Laws for Startups || The Basics

Barrister Khalique Zaman did his Bar-at-Law from Honourable Society of Gray’s Inn and L.L.B. (Honours),  from SOAS University of London.

 

Mohtashim Ahmad Siddiqi is a Solicitor of England and Wales and did his Bachelors in Engineering from Loughborough University, U.K.

 

At Professional Consultants Limited (PCL) there is a team of Lawyers, Chartered Accountants and other Taxation and Financial experts who are well-equipped and have been providing services for the last 9 years to several businesses and startups. PCL is a one of a kind consultancy company offering a one-stop solution to all businesses and startups to all their problems. The team at PCL has already assisted several startups all across the country and are consultants with several incubation centers of Pakistan. Mohtashim and Khalique outline the basics about registering a company, filing requirements etc. and the impact of the new amendment to the company law on startups.

Why Register your Startup

There are different types of legal entities that a startup can register as. First and foremost is the sole proprietorship. Any single person who wants to register an entity can just go to the FBR website where they can generate an NTN and become a sole proprietor. Usually, multiple people are involved in forming a startup. In that case, you have to go for an AoP (Association of Persons) or get a private limited company registered with the SECP. The thing with startups is that there are people from different backgrounds and want their liability to be limited, so they mostly pursue the private limited route.
In case of a startup getting investment, the different VCs prefer to have a company which is registered as a private limited. Personally, we recommend that that in case of people who have partners, they should go for an AoP. The reason is that the statutory obligation is limited. It’s a simple process, which can be achieved with a simple stamp deed. There’s not even a need to go to the registrar to get it done. It’s a very simple matter to start your business. If and when your business starts to prosper and you start making money, then you can decide to go for registering it with the SECP. In SECP, there are statutory requirements – you need an auditor, an accountant, a lawyer.
We always advise startups to focus on their operations first and hence go for a sole proprietorship or an AoP to begin with. On part of startups, there is hesitation in registering the business. This is because of a trust deficit between the government and the startups. They think that if they get into the government’s books (it might be the tax authorities or the SECP), they would get tangled into legal matters.
The more important thing to note is that when startups start working, there are two things for us to consider:
(i) what is going to make more commercial sense for them.
(ii) if multiple people are coming together to form an entity, what measures can be taken to avoid disputes in the future.
If there are more than one person involved, it is very important to have a legal agreement, written down properly in terms of what their individual roles are and what they’re going to get in monetary terms. There are two types of partnership: one is a registered partnership and the other is an unregistered partnership. One needs to be registered and the other one doesn’t. The only difference is that you can take a registered partnership deed to the court in case any dispute arises. We often see that startups quite understandably, do not have the capital in the beginning – so, it’s a good idea to keep costs down. Startups struggle to get on their feet and so, it is not recommended that they should hire costly lawyers and accountants to do their filing work at the SECP. So, we suggest to startups that we would get their partnerships made – we speak to the various partners and draw up an agreement accordingly.
The day they start generating money, they can get a private limited company registered. A private limited company is a manner of limiting your liability. If there’s a single person, you can initially get a sole proprietorship registered and when money starts coming in, they can register a Single Member company, which is also a private limited company at the SECP. Sole proprietorship and AoP only have the FBR where taxes need to be filed. There is no other entity involved. If a startup thinks that it needs an exit strategy, we advise startups to take the SECP route when they start generating money. One concern is that if a startup doesn’t get itself registered with the SECP from the beginning, they might lose the name. What we suggest is to get a trademark registered with the IPO, which basically protects their logo and their name. What we need to understand is that the name of the company is not necessarily the business name. So the business name can be completely different from the name that is registered. What is important is to protect the brand name that a startup is building.
When Looking for Investment
VCs usually require the startups to have private limited companies because it’s easier for them to do subscription agreements because they would purchase a certain amount of shares for the money that they’re going to invest in the startup. So, for them it’s easier and more convenient to invest in a private limited company. In case of an AoP, if there’s investment, a lot of changes need to be made to the deed, so they prefer to invest in private limited companies.
That is why, when startups are incubated, they are encouraged to register as private limited company. On the other hand, we recommend a slightly different route that once your idea is validated or you have convinced a VC to invest, at that point in time, you should get a private limited company registered. You can also convert an AoP to a Limited Liability Partnership with the SECP. The VCs feel much more confident when a company is registered with the SECP. This is mainly because when you’re registered with the SECP, your company records are public and anyone can go and check the records, that is also why VCs find it much easier to do their due diligence better with a private limited company.
Filing Requirements
When we talk about filing requirements, there are two things:
(i) the tax requirements – any entity would be making some kind of income whether it’s a product or service. When it comes to tax, there are two aspects. One is income tax and the other is sales tax. The income tax needs to be filed with the FBR no matter what type of legal entity and no matter where it’s registered. The other thing is that you have to file your annual bank statements with the returns. When it comes to sales, you have to file statements reflecting your monthly sales and you have to deposit your sales tax amount.
(ii) If you are a private limited company, then during registration, there is a form A and a form 29 in addition to all the other documents. This means that you’re informing the SECP about who your CEO, shareholders and partners are and what your financials look like. There is an update to the company law now, under which they’ve amended some of the statuary requirements.
Amendment to the Company Law
Under the new amendment, certain statutory obligations have been updated for companies that have been operational for less than 10 years and have less than Rs. 500 million turnover. Most, if not all SMEs would fall under the category. They have sort of put them under the same bracket as startups. We have to realize is that it’s hard for the government to introduce regulations just for startups. By taking this step, the government has made this exception not just for startups but also for SMEs.
One of the brilliant things they’ve done is that what we see is that when a startup wants to register as a private limited company and has share capital – there’s a difference between the issued share capital and the paid up capital of a business. If a company wanted to have share capital of one million rupees and a paid up capital of one million as well. Before this amendment, the partners were required to subscribe to this paid up capital within 30 days of registration. Now, SECP is going to start rules where these startups can subscribe to the money at a later stage – this is helpful if startups don’t have that much money at the time of incorporation.
When we incorporate companies, they need a lot of share capital because they need to perhaps bring machinery from abroad and need to set it off against their assets. This is a big problem for them because they don’t have that much money. Previously, companies with paid up capital of less than a million rupees were required to file their financial statements with the SECP, now they’ve gotten rid of it completely.
The requirement of auditing for companies with paid up capital of more than a million rupees still remains. Before the amendment, every company was required to have a common seal and now they’ve removed that requirement, making it a lot easier. They have also introduced this new section 458 (A) for ease of doing business – they will introduce further regulations that would help the startup community.

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