Dissolution of a Partnership Firm and Consequences of

Dissolution
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Generally, it is understood that there is no difference between dissolution of partnership

and dissolution of firm, and both are synonymous. But this is not correct, because both of
them are different concepts. The dissolution of partnership means disconnection of some
partners from partnership and the dissolution of firm means disconnection of all partners
from each other. The latter ends in an end of business.

Dissolution of a partnership firm means a process in which relationship between partners

of firm is dissolved / terminated or it can be said that it means discontinuing the business
under the name of said partnership firm.

According to Section 39 of the Partnership Act, 1932 the dissolution of a partnership firm
between all the partners of the firm is called the “Dissolution of the Firm”. The business of
the firm essentially comes to and upon the dissolution of the firm. When a firm is
dissolved, the assets of the firm are sold out and liabilities of the firm are satisfied.

After Dissolution of the partnership firm, the firm cannot do any activity with anybody after
the dissolution of the firm.

However, the partnership firm is dissolved under certain circumstances, they are as
follows-

1. Change or shift in its existing profit-sharing ratio.

2. A new partner’s entry
3. Retirement of one or more existing partners of the firm

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 4. Demise of one of the partners
5. Completion of a specific partnership venture
6. Expiry of partnership period of agreement
7. A partner’s insolvency due to incompetence to contract[1]

After Dissolution, a partnership firm can only sell the assets to realise the amount, pay the
liabilities of the firm and discharge the claim of the partners. The dissolution may be done
with or without the intervention of the court.

Ways of Dissolution of a Partnership Firm

There are various ways through which the partnership firm may be dissolved, they are as
follows:

Dissolution by Agreement (sec 40)

Dissolution by Notice
Contingent Dissolution
Compulsory Dissolution (sec 41)
Dissolution by Court

Dissolution by agreement- A firm can be dissolved with an agreement among its

existing partners in accordance with the terms of the agreement.

Dissolution by notice- When a partnership is formed at will, the dissolution of the firm
may take place if any of the partners gives a notice in writing to the other partners
indicating his intention to dissolve the firm.

Compulsory Dissolution- Circumstances under which a firm is dissolved compulsorily

are as follows:

When one or more partners of a firm become solvent, making them incompetent to
enter any contract or agreement
If it becomes unlawful for a specific partnership firm to continue its business and
revenue generation.

Contingent dissolution- 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 partner- If there are only two partners, and one of the partner dies, the
partnership firm will automatically dissolve.

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Dissolution by the court- When of the partners of a firm files a legal suit; a court of law
can direct the dissolution of a firm. That can be done on any of these following grounds
described below.

Insanity- If a partner loses mental stability

Permanent incapacity- If one partners become incapable of fulfilling his/her duties
Misconduct- When a partner is found guilty of any misconduct that goes on to
affect his firm’s business adversely when a lawful court deems its dissolution
Transfer of interest- If one or more partners turn their whole interest in the
partnership to a third party.
Business at loss- Where the business of a firm cannot be carried on except at a
loss, the court may dissolve the firm at the suit of partner. A partnership is
essentially formed to earn and share the profits, and if it is carried on only at loss, it
comes to an end, i.e the court may dissolve the firm.

Consequences of Dissolution of a Firm

Rights of A Partner on Dissolution of a Firm

On Dissolution of firm, a partner has following rights:

Right to have business wound up- on dissolution of a firm, each partner is

entitled to have the property of the firm applied in payment outside debts and
liabilities of the firm, and to have the surplus distributed among the partners in
accordance with their rights. This right of a partner is called “partner’s lien”.
Right to personal profits earned after Dissolution- Where any partner has
bought the goodwill of the firm on its dissolution, he has the right to use the firm’s
name and earn profit by its use.
Right to return of premium on premature dissolution- Where a partner has paid
a premium on entering into partnership for a fixed term and the firm is dissolved
before the expiration of the term, he is entitled to repayment of the whole or part of
the premium, regard being had to:
(a)- the terms upon which he becomes partner.
(b)- the length of the time during which he was a partner.
Right where partnership contract is rescinded for fraud or misrepresentation- Where
partnership is rescinded on the ground of fraud or misrepresentation of one
partners, the partner entitled to rescind has the following rights:
Right in lieu of surplus assets
Right of subrogation
Right to be indemnified
Right to restrain partners from the use of firm name or firm property- After a firm
has been dissolved, every partner or his representative may restrain any other
partner or his representatives from carrying on a similar business in the firm name
or from using any property of the firm for his own benefit, until the affairs of the firm
have completely wound up.

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Liabilities of A Partner On Dissolution Of Firm
After the dissolution of firm has taken place, the following liabilities have been casted
upon the partners.

1. Issuing of public notice- Public notice must be given of the dissolution in order to
absolve partners of the liability for any act done after the dissolution of the firm. If it
is not done, the partners continue to be liable as such to third parties for any act
done by any of them after the dissolution, and in such case, the act of partner done
after dissolution is deemed to be an act done before the dissolution.
2. partner to make use of the assets of the firm for the payment of loans and
settlement of other liabilities on behalf of the firm. Whatever is left after the payment
of loans and settlement of other dues, the same is distributed among the partners of
the firm.
3. Continuing rights and liabilities of partners- After the dissolution of a firm, the
authority of each partner to wind-up the firm and for the other mutual rights and
obligations of the partners continue, so far as may be necessary:
4. To wind up the affairs of the firm
5. To complete transactions begum but unfurnished , at the time of the dissolution

The firm is not liable for the act of an insolvent partner in above two cases.

Settlement of Accounts After Dissolution of a Firm

Final settlement of account after dissolution, if there is no other agreement among the
partners in that regard, is made as follows:

1. Loss of business- Losses, including deficiencies of capital, shall be paid first out of
profits, then out of capital and lastly by partners individually in the proportions in
which they were entitled to share profits.
2. Use of Assets of Business- The assets of the firm, including any sums
contributed by the partners to make deficiencies of capital, shall be applied –
3. In paying the debts of the firm .
4. In paying each partner rateably what is due to him from the firm for advances as
distinguished from capital .
5. In paying each partner what is due to him from the firm for advances as
distinguished from capital .
6. Payment of Business loans and the loans of partners- If the firm has to pay
business or commercial loans like bank overdraft and has also to pay back the
loans taken from the partners, then at the time of dissolution of the firm, first
business or commercial loans are paid and , thereafter , loans taken from partners
are paid.

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 7. Profits acquired after Dissolution of the Firm – A partnership firm may come to
an end due to the death of a partner. It may happen that the surviving partner has
earned some profits after the death of the partner, but before the dissolution of the
firm has in fact taken place. Under the circumstances, it becomes the duty of the
surviving partner to give the share of profit of the dead partner to his legal
representatives.

[1] https://www.vedantu.com/ dissolution of a firm.

Attention all law students!

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