Dissolution of Partnership
Dissolution of Partnership occurs when a change takes place in the constitution (composition) of a firm.
After such change in the composition of firm, the firm is called as Reconstituted Firm. If one or more partners cease to be the partners in the firm while other partners continue in the firm (e.g., in case of retirement, death or expulsion of a partner), the Partnership is dissolved but the Firm continues.
Therefore, the dissolution of Firm leads to dissolution of Partnership also, but, dissolution of Partnership may or may not lead to dissolution of firm.
Ex. X, Y and Z, partners in a firm, forms an agreement between them that the firm shall not be dissolved on the death or insolvency of a partner. After some time, X was declared as an insolvent by the court. In this case, the firm as a whole is not dissolved. Only the partnership between X, Y and Z is dissolved and the Firm continues with partnership between Y and Z.
Modes of Dissolution of Partnership : Dissolution of partnership may occur due to :
- Expiry of Term.
- Completion of an adventure.
- Retirement of a Partner.
- Death of partner.
- Insolvency of a partner.
Dissolution of Firm
Dissolution of Firm means termination of mutual relationship between all the partners of the Firm (s.39). Thus, dissolution of firm results in complete severance of relationship between all the partners.
On Dissolution, the business of the firm and the partnership between all the partners comes to an end and the firm as a whole is closed down.
Ex. X, Y and Z were partners in a firm. After some time, X died and the firm was closed down. In this case, the firm is dissolved and the relations between all the partners come to an end.
Modes of Dissolution of Firm : Dissolution of the firm occurs by :
- Mutual Agreement by partners. [s.40]
- Compulsory Dissolution [s. 41]
- Dissolution on Contingencies [s. 42]
- Dissolution of Partnership-At-Will. [s.43]
- Dissolution by order of Court. [s.44]
Dissolution of Partnership vs Dissolution of Firm
| Basis | Dissolution of Partnership | Dissolution of Firm |
| Effect | In dissolution of partnership, only a change constitution of a firm takes place, but the firm is not dissolved | Dissolution of firm causes end of relationship between all the partners of a firm |
| Relation | In dissolution of partnership, generally a partner or some partners terminate their connection with the firm. | In case of dissolution of firm, there is termination of the relation between all the partners of the firm. |
| Status of Business | In dissolution of partnership, the business of the firm continues as before. | In dissolution of firm, the business of the firm ceases to exist. |
| Liabilities of Firm | On dissolution of partnership, the firm has to ascertain the share of the outgoing partner, without winding up the entire business. | On dissolution of firm, the firm has to realize and distribute all the assets of the firm among the partners. |
Dissolution by Mutual Agreement
When all the partners by a mutual agreement agree to bring an end to the partnership, the partnership is dissolved (called Dissolution by Mutual Agreement)
Dissolution by Mutual Agreement may be brought about :
- By the consent of all the partners (s.40)
- In accordance with a contract between them.
5 Compulsory Dissolution
| Indian Partnership Act 1932 Compulsory Dissolution |
Compulsory Dissolution (also referred as Dissolution by Operation of Law) occurs in certain circumstances, and the firm cannot continue to exist (s.41):
- Insolvency / Death of All Partners : Where all the partners die or become insolvent.
- Insolvency / Death of All but one Partners : Where all the partners except one die or become insolvent.
- Business becoming unlawful : Due to happening of some event, the business of the firm becomes unlawful.
Partial Illegality : If only some of the businesses of the Firm (out of several businesses carried out by the Firm) become unlawful, while others are lawful, the Firm will not be dissolved in respect of its lawful business.
Ex: A firm carries on the business of manufacturing medicine ‘XYZ’. The Government imposes a ban on manufacture and trading in that medicines. The firm shall be compulsorily dissolved as from the date of imposition of ban. However, if the Firm were carrying on any business other than the manufacturing of that medicine (XYZ), the firm shall continue even after imposition of ban.
Ex: Imperial & Co. is a partnership firm having partners A, B and C (C is a citizen of Pakistan). On declaration of war with Pakistan, the firm shall be compulsorily dissolved, as C becomes an alien enemy, and trading with an alien enemy is against public policy.
6 Dissolution on Contingencies
| Indian Partnership Act 1932 Dissolution on Contingencies |
On happening of some events or on certain circumstances, a firm may be dissolved (s.42):
- Insolvency of one Partner : A partner is adjudicated as an insolvent.
- Death of one partner : A partner dies.
- Expiry of Period : Partnership is formed for a fixed period, and such period expires.
- Completion of Venture : In case of Particular Partnership formed for a particular venture, when such venture is completed.
Continuance : However, the partners may agree that the firm shall continue to exist even on happening of any of the above contingencies.
7 Dissolution of Partnership-at-Will (s. 43)
| Indian Partnership Act 1932 Dissolution of Partnership-at-Will |
Partnership At-Will it can be dissolved anytime, by giving a notice in writing, by any partner.
- Notice of Dissolution : The intending partner must serve the notice of dissolution to all other partners [sec.43(1)].
- Effective Date of Dissolution : If the notice specifies some future date from which the dissolution shall be effective, the firm shall be dissolved from the particular date mentioned in the notice. If no such date of dissolution is mentioned in the notice, the dissolution shall become effective immediately on service of notice.
- Withdrawal of Notice : Notice once given cannot be withdrawn unless all the partners agree to it.
8 Dissolution by Court Order
| Indian Partnership Act 1932 Dissolution by Court Order |
The Court may make an order for dissolution of the partnership firm on specified grounds (s.44)
- Insanity: On insanity of a Partner [s.44(a)]. If a partner becomes incapable of performing his duties as a partner due to unsound mind, and the application of dissolution on this ground has been made by the next friend of the insane partner or any other partner of the firm, the court can dissolve the firm
- Permanent incapacity: On permanent incapacity of a Partner [s.44(b)]. If a Partner (other than a sleeping partner) becomes permanently incapable of performing his duties as a partner, due to illness, mental or physical disablement of any kind; the court can dissolve the firm upon suit filed by other partners for dissolution of the firm.
- Misconduct: On Partner’s gross misconduct prejudicially affecting the business [s.44(c)]. Where a partner, is guilty of such misconduct, which, having regard to the nature of the business, is likely to affect prejudicially the carrying on of the business and business prospects of the firm, the court can dissolve the firm, on filing a suit for dissolution by any other partner of the firm
Other grounds of misconduct: The court can dissolve a firm on some other grounds of misconduct like Gambling, Fraud, Taking away books of accounts etc:
Ex:
A and B were partners in a business. B was convicted of traveling on a railway without ticket and with intent to defraud. Held, as the conviction was for dishonesty, it was calculated to be detrimental to the partnership business and it was a sufficient ground for compulsory dissolution of the firm.
- Persistent breach of agreements: Where a partner, willfully or persistently commits breach of agreements relating to the management of the affairs of the firm, or the conduct of its business, the court can dissolve the firm at the suit filed by any of the other partners. [s.44(d)]
- Impossibility to work together: Where the conduct of some partner is such, that it becomes impossible to carry on the business in partnership with him for the other partners, the court may dissolve the firm on the suit filed by any other partner.
Ex:
A and B are partners in a firm. A has adulterous relations with B’s wife. This is a sufficient ground for compulsory dissolution of the firm. The conduct of A, though not committed in the actual business, is likely to effect prejudicially the carrying on the business so far as A and B are concerned because this destroys mutual confidence.
- Transfer of interest: On transferring interest in partnership to third party [s.44(e)]. Where a Partner has transferred the whole of his interest in the firm to a third party, or has allowed his share of interest in the firm to be charged, or has allowed his share of interest in the firm to be sold for recovery of dues, the court may dissolve the firm at the instance of any other partner
- Perpetual losses: If the business of the firm cannot be carried on except at a loss, the court may dissolve the firm at the suit filed by a partner. [s.44(e)]
- Just and equitable ground: The court can dissolve a firm on the ground that it is just and equitable in the circumstances of the case of dissolution of a firm. This clause empowers the Court with a very wide discretionary power to order dissolution if it appears to the Court that the dissolution of the firm is desirable in the present circumstances.
9 Consequences of Dissolution
| Indian Partnership Act 1932 Consequences of Dissolution |
Immediate consequences on dissolution of firm:
- Continuing liability on failure to give public notice The liability of the partners of a dissolved firm continues until they give public notice of dissolution of the firm (s.45)
The notice of dissolution of the firm may be given by any partner or by the firm to The Registrar of firms and in the local official Gazette. Unregistered Firm should give notice in at least one vernacular newspaper.
- Continuing authority of partners for winding up: The authority of a partner to bind the firm and the mutual rights and obligations of the partners continues on dissolution (s.47) :
The authority of a partner continues only to the extent necessary for winding up the affairs of the firm and to complete the transaction begun but remained unfinished at the time of dissolution.
- Enforce winding up: Payment of Debts & Liabilities and distribution of surplus. On dissolution of a firm, every partner or his representative is entitled, as against all the other partners or their representative, to have the property of the firm applied in payment of debts and liabilities of the firm and to have the surplus distributed among the remaining partners or their representative according to their rights.
- Return of premium: On pre mature dissolution of Fixed Term partnership. If a partner has paid premium during admission in the partnership for a fixed term and the firm is dissolved before the expiry of such term (otherwise than by the death of a partner), such partner is entitled to repayment of premium paid or such amount as may be reasonable.
Ex:A and B are two partners. They admitted C, a third partner, and asked him to pay a premium of Rs.80,000 to the firm by promising him that the firm would last for another 10 years. Due to incapacity of B, the firm is dissolved after expiry of 5 years from the admission of C. C is entitled to claim Rs.40,000 from the firm as refund of premium.
- Share personal profits: It is the duty of every partner to not to make any personal profit out of the transaction of the firm concerning dissolution. A partner must account every personal benefit derived by him in respect of dissolution of the firm, and must share it with other partners.
- Impose restriction: Restraint on partners carrying of similar Business in Firm Name or Firms Property (s.53).After the dissolution of a firm, any partner may, in the absence of a contract between the partners to the contrary, restrain any other partner from carrying on similar business in the firms name or from using any of the firms property, for his personal benefit, until the affairs of the firm have been completely wound up.
10 Liabilities of Partners after Dissolution of Firm
| Indian Partnership Act 1932 Liabilities of Parties after Dissolution |
- Where public notice of dissolution is not given (s. 45)
On failure of giving a public notice of dissolution, the partners of a firm shall continue to be liable to third parties for all acts, done by any of them, subsequent to the date of dissolution, if such subsequent acts would have been acts of the firm, if done before dissolution.
- Where public notice of dissolution is given (s. 47)
The authority of each partner to bind the other partners by his acts comes to an end, if the public notice of dissolution is given. However, even after dissolution of a firm, a partner has the authority to bind the other partners by his acts, if such acts are necessary to wind up the affair of the firm and to complete transactions remaining unfinished at the time of the dissolution.
11 Rights of Partners after Dissolution of Firm
| Indian Partnership Act 1932 Rights of Partners after Dissolution |
On dissolution of a partnership firm, a partner can exercise the following rights:
- Business wound up after dissolution
Payment of Debts & Liabilities and distribution of surplus(s. 46).On dissolution of a firm, every partner is entitled to have the property of the firm applied in payment of the debts and liabilities of the firm to the third parties, and to have the surplus distributed amongst the partners according to their rights.
In case of a deceased partner, the legal representatives shall exercise the rights conferred under this section.
- Continuing authority of partners for winding up
Even after dissolution of a firm, a partner has the authority to bind the other partners by his acts, to wind up the affair of the firm and to complete transactions begun but remained unfinished at the time of the dissolution (s. 47)
In such case, the mutual rights and obligations of the partners also come to an end with the dissolution of the firm.
- Return of premium (s. 51)
In case of Fixed Term Partnership, the premium paid by a partner at the time of admission into partnership, shall be paid back to him.
The premium is to be returned subject to the fulfillment of following conditions:
- No Misconduct : The dissolution is not due to misconduct of the person who claims return of premium, or death of a partner.
- Mutual agreement : Where the firm is dissolved by mutual agreement between the partners, such agreement must contain the provision of repayment of premium or any part thereof.
- Reasonable part : Only a reasonable part of the premium shall be repaid. The terms of admission of such partner, duration for which he has continued in the firm, and duration of partnership shall be considered for determining the reasonable premium.
- Fraud or misrepresentation (s. 52)
Where a contract creating partnership is rescinded (rescission means cancellation) on the ground of fraud or misrepresentation of a partner, the other partner(s) are entitled to remedial measures like Lien, Subrogation & Indemnification.
Such Partners entitled to rescind the contract may take recourse to following remedies:
- Lien : He can exercise the right of lien on the surplus or the assets of the firm remaining after the debts of the firm have been paid, for any sum paid by him for the purchase of his share in the firm, and for any capital contributed by him.
- Subrogation: Subrogation means substituting one creditor for another. He becomes a creditor of the firm in respect of any payment made by him towards the settlement of debts of the firm.
- Indemnification: He has a right to be identified by the partner(s) guilty of the fraud or misrepresentation, against all the debts of the firm.
- Use of firm’s name or property (s. 53)
After the dissolution of a firm, no partner or his legal representative can carry on a similar business in the firm name; or use any property of the firm for his own benefit, until the affairs of the firm have been completely wound up.
If a partner or his legal representative, carries on a similar business in the firm name, or uses the property of the firm for his own benefit, any other partner or his legal representative can restrain him from doing so.
However, if the agreement empower any partner (or his legal representative) to use the firm name or property of the firm even after dissolution, or where any partner (or his representative) has bought the goodwill of the firm, he shall have a right to use the firm name.
The defaulting partner shall account for that profit and pay it to the firm.
- Profits earned by buyer of goodwill (s. 50)
If any partner or his representative has bought the goodwill of the firm on its dissolution, he shall have a right to use the firm name and earn profit by using it.
12 Settlement of Accounts on Dissolution of Firm
| Indian Partnership Act 1932 Settlement of Accounts after Dissolution |
After dissolution of firm, accounts between partners should be settled as per Partnership Agreement.
In absence of any specific agreement, Accounts should be settled as follows (s.48)
Treatment of Losses: Losses, including deficiencies of capital, shall be paid first out of profits, next out of capital, and, lastly, if necessary, by the partners individually in the proportions in which they were entitled to share profits. [s.48(a)]
Application of Assets: The assets of the firm, including any sums contributed by the partners, shall be applied to make up deficiencies of capital
To make up the deficiency, the Assets would be applied in the following manner and order:
- In paying the debts due to third parties.
- In paying to each partner, the dues to him from the firm, rateably, for advances ( distinguished from capital).
- In paying to each partner rateably the dues to him on account of Capital.
- The residue, if any, shall be divided amongst the partners in the proportions in which they were entitled to share profits. [s.48(b)]
If the assets are sufficient to pay the debts of third parties & dues (other than capital) to partners, but insufficient to repay to each partner his full capital, the deficiency in the capital shall be borne by the partners (i.e. partners will contribute) in their profit sharing ratio.
Ex: Suman, Kabir and Latif are three partners having Rs.10,000, Rs.8,000 and Rs.6,000 credit balance in their capital A/c. They are sharing profit and loss equally. The firm is dissolved due to dispute among the partners.
The firms assets realized Rs.20,000, outside liabilities being Rs.5,000 and amount advanced by Kabir being Rs.3,000.
The amount of Rs 20,000 received from Assets of the firm will be used firstly for payment of outside liability of Rs.5,000, remaining Rs.3,000 towards amount advanced by Kabir. The surplus of Rs.12,000 would be distributed amongst the three partners equally Rs.4,000 each.
Payment of Debts (s. 49) : Firms property would be first applied to pay Firms Debt (surplus, if any, to pay partner’s private debts). Partner’s private property would be first applied to pay Partner’s Private Debt (surplus, if any, to pay Firm’s debts).
- Application of Firm Property : The property of the firm shall be applied in the first instance in payment of the firm’s debts. Thereafter, the agreed share of such surplus, if any remaining, shall be applied in payment of private debts of each partner (if any).
- Application of Partner’s Private Property : The private property of any partner shall be applied first in the payment of his private debts. Thereafter, surplus if any, shall be applied in the payment of the firm’s debts, if any.
Sale of Goodwill [s. 55(1)]
On settling the accounts of a firm after dissolution, the goodwill shall be included in the assets and it may be sold either separately or along with other property of the firm.
Losses from Insolvency
On insolvency of a partner, the loss would be borne as per rule of Garner v. Murray.
As per rue of Garner v. Murray, the loss would be borne as follows:
- Loss in realization of Assets : The loss in realization of assets shall be borne by all the partners in their profit sharing ratio.
- Deficiency of Capital : The loss on account of deficiency of capital of the insolvent partner shall be borne by the solvent partners in the ratio of their capital.
13 Agreements in restraint of trade
| Indian Partnership Act 1932 Restraint of Trade after Dissolution |
Partners may make agreement imposing some restraints on partners, on carrying of trade after dissolution.
Such agreement, notwithstanding anything contained in s. 27 of the Indian Contract Act, 1872, shall be valid, if the restrictions imposed are reasonable :
- In anticipation of the dissolution :
Partners may, upon in anticipation of the dissolution of the firm, make an agreement that some or all of them will not carry on a business similar to that of the firm, within a specified period, or within specified local limits (s.54)
- On Sale of the goodwill
Upon the sale of the goodwill of a firm, any partner may make an agreement with the buyer that such partner will not carry on any business similar to that of the firm within a specified period or within specified local limits (s.55)
Rights of buyer and seller of goodwill : On sale of goodwill after dissolution of a firm, a partner may carry on a business competing with that of the buyer.
Such buyer may advertise such business, but, he shall not use the firm name; or represent himself as carrying on the business of the firm; or solicit the customers or persons who were dealing with the firm before its dissolution.
14 Public Notice of change in Partnership
| Indian Partnership Act 1932 Public Notice of Change in Partnership |
As the acts of partners on behalf of the firm bind the parties and other partners, general public & statutory authorities should be notified about change in partnership in some cases.
Public Notice
A Public Notice of change in partnership must be given in following cases (s.72)
- Retirement of a Partner
- Dissolution of Firm
- Expulsion of a Partner
- Minor admitted to benefits of partnership, to become a partner in the firm.
Public notice is not required in case of death and insolvency of a partner.
Notice to Registrar
A Registered firm must also give a Notice to Registrar (apart from Public Notice) (s.63).
In case of registered firm, mere publication of notice in a vernacular newspaper is insufficient to relieve the retired partner from his liability to third persons until it is not given to the Registrar of Firms.
Rules of issuing Public Notice
The public notice is be published in the official gazette & and advertisement in local paper in vernacular language of the principal business of the place
On giving a public notice is given, the law presumes that those dealing with the firm, including past and present customers, have come to know the fact stated in the public notice.
Consequences of not issuing Public Notice
- On admission of Minor to Benefits of Partnership: A minor (who has been admitted to benefits of partnership) on attaining majority, must give public notice of his decision to become Partner.
Within 6 months of attaining majority, or on coming to know that he had been admitted to the benefits of partnership, whichever date is later, the minor must decide as to whether he will become a partner or not, and a public notice should be issued by him.
If the minor admitted to the benefits of partnership under s.30 fails to give public notice, then on the expiry of 6 months, the minor shall be deemed to have become a partner.
- On retirement of a Partner: A retiring partner has to give public notice of his retirement.
If a public notice of retirement of Partner is not given, he is liable for all acts of the firm subsequent to his retirement, and the firm also continues to be liable for all acts of the retiring partner subsequent to the date of retirement, if such subsequent acts would have been acts of the firm, if done before his retirement. The public notice of retirement of a partner may be given either by the retired partner himself, or any other continuing partner, or by the firm itself.
- On expulsion of a Partner: An expelled partner has to give public notice of his expulsion (s.33).
If a public notice is not given, he is liable for all the acts of the firm subsequent to his expulsion and the firm also continues to be liable for all acts subsequent to the date of expulsion, if such subsequent acts would have been acts of the firm, if done before his expulsion.
- On dissolution of a Firm: A public notice of dissolution of a registered firm is to be given (s.45).
If a public notice is not given, the erstwhile partners shall continue to be liable to third parties for all acts, done by any of them, subsequent to the date of dissolution, if such subsequent acts would have been acts of the firm, if done before dissolution.
Amalgamation of Partnership Firms
Amalgamation of firms takes place when two or more firms working independently, merge their business into a single unit.
Sometimes, the firms engaged in similar or allied business, combine their business activities by entering into new partnership agreement and form into a new firm, known as amalgamated firm. On amalgamation, the combining units lose their independent identity, and the partners of the combining firms become the partners of the new amalgamated firm.
Amalgamation of Firm amounts to Dissolution of the constituents firms and creation of new partnership (amalgamated) firm.
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