Dissolution of Partnership

A partnership is a kind of business where a formal agreement between two or more people is made and agreed to be the co-owners, distribute responsibilities for running an organisation and share the income or losses that the business generates.

In India, all the aspects and functions of the partnership are administered under ‘The Indian Partnership Act 1932’. This specific law explains that partnership is an association between two or more individuals or parties who have accepted to share the profits generated from the business under the supervision of all the members or behalf of other members.

Section 39 of the Indian Partnership Act 1932 states that the dissolution of partnership firm among all the partners of the partnership firm is the Dissolution of the Partnership Firm. The dissolution of partnership firm ceases the existence of the organization.

After this, the partnership firm cannot enter into any transaction with anybody. It can only sell the assets to realize the amount, pay the liabilities of the firm and discharge the claims of the partners.

However, this partnership can be dissolved only when some predefined provisions, according to the Partnership Act of 1932 are matched, such as:

  • Dissolution by Agreement
  • Dissolution by Notice
  • Dissolution by the Court
  • Compulsory Dissolution
  • Conditional Dissolution

Modes of Dissolution

There are some modes by which a partnership can be dissolved and those are:

  1. By an act of partners: when a partner agrees to dissolve a partnership at a particular time. Partners can come into an agreement regarding a particular time period maybe five years. In which partners can end the agreement at the end of the five years. Sometimes partners can dissolve it in the middle of the time period under specific conditions.
  2. By operation of law: a partnership is the consequence of an agreement which is governed by law. Therefore, if any unlawful activity is performed so it will be dissolved. You can make a valid partnership for illegal work.
  3. By the court’s decree: a partnership can be dissolved by the court and the court will only allow under these conditions:
  • If the partner is incapable to work;
  • If the partner is mentally unstable;
  • If the partner misbehaves which creates a bad impact on the partnership;
  • If there is a breach of the agreement by a partner.
  1. Statement of dissolution: dissolution can be done by filing the statement to the state’s secretary. The form must contain the information regarding the partnership name, date and reason of dissolution.

Rights after Dissolution

Section 46 of the Indian Partnership Act, 1932 deals with the rights of partners after dissolution. After the dissolution of the partnership, partners have certain rights regarding the same:

  • Right to an equitable lien: on the dissolution of the firm, every partner is entitled to certain rights like the right to have the property of the firm used in payments of debts and liabilities and rights to have surplus distributed among all the partners.
  • Right to return of premium: at the time of the partnership, partners pay an amount in the form of premium when the partnership dissolves. Partners get that premium according to the agreement.
  • Rights where partnership contract is revoked for fraud or for other reasons: if a partner agrees to join a firm by fraud or by misrepresentation by the other partners, or if he finds so he has the right to put an end to the partnership agreement.
  • Right to restrain the use of the firm’s name or property: after the dissolution of the partnership, the partner has a right to stop other partners from using the same name of the firm.
  • The right to earn personal profit by using the firm’s name: if on the dissolution, the partner has a right to use the name of the firm as he buys goodwill of the firm and can earn profit from it.

Reasons for Dissolution of partnership

  • Death of a partner.
  • Admission of a new partner.
  • Insolvency of an existing partner.
  • Early retirement of a partner.
  • Due to expiry of a partnership period after a certain time as mutually agreed upon by all partners.

A firm may be dissolved under the following circumstances:

(a) Dissolution by Agreement (Section 40):

A partnership firm can be dissolved by an agreement among all the partners. Section 40 of Indian Partnership Act, 1932 allows the dissolution of a partnership firm if all the partners agree to dissolve it. Partnership concern is created by agreement and similarly it can be dissolved by agreement. This type of dissolution is known as voluntary dissolution.

(b) Dissolution by Notice (Section 43):

If a partnership is at will, it can be dissolved by any partner giving a notice to other partners. The notice for dissolution must be in writing. The dissolution will be effective from the date of the notice, in case no date is mentioned in the notice, and then it will be dissolved from the date of receipt of notice. A notice once given cannot be withdrawn without the consent of all the partners.

(c) Compulsory Dissolution (Section 41):

A firm may be compulsorily dissolved under the following situations:

(i) Insolvency of Partners:

When all the partners of a firm are declared insolvent or all but one partner are insolvent, then the firm is compulsorily dissolved.

(ii) illegal Business:

The activities of the firm may become illegal under the changed circumstances. If government enforces prohibition policy, then all the firms dealing in liquor will have to close down their business because it will be an unlawful activity under the new law. Similarly, a firm may be trading with the businessmen of another country. The trading will be lawful under present conditions.

After some time a war erupts between the two countries, it will become a trading with an alien enemy and further trading with the same parties will be illegal. Under new circumstances the firm will have to be dissolved. In case a firm carries on more than one type of business, then illegality of one work will not amount to dissolution of the firm. The firm can continue with the activities which are lawful.

(d) Contingent Dissolution (Section 42):

In case there is no agreement among partners regarding certain contingencies, partnership firm will be dissolved on the happening of any of the situations:

(i) Death of a Partner:

A partnership firm is dissolved on the death of any of the partner.

(ii) Expiry of the Term:

A partnership firm may be for a fixed period. On the expiry of that period, the firm will be dissolved.

(iii) Completion of Work:

A partnership concern may be formed to carry out a specified work. On the completion of that work the firm will be automatically dissolved. If a firm is formed to construct a road, then the moment the road is completed the firm will be dissolved.

(iv) Resignation by a Partner:

If a partner does not want to continue in the firm, his resignation from the concern will dissolve the partnership.

(e) Dissolution through Court (Section 44):

A partner can apply to the court for dissolution of the firm on any of these grounds:

(i) Insanity of a Partner:

If a partner goes insane, the partnership firm can be dissolved on the petition of other partners. The firm is not automatically dissolved on the insanity of a partner. The court will act only on the petition of a partner who himself is not insane.

(ii) Misconduct by the Partner:

When a partner is guilty of misconduct, the other partners can move the court for dissolution of the firm. The misconduct of a partner brings bad name to the firm and it adversely affects the reputation of the concern. The misconduct can be in business or otherwise. If a partner is jailed for committing a theft, it will also affect the good name of the firm though it has nothing to do with the business.

(iii) Incapacity of a Partner:

If a partner other than the suing partner becomes incapable of performing his duties, then partnership can be dissolved.

(iv) Breach of Agreement:

When a partner wilfully commits breach of agreement relating to business, it becomes a ground for getting the firm dissolved. Under such a situation it becomes difficult to carry on the business smoothly.

Dissolution of Partnership Firm

(v) Transfer of Share:

If a partner sells his share to a third party or transfers his share to another person permanently, other partners can move the court for dissolving the firm.

(vi) Regular Losses:

When the firm cannot be carried on profitably, then the firm can be dissolved. Though there may be losses in every type of business but if the firm is incurring losses continuously and it is not possible to run it profitably, then the court can order the dissolution of the firm.

(vii) Disputes among Partners:

Partnership firm is based on mutual faith. If partners do not trust each other, then it will not be possible to run the business. When the partners quarrel with each other, then the very basis of partnership is lost and it will be better to dissolve it.

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