In this article we will discuss about:- 1. Definition of Partnership Organization 2. Characteristics of Partnership Organization 3. Registration 4. Features 5. Ideal Partnership Organization 6. Kind 7. Deed or Agreement 8. Dissolution 9. Advantages 10. Disadvantages.
- Definition of Partnership Organization
- Characteristics of Partnership Organization
- Registration of Partnership Organization
- Chief Features of Partnership Organization
- Ideal Partnership Organization
- Kind of Partnership Organization
- Partnership Deed or Agreement
- Dissolution of Partnership Organization
- Advantages of Partnership Organization
- Disadvantages of Partnership Organization
1. Definition of Partnership Organization:
To become a successful businessman, one must possess adequate capital, knowledge and experience of business, technical skill, knowledge of accounting, purchasing and selling methods, etc. But generally it is difficult to find a person possessing all the qualities required for the success of the business. In such a case, business could be commenced in the form of partnership, where two or more persons having different capabilities join together.
In India, the partnership organization is governed by the Partnership Act 1932. Section 4 of the Act defines partnership as “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.” Persons who enter into the partnership are individually called partners and collectively “a firm” and the name under which business is carried on is called the “firm name.”
2. Characteristics of Partnership Organization:
The definition of partnership given contains the following elements:
(a) Partnership is a relationship among certain persons,
(b) Who have entered into an agreement
(c) To carry out the business for a gain, and
(d) For sharing the profits derived from the business; and
(e) The business is carried on by all the persons party to the agreement or any of them acting for all.
All the elements stated above must be included before a group of persons commence a partnership.
The essential characteristics of partnership are explained below:
1. Plurality of persons – For constituting a partnership there must be an association of two or more persons. But the maximum number of persons in the case of banking business is 10 and in the case of other business it is 20. The maximum number is laid down as such for associations by the Companies Act, 1956.
2. Contractual relationship – The partnership is the result of an agreement, express or implied, among persons who form the partnership. The Indian Partnership Act clearly states that the relation of partnership arises from contract and not from status. Two persons may be sharing the gains of commercial and legal sense unless they enter into an agreement for the same. Likewise a Joint Hindu Family firm is not a partnership.
3. Profit-motive – The primary motive of partnership contract is mutual gain or profit. But if the manager of a firm is given a share in profits, he is not to be treated as a partner, because other elements of partnership are not satisfied.
4. Existence of business – If an agreement is made between two or more persons for a social or charitable cause, it is not partnership. Partners while agreeing to share the profit of business also undertake to share its losses if any.
5. Principal-agent relationship (implied agency) – The partnership business should be carried on by all or by any one of the partners acting for all the partners. It means, the partners not only own the business, but also manage it. Though the partners have a right to take part in the management, it may not be possible for all the partners to take part. If any one partner manages the business, he does it on behalf of the others.
Partners are related as an agency so that every partner binds the other partners by an act in the name of the partnership firm and in the ordinary course of its business. In other words, there is mutual agency. Each partner is the agent of the other partners and each is the principal. For this reason it is sometimes stated that the law of partnership is extension of the law of agency.
Certain other important legal characteristics of partnership organization are worth mentioning.
They are as follows:
1. Unlimited liability – The liability of each partner of firm is unlimited in respect of the firm’s debts. The liability of partners is joint and therefore even one of the partners can be called upon to pay the debts of the firm in case the firm’s assets are insufficient.
2. No separate legal entity – The partnership firm has no independent legal existence apart from the persons who constitute it.
3. Utmost good faith – A partnership agreement is based on mutual confidence and trust of the partners. The partners must, therefore, be just and honest toward the other partners. They must disclose all the facts and render true accounts relating to the business of the firm and not make any secret profits.
4. Restriction on transfer of interest – No partner can transfer his share to an outsider without the consent of all other partners.
5. Unanimity of consent – No change may be made in the nature of the business without the consent of all the partners.
The Partnership Act provides for the registration of partnership with the Registrar of Firms appointed by the government. [The Act does not make it compulsory for partnership to be registered, nor does it impose any penalty for non-registration. But the Act imposes certain disabilities on the partners of an unregistered firm so as to make registration very desirable.]
It lays down that an unregistered firm will be unable to enforce its claims against third parties if the suit is exceeding Rs.100. No partner of an unregistered firm can file a suit to enforce his right under the partnership deed. Third parties can however file suits against the firm and the partners.
Also non-registration of a firm does not affect the following:
(a) The right of a partner to sue for dissolution of the firm or for accounts of, and his share in, the dissolved firm.
(b) The power of an official assignee to realize the property of an insolvent partner.
(c) The rights of a firm or its members having no place of business in India.
(d) Suits not exceeding Rs.100.
(e) Suits arising otherwise than under a contract; for instance, a suit against a third party for infringement of trademarks of the firm.
1. Registration under the Partnership Act:
A partnership firm can be registered at any time by filling a form accompanied by a fee of Rs.3 with the Registrar of Forms containing the following particulars:
(a) Name of the firm.
(b) Principal place of its business.
(c) Names of other places where the firm is carrying on business.
(d) The date on which each partner joined the firm.
(e) Names and full addresses of all the partners.
(f) The duration of the firm.
Changes in the above particulars must be communicated to the Registrar of Firms within a reasonable time. The Registrar of Firms will register the particulars in a register maintained by him. The entries made in the register by the registrar are treated as conclusive.
2. Registration for Tax Purposes:
Another type of registration, which is also desirable but not compulsory, is for income tax purposes. If a firm is registered under the Income-Tax Act, then the profits of the firm are divided among the partners and tax is charged on the incomes of the partners individually. But if the firm is not registered under the Income-Tax Act, then tax is charged on the whole of its income.
In addition to legal characteristics of partnership organization, certain other features may be noted.
They are as follows:
1. Legal Formalities for its Formation:
Since partnership arises out of a contract among partners, no legal formalities are involved for its formation. Such a contract may be oral or in writing, though, it is always advisable to make it in writing and a Deed of Partnership is prepared laying down the terms and conditions of partnership and the rights, duties, and obligations of partners. In addition to the deed, it is desirable to get the firm registered with the Registrar of Firms and the Income tax authorities.
The capital of a partnership firm consists of the amounts contributed by different partnerships. The capital contributed by all the partners need not be equal or be in proportion to their profit sharing ratio. There may be one or more partners without any capital contribution at all. This happens where such partners bring special skills, abilities, or contacts into the partnership organization. The collective capital contributions may be augmented by resorting to borrowings from banks and other parties on the strength of the security of the firm’s property and of the private estates of partners.
The control of the organization is shared by all the partners in a firm. No major decision can be taken without the consent of the partners. However in some firms, some partners (known as sleeping or dormant or secret partners) do not take an active part in the conduct of the business.
4. Management of Affairs:
According to the Partnership Act, every partner has a right to take an active part in the management of the business firm. But a partnership agreement may provide that one or more than one partners will be responsible for the management of the firm’s affairs.
Thus, there may be one senior partner who would be in the position of the chief executive, exercising overall supervision. Also the agreement may provide for the division of responsibilities among the different partners according to their experience and knowledge; e.g., one partner may look after the manufacturing, the other may take care of purchases, the third may be put in charge of sales, the fourth may look after the office, and so forth.
5. Duration of Partnership:
The partners may fix the duration of the partnership or say nothing about it. Where the partners stipulate that they should carry on the business for definite period of time, e.g., 5 years, it is called a “partnership for a fixed term.” When the period is over, the partnership comes to an end. Where the partnership is formed for the purpose of carrying on a particular venture, it is called a “particular partnership.” It comes to an end on the completion of the venture.
Where the partnership say nothing about the duration or agree that the business shall be carried on so long as they are inclined to carry it on, the partnership will be one at will. It is dissolved by a partner to his co-partners. Where it is stipulated that the partnership should be dissolved by “mutual agreement only,” then the firm is dissolved when all the partners agree.
Legally, a partnership comes to an end if any of the partner’s dies, retires, or becomes insolvent. But if the partners had agreed that death, retirement, or insolvency of a partner would not dissolve the firm, then on the happening of any of these contingencies, the “reconstituted firm” might continue under the same name. The Indian Partnership Act lays down the circumstances in which a firm will be dissolved.
The taxation of partnership organization has been discussed under ‘Registration for Income Tax Purpose.”
Unlike in sole trading organization, in partnership the responsibility of management is in the hands of a number of persons. This is because all the partners in partnership firm are entitled to take part in the management. In addition, a partner can act on behalf of the other partners without consulting them as far as third parties are concerned and can enter into commitments which the other partners have to honor.
Even if a partner commits a fraud in the course of the business, then all the other partners will be held responsible. Further, if a firm incurs losses due to reckless or careless acts of a partner, all the other partners have to share the losses. Hence, one must be careful in selecting partners. Many a firm fails because sufficient care is not taken at the time of entering into partnership.
The partnership, in order to be successful, should possess the following characteristics, which are said to be requisites of an ideal partnership:
1. Mutual understanding – There should be mutual understanding among the partners. This is possible only when the partners know one another thoroughly for a fairly long period.
2. Good faith – Not only mutual understanding is necessary among the partners but also all the partners should work in absolute sincerity and good faith. Every partner must be able to play his part in the management of the firm as efficiently as a man ordinary prudence will play.
3. Not too many partners – To maintain harmony among the partners the strength of partnership must be small and should not be unwieldy. The larger the number, the greater is the possibility for the partners to pull in different directions.
4. Balancing of skills and talents – There should be balance in skills and talents of partners. It means each partner must be specialized in different fields. The management of partnership requires the help of different experts, management expert, etc. Hence, each partner must be specialized in different fields so that the partnership can get the benefit from these experts.
5. Long duration – Many businesses require long time to establish and consolidate their position. Hence, one of the ideals of partnership is that the term of the partnership should be sufficiently long.
6. Adequate long-term capital – The partnership firm should have adequate long- term capital. The drawings of the partners should be minimum and as far as possible profits should be ploughed back for further development of the firm.
7. Written agreement – The mutual rights of the partners, their obligations, the ratios for sharing profits, and various other terms of partnership must be clearly discussed before the formation of partnership. A written agreement incorporating all the terms of partnership should also be made.
8. Registration – Though registration is not compulsory in the case of partnership, it is desirable to register it as soon as it is formed. If the partnership is not registered, it cannot enforce its legal remedies against the outsider, while the rights of outsider against the partnership are not affected. Hence, every partnership must be registered.
In partnership organization, there are different kinds of partners.
They are classified as follows:
1. Active Partner:
There are some partners who contribute not only capital to the partnership business but also take active part in the management of the business, and they are called active partners.
2. Sleeping Partners or Dormant Partners:
If partners contribute only capital but do not participate in the management of the business they are called sleeping or dormant partners. Though they do not participate in the business, it does not preclude them from their liability to the third parties. In other words, their liability is also unlimited.
3. Nominal Partners:
Sometimes, personas lend their names and credit to the partnership firm but neither contributes capital and not takes active part in the management of the business. Such partners are called nominal partners. They are partners in name only and are not entitled to the direct benefits of partnership. Legally they are regarded as partners and liable for all the debts for which their names and credit are used.
4. Partner in Profits Only:
If a person is entitled to a certain share of profits without being liable for the losses, he is known as partner in profit only. He will not be allowed to take part in the management of the business, but will be liable to third parties for all the acts of the partnership.
5. Partner by Estoppel:
If any person behaves in such a way that others consider him to be a partner, he will be held liable to those persons who have been misled and lent finance to the firm on the assumption that he is a partner. Such a person is known as partner by estoppel. He is not a true partner of the firm and also is not entitled to any share in the profits of the firm.
6. Partner by Holding Out:
If any person declares that so and so is a partner in a firm, the concerned person immediately after coming to know of that, should deny it. If he fails to deny, he will be liable to those third parties who extend credit to the firm on the basis of his being a partner. Such a partner is known as partner by holding out.
7. Minor Partners:
A minor also can be admitted into a partnership firm. But, as he cannot enter into a contract, he cannot be a full-fledged partner. The liability of a minor partner is limited to the extent of his share in the firm. Within 6 months after attaining majority, he has to give public notice stating whether he will continue as partner or not.
If he fails to announce within the prescribed period, he will be treated as having decided to continue as a partner. If he chooses to continue as a partner or deemed to be a partner, his liability will become unlimited, with effect from the date of original admission to the benefits of partnership.
A partnership can be formed either by oral or written agreement. In France and Italy, the law requires all partnership agreements to be in writing. But in England, USA, and India, written agreement is not compulsory. But in order to avoid misunderstanding and undesirable litigation, it is desirable to enter into a written agreement, which is called partnership deed or agreement.
Where the partners have decided to have a partnership deed, it should be stamped according to the provisions of the Indian Stamps Act. Each partner should have a copy of the deed. The partnership of association of a company only binds third parties so far as they have notice of it.
A properly drawn deed of partnership should contain the following points:
1. Name of the firm and nature of business.
2. The town and place where it will be carried on.
3. The commencement and duration of partnership.
4. All details as to the amount of capital contributed by each partner.
5. The proportion in which the profits and losses are to be shared.
6. Loans and advances by partners and interest payable on them.
7. The amounts that can be withdrawn by the partners and the rate of interest.
8. Rate of interest, if any, allowed on capital contribution.
9. The duties, powers, and obligations of all the partners.
10. Salary, if any, payable to the partners for managing the firm.
11. Maintenance of accounts and audit.
12. The basis of valuation of goodwill on the death or retirement of a partner or the introduction of a new partner.
13. The method by which a partner may retire and the arrangement for the payment of dues of a retired or deceased partner.
14. Arrangements in case a partner becomes insolvent.
15. Arbitration in matters of dispute among partners.
16. The method of revaluation of assets and liability on admission or retirement or death of a partner.
17. Settlement in the case of dissolution of partnership.
18. Any other clause or clauses which may be found necessary in any particular kind of business.
8. Dissolution of Partnership Organization:
Dissolution’s can be of three types – dissolution of firm and dissolution of partnership and dissolution through court. If there is dissolution of partnership among all the partners of a firm, it is a case of dissolution of firm. It follows that a partnership may be dissolved without dissolving the firm.
For example, in a firm of three partners, if one of them dies, or retires, or becomes insolvent, the partnership would come to an end; but if the partners had made an agreement to the effect that death, retirement, or insolvency of a partner would not dissolve the firm, then on the happening of any of these contingencies, the firm can be continued as the “reconstituted” firm under the same name.
Therefore, the dissolution of a partnership may or may not include the dissolution of the firm, but the dissolution of the firm includes dissolution of partnership. When the dissolution of the firm takes place, business comes to an end but not on the dissolution of partnership, the business may be carried on by a reconstituted firm.
1. Dissolution of Partnership:
In the following cases, the dissolution of partnership takes place:
(a) By the expiry of the term of the partnership.
(b) By the completion of a particular adventure.
(c) By the death, retirement, or insolvency of a partner.
2. Dissolution of Firm:
The dissolution of a firm takes place in the following circumstances:
(a) When all the partners agree to dissolve the firm.
(b) When all the partners or all the partners except one become insolvent or die.
(c) When business becomes illegal or unlawful as a result of subsequent events.
(d) When a partner gives notice of dissolution to other partners in case the partnership is at will.
(e) When the court orders that the firm should be dissolved.
3. Dissolution through Court:
The circumstances in which the court may order the dissolution of the firm are as follows:
(a) When a partner becomes of unsound mind;
(b) When a partner becomes permanently incapable of performing his duties as a partner;
(c) When a partner is guilty of misconduct which is likely to affect the business of the firm;
(d) When a partner or partners frequently disregard the provisions of the partnership agreement;
(e) When a partner transfers the whole of his interest or share in the firm to a third person;
(f) When the business cannot be carried on except at a loss; and
(g) When the court considers that it is just and equitable to dissolve.
After dissolution of the firm, its assets are disposed of and the amount realized is used in clearing off- first the debts of the firm to third parties, secondly the loans from the partners, and finally the capital of each partner. It may also be liable for the debts of the firm incurred before dissolution.
The following are the advantages of general partnership organization:
1. Ease of formation – Like the sole proprietorship, a partnership can be formed without expense and legal formalities. Even registration is not compulsory.
2. Larger resources – When compared to sole proprietorship, resources are more and hence the scale of operation can be increased if necessary. The talents, managerial abilities, and power of judgment of two or more persons are combined in partnership and this facilitates better organization of business.
3. Great interest in the business – The partners take more interest in the business as they are owners, and as profit from the business depends on the efficiency with which they manage.
4. Quick decision – As partners meet very often, quick decisions can be taken regarding business policies and by this the firm would be in a position to take advantage of changing business conditions.
5. Flexibility– As partnership is free from legal restriction on its activities, the line of business can be changed at any time. If it is a company, its object cannot be changed and hence this is lighter risk.
6. Lighter risk – In the case of sole proprietorship, all the losses will have to be borne by only one person, but in partnership, the losses are shared among the partners and hence this is lighter risk.
7. Protection to minority – The minority interest is well protected by law. In the case of important matters such as change in the nature of the business and other matters of policy, unanimity is necessary. Even in ordinary matters where unanimity is not necessary, a dissatisfied partner may withdraw and dissolve the firm.
8. Influence of unlimited liability – The principle of unlimited liability helps the firm to secure additional funds for the business, as the financiers are assured of refund of their amounts. Further, the partners will be careful in their business dealings because of the fear of their personal properties being liable under the principle of unlimited liability.
9. Better public relation – As the size of the business is not very big and as the partners themselves look after the business, there is great scope to develop cordial relations with the employees, customers, and others and this would help the business in many ways.
1. Great risks – As the liability is joint and several, any one of the partners can be called upon to pay all the debts of the firm. This affects not only the capital contributed by him but also his personal properties. Further, as every partner has a right to take part in the management of the firm, any misjudgments of faults by one of them would bring disaster to the other partners.
2. Lack of harmony – As every partner has equal voice in the management, everyone would try to assert his position and this might lead to internal friction and misunderstanding. Generally, these misunderstandings crop up and as a result, the business may be very much affected and may come to an end.
3. Limited resources – As the number of partners cannot be more than 10 in the case of banking business and 20 in the case of any other business, there is a limit to the amount of capital that can be raised. This is a great handicap of partnership, particularly where a business which requires more of fixed capital. Therefore, the business which requires large capital outlay obviously calls for some other form of business organization.
4. No legal entity – The partnership has no independent existence apart from the persons who compose it, i.e., it is not a legal entity.
5. Lack of public confidence – As no legal regulations are followed at the time of its formation and as there is no publicity of its affairs, a partnership may not enjoy public confidence.
6. Lack of stability – There is instability in the life of partnerships, because the death, retirement, and insolvency of a partner can affect the continuity of business. Even any single partner, if he is dissatisfied with the business, can bring about dissolution of partnership. Hence, a business which requires a long period for establishment and consolidation is unfit for being organized as a partnership firm.