Professional Documents
Culture Documents
Under sole proprietorship, the entire income of a business unit gets assessed in
the hands of the same person along with other income, while the entire loss and
other allowances shall be available for set off in his hands against other income.
This may have some advantage in the initial years, after which the possibility of
converting it into company/firm may be considered; on such conversion, the
questions of possible capital gains tax, etc., will have to be considered.
Advantages & Disadvantages of Proprietorship
Advantages of a Sole Proprietorship
Easiest and least expensive form of ownership to organize.
Sole proprietors are in complete control, and within the parameters of the law, may make
decisions as they see fit.
Sole proprietors receive all income generated by the business to keep or reinvest.
Profits from the business flow-through directly to the owners personal tax return.
The business is easy to dissolve, if desired.
With more than one owner, the ability to raise funds may be increased.
The profits from the business flow directly through to the partners personal tax returns.
Prospective employees may be attracted to the business if given the incentive to become a
partner.
The business usually will benefit from partners who have complementary skills.
50% 40,000
40% 30,000
30%
20,000
20%
10% 10,000
0% 0
3 4 8
Net Taxable Income 102,000 318,000 1,926,000
Interest 120,000 180,000 960,000
Salary 378,000 702,000 3,114,000
Tax on Partners 10,506 24,566 74,392
Tax on partner : Firm
Particular Case 1 Case 2 Case 3
Number of partners 3 4 8
Salary 126,000 175,500 389,250
Interest 40,000 60,000 320,000
Income 166,000 235,500 709,250
Income after 80C DEDUCTIONS 16,000 85,500 559,250
Tax on net income 0 0 37960
100,000
80,000
TAX LIABILITY
60,000
40,000
20,000
0
3 4 8
Partnership Firm 10,506 24,566 112,352
proprietorship Firm 0 0 46,350
To avoid high tax incidence on firms, firms may be converted into sole proprietorship.
Partnership firm
The following basic assumptions have been made
1. There are two partners X and Y with an equal share of profit.
2. They want to draw the maximum permissible amount as salary. Both the
partners will draw equal salary.
3. Income is from business (not from profession)
4. They are entitled to simple interest at the rate of 12 per cent on the capital
contribution of RS.10,00,000.
5. Partners do not have any income.
Taxable
Taxable
income Total tax as
Interest on income of
before Salary payable Tax liability of Tax liability of percentage of
capital to firm after
deduction of to X and Y the firm the partners income (5+6)
partners salary and
salary and as % of (1)
interest
interest
1 2 3 4 5 6 7
90%
300,000
80%
70% 250,000
60%
200,000
50%
150,000
40%
30% 100,000
20%
50,000
10%
0% 0
500,000 1,000,000 1,500,000 2,000,000 2,500,000 3,000,000
Interest Salary taxable Income Firm Tax Liablity Partner Tax Liablilty
Private limited company
On the same data tax incidence is computed in the case of private limited
company, the following assumptions have been made:
1. X and Y will be the two shareholder and directors of the company.
2. they will draw salary, as there is no maximum limit under the income tax
act. They will draw salary @ 90% of profit up to Rs. 3,00,000 of profit and
60% of balance it is assumed that provision of section 40A(2) are not
attracted.
Taxable
income before Salary to Taxable Total tax of
Tax liability of Taxable Tax liability of
payment of directors X income of the the company
the company income of X X
salary to and Y company X and Y
directors
1 2 3 4 5 6 7
Rs. Rs. Rs. Rs. Rs. Rs. Rs.
5,00,000 3,90,000 1,10,000 33,990 1,95,000 0 33,990
10,00,000 6,90,000 3,10,000 95,790 3,45,000 4,640 1,05,070
15,00,000 9,90,000 5,10,000 1,57,590 4,95,000 20,090 1,97,790
20,00,000 12,90,000 7,10,000 2,19,390 6,45,000 55,620 3,30,630
25,00,000 15,90,000 9,10,000 2,81,190 7,95,000 86,520 4,54,230
30,00,000 18,90,000 11,10,000 3,42,990 9,45,000 1,17,420 5,77,830
TAX INCIDENCE ON PRIVATE LIMITED COMPANY AND
DIRECTORS
100% 400,000
90% 350,000
80%
300,000
70%
60% 250,000
50% 200,000
40% 150,000
30%
100,000
20%
10% 50,000
0% 0
500,000 1,000,000 1,500,000 2,000,000 2,500,000 3,000,000
SALARY COMPANY TAXABLE INCOME
TAX BY COMPANY TAX BY DIRECTOR
FIRM V/S COMPANY
25.00%
20.00%
Total Tax as % of income
15.00%
10.00%
5.00%
0.00%
500,000 1,000,000 1,500,000 2,000,000 2,500,000 3,000,000
Firm 3.83% 9.52% 13.47% 16.28% 17.97% 19.10%
Company 6.80% 10.51% 13.19% 16.53% 18.17% 19.26%
HOW TO REDUCE TAX INCIDENCE
ON COMPANY
firm Private limited company
Partners are increased to five Directors are increased to five
Total salary payable to partner Total salary payable to directors
remains the same (maximum is increased to 90 per cent of
permissible) total income of the company.
(there is no maximum limit on
remuneration payable to
directors)
Tax incidence on Firm and Partners
Taxable Interest Salary Taxable Tax liability Tax liability Total tax as
income on capital payable to income of of the firm of the percentage of
before to 5 Partners firm after partners income (5+6)
deduction partners salary and as % of (1)
of salary interest
and interest
(1) Rs. (2) Rs. (3) Rs. (4) Rs. (5) Rs. (6) Rs. (7) Rs.
90%
300,000
80%
70% 250,000
60%
200,000
50%
150,000
40%
30% 100,000
20%
50,000
10%
0% 0
500,000 1,000,000 1,500,000 2,000,000 2,500,000 3,000,000
Interest Salary taxable Income Firm Tax Liablity Partner Tax Liablilty
Tax incidence on company and five directors
Taxable
Total tax of
income Salary Taxable Taxable Taxable
Tax of the (7)
before to five income of liability of income
one company as%
payment of director the the of one
director and five of (1)
salary to s company company director
directors
directors
(1) Rs. (2) Rs. (3) Rs. (4) Rs. (5) Rs. (6) Rs. (7) Rs. (8) Rs.
90% 90,000
80% 80,000
70% 70,000
60% 60,000
50% 50,000
40% 40,000
30% 30,000
20% 20,000
10% 10,000
0% 0
500,000 1,000,000 1,500,000 2,000,000 2,500,000 3,000,000
SALARY COMPANY TAXABLE INCOME TAX BY COMPANY TAX BY DIRECTOR
Firm V/s Company
14.00%
12.00%
10.00%
Total Tax as % of income
8.00%
6.00%
4.00%
2.00%
0.00%
500,000 1,000,000 1,500,000 2,000,000 2,500,000 3,000,000
Firm 3.83% 8.10% 9.52% 10.23% 11.22% 12.44%
Company 3.09% 3.09% 3.09% 4.64% 6.18% 8.76%
The aforesaid proposition is examined
in the following case study:
Firm Private Company
Tax treatment in the Share of profit in firm Share of profit in firm Dividend in the hands
hands of shareholders is not taxable in the is not taxable in the of shareholders is not
or partners hands of partners. hands of partners. taxable. However,
deemed dividend
under section 2(22)(e)
is an exception