Hanu B Krishna| Business Consultant |Serial Entrepreneur

Planning New Entrepreneurship: Different forms of Business Organizations

Partnership Firm and it’s Legal Aspects

Governance: Partnerships in India are governed by The Indian Partnership Act, 1932 and is
complimentary to the Indian Contract Act.

Partnership is a concurrent subject- in the sense that it is administered by both the Central and State
governments. So you will have to follow both Central Government and State Government laws when it
comes to partnerships.

Unlimited Liability- a major disadvantage. Any partner can bind the firm and thus the firm faces all the
liabilities the firm is bound to. If the company’s property is not enough, then personal property of the
partners will be attached to pay the debts of the firm.

A partnership firm is not a legal entity. As per section (4) of Indian Partnership Act, 1932, 'partnership' is
the relation between persons who have agreed to share the profits of a business carried on by all or any
one of them acting for all.
But for tax purposes, a partnership firm is a legal entity.

Key Aspects to Consider in a Partnership Contract:

 Partners are mutual agents- each partner is an ‘agent’ for other partners. Any one partners act
can bind the entire firm. Thus partners are mutual agents.

 Agreements can be written or oral. A written agreement is not necessary under the Partnership
Act, but is recommended. However, you will need a written agreement for registration and tax
purposes. A written agreement is advisable to establish existence of partnership and to prove
rights and liabilities of each partner, as it is difficult to prove an oral agreement.

 Sharing of profits is necessary. Under the Partnership Act, the firm will not be a partnership if
one partner gets a fixed remuneration (regardless of profit). Interestingly, sharing of losses is
not necessary, as well as sharing of capital. Sharing of revenue does not constitute as sharing of
profits.

 Mutual Agency is the real test of partnership.

o Partnership at will- If there is no provision made between partners for the duration or
determination of the partnership then the partnership is “partnership at will” (section
7). This means that any partner can dissolve the firm by giving notice to partners. The
partnership deed may provide about the duration of the partnership or how the
partnership will be brought to an end. If no provision made, then it is “partnership at
will”. In case of ‘particular partnership’, the partnership comes to end when the venture
for which it was formed comes to end.

o Subject to the provision of the act, the mutual rights and duties of partners can be
determined by a contract between partners which can be express or implied. Thus it will
be important to enter into a written agreement to establish rights and duties or

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partners.

 Every partner has the right to participate in business.

o The property of the firm- subject to the provisions of the contract, the property of the
firm includes all property, rights and interests of the firm originally brought into the
stock of the firm.

o Partner to be the agent of the firm

o Implied authority- a partner is implied to be an agent of the firm and will act on the
behalf of the firm

 Partners are Jointly and Severally Liable for Acts of Firm- every partner is liable, jointly with
other partners for all acts of the firm while he is a partner. ‘An act of a firm’ means any act or
omission by all the partners, or by any partner or agent of the firm which gives rise to a right
enforceable by or against the firm [section 2(a)]. ‘Joint and several’ means each partner is liable
for all acts. Thus, if amount due cannot be recovered from other partners, any one partner will
be liable for payment of entire dues of the firm.
o Partner by holding out- ‘holding out’ means giving the impression that a person is a
partner while he is not. If a person gives an impression to outsiders that he is partner of
firm though he is not partner, he will he held liable as partner.
o Minors admitted to benefits of partnership- if a person is a minor according to the law
by which he is governed, he is legally not a partner. But with the consent of other
partners he may be admitted to the benefits of the partnership.

 Rights of minor- has a share of property and profits (depending on the agreement)
o The minors share is liable, but not the minor himself.

 Dissolution of firm- Without intervention by Court, a partnership can be dissolved by-

o (a) By Agreement [section 40],
o (b) Compulsorily in case of insolvency [section 41],
o (c) dissolution in case of contingency [section 42],
o (d) by notice if ‘partnership at will’ [section 43]

 Dissolution of Partnership and Dissolution of Firm- the dissolution between all partners of the
firm is called dissolution of the firm.
o However, if one partner is changed/added/goes out, this is merely a reconstitution of
the firm, not dissolution.

o Mode of Dissolution- discussed above

o Consequences- provided for in the Act

o Sale of Goodwill- though intangible, as per section 14 of the Act, goodwill of the firm is
part of the property of the firm. Goodwill is the reputation and connections which the
firm establishes over time, together with circumstances which make the connections
durable. This reputation enables to earn profits more than normal profits which a
similar business would have earned. In settling the accounts of a firm after dissolution,

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the goodwill shall, subject to contract between the partners, be included in the assets,
and it may be sold either separately or along with other property of the firm. [Section
55(1)].

o Settlement of Accounts- only after all accounts have been settled, is the firm considered
dissolved.

 Though optional, registration of the firm is recommended.

o Partner Cannot Sue if Firm is Unregistered- A partner cannot sue the firm or any other
partner in the firm if the firm is unregistered. If third party files suit against a partner, he
cannot claim of set off or institute other proceeding to enforce a right arising from a
contract. Suit or claim or set off upto Rs. 100 can be made as per section 69(4) (b), but it
is negligible in today’s standards. Criminal proceedings can be filed, but civil suit is not
permissible.

o A Unregistered firm cannot Sue a Third Party- Only if the firm is registered, then only
can it sue a third party in a civil suit [section 69 (2)]. Criminal proceedings can be filed,
but civil suit is not permissible.

Thus in conclusion, a partnership has both advantages and disadvantages. Key points to remember are
that partners are mutual agents, profits are shared and there is no separation of ownership and the
firm. This means you face unlimited liability.

Hanu B Krishna is a Business Consultant, Serial Entrepreneur, Mentor and Investor. Follow Hanu B
Krishna on Facebook LinkedIn

Hanu B Krishna | Business Consultant | Serial Entrepreneur | Mentor |Investor |

Road No.1, Banjara Hills, Mid-Town Plaza, Banjara Hills, Hyderabad-500033