Chapter 18

NATURE OF PARTNERSHIP

A partnership is an association of persons who

have agreed to carry on a joint business and
share the profits thereof.
Learning Objectives
Definition and Essentials of Partnership
Mode of Determining Existence of Partnership
Partnership at Will
Partners, Firm and Firm Name
Partnership and Co-ownership
Partnership and Joint Hindu Family
Partnership and Joint Stock Company
 DEFINITION AND ESSENTIALS OF PARTNERSHIP

Partnership is the relation between persons who have agreed to share the profits of a
business carried on by all or any of them acting for all. The people who have entered into
partnership with one another are individually called ‘partners’ and collectively ‘firm’, and the
name under which their business is carried on is called the ‘firm name’.
[Section 4 of the Partnership Act, 1932]

An analysis of this definition shows that the following features constitute are essential to the
formation of a partnership.

1. Association of two or more persons

2. Result of an agreement

3. Agreement to carry on some business

4. Sharing of profits

5. Mutual agency
 ESSENTIALS OF PARTNERSHIP

1. Association of Two or More Persons . It is one of the most basic elements of a valid
partnership. To form a partnership there should be at least two persons. A partnership
cannot survive if the number of partners gets reduced to one for whatever reasons—death,
insolvency, lunacy, etc.—it may be. This is so because one cannot be one’s own partner.
Although the Partnership Act is silent over the maximum number of partners in a firm,
Section 11 of the Companies Act, 1956, puts a ceiling on the number of partners in a firm.
Accordingly, following are the number of partners in different kinds of business.
▪ Where the firm is carrying on banking business, the number of partners should not
exceed 10; and
▪ Where the firm is carrying on any other business, the number of partners should not
exceed 20.
2. Result of an Agreement . Partnership is formed as a result of an agreement between two
parties. It does not arise out of status or inheritance as in the case of Hindu Undivided
Family (HUF). It even does not arise by operation of law as in the case of co-ownership or
Joint Stock Company. Thus, creation of an agreement [whether express (written or oral) or
implied] between two or more people is the very foundation of partnership. Besides, the
contract must contain all essential elements of a valid contract.
 ….ESSENTIALS OF PARTNERSHIP

3. Agreement to Carry on Some Business . Another essential element of a

partnership is that it is formed for the purpose of carrying on some (but
lawful) business. An association or society formed primarily to carry on
some charitable, religious or social works cannot be regarded as
partnership. Even a co-ownership does not amount to partnership.
4. Sharing of Profits. Sharing the profits of business amongst all the
partners is the core of partnership. There will be no partnership where
only one of the partners is entitled to the whole of the profits of the
business. Unless otherwise agreed, sharing of profits implies sharing of
losses as well. However, all the partners may not concur to share losses.
It is open to one or more partners to agree to bear all the losses of the
business. The ratio in which the profits and losses will be shared need
not be equal. But merely sharing of profits does not necessarily entitle
someone to be treated as partner. For instance, a manager who besides
his fixed salary gets a share in the profits of a firm’s business can only
claim to be an employee of the firm and not a partner.
 ….ESSENTIALS OF PARTNERSHIP

5. Mutual Agency . Mutual agency is the conclusive test of a partnership. Business of

the firm may be carried on by all or any of the partners acting for all. This means
that a partner is both an agent and a principal in a partnership firm. He is an agent
because he can bind other partners, who are his principals, by his acts and he is
again a principal, who in turn is bound by the acts of other partners.
The true test, therefore, to determine whether a person is a partner or not, is to
see interalia, whether the relationship of principal and agent exists between the
parties.
It is, however, not necessary that all partners should actively participate in
business. The partners may authorize any one or more amongst themselves to
manage the business of the firm. Under such an arrangement, the remaining
partners will be bound by their acts subject to the understanding that such acts
relate to carrying on the business of the firm and have been carried out in the
name of the firm.
MODE OF DETERMINING EXISTENCE OF PARTNERSHIP

The true test, therefore, in determining

whether a partnership exists, is to observe
whether the relation of principal and agent
exists between the parties, and not whether
the parties merely share the profits of the
business. It is the element of mutual agency,
which distinguishes a partnership from
co-ownership and other forms of associations.
 Duration of Partnership

1. Partnership at will. Where no provision is made by the partners for

the duration of their partnership, or for the determination of their
partnership, the partnership is partnership at will.
▪ Thus, it is a partnership for an indefinite period. The death or
retirement of a partner does not affect the existence of such a
partnership.
▪ Where the partnership is at will, the firm may be dissolved by any
partner giving notice in writing to all the other partners of his
intention to dissolve the firm.
▪ However, if the agreement provides that the partnership can be
dissolved by a mutual agreement only, it will not be a partnership
at will. This is so because such a firm can be dissolved by only
giving a notice [Iqbalnath Premnath vs Rameshwarnath].
 Duration of Partnership

2. Particular partnership. When a partnership is formed

for a specific venture, or for a particular period, it is
called particular partner- ship. Such a partnership is
automatically dissolved on the completion of the
venture, or on the expiry of the period. [Section 8]
▪ However, if the partners want to dissolve the firm
before the fixed period, it may be dissolved with the
consent of all the partners. [Section 40]
▪ Similarly, if the partners decide to continue such a
partnership after the expiry of the fixed term or
completion of the venture, it shall be deemed to be a
partnership at will.
 Contents of a partnership deed
A partnership deed typically contains the following information:
1. Name of the firm;
2. Names and addresses of the partners;
3. Nature and scope of business and place(s)of business of the firm;
4. Date of commencement and duration of partnership;
5. The amount of capital to be initially contributed by each partner;
6. Provision for future capital and loans by partners to the firm;
7. Ratio in which profits and losses are to be shared amongst the partners;
8. Rules regarding operation of accounts, and arrangement for audit and safe custody of funds;
9. Interest on partners’ capital, partners’ loans, and interest, if any, to be charged on drawings
made by the partners;
10. Salaries, commission, and remuneration, if any, payable to partners;
11. Accounting period and the date on which final accounts are to be prepared;
12. Rights, powers, and duties of the partners;
13. Rules relating to the admission, retirement, or expulsion of partners;
14. Valuation of goodwill on admission, retirement, and death of a partner;
15. Mode of dissolution of the firm;
16. Settlement of accounts on the dissolution of the firm, etc.; and
17. The arbitration clause for the amicable settlement of disputes among the partners.
 PARTNERSHIP AND CO-OWNERSHIP DISTINGUISHED

Difference between partnership & co-ownership can be summed up in the following

seven points.
1. Co-ownership is not necessarily the result of an agreement, but a partnership is.
2. Co-ownership may not involve profit or loss, but partnership does as the former
does not necessarily involve carrying on of a business whereas a partnership does.
3. One co-owner can, without the consent of the others, transfer his interest to a
stranger. A partner cannot do this without the consent of all the other partners.
4. A co-owner is not an agent of the other co-owner, but a partner is.
5. A co-owner has no lien on the property co-owned neither for expenses nor for
what may be due from the others as their share of a common debt, but a partner
has.
6. In co-ownership there is no maximum limit of co-owners. In partnership the
maximum limit of partners has been fixed at 100.
7. A co-owner has the right to claim partition of property owned with other
co-owners. A partner has no such exclusive right. He can sue the other partners for
his share in the property of the firm only in the event of the dissolution of firm.
 PARTNERSHIP AND JOINT HINDU FAMILY
DISTINGUISHED

The main points of distinction between a partnership and HUF business are as follows:
1. Basis of Formation A partnership arises out of a contract between partners. Whereas an
HUF arises by the operation of Hindu Law. It is created by status or birth in the family; no
agreement is needed for it.
2. Regulating Law A partnership is governed by the provisions of the Indian Partnership Act,
1932. An HUF business is governed by Hindu Law Succession Act.
3. Number of Members In a partnership business, the number of members cannot exceed
100. But there is no such ceiling on the number of members (co-parceners) in HUF.
4. Admission of New Members No new partner can be admitted to the existing partnership
without the consent of all the other partners. In case of HUF firm a person becomes a
member (co-parcener) merely by his birth.
5. Minor Member A minor cannot become a full-fledged partner in a firm; he can be
admitted only to the benefits of partnership. In an HUF, a male child becomes a full-fledged
member by birth. Contd.
 ….PARTNERSHIP AND JOINT HINDU FAMILY DISTINGUISHED

6. Rights of Females In a partnership women can become partners and they enjoy the same rights
and privileges, as do male partners. In case of an HUF business on the other hand, the
membership is restricted to male members only. However, as per Hindu Law Succession Act,
1956, a female relative of a deceased male member gets a co-parcenery interest in the event of
his death.
7. Implied Agency In a partnership, every partner has implied authority to represent the firm and
bind the other partners by his acts. In HUF this right rests with the Karta only, other members
may be allowed by Karta expressly or impliedly to contract debts on behalf of the firm (Lal
Chand vs Ghanaya lal ).
8. Liability of Members In a partnership, the liability of all the partners is unlimited; every partner
is jointly and severally liable to third parties for the full debts of the firm. Whereas in case of
HUF liability of each member, except the Karta , is limited to the extent of his share in the
property of the family.
9. Right to Accounts Each partner not only enjoys a right to inspect the books of account of the
firm and demand a copy thereof, he can even demand the accounts of the past dealings. But a
co-parcener has no right to ask for the accounts of past dealings. He can ask for the position of
the existing assets only.
10. Mode of Dissolution A partnership firm is dissolved on the insolvency or death of a partner. But
the death, lunacy or insolvency of a co-parcener does not affect an HUF. It continues to operate
even after the death of a co-parcener.
 PARTNERSHIP AND COMPANY DISTINGUISHED
1. Formation, Registration, and the Regulating Act. A partnership comes into
existence by an agreement between the partners. The formation of
partnership involves no legal formalities. Even registration of a partnership
firm is not compulsory. In contrast, a company can only be formed after
fulfilling certain legal formalities. Its registration under the Companies Act is
essential. A partnership firm is governed by the provisions of the Indian
Partnership Act, 1932, whereas a company is governed by the provisions of the
Companies Act, 1956.
2. Legal Status . A partnership firm has no legal existence independent of its
members. The firm and partners are one and the same in the eyes of law
except for the purposes of taxation. But a company enjoys a legal existence
separate from and independent of its members.
3. Number of Members . The minimum number of partners in a partnership
firm is two and the maximum is 100. In a private company, the minimum
number of members is two and the maximum is 200. In a public company
the minimum number of members is seven and there is no limit as to the
maximum number of members. Contd.
 ….PARTNERSHIP AND COMPANY DISTINGUISHED
4. Liability of Associates . The liability of partners is unlimited. They are
jointly and severally liable to pay the firm’s debts to an unlimited extent.
But the liability of shareholders is always limited to the unpaid amount
on the shares held or the amount of guarantee undertaken by them.
5. Relationship of Agency . Partnership is based on the relationship of
mutual agency between the partners i.e., every partner is an agent of the
rest of the partners. But a member of a company is neither the agent of
the company nor of other members.
6. Transferability of Share. A partner cannot transfer his share and interest
in the firm without the unanimous consent of all the other partners. But
a member of a company can transfer his share to anyone he likes without
the consent of other members.
7. Management . In a partnership every partner is at liberty to take part in
the management of the firm’s business. In case of a company the right to
control and manage the affairs of business is vested in directors elected
by the shareholders. Contd.
 ….PARTNERSHIP AND COMPANY DISTINGUISHED

8. Change of Objects. Partners, by mutual agreement can change the

objects of their firm as and when they like. On the contrary, the objects
of a company, as laid down in its Memorandum, can be altered only by
fulfilling certain legal formalities.
9. Audit . If the turnover or gross receipts of a partnership firm does not
exceed Rs 1 crore in a year, audit of a firm’s accounts is not mandatory.
But the audit of financial statements of a company is a statutory
requirement irrespective of turnover or gross receipts the company has
had in a given financial year.
10. Winding Up. A partnership firm may be dissolved following the death or
insolvency of a partner. It can also be wound up any time by any partner,
if it is ‘at will’. But a company is not affected by the death or insolvency
of a shareholder and no sole member can call for its liquidation,
voluntarily.
 Types of Partners

1. Active or ostensible partner. A person who enters into partnership by

agreement and takes active part in the conduct of the firm’s business is
called an active or ostensible partner. He/she is an ordinary partner who
invests money into the business of the firm, acts as an agent of other
partners for all acts done in the ordinary course of business, and shares
profits & losses.
2. Dormant or sleeping partner. dormant or sleeping partner is one who
invests funds in the firm’s business and has a share in the profits of the
firm but does not actively participate in the functioning and management
of the business. However, he is equally liable to third parties for all the
debts of the firm such as an undisclosed principal in case of agency.
3. Nominal partner. A nominal partner is one who just lends his name to the
firm without any material interest in the firm’s business. A nominal partner
neither contributes to the capital of the firm nor shares the profits (or
losses) nor takes part in the management of the firm. He along with other
partners is liable to third parties dealing with the firm for all the acts of the
firm.
 Types of Partners
4. Partner-in-profits only. A partner-in-profits, as the term indicates, is one who is
entitled to a share in the profits of a partnership without being liable for losses, if
any. A person who has sufficient funds to introduce towards the capital of the firm
but is not inclined to take risk may be admitted to the partnership firm by mutual
agreement amongst other partners. However, he continues to be liable towards
the third parties for all the acts of the firm, just like other partners.
5. Sub-partner. Where a partner agrees to share his profits in the firm with a third
person, that third person is known as sub- partner. A sub-partner, however, is in no
way connected with the firm, for lack of privity of contract between the two and,
hence, has no rights or duties towards the firm and does not carry any liability for
the debts of the firm as well.
6. Partner by estoppel or ‘holding out’. If the conduct of a person causes an
impression to the outsiders that he is a partner in a firm (where in reality he is not),
he can also be treated as a partner. Such a person is prevented later on from
denying the liabilities for the acts of the firm. As per Section 28 (1), Anyone who by
words, spoken or written, or by conduct represents himself or knowingly permits
himself to be represented as a partner in a firm is liable as a partner in that firm to
anyone who has on the faith of any such representation extended credit to the
firm.