Oct 31, 2009

Answering Readers’ Questions (# 2) – Starting a Consultancy in India

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The following question was asked by a reader in the comment section of the post: Residential Status of Returning Indians.

Q: Is there a difference or advantage in operating as an Individual or setup a firm in trying to work from India for a US client? I assume as a consultant, I could claim tax deductions on travel and such. Would business setting enable tax deductions on rent if operating from home? BTW, any recommendation of folks who can advice me either in US/India regarding this would be appreciated.

As the query requires an exhaustive response, I thought it prudent to write a separate and detailed post so that other upcoming / budding entrepreneurs can also benefit from the advice.

How to Start a Consultancy Business in India: Regulatory and Other Issues
An individual planning to start his own consultancy in India, would like to have the answers for the following questions:

Q1: Can I simultaneously start my own business / consultancy while working as an employee?

Q2: Which is better from tax point of view: salaried employee vs. working as a consultant?

Q3: If I start a consultancy, then what are the legal formalities?

Q4: If working as a consultant, whether to open a sole proprietorship firm or work under individual’s name?

Q5: If I open a sole proprietorship, whether any registration is required for it?

Q6: How can I be sure that the name I’m going to use, say, “ABC Consultants” is unique and there is no other business or profession is being operated under the same name? What if in future I become famous and someone else copies my firm name?

Q7: What is the status of sole proprietorship under Income Tax Act, 1961? Do I need to apply for a separate PAN card for sole proprietorship? Do I need to file two returns, one in the individual capacity and other for proprietorship firm? What are the tax deductions allowed in running my own business or consultancy? How does it make a difference in the taxation if I run the run the business / profession from home?

Q8: What are the TDS implications?

Q9: Whether any other tax is applicable such as service tax? If yes, then is there any exemption limit below which I’m not liable for service tax? What about service tax registration? Is it required irrespective of the exemption limit or only if my billing exceeds certain minimum threshold? Do I require registration before starting the service or can I apply afterwards? What is the rate service of service tax applicable for FY 2009-10?

Q10: Whether a separate bank account is required for banking purposes?

Q11: What if I render services to a foreign client?

Q12: What if I start a sole proprietorship and later on in future (to expand the business) decide to convert it into partnership / company?


In a nutshell, the reader wants to know how to start a consultancy business in India?


Working as an Employee vs. Consultant: Income tax Implications
Location of Clients: In deciding whether to work as an employee or as a consultant, it is immaterial whether you work for a US client or Indian client.

However, if you work for US clients you also need to take into account US tax laws and DTAA between India and US.

Tax on Salary vs. Professional Income: As a consultant your income is taxed under the head “Income from business or profession” and accordingly you’re entitled for all the genuine expenses incurred for purpose of running your professional practice such as travelling, rent (even if working from home), depreciation (on car, computer etc) printing and stationary, telephone etc.

On the other hand, if you work as an employee, your entire salary doesn’t get taxed. You’re entitled for various exemptions and deductions such as HRA (for rent paid), transport allowance, medical reimbursement, LTA etc.

TDS: If you are a salaried employee, the entire tax on your salary gets deducted at source as per section 192 of the IT Act. But, if you’re working as a consultant, TDS @ 10% is deducted under section 194J (TDS on professional or technical services).

Non-Tax Consideration: As a consultant you can work for many clients but as an employee you can only work for one employer. Why? There are no statutory restrictions on engaging yourself in any other activity / trade while simultaneously working as an employee. However, usually as per the terms and conditions of employment contract (appointment letter), employees are barred from undertaking any business, profession or vocation directly or indirectly without prior permission of the employer.


Starting or opening a Sole Proprietorship Firm
Meaning: A sole proprietorship firm (also called proprietorship) is a form of business entity (other forms are partnership firms and Companies registered under Companies Act, 1956) owned and operated by an individual. It is the oldest, cheapest, simplest and most common form of business organization.

Registration: In India, a sole proprietorship firm has no legal existence separate from its owner. Therefore, there is no requirement of registration.

However, you might require registration under other regulatory authorities. For example, if you’re a professional, say, practicing as a CA, you require registration with ICAI; if selling mutual funds, registration is required with AMFI; if selling insurance need to have license from IRDA; if into import / export of goods or services, IEC (Import Export Code) is required.

Tax Status: From tax point of view, it is immaterial whether you run consultancy in your name or open a proprietorship firm. Unlike a partnership firm, which has a separate status than the partners running it and is accordingly a separate tax entity for tax purposes, the sole proprietorship firm and the sole proprietor are the same and there is only one tax assessment in the name of individual. Therefore, only one tax return is to be filed in the name of individual.

PAN: There is no need to apply for a separate PAN card for proprietorship firm and you can quote your individual PAN wherever required in your business dealings. In other words, PAN of the proprietor will be PAN of the proprietorship firm.

Conversion: In future, if required you can convert your sole proprietorship into partnership firm or a private limited company under Companies Act, 1956.


Service Tax Implications
Registration: If you’re providing a specified taxable service and the aggregate value of the service provided by you exceeds Rs 10 lakh during the financial year, then you’re liable for service tax and also need a registration [Form no ST-1] under Service tax.

Rate: The current rate of service tax is 10.3 percent.

Location of Clients: If the taxable service is exported then no need to pay service tax by virtue of Rule 4 of Export of Service Rules 2005. But what is export of services? As per Rule 3 of Export of Service Rules, 2005, if the taxable services is provided from India and used outside India and payment is received in convertible foreign exchange, then the taxable service is considered as exported.


Banking Issues
If you’re running consultancy services or professional practice in your individual name, then there is no mandatory requirement to have a separate bank account. But it is always better to keep your personal transactions separate from business transactions as it also helps in accounting and compliance with tax matters.

On the other hand, if you’re rendering consultancy or other services under a sole proprietorship name, then it becomes necessary to have a separate bank account in the name of proprietorship firm. Why? Because your clients are going to issue cheques in the name of your proprietorship concern which can’t be deposited into your personal bank account.

Besides, as business / professional concerns are not allowed to open a savings bank account, you’ll have to open a current account. To open a business account in the name of proprietorship concern, banks usually demand a registration with any government or statutory body or a trade license (as a part of KYC norms) and if you don’t have any registrations / license, you might face problem in account opening. However, some banks allow you to submit a CA certificate. This is in fact the most troublesome part of opening a sole proprietorship firm.

But in my opinion banks are not at fault because in order to satisfy themselves about the genuineness of the sole proprietorship firm and as a safeguard against fraud, it becomes necessary for banks to require proper documentation.

Other Requirements
Website: Now a day, if you expect your clients / customers to take you seriously, it is a must to have your own website. So it is always better to buy a domain name at the beginning itself even if you would like to wait for sometime before launching your website.

Accounting & Auditing: As per section 44AB of Income Tax Act, 1961 read with Rule 6F of IT Rules, 1962 every person carrying on business or profession is required to maintain books of accounts depending upon the income and turnover / gross receipts as specified therein. In case of ‘specified professions’ the requirement is mandatory irrespective of the ‘gross receipts’.


Furthermore, according to section 44AB of IT Act, a person carrying on a profession is required to get his accounts audited if the gross receipts exceed Rs 10 lakh in a financial year.

Printing & Stationary: A letter head, visiting cards and a stamp is also required.

Trade Marks: If you want to make sure that in future nobody else makes use of your business name, brand or logo, you have to get it registered as a Trademark with Trademark Registrar under Trade Marks Act, 1999. Before registration a market survey is required to ascertain if same / similar mark is already in use in the market.

I’ve tried to ensure that the above write-up gives a comprehensive view of all the issues faced by a budding entrepreneur in starting his own consultancy business in India either in his individual name or as a sole proprietorship firm.

If anything is still missing, please write in the comment box. You can also send your queries directly to feedback [at] themoneyquest [dot] com.


Also see:
1. Why do we make Fatal Money Mistakes?
2. Answering Readers Questions: Part - 1

27 comments:

  1. This is fantastic. I appreciate your indepth coverage on this issue. You have addressed issue that I otherwise would not have thought about.

    I do have one question about TDS. You mention that as a consultant, 10% is deducted. If the service is being offered to an international client, who is the source? Does this mean I would have to pay 10% at the start of financial year?

    ReplyDelete
  2. You are getting confused between TDS and tax liability. TDS deduction @ 10% doesn’t mean that your tax liability also amounts to 10%. While TDS gets deducted from your gross professional receipts, your tax liability depends upon your total taxable income and the tax rates / slabs applicable to individuals. (I’ve already written about how to calculate your taxable Income in another post).

    Secondly, your international client is not bound by Indian tax laws and therefore not required to deduct tax at source. However, he might deduct the withholding tax, if applicable as per US tax laws to be read with DTAA between US and India.

    Therefore, there is no such requirement for you to pay tax @ 10% at the beginning of the year.

    Anyhow, there is yet another provision (section 208 to 211) under IT Act 1961 according to which you’re required to calculate tax on your total estimated annual income on or before specified dates (15th September, 15th December and 15th March) and if works out to be Rs 5,000 or more, you’ll have to deposit advance tax as specified therein.

    ReplyDelete
  3. I did understand that 10% was not my tax liability and potentially was just as an advance tax deposit to what could be a larger or lesser depending upon the annual income I show . I would have no qualms even if GoI wanted me to do it.

    I just wanted to make sure if my client had to follow Indian tax protocol and your reply clarified that.

    Thanks much. BTW, can I link this back from my blog?

    ReplyDelete
  4. Yes, of course, you can link to it.

    ReplyDelete
  5. Thanks a lot for sharing this wonderful article. I would love to read your further post.

    ReplyDelete
  6. Hi, I have one doubt on this.
    If we as a consultant, offering our service to one of our foreign clients and the services are offered in India and not exported, can we charge 10.3% service tax?

    ReplyDelete
  7. Dhanya,

    Yes, service tax will be applicable.

    ReplyDelete
  8. This is an amazing post summarizing everything I wanted to know in one place. I'm planning to provide consultancy to a client in middle east. In this case could you guide me as to what is the best option for starting my consultancy? Should it be a sole proprietorship firm?

    ReplyDelete
  9. This is an amazing post summarizing everything about a company setup. Am I correct in saying that the only way to provide consultancy is to setup a proprietorship firm? Also could you throw some light on setting up a web based IT startup? How different is it from a normal company?

    ReplyDelete
  10. Vinod,

    There are other forms of business organizations also such as partnership firm and a company. But you can start with proprietorship and later on if the need arises convert it into either partnership firm or a company.

    Web based IT start up is no different from a brick and mortar company as far as regulatory issues are concerned…only the business model is different.

    ReplyDelete
  11. Hi,

    can you pls elaborate on following section of this wonderful piece of information: Website: Now a day, if you expect your clients / customers to take you seriously, it is a must to have your own website. So it is always better to buy a domain name at the beginning itself even if you would like to wait for sometime before launching your website.
    Queries:
    1. How do i buy a domain name.
    2. What kind of charges are applicable from end to end i.e. opening the domain name, creation of website designing, maintenance of website etc.
    3. Any suggestions on firms offering services mentioned above

    Thanks,

    Nitesh

    ReplyDelete
  12. Thanks for this amazing post. I have recently set up a sole proprietorship management consultancy firm in Jaipur. I want to get CII membership; they are asking me for registration certificate. Where can I get the firm registered? Thanks

    ReplyDelete
  13. When I start a proprietorship firm, do I need a separate PAN for the firm or will my personal PAN be valid. If it is the latter, what happens to the TDS deductyed? I think that when TDS is deducted it will be in the name of the firm. How does it come into my credit?

    ReplyDelete
  14. Anonymous,

    In case of sole proprietorship firm, PAN of proprietor is considered as PAN of the firm. Yes, TDS will be deducted in the name of the proprietorship firm; as the TDS certificate will carry your PAN number, so you’ll be entitled to get credit for the TDS.

    ReplyDelete
  15. I want to work as an independent management consultant for now, till i get another job. So,
    Is there any professional consultant license or registration with any government body to be done?
    Then how is the tax rules on the income i earn from this work?

    thanks
    steven

    ReplyDelete
  16. Stevan,

    If you are working in a State such as West Bengal, Maharashtra, Madhya Pradesh and Karnataka where Professional Tax is levied, you’ll have to obtain registration from professional tax authority; in my opinion no other registration is required.

    For tax purposes, your professional income will be calculated separately under the head ‘Income from Business or Profession’ as already mentioned above and after clubbing with your other income, if any it will be taxed at the normal tax rates applicable to you.

    ReplyDelete
  17. we have a proprietor firm offering services in India, but in future we expect to get US clients as well, my questions are -
    1. For the services provided how do we receive payment from US client ? can the cheque given by US client be deposited in our Indian Bank account ?
    2. How will Double taxation affect us ?
    3. will i have to file IT returns in US as well in addition to India ?

    rgds
    nilesh

    ReplyDelete
  18. HI Stevan

    What are the tax implications for providing consulting services to clients in US , sitting in India ? also do we need seperate account for depositing the dollar cheques ? is there any alternate way of receiveing payments from client for services offered ?

    Rgds
    Dhanashri

    ReplyDelete
  19. If under a proprietary firm I offer my own services as well as that of someone hired by me, will it be considered as "Profession" or "Business", specifically for the purpose of auditing requirement (15 lakhs or 60 lakhs)?

    CRS

    ReplyDelete
  20. Thanks for the nice post. I have a query and request your inputs.
    If I run a proprietary firm, offer my own services as a consultant as well as that of others (hired by me and paid)will this be considered a profession or a business?

    CRS

    ReplyDelete
  21. Hi,

    Guys I am still bit confused, it seem to me that tax rate is higher for independent consultant. For example I pay 10.3% on grow, and then from rest I deduct my expenses and pay usual income tax. Am I right?

    For example I earn 70lac per year for my work, and say my business expenses are 12 lacs per annum. So what would be my tax?

    from what I understand, its as follow

    Service Tax(10.3%) : aprox 7 lacs
    Net Income: 70 -7 -12=51 lacs.

    so then on 50 lacs I pay may income tax? or should I be able to take out those 7 lacs?

    ReplyDelete
  22. Very good note, Sir. But you are silent on what are the claimable deductions that a sole proprietor can legitimately make in India. For example, if her business office is at her house, then can she charge 50% of her house running cost as an allowable expense?

    ReplyDelete
  23. Sir,
    Thank you so much. It's simply super. In few lines you described all the necessary formalities and doubts in Sole Proprietorship Firm.

    ReplyDelete
  24. Dear Sir,
    After reading your answers about the starting of a management consultancy in India , I wish to know the same details about the contract business in India. Whatever information you can provide , please . Your reply will be highly appreciated. Thanks.

    From:
    Hemant Vaishnav

    ReplyDelete
  25. Nice Information you have shared. I read it fully and enjoy.
    I am also represent management consultant which is based in DUBAI, EMEA Management & Consultancy Services Ltd was incorporated to provide a complete consultancy solution to the modern and fast moving business of today. These consulting services cover all aspects of the business including Management, Strategic Planning, Viability Analysis, restructuring and Project Management fields.

    ReplyDelete
  26. This is an excellent post, most helpful and has answers to most of my questions. Although I do have another question, my client is in New Zealand, and I do have a personal bank account there. Can I receive payments from the client in my foreign bank account? Or is it necessary to receive it in the Indian Current account. I am planning to work as a individual consultant.

    Regards,
    Giby Varghese

    ReplyDelete
  27. I would like to congratulate you for a great article.

    However, you have not touched the issue of Profession Tax in states where it is applicable.

    The issue of Profession Tax is confusing in the sense whether it is applicable to self-employed persons whose profession(s) are not listed in the respective Profession Tax Schedule of their states. Or is it something uniformly applicable irrespective of the nature of their profession(s) and whether or not it finds mention in the Schedule or not?

    If you could shed light on this issue.

    ReplyDelete

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