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In India, the legal framework governing partnership firms is established by the Indian Partnership Act of 1932. This Act outlines the rights and responsibilities of partners amongst themselves, as well as their legal relationships with third parties that arise during business operations. This article provides a detailed overview of various aspects of running a partnership firm in India.
Partnership
A partnership refers to an agreement between individuals to share the profits of a business carried out by all or any one of them acting for all, as defined in Section 4 of the Indian Partnership Act. Therefore, a partnership is comprised of three critical elements.
Firstly, the partnership must arise from an agreement between two or more individuals. Secondly, the agreement must entail the sharing of profits obtained from the business. Finally, the business must be run by all or anyone acting for the rest. All three conditions must coexist before a partnership can be formed.
Essential Elements of a Partnership
Certain key elements are required to form a Partnership, including the following:
Agreement
A partnership stems from an agreement between two or more persons and it can only arise from a contract, not from status. Hence, a partnership differs from a Hindu Undivided Family running a family business. This alliance is solely based on mutual agreement. Thus the nature of a partnership is voluntary and contractual.
A partnership agreement may be expressed or implied, drawn from the actions of partners or a consistent course of conduct indicating a mutual understanding between them. The agreement may be in writing or oral.
Sharing Business Profit
When it comes to sharing profits, two propositions must be considered.
Firstly, there must exist a business, which generally refers to every trade, occupation, and profession. The existence of a business is crucial. The objective of a business is to acquire gains, leading to the formation of a partnership. Hence, there can be no partnership if there is no intention to carry on a business and share the profits earned. For instance, co-owners who share the rent earned from a piece of land are not partners as a business does not exist. Similarly, no charitable institution or club may be called a partnership. However, a Joint Stock Company may be floated as a partnership for non-economic purposes.
Secondly, an agreement must exist regarding the sharing of profits. For example, A and B purchase certain bales of cotton which they agree to sell jointly and share the benefits equally. In such a scenario, A and B are partners about the planned business. However, an agreement to share losses is not an essential element. In case of damages, unless otherwise agreed, they must be borne in a profit-sharing ratio.
Running the Business
The third requirement for a partnership is that the business must be carried out by all partners or by one or more partners acting for all. This is a critical principle of partnership law. An act of one partner during the business is, in fact, an act of all partners. A partner conducting a business is both the principal and agent for all other partners. Therefore, it should be noted that the actual test of a partnership is mutual agency rather than profit-sharing. If the element of mutual agency is absent, then there is no partnership. The sharing of benefits is the only prima facie evidence that can be challenged with stronger evidence to prove the absence of mutual agency.
The distinction between Partnership and Firm
Partners are called individuals who have entered into a partnership with each other. The name under which the business is carried on is called the name of the firm. A partnership is an abstract legal relationship between partners. A firm is a concrete object representing the collective entity for all partners. Therefore, a partnership is an invisible bond that holds partners together, and a firm is the visible form of this partnership.
Types of Partnership:
A partnership without a specific duration or termination date stated in the contract between the partners.
A partnership formed for a specific business venture or undertaking that ends upon completion of the task.
A partner who actively participates in the partnership and represents the firm in business transactions. Upon retirement, a public notice must be given to absolve themselves of liability for future actions of the firm.
A partner who is a member of the firm but does not participate in the day-to-day operations. They share profits and losses and are liable to third parties, but do not need to give public notice of their retirement.
A partner who lends their name to the firm but does not invest or participate in the business. They are liable to third parties for the firm’s actions.
A partner who is entitled to a share of profits but not liable for losses. They are liable to third parties only for actions that result in a gain.
A partner who shares profits with an outsider to the firm but has no rights or liabilities in the partnership.
A partner admitted to an existing firm with the consent of all other partners. They are not liable for actions taken before their entry.
A partner who leaves the firm but remains liable for actions taken by the firm until a public notice of their retirement is given.
| Criteria | Partnership | Company |
| Legal Status | A firm isn’t a legitimate entity. As a result, it lacks a separate legal personality from the persons of its constituent parts. | A company is regarded as a different legal entity from its members. |
| Agency | In a partnership, each partner represents both the firm and their other partners. | A member of a company is neither the agent of the company nor of any other member. The conduct of a member is also not binding. |
| Distribution of Profits | The terms outlined in the partnership deed must be followed when dividing a company’s profits among its partners. | The members are not obligated to share its revenues with them. When dividends are issued, a portion of the profits are distributed to the shareholders. |
| Extent of liability | The partners liability in a partnership is uncapped. This means that each partner is responsible for the debts accumulated by the firm while it was conducting business. If the combined estate is not enough to cover all of the debts, the partner’s private property may be used to pay off the debts. | In a corporation whose liability is restricted by shares, each shareholder is only liable for any unpaid share capital. A guarantee company’s liability is capped by the amount for which the shareholder has consented to be held accountable. There may be businesses, though, where a member’s obligation is limitless. |
| Property | The property of the company is what is referred to as a “Joint Estate” of all the partners. It does not legally belong to anyone other than its members. | A company’s assets are segregated from those of its shareholders, who can only receive them back in the form of dividends or capital refunds. |
| Transfer of Shares | Without the consent of all partners, a stake in a partnership cannot be transferred to another person or partner. | Shareholders may transfer their shares as long as they adhere to the Articles’ restrictions. The transfer of shares is typically prohibited in the case of a public limited business whose shares are traded on a stock exchange. |
| Management | All of the firm’s partners are eligible to engage in control, barring any clear agreements that have been signed to the contrary. | Until they are appointed as directors, company members are not permitted to engage in management. They could take part in such an instance. Yet, members have the privilege of participating in general meetings and casting ballots to decide on specific issues like the election of directors or the appointment of auditors, among others. |
| Number of membership | The number cannot be greater than 20 for businesses that are not banks. Such a number cannot exceed 10 for banks. | A private business must have at least 2 members and a maximum of 50. Any number of members may make up a public company, but there must be at least seven. |
| Duration of existence | If there are no agreements to the contrary, a partner’s death, retirement, or insolvency will cause the firm to dissolve. | Perpetual succession is advantageous for a business. |
| Audits | Audits are not compulsory. | Audits are compulsory |
| Criteria | Partnership | Club |
| Definition | A partnership is a group of people who come together to run a business together or with one person acting on their behalf. | A club is a group of people who come together to promote a good cause, such as bettering their members’ health or offering them entertainment, instead of making a profit. |
| Relation | Partners are the people who establish a partnership. Every other partner is represented by a partner. | The people that make up a club are referred to as its members. A club member is not the representative of another club member. |
| Interest In The Property | A partner has a stake in the assets the company owns. | No property that a club owns is subject to the ownership of a member. |
| Dissolution | A firm’s continued existence would be impacted by a change in its partners. | The club still exists even if some of its members leave. |
| Criteria | Partnership | HUF |
| Creation | An agreement establishes a partnership. | Status determines who has the right to a Hindu Undivided Family. It is formed through birth into a family like that. |
| Dissolution | The partnership would end if one of the firm’s partners died. | The family business does not terminate when a family member passes away. |
| Management | Every partner of the company has an equal right to participate in a partnership business. | The right of the management is with the male member of the family |
| Liability | Unlimited | The liability of karta is unlimited. |
| Governing Law | Partnership Act | Hindu Law |
| Continuity | Depending on the terms of the partners’ agreement, a partnership terminates upon the death or insolvency of a partner. | Can continue until it is divided. |
| Criteria | Partnership | Co-ownership |
| Creation | Contract | Agreement or by operation of law |
| Implied Agency | An agent for the other partners is a partner. | A co-owner does not represent other co-owners. |
| Nature of interest | Profits and losses have to be shared | Sharing of profit and losses is not necessary. |
| Transfer of interest | A share is transferred only with the consent of other members | Consent of other members is not required. |
| Criteria | Partnership | Association |
| Definition | Relation of agency among two or more individuals who have entered a business with an intent of sharing profits | For a social cause with no intention of sharing or gaining profits |
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