Dissolution -
Of Partnership And Of The Firm

Dissolution of partnership means re-entering into a new partnership agreement post termination of the old agreement between the partners of the firm which can be due to any reason like retirement or death or admission of a new partner.

In Dissolution of a partnership firm, the firm ceases to exist. Here the assets of the firm are to be sold and the proceeds are to be used for settlement of liabilities. Surplus or deficit if any is to be borned by the solvent partners in their profit sharing ratio and thereby the capital accounts of the partners are to be closed.

Dissolution Of A Firm:

Dissolution of a partnership firm may take place without the intervention of court or by the order of a court, in any of the ways specified later in this section. It may be noted that dissolution of the firm necessarily brings in dissolution of the partnership.

Dissolution of a firm takes place in any of the following ways:

Dissolution by Agreement:

A firm is dissolved:

  1. With the consent of all the partners or
  2. In accordance with a contract between the partners.
Compulsory Dissolution:

A firm is dissolved compulsorily in the following cases:

  1. When all the partners or all but one partner, become insolvent, rendering them incompetent to sign a contract;
  2. When the business of the firm becomes illegal; or
  3. When some event has taken place which makes it unlawful for the partners to carry on the business of the firm in partnership, e.g., when a partner who is a citizen of a country becomes an alien enemy because of the declaration of war with his country and India.
Dissolution On The Happening Of Certain Contingencies:

Subject to contract between the partners, a firm is dissolved:

  1. If constituted for a fixed term, by the expiry of that term;
  2. If constituted to carry out one or more ventures, by the completion thereof;
  3. By the death of a partner;
  4. By the adjudication of a partner as an insolvent.
Dissolution by Notice:

In case of partnership at will, the firm may be dissolved if any one of the partners gives a notice in writing to the other partners, signifying his intention of seeking dissolution of the firm.

Dissolution by Court:

At the suit of a partner, the court may order a partnership firm to be dissolved on any of the following grounds:

  1. when a partner becomes insane;
  2. when a partner becomes permanently incapable of performing his duties as a partner;
  3. when a partner is guilty of misconduct which is likely to adversely affect the business of the firm;
  4. when a partner persistently commits breach of partnership agreement;
  5. when a partner has transferred the whole of his interest in the firm to a third party;
  6. when the business of the firm cannot be carried on except at a loss; or
  7. when, on any ground, the court regards dissolution to be just and Equitable
Settlement of Accounts In Case Of Dissolution Of Partnership Firm:

In case of dissolution of a partnership firm, the firm has to settle its accounts. For the purpose of settlement of accounts, all such assets have to be disposed off that has claims against it.

It should also be noted that, Section 48 of the Indian Partnership Act 1932 shall states that:

(a) All losses, including deficiencies of capital, should be paid:
  1. First out of profits,
  2. Next out of capital of partners, and
  3. Finally, if necessary, should be shared by the partners in their profits sharing ratio.
(b)Application of Assets:

The assets of the firm, including any additional amount contributed by the partners to make up capital deficiencies, shall be applied in the following manner:

  1. In paying off the debts of the firm to the third parties such as creditors, loans, bank overdraft, bill payables, etc.;
  2. In paying off partner's loan;
  3. In paying off the amount of partners' capital; and finally
  4. The residue (if any), shall be divided among the partners in their profit sharing ratio.

Here it should be noted that secured loans have preference over the unsecured loans. In other words, the secured loans should be paid off first over unsecured loans.

Private Debts and Firm's Debts:

Where both private debts of the partners' and firm's debts exist:

  1. The assets of the firm shall be applied first in paying off the debts of the firm and then the surplus, if any, shall be divided among the partners as per their claims, which can be utilized for payment of their private liabilities.
  2. The private property of any partner shall be applied first in paying off his/her private debts and then the surplus (if any), may be utilized for payment of the firm's debts.

This stands applicable in case the firm's assets are not sufficient to meet its liabilities.

Here it may also be noted that the private property of the partner does not include the personal properties of his wife and children.