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PARTNERSHIP FIRMS
Formation / Continuation / Dissolution / Restructuring.
PARTNERSHIP FIRMS / REGISTERED / UNREGISTERED :
- A partnership firm is an organization which is formed with two or more persons to run a business with a view to earn profit. Each member of such a group is known as partner and collectively known as partnership firm. These firms are governed by the Indian Partnership Act, 1932.
- Section 4 of Indian Partnership Act of 1932 defines partnership as “the relation between person who has agreed to share profits of a business carried on by all or any of them acting for all.
Characteristics of Partnership Firm:
1. Number of Partners : Minimum number of person required to start a partnership firm is two and maximum limit is 10 in case of banking business and 20 in case of all other types of business.
2. Contractual relationship : A written agreement known as partnership deed which is signed by all the partners, binds them in a contractual relationship.
3. Voluntary Registration : Registration of partnership firm is not compulsory. Since the registration provides various benefits to the firm thus it is desirable.
4. Competence of Partners : Every partner must be competent enough to enter into the partnership agreement. He should not be minor (in some cases minor can be admitted only to the benefits of the partnership), lunatic or insolvent.
5. Sharing of Profit and Loss : In partnership firm all the profits and losses are shared by the partners in any ratio as agreed. If it is not given then they share it equally.
6. Unlimited Liability : Liability of partners of a partnership firm is unlimited. They are jointly held liable for the debts and losses of the firm.
7. Legal Status : Partnership firm has no distinct legal status separate from its partners.
8. Transfer of Interest : No partner can transfer its interest in the firm to anybody without the consent of other partners.
9. Principal – Agent Relationship: This relationship is based on mutual trust and faith among the partners in the interest of the firm. Business of the firm may be carried on by all the partners or any one of them acting for all. According to this, every partner is an agent when he is working on behalf of other partners and he is the principal when other partners act on his behalf.
Facilitating Partnership Agreement (Drafting, Registering etc.,) and Registration of Firm
Kinds of Partners:
Active or Working Partner:
A Partner who contributes capital to the firm and also takes active part in the day to day operations of the business is called an ‘Active’ or ‘Working’ Partner. Such a partner might be paid additional remuneration in the form of ‘salary’ for the work done by him. The day to day business decisions are taken by the Active Partner(s).
Dormant or Sleeping Partner:
A dormant partner does not take part in the activities of the business. He merely contributes capital to the business and shares the profits earned by the firm. However, he is entitled to all the rights of a partner and is liable for all the acts of the firm and other partners.
Nominal Partner:
A Nominal partner is a person who lends his name and reputation to the partnership. He neither contributes capital to the firm, nor takes active part in the activities of the business. He is not entitled to any benefits accruing to a partner of the firm. However, he is liable to outside parties for the claims against the firm.
Partners in Profits Only:
A person who becomes a partner on the specific understanding that he shall get a share in the profits of the firm, but shall not share any loss sustained by the firm. However, even such a partner is liable for claims against the firm. Usually, such partners contribute their reputation and goodwill to the business. They may or may not take active participation in the day to day operations of the business.
Partnership by Estoppel:
‘Partner by Estoppel’ is not a partner of the firm. However, by his behaviour, talk, etc., he creates an impression in the minds of outsiders that he is partner in the firm. He is not entitled to any benefit that may accrue to a partner of the firm. However, he is liable to the outsiders for claims against the firm, as the outsiders might have extended credit to the firm on the firm on the belief that such a person is a partner of the firm.
For example, A, B and C are three brothers. B and C are carrying on a small business. D is a close friend of A, A gives an impression to D that he is partner in the business of B and C. D gives a loan to the firm, which is not recoverable. D can claim the money from A as he gave the loan under the impression that A is a partner. He would not have given the loan, if he knew that A is not a partner. Thus, A is liable to ‘D’ and is estopped (prevented) from denying liability on the ground that he is not a partner.
Partner by Holding Out:
If a person is projected as a partner of the firm and the person does not deny it, then he becomes a partner by Holding Out. ‘Partner by Holding Out’ also is not a partner of the firm. However, he is also liable for all the claims made on the firm by third parties, as they might have given a credit to the firm on the belief that such person is a partner.
For example, X, Y and Z are three brothers. X is a highly successful businessman. Y and Z are carrying on a small business in partnership. In a party, Y introduces X to M as his partner. X does not deny it, although he does not expressly state that he is a partner. M gives loan to the firm, which is not recoverable. M can recover the loan from X. X is a ‘Partner by Holding Out’.
Quasi Partner:
Quasi partner is a person who is no longer a partner of the firm, but creates an impression that he continues to be a partner of the firm. Since he has retired from the firm, he neither takes part in decision making, nor share profits of the firm. He does not have any capital in the firm. However, since he creates an impression that he is continuing as partner, his liability is unlimited.
Secret Partner:
Secret partner is a partner of the firm but does not wish to be known as partner to outsiders. However, he is entitled to all the rights of a partner and is liable for all the claims on the firm. The fact that outsiders have extended credit to the firm without knowing that he is a partner cannot be used as a defense either by the partner or the firm.
Limited Partner:
He is a partner whose liability is limited to his contribution to capital. Thus, in the event of any loss, such a partner will lose only the capital invested by him. In other words, his private assets are protected.
Sub Partner:
Sub partner is not a partner of the firm. In fact, he has nothing to do with the firm. For the firm, such a person does not exist. A sub partner is a person who has an agreement with one of the partners of the firm to share his profits/ losses from the partnership firm. It is a private agreement between the partner and sub partner.
For example, let us say, A and B are partners in a firm sharing profits and losses equally (each partner gets 50%). A and his wife, Mrs. A enter into an agreement that A shall share all his profits (and losses) from the partnership with her in the ratio of 3:1. Accordingly, Mrs. A pays 25% of the capital contributed by A in the partnership firm. Neither B nor the rest of the world is aware of the agreement between A and his wife. Mrs. A is then a sub partner.
A sub partner does not have any liability towards the firm. He or She may not even contribute capital. The rights and obligations of the sub partner are driven by the agreement with the main partner.
Minor as a Partner:
A minor is a person who has not yet attained the age of majority, which is 18 years. A ‘Minor’ does not enjoy the capacity to enter into contracts in his own. Since Partnership is a contractual relationship, a minor cannot become a partner.
As per the Indian Contract Act, a minor cannot enter into a contract and if any such contracts have been entered into, then such contracts are void. However, he can be admitted into the benefits of Partnership, with the consent of all partners of the firm.
➤➤ Dissolution of Partnership Firm
On dissolution of the firm, the business of the firm ceases to exist since its affairs are would up by selling the assets and by paying the liabilities and discharging the claims of the partners. … This is usually done through a dissolution agreement between the partners.
Dissolving a partnership firm means discontinuing the business under the name of said partnership firm. In this case, all liabilities are finally settled by selling off assets or transferring them to a particular partner, settling all accounts existed with the partnership firm.
Any profit/ loss is transferred to partners in their profit sharing ratio as agreed by them in the partnership deed.
Dissolving a partnership firm is different from dissolving a partnership. In the former case, the firm ends its name and hence cannot do business in the future. But in case of dissolving a partnership, the existing partnership is dissolved– by consent or on happening of a certain event, but the firm can retain its existence if remaining partners enter into a new partnership agreement.
There are different ways in which a partnership firm may get dissolved-
When partners are mutually agreed
It is the easiest way to dissolve a partnership firm since all partners have mutually agreed upon closing the partnership firm. Partners can give a mutual consent or may enter into an agreement for the dissolve.
Compulsory dissolution
A firm may need to be dissolved compulsorily if:
All partners or all partners except one partner are declared insolvent
The firm is carrying unlawful activities like dealing in drugs or other illegal products or doing business with alien countries or other countries that may harm the interest of India or doing other such activities.
Dissolution depending on certain contingent events
Upon happening of certain events, a firm may be required to get dissolved:
Expiry of fixed-term– Partnership formed for a fixed term will get dissolved once the term gets over.
Completion of task– Sometimes, a partnership is formed for a certain task or objective. Once the task is completed, the partnership will automatically get dissolved.
Death of the partner– If there are only two partners, and one of the partner dies, the partnership firm will automatically dissolve. If there are more than two partners, other partners may continue to run the firm. In such case, only the partnership will get dissolved, and other partners will enter into a new agreement.
Dissolution by notice
If a partnership business is at will, any partner can dissolve the partnership by giving an advanced notice. Notice will contain a date from which dissolution will be effective.
Dissolution by Court
If any of the partners becomes mentally unstable or misbehaves with the other partner(s) or doesn’t abide by the clauses of the agreement, the other partner(s) may file a case in the court to dissolve the firm. But a court can dissolve the firm only if it is registered with the registrar of firms. Hence an unregistered partnership firm can’t be dissolved by the court.
If any of the partners becomes mentally unstable or misbehaves with the other partner(s) or doesn’t abide by the clauses of the agreement, the other partner(s) may file a case in the court to dissolve the firm. But a court can dissolve the firm only if it is registered with the registrar of firms. Hence an unregistered partnership firm can’t be dissolved by the court.
If any partner transfers control in the form of interest or equity to a third party without consulting other partners, the partner(s) may dissolve the firm.
Partners still liable to third parties
Until a public notice of dissolution is given, partners remain liable for any act done by any of the partners which would have been an act of the firm, if such act was done before resolution.
If a partner has been declared insolvent or has retired from the firm, he will not liable for any acts done after his insolvency or retirement. The legal heirs of any deceased partner are also not liable for any acts done by other partners after the partner has died.
How are accounts settled
Accounts of the firm are settled in the following order–
Losses of the firm will be paid out of the profits, next out of the capital of the partners, and even then, losses aren’t paid off, losses will be divided among the partners in profit sharing ratios,
Assets of the firm and the capital contributed by the partners to set-off losses of the firm will be applied in the following order–
Third party debts will be paid first
Next, loan amount taken by firm from any partner will be repaid to that partner
Capital contributed by each partner will be repaid to him in the capital contribution ratio
Balance amount will be shared among the partners in their profit sharing ratios.
Upon realization, all assets will be sold off in the market, and the cash realizing out of such a sale will be used for paying the liabilities. Assets or liabilities may also be taken over by the partner(s) for which the respective partner capital accounts will be adjusted by such amount.
Premium to be returned on premature dissolution
If a partner paid a certain premium for entering into a partnership for a fixed term, and the firm is dissolved before the end of fixed term, the firm is liable to repay the partner his premium amount. But few conditions are attached with this –
Firm isn’t dissolving due to death of a partner
Dissolution shouldn’t be happening due to his misconduct
Dissolution is happening on the basis of an agreement that contains no provision for repayment of full or a part of the premium.
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