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Holding Company: Reasons to Start & Procedure - IndiaFilings

Last updated: November 13th, 2024 3:29 PM

Starting a Holding Company

When a company owns shares in other companies without managing day-to-day operations, it forms what is known as a holding company. This unique structure allows the holding company to control and guide the strategic direction of its subsidiaries by holding a significant portion of its shares. By centralizing control and focusing on high-level management, a holding company provides advantages like asset protection, reduced risk, and growth flexibility, making it an ideal choice for businesses looking to manage multiple ventures under one corporate umbrella. In this article, we will look into how holding companies work, their benefits, and the steps to establish one. Want to set up a Private Limited Company or LLP as a holding company? IndiaFilings can help you get started with easy, expert support for registration and compliance.

What is a Holding Company?

As per Company law, a company controlled by another company is called a subsidiary company, and the controlling company is called a holding company. Thus, “control” is used as the benchmark in company law to determine the status of a holding company. The control can be through management control or ownership of shares. As per Companies Act, 2013, this type of company is defined as about one or more other companies, meaning a company of which such companies are subsidiary companies. A holding company is a business entity created to own and manage assets rather than conduct day-to-day operations or sell products and services. Its primary purpose is to control one or more companies by holding the majority of their shares, allowing it to oversee their activities and strategic decisions without direct involvement in their operational tasks.

Subsidiary Company

A subsidiary company is a company in which the holding company, by virtue of control – controls the composition of the Board of Directors and, by capital – exercises or controls more than one-half of the total share capital either at its own or together with one or more of its subsidiary companies. The composition of a company’s Board of Directors shall be deemed controlled by another company if that other company, by exercise of some power by it, can appoint or remove all or a majority of the Directors. Ready to set up a subsidiary for your business? IndiaFilings offers expert assistance with the entire process, from registration to compliance, making it simple and hassle-free.

Holding Company – Subsidiary Company Relationship

A holding company – subsidiary company relationship will be established when:

The holding company is able to control the composition of the Board of Directors of the subsidiary company
The holding company holds more than 50% of the total share capital of the subsidiary company.

It can hold shares of the subsidiary company directly or by one or more of its subsidiary companies. Further, If holding Company A has a subsidiary Company B and subsidiary Company B has a subsidiary Company C, then subsidiary Company C will automatically become a subsidiary Company of A.

Features of a Holding Company

Here are the key features of a parent company:

Asset Ownership: A holding company’s primary role is to own assets, such as stocks, real estate, intellectual property, or equipment, rather than engage in commercial operations.
Control of Subsidiaries: It holds majority shares in its subsidiary companies, giving it control over their strategic decisions, policies, and management.
Limited Liability: Holding companies and subsidiaries are legally separate entities, which limits liability. This structure protects the holding company’s assets if a subsidiary faces financial or legal issues.
Risk Management: By dividing different business activities or assets into separate subsidiaries, a holding company reduces risk exposure for each entity, isolating issues in one area from affecting others.
Tax Efficiency: Profits can often be passed as dividends between subsidiaries and the holding company without additional tax charges, and certain gains from selling subsidiary shares can also be tax-exempt.
Centralized Administration: A holding company can centralize administrative services like HR, finance, and legal support, reducing duplication of efforts across subsidiaries and lowering costs.
Flexibility in Diversification: It enables a business to diversify into different sectors or industries by owning multiple subsidiaries, each focusing on a different area, under a single corporate structure.

Benefits of a Holding Company Structure Over a Standalone Company

A holding company structure provides several advantages over a standalone company:

Greater Control for a Smaller Investment

Holding companies can control multiple subsidiaries with just a 51% share in each, allowing them to manage numerous entities without needing to own them outright. This helps small business owners expand control using minimal investment.

Independent Entities

Each subsidiary operates as an independent legal entity. This means that if one subsidiary faces a lawsuit, the other subsidiaries and the holding company’s assets are protected from liability, reducing overall risk.

Management Continuity

When acquiring subsidiaries, a holding company often retains the existing management team, allowing day-to-day operations to continue as usual. The holding company only intervenes in strategic decisions, which can make acquisitions more appealing to potential subsidiaries.

Tax Benefits

Holding companies that own 80% or more of their subsidiaries can file consolidated tax returns, allowing them to offset losses in one subsidiary with profits in another. Additionally, dividends can move between subsidiaries and the holding company without extra tax charges, and gains from selling subsidiary shares may be tax-exempt.

Reduced Risk

By separating different parts of a business into subsidiaries, a holding company isolates risk within each entity. If one part underperforms or encounters financial difficulties, the others remain unaffected, which is impossible in a single company structure.

Asset Protection

The holding company, rather than subsidiaries, hold valuable assets like property, equipment, and cash investments. This keeps them safe from creditors and business risks tied to the operational side.

Shared Costs

The holding company can manage administrative and central services and then share across its subsidiaries, making expense management more efficient and reducing duplicate costs.

Examples of a Holding Company

Holding companies are widely used across industries to organize and streamline business operations. Here’s a key example: Alphabet Inc. Alphabet Inc. is a well-known example of a holding company in the tech industry. Alphabet owns Google, as well as other subsidiaries like Waymo (self-driving cars), Verily (life sciences), and DeepMind (artificial intelligence).

Types of Holding Companies

Here are the different types of holding companies, each defined by its specific role and relationship with its subsidiaries.

Pure Holding Company

A pure holding company is created solely to own shares in other companies without engaging in any business activities of its own. Its purpose is strictly to control and manage one or more firms.

Mixed Holding Company

A mixed holding company, also called a holding-operating company, not only controls other firms but also operates its own business activities. When it operates in completely unrelated industries from its subsidiaries, it is known as a conglomerate.

Immediate Holding Company

An immediate holding company owns voting stock or control in another company, even though it is itself under the control of another parent company. Essentially, it is a holding company that is also a subsidiary of another entity.

Intermediate Holding Company

An intermediate holding company serves as a bridge, being both a holding company of a subsidiary and a subsidiary of a larger corporation. It may be exempt from publishing financial records if it’s part of a smaller group under a larger corporate structure.

How Does a Holding Company Work?

A holding company works by owning and controlling shares in other companies, called subsidiaries, rather than engaging directly in day-to-day business operations. Here’s how it functions:

Ownership and Control: The holding company buys a significant portion (often 51% or more) of shares in other companies, allowing it to control these subsidiaries. By holding the majority of shares, it can influence or control major decisions within the subsidiaries, such as business strategies, policies, and high-level management choices. Sometimes, a holding company may own 100% of a subsidiary, giving it full control.
Independent Legal Entities: Both the holding company and each subsidiary are separate legal entities. This setup means the subsidiaries have their own liabilities and obligations, protecting the holding company from legal or financial troubles that might affect any one subsidiary. This separation also allows each subsidiary to operate independently, focusing on its specific line of business while the holding company provides oversight.
Centralized Management and Oversight: The holding company doesn’t manage the daily operations of its subsidiaries. Instead, it oversees strategic decisions, manages assets, and may provide centralized services, such as legal, HR, or accounting support. This structure allows the holding company to optimize operations across multiple subsidiaries by sharing resources and minimizing redundant functions.
Income Generation: The holding company generates income in various ways, including:
- Dividends from subsidiaries’ profits.
- Interest on loans it may provide to subsidiaries.
- Royalties or Licensing Fees for intellectual property owned by the holding company but used by subsidiaries.
- Management Fees for services it provides to subsidiaries, such as consulting, legal, or HR services.
- It may also earn capital gains if it sells its shares in a subsidiary at a profit.
Risk Management and Asset Protection: By housing valuable assets like intellectual property, property, or large cash reserves, the holding company keeps them insulated from the operating risks of its subsidiaries. If one subsidiary faces a financial or legal issue, it generally won’t impact the assets or operations of other subsidiaries or the holding company itself.

Registration of a Holding Company in India

The registration process for a holding company in India generally follows the same steps as for any other company, but with specific requirements in the Memorandum of Association (MOA) and Articles of Association (AOA) to clarify its role in controlling subsidiary companies.

Step 1: Decide on a Company Structure and Name

Choose a company structure (such as Private Limited, Limited Liability Partnership, etc.) and ensure the chosen name aligns with the naming guidelines under the Companies Act, 2013. The name should not be similar to any other registered business name.

Step 2: Obtain Digital Signature Certificates (DSCs)

Each director of the proposed holding company must obtain a Digital Signature Certificate (DSC). The DSC is essential for the electronic signing of forms submitted to the Ministry of Corporate Affairs (MCA).

Step 3: Obtain Director Identification Number (DIN)

Directors of the company need a Director Identification Number (DIN), which can be obtained during company registration by submitting Form DIR-3 if they do not already have one.

Step 4: File Name Approval via SPICe+ (Simplified Proforma for Incorporating Company

Submit the SPICe+ Part A form for name reservation on the MCA portal. Once approved, proceed to Part B for company registration.

Step 5: Draft Memorandum of Association (MOA) and Articles of Association (AOA)

The MOA and AOA are critical documents outlining the company's objectives and internal regulations, specifically modified for holding companies. The MOA should include the objective of controlling subsidiary companies’ assets, while the AOA must clearly define the holding company’s rights and responsibilities, including:

Name of the Subsidiary Companies: List any companies it will control.
Shareholding Pattern: Outline the ownership structure.
Percentage of Shares: Specify the exact shareholding percentage in each subsidiary.

Step 6: Submit Incorporation Forms on SPICe+ Part B

Complete Part B of the SPICe+ form, which includes various requirements like:

MOA and AOA: Attach the finalized MOA and AOA.
Registered Office Address: Provide the company's registered address.
Declaration and Affidavits: Directors and shareholders must submit a declaration of compliance.

Step 7: Submit e-Forms for Statutory Documents

Submit the following supporting forms and documents:

INC-9 – Declaration by directors and shareholders.
AGILE-PRO – Form to apply for Goods and Services Tax (GST) registration, Employee State Insurance (ESI), and other registrations.
DIR-2 – Consent is obtained from each director to act as a director of the company.

Step 8: Pay Registration Fees

Pay the required fees for incorporation, based on the company's authorized capital and additional fees for filing documents with MCA.

Step 9: Issue of Certificate of Incorporation

Once the MCA verifies the documents, a Certificate of Incorporation (COI) is issued. This includes the company’s Corporate Identification Number (CIN).

Step 10: Obtain a PAN and TAN

Once the company is incorporated, apply for a PAN and TAN through the MCA portal or directly with the Income Tax Department.

Step 11: Register with Other Authorities if Necessary

Depending on the business activities, register with additional authorities like GST, ESI, or Provident Fund, if applicable.

Does a Holding Company Pay Income Tax in India?

Yes, in India, a holding company must pay income tax on its earnings, just like any other company. The taxation of holding companies is governed by the Income Tax Act of 1961, and they are subject to corporate tax on their worldwide income, which includes dividends, interest, capital gains, and other sources of income.

Corporate Tax Rates:

Standard Rate: A domestic holding company is generally taxed at a base rate of 30% on its net income.
Reduced Rate for Smaller Companies: Companies with an annual turnover of up to INR 400 crore (as per the previous year's financial statements) are taxed at 25%.
Optional Tax Regime: Under Section 115BAA, domestic companies can opt for a reduced tax rate of 22% (effective rate around 25.17%, including surcharge and cess), provided they forego certain exemptions and deductions.

Surcharge and Cess:

A surcharge ranging from 7% to 12% is applicable based on the taxable income.
Health and Education Cess is charged at 4% on the tax plus surcharge.

Dividend Income:

As of April 1, 2020, India abolished the Dividend Distribution Tax (DDT). Dividends distributed by subsidiaries are now taxable in the hands of the shareholders, including holding companies.
Dividends received by the company from its subsidiary are included in its taxable income and taxed at the applicable corporate tax rate.

Section 80M Deduction:

To avoid double taxation of dividends within a corporate group, Section 80M allows a domestic holding company to claim a deduction for dividends received from its domestic subsidiaries to the extent that it further distributes the dividends to its own shareholders before the due date of filing the return. Example: If a parent company receives INR 10 lakh as dividends from its subsidiary and redistributes INR 8 lakh as dividends to its shareholders, it can claim a deduction of INR 8 lakh under Section 80M.

Interest Income and Other Income:

Income from interest on loans given to subsidiaries, royalties, or fees for technical services is taxable at the normal corporate tax rates.
Such income must be reported and is subject to transfer pricing regulations if transactions are with related parties.

Capital Gains:

Short-Term Capital Gains (STCG): Assets held for less than 36 months (12 months in the case of shares) are considered short-term. STCG is taxed at the normal corporate tax rates.
Long-Term Capital Gains (LTCG): Assets held for more than 36 months (12 months for shares) are considered long-term. LTCG, on the sale of listed equity shares exceeding INR 1 lakh, is taxed at 10% without indexation benefits. LTCG on other assets is taxed at 20% with indexation benefits.

Set-Off and Carry Forward of Losses

Holding companies can set off business losses and unabsorbed depreciation against income, subject to certain conditions. Business losses can be carried forward for eight assessment years.

Minimum Alternate Tax (MAT):

Companies not opting for the reduced tax rates under the new tax regime are subject to MAT under Section 115JB at 15% of book profits (plus surcharge and cess). Companies opting for tax rates under Section 115BAA or 115BAB are exempt from MAT.

Transfer Pricing Regulations:

Transactions between the parent company and its subsidiaries, if they are related parties, must comply with transfer pricing rules to ensure they are conducted at arm's length prices.

Compliance Requirements:

Tax Audits: If the turnover exceeds the specified threshold (currently INR 10 crore for businesses with less than 5% cash transactions), the company must get its accounts audited under Section 44AB.
Advance Tax Payments: Holding companies are required to pay advance tax in four instalments during the financial year if the estimated tax liability exceeds INR 10,000.
Filing of Income Tax Returns: Annual income tax returns must be filed by the due date (usually October 31 for companies requiring audit) to avoid penalties.

Conclusion

In conclusion, holding companies provide a valuable way for businesses to manage multiple subsidiaries under a single structure. They help protect assets, reduce risks, and create tax efficiencies, making them ideal for companies looking to expand or diversify. While managing a holding company can be complex and may involve higher compliance costs, the advantages—like centralized management and asset protection—make it a powerful tool for growth and stability in today’s business world.