipman and the company. The court was of the belief that no one will be allowed to abuse the corporate form.
Agency or trust
Under agency, it is the discretion of the court to decide whether the company is acting as an agent for the shareholders or not. If the company is acting, the shareholders may be responsible for the activities of the company which invalid from the point of law.
For better understanding, A company having power to act as an agent may do so as an agent for its parent company or indeed for all or any of the individual members if it or they authorize it to do so. The courts cannot lift the veil if there is no express or implied conditions in the agreement.
Furthermore, the court has the right to lift the corporate veil if a corporation is administered by board of trustees to check whether the shareholders in the trust have held the shares as per legal terms or not.
There was a case with the same fact known as Abbey v. Planning, where there was a trust who administered the educational institutions. The court was of the same view that if this trust does anything wrong, then the trustees shall be accountable.
Under statutory provisions
The Companies Act, 2013 provides for certain provisions to point out that person who shall be held liable for any such illegal activities. The person who is held liable is known as “officer who is in default” under Section 2(60) of the Act.
Following are the provisions in the indian law regarding “lifting of the corporate veil”:
- Reduction of membership below statutory minimum (Section 45): Under this section, if in the case of public company, number of members is reduced below 7 and in the case of private companies, the number of members is reduced below 2 and still there is continuance of business in the company for more than six months, then all the members or any person who were well aware of it shall be severally liable for the debts contracted during that time.
- Improper use of name (Section 147): Under Section 147(4) of this Act, an officer of a company, if signs any bill of exchange, promissory note, cheque wherein the name of the company is not mentioned in the correct manner, then such officer shall be held personally liable to the holder of the bill of exchange, unless it is duly paid by the company.
- Liability for fraudulent conduct of business (Section 542): If the company is on the verge of closing, and it is noticed that the members form the shareholders of the company have done fraudulent activities to defraud the creditors of the company or any person, then such members or the person who were aware of that activity shall be held liable.
- Failure to refund application money (Section 69(5)): Under this section, the directors of the company are jointly and severally liable for the repayment of the application money with interest, if the company fails to pay them within 130 days of the issuing.
- Repeated Defaults ( Section 449) : Under this section, if a company commits an offence with a punishment of imprisonment or fine and is committed again and again within 3 years, then the company or the officer relating has to pay a penalty if twice the fine amount along with the punishment for that offence.
Formality and expense
The procedure followed for the incorporation of the companies is very complex and lengthy which restrains oblivious people from doing business. It requires a considerable amount of time and money. The other provisions of the Act like particular events for corporate audits, meetings, borrowing, editing to be conducted, filing of returns and other documents, etc.
Company is not citizen
The citizenship of india is decided under the Citizenship Act, 1955. According to this Act, the company, being an artificial person, cannot have citizenship and hence it cannot be called a citizen of India. Moreover, since the company is not regarded as the citizen, therefore, it cannot enjoy various rights provided by the Constitution of india.
Although the company is not a citizen of India, yet it possess domicile, residence and nationality. The question of whether a corporation can claim rights conferred to the citizens of india was decided by the Supreme Court of India in the case of Tata Engineering Locomotive v. State Of Bihar. The court held that although all the members of the company are indian, yet it cannot claim protection of fundamental rights because legal status of company is totally different from the legal status of its shareholders and members.
How are company formed?
According to section 3(1) of the Companies Act, 2013, there are three types of companies which can be registered. They are:
- Public Company – When the company is formed by seven or more than seven persons.
- Private Company – When the company is formed by two or more than two persons.
- One Person Company – When the company has only one person as its member and he/she is the only shareholder of that company.
The company formed under this Sub-section can be classified into three types:
- A company limited by shares.
- A company limited by guarantee.
- An unlimited company.
Classification of Companies
On the basis of classification of incorporation, there are two types of companies. They are:
- Statutory Companies – The companies which are constituted by the special act of the Parliament or state legislatures. The companies act, 2013 is not applicable to them. Some of the examples are Life Insurance Corporation, etc.
- Registered Companies – The companies which are incorporated according to the procedure of the Companies Act, 2013 and the Act is applicable to them. Some of the examples are Hindustan Unilever Limited, etc.
Registration and Incorporation
The Section 7 of the Companies Act, 2013 explains to us the “incorporation of company”. The word ‘registration’ and ‘incorporation’ is often confused. The main difference between these two words is that when the company is incorporated, only those assets are taken into account which have been invested but in the registration, even the personal assets will be taken into consideration if the company runs into losses.
Procedure of incorporation of the company
- The company shall have to register itself with the Registrar within its jurisdiction with the following documents and information of registration:
- The memorandum and articles of the company shall be signed by all the members ascertaining the memorandum.
- A declaration shall be prescribed by the Chartered Accountant, Advocate, Cost Accountant or Company Secretary, whoever is involved in the process. This declaration paper shall have a name of a person who may be a director, manager or secretary confirming that the rules made under the registration are complied with.
- The correspondence address will be provided until the registered office is established.
- An affidavit shall be signed by all the members for the promotion, formation and management of the company.
- All members, directors and the other interested person shall provide their names with surnames, Director Identification Number, residential address, nationality and other particulars as may be required including the proof of identity.
- The registrar on receiving the documents and information required for registration, shall issue a certificate of incorporation in the prescribed form and register the company under this Act.
- On the date of issue of certificate of incorporation, the registrar shall allot a separate distinct corporate identity to the company.
- There shall keep a copy of all the documents presented during the incorporation of the company till its dissolution.
- If a member furnishes false information in any matters, of which he/she is aware of, he/she shall be liable for committing fraud under Section 447 of the Companies Act, 2013.
- In any case, if it is proved that the company incorporated has furnished any information falsely, incorrectly or fraudulently, then the promoters, the person named as first directors and person making the declaration shall be held liable for committing fraud under Section 447 of the Companies Act, 2013.
- In the case of fraudulency, the tribunal will be constituted who after giving reasonable opportunity of being heard to the company shall pass such orders which it shall deem to be fit and sufficient. Following orders may be passed by the tribunal:
- Regulation of management of the company and its members.
- Liability of the members.
- Removal of the name of companies from the register of companies.
- Winding up of company.
- As the tribunal deems fit.
Certificate of incorporation
Section 18 of The Companies(Incorporation) Rules, 2014 provides for the issuing of a certificate of incorporation. The Certificate of Incorporation is the ‘birth certificate’ of the company showing its legal name and the date of incorporation. It is issued to all the entities who have registered with the Registrar of Companies. The certificate confirms the company’s existence and other important information like its date of incorporation, registration number, etc.
The Certificate of Incorporation is important for a company because this helps an investor to sell his/her shares. Even when the company applies for loans, this certificate is required.
As the word suggests, Pre-incorporation contract means those contracts which are made by or on behalf of the corporation at the time when it wasn’t registered under Register of Companies.
Legal status of Pre-incorporation Contracts
Since, the contract is signed by the promoter on behalf of the corporation acting as an agent of the company which is still not registered, the liability of such contracts comes under the promoters itself. However, before 1963, although the promoter was acting for the company, yet he was solely responsible for any activity of the company. After enforcement of Special Relief Act of 1963, the promoters heaved a deep sigh of relief because according to Section 15(h) of the Special Relief Act, the companies were made liable for the acts done.
In the case of Weaver Mills Ltd. v. Balkis Ammals, the scope of this principle was extended by the Madras High Court. The court held that the promoters even though fail to convey the properties bought on behalf of the company after its incorporation, will automatically be acquired by the company as its own asset.
On the other hand, under Section 19(e) of Special Relief Act, 1963, the company can be held liable by the other party of pre-incorporation contract, if there is such terms written in the contract.
Pre-incorporation contracts can be undertaken by the company in the following manners:
- Introducing the contract when the company is being incorporated.
- Making a fresh contract with the members of the company.
- Accepting the benefits of the contract, either expressly or impliedly.
Commencement of business
The provision of the ‘Commencement Of Business’ was initially incorporated under the Companies Act, 1956, and was also included under section 11 of the Companies Act, 2013. Later on, in 2015, it was omitted by the legislature.
Recently by The Companies (Amendment) Act, 2018, it was added under Section 10A of the Companies Act, 2013.
According to section 10A of Companies Act, 2013, a company after its incorporation cannot begin its business unless and until it has obtained the Certificate of Commencement of Business and fulfilled the following conditions:
- Filed a declaration within 180 days of incorporation which has a confirmation that all the members of the company have paid the value of their shares as per the agreement.
- Filed a verification of its registered office address with the Registrar of Companies within 30 days of its incorporation.
- Removal of the name of companies from the Registrar of Companies if the provisions of the Act is not complied with or if the company is not carrying out any business.
Steps to obtain Certificate of Commencement of Business
- A declaration form has to be filled up along with bank statements of the company showing the payment of value of shares by the shareholders.
- A certificate of registration have to be submitted.
Consequences of Non – Compliance
There is a penal provision for the non compliance of this provision under this Act. the defaulter is charged with a penalty of Rs. 50,000 on the company and Rs. 1,000 per day on every member of the company.
Apart from complying with the rules, regulations and procedures, one must keep the following in mind while running the business. These provisions must be intimated or approved by the Registrar of Companies so that there is smooth running of business. They are:
- Change in the members of the company.
- Change in statutory auditor of the company.
- Change of registered office.
- Change in Memorandum or Articles.
- Increase in capital.
The following provisions, according to the Companies Act, 2013 should never be violated.
- The company should not do other activities which are not mentioned in the objective clause of the company’s contract.
- The company should not issue securities to third party or to the public at large.
Legislation being the part of the government and companies being the most important part of economy to earn revenue for the country, they are taking initiative to make the company law simpler. But, being a responsible citizen of India, one should be aware of the post-registration compliance which is equally important for a corporation because in any case, penal action will be taken by the authorities for the non-compliance. Therefore, the promoters should be well aware of the next steps to be taken for the company. It is always recommended to ask the help of professionals for reducing chances of being non-compliant.
This article has tried to consolidate all the basic knowledge and the documents required to incorporate a company under the Companies Act, 2013. The advantages and disadvantages have also been highlighted. Since every coin has two sides, therefore incorporation also has both pros and cons. The legislature of india have been very effective in bringing out changes that are required in the said Act. The only change required for the incorporation is that in the technological world, the procedure of incorporation should be made online so that the complexity is reduced and time is saved of the members involved.
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