What is a legal entity?
A legal entity is anyone the law treats as a 'person': it can own property, sign contracts, sue and be sued. A human being is a natural person. A company or LLP is an artificial legal person, created by registration.
- Separate legal entity: the business is a different person from its owners. Its debts are its own.
- Unlimited liability: if the business cannot pay, the owner's personal property (house, savings) can be used.
- Limited liability: an owner can lose only the money they put in or promised.
- Perpetual succession: the entity continues even if an owner dies or leaves.
Sole proprietorship
A sole proprietorship is owned and run by one person. It is the easiest form to start: often only a local licence or tax registration is needed.
- The owner takes all profit and makes all decisions.
- No separate legal entity: the owner and the business are the same in law.
- Unlimited liability: business debts can be recovered from personal assets.
- It ends when the owner dies or stops; it has no perpetual succession.
- Good for small shops, tutors, freelancers; hard to raise big money.
Partnership
A partnership is formed when two or more people agree to share the profits of a business run by all, or by any of them acting for all. In India this is governed by the Indian Partnership Act 1932.
- Partnership deed: a written agreement on capital, profit-sharing ratio, duties and what happens when a partner leaves. Registration is optional in India but helps in court.
- Members: at least 2; in India at most 50 (under company rules).
- Unlimited and joint liability: each partner can be asked to pay the whole debt and then claim a share from the others.
- Mutual agency: each partner is an agent of the firm; one partner's business act binds all.
- Not a separate legal entity: the firm ends if partners decide, or by law in some cases.
Limited liability partnership (LLP)
An LLP mixes the flexibility of a partnership with the safety of a company. In India it is governed by the LLP Act 2008; many countries have similar forms.
- Separate legal entity with perpetual succession; it can own property and sue in its own name.
- Limited liability: a partner's risk is limited to the contribution agreed in the LLP agreement. A partner is not liable for another partner's wrong acts.
- At least 2 partners and at least 2 designated partners who handle legal filings; no upper limit.
- Must be registered and file yearly accounts and returns.
- Popular with professionals such as accountants, lawyers and consultants.
Private, public and one person companies
A company is a separate legal person formed by registration (in India under the Companies Act 2013). Its owners are shareholders; it is run by a board of directors. Liability is usually limited by shares.
Private company
- In India: at least 2 members and at most 200 (not counting employees), at least 2 directors.
- Restricts transfer of shares and cannot invite the public to buy shares.
- Name ends with 'Private Limited' (Pvt Ltd). Similar to 'Ltd' or 'LLC' elsewhere.
Public company
- At least 7 members, no upper limit, at least 3 directors.
- Can raise money from the public and list shares on a stock exchange; shares are freely transferable.
- Stricter rules: audits, disclosures, board meetings. Name ends with 'Limited' (similar to 'plc').
One Person Company (OPC)
- Only one member, yet a separate legal entity with limited liability.
- Must name a nominee who takes over if the member dies or cannot act.
- Lets a single founder get company protection without a partner.
Key formulas and definitions
- Sole proprietorship: 1 owner · unlimited liability · not a separate entity
- Partnership: 2 to 50 partners (India) · unlimited, joint liability · deed
- LLP: 2+ partners (2 designated) · limited to contribution · separate entity
- Private company: 2 to 200 members · limited · shares not offered to public
- Public company: 7+ members · limited · shares can be listed
- OPC: 1 member + nominee · limited · separate entity
- Owner's loss (limited) ≤ capital put in; Owner's loss (unlimited) = whole unpaid debt
Worked examples
1. A business owes ₹16 lakh but has only ₹10 lakh of assets. How much can creditors recover from the owner's personal property if it is (a) a sole proprietorship, (b) an LLP?
Unpaid amount = 16 − 10 = ₹6 lakh. (a) Sole proprietorship: unlimited liability, so the full ₹6 lakh can be taken from the owner's personal assets. (b) LLP: limited liability, so nothing beyond the partner's agreed contribution; creditors bear the ₹6 lakh loss (unless there was fraud).
2. Ravi and Sara are partners sharing profits 1 : 1. The firm owes ₹8 lakh and has no assets. Sara has no money. How much can the creditor take from Ravi?
Liability is joint and unlimited, so the creditor can take the whole ₹8 lakh from Ravi. Ravi can later claim Sara's share (₹4 lakh) from her when she is able to pay.
3. A start-up founder works alone but wants limited liability and plans to invite many investors later. Which forms suit her now and later?
Now: a One Person Company (one member, limited liability, nominee required). Later, when investors join: convert to a private company; if she wants to sell shares to the public and list, convert to a public company.
Common mistakes
- Thinking a partnership firm is a separate legal entity. In general partnership law it is not; partners themselves are liable.
- Saying LLP partners have unlimited liability. LLP liability is limited to the agreed contribution.
- Mixing up the numbers: private company 2 to 200 members, public company at least 7 with no maximum.
- Believing an OPC has unlimited liability because there is one owner. It is a company, so liability is limited.