Dissolution of Firm (Section 39)

• The dissolution of partnership between

all the partners of a firm is called the
“Dissolution of the Firm”.
• Sections 39 to 55 of The Indian
Partnership Act, 1932, deal with the
dissolution of firms.
Dissolution by Agreement (Section 40)

• A firm may be dissolved either:

• With the consent of all the partners; or
• In accordance with a contract between
the partners.
 Compulsory Dissolution (Section 41)

• A firm is dissolved by the happening of any

event which makes it unlawful for the
business of the firm to be carried on or for
the partners to carry it on in partnership.
 Example
• A firm was carrying on the business of
importing and selling a particular medicine.
• The Union Government bans the sale of that
medicine in India.
• The firm must be compulsorily dissolved as its
business has become unlawful.
 Effect of Section 41
• If the business of a firm was lawful when the firm
was established, but it subsequently becomes
unlawful, the firm has to be compulsorily dissolved.
• This provision is based on Sections 23 and 56 of the
Indian Contract Act, 1872.
• Section 23 provides that the object and
consideration of a contract must be lawful.
• Section 56 lays down that when the contract to do
an act becomes unlawful after its making, the
contract becomes void.
 Question

• If more than one adventure or undertaking is

carried on by a firm and one of them is
declared illegal, does it lead to the
dissolution of the firm in respect of its lawful
adventures and undertakings?
 Proviso to Section 41

• Provided that, where more than one separate

adventure or undertaking is carried on by the
firm, the illegality of one or more shall not of
itself cause the dissolution of the firm in
respect of its lawful adventures and
undertakings.
 Section 41(a) – Omitted in 2016

• Section 41(a) provided that a firm is dissolved “by

the adjudication of all the partners or of all the
partners but one as insolvent”.
• However, this clause has been omitted by the First
Schedule of the Insolvency and Bankruptcy Code,
2016.
• Section 41(a) was omitted on 28th May 2016.
 Dissolution on Happening of an
Event (Section 42)
• Subject to a contract between the partners, a
firm is dissolved—
• (a) if constituted for a fixed term, by the expiry
of that term;
• (b) if constituted to carry out one or more
adventures or undertakings, by the completion
thereof;
• (c) by the death of a partner; and
• (d) by the adjudication of a partner as an
insolvent.
 Dissolution by Notice (Section 43)
• 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.
• The firm is dissolved as from the date
mentioned in the notice as the date of
dissolution or, if no date is so mentioned, as
from the date of the communication of the
notice.
 Grounds of Dissolution by Court under Section
44
• Unsoundness of Mind of a Partner;
• Permanent Incapacity of a Partner to Perform his
Duties;
• Partner’s conduct injurious to partnership business;
• Partner’s persistent breach of partnership
agreement;
• Transfer of the whole of a partner’s interest;
• If the partnership business can be carried on only at
a loss;
• If dissolution of firm is just and equitable.
 Dissolution by the Court (Section 44)
• At the suit of a partner, the Court may dissolve a firm on
any of the following grounds, namely:—
• (a) that a partner has become of unsound mind, in which
case the suit may be brought as well by the next friend of
the partner who has become of unsound mind as by any
other partner;
• (b) that a partner, other than the partner suing, has
become in any way permanently incapable of performing
his duties as partner;
• (c) that a partner, other than the partner suing, is guilty of
conduct which is likely to affect prejudicially the carrying on
of the business, regard being had to the nature of the
business;
 Dissolution by the Court (Section 44)
• (d) that a partner, other than the partner suing, wilfully or
persistently commits breach of agreements relating to the
management of the affairs of the firm or the conduct of its
business, or otherwise so conducts himself in matters relating
to the business that it is not reasonably practicable for the
other partners to carry on the business in partnership with
him;
• (e) that a partner, other than the partner suing, has in any way
transferred the whole of his interest in the firm to a third
party, or has allowed his share to be charged under the
provisions of Rule 49 of Order XXI of the Code of Civil
Procedure, 1908, or has allowed it to be sold in the recovery
of arrears of land-revenue or of any dues recoverable as
arrears of land revenue due by the partner;
Dissolution by the Court (Section 44)

• (f) that the business of the firm cannot be

carried on save at a loss; or
• (g) on any ground which renders it just and
equitable that the firm should be dissolved.
 Question

• Whether after the dissolution of a firm, the

partners continue to be liable towards third
parties for their subsequent acts which
would have been acts of the firm if done
before dissolution?
 Liability for Acts Done After
Dissolution (Section 45)
• Notwithstanding the dissolution of a firm, the
partners continue to be liable as such to third
parties for any act done by any of them which
would have been an act of the firm if done before
the dissolution, until public notice is given of the
dissolution.
• Such notice may be given by any partner.
 Exception – Proviso to Section 45
• Provided that the estate of a partner who
dies, or who is adjudicated an insolvent, or of
a partner who, not having been known to the
person dealing with the firm to be a partner,
retires from the firm, is not liable under this
Section for acts done after the date on which
he ceases to be a partner.
 Effect of the Proviso
• When a partner dies, his estate is not liable for the
acts done after his death.
• The position of a partner who is adjudicated
insolvent is similar to that of a deceased partner.
• No public notice is required in either case.
• No public notice is required in case of a retired
partner who was not known to be a partner to a
third party dealing with the firm.
 Right of Partners to have Business
Wound Up after Dissolution (Section 46)
• On the dissolution of a firm, every partner or
his representative is entitled, as against all
the other partners or their representatives,
to have the property of the firm applied in
payment of the debts and liabilities of the
firm, and to have the surplus distributed
among the partners or their representatives
according to their rights.
Rights of Partners under Section 46
• Right to have the property of the firm
applied in payment of the debts and
liabilities of the firm; and
• Right to have the surplus distributed
among the partners or their
representatives.
Continuing Authority of Partners for
Purposes of Winding Up (Section 47)
• After the dissolution of a firm the authority
of each partner to bind the firm, and the
other mutual rights and obligations of the
partners, continue notwithstanding the
dissolution, so far as may be necessary to
wind up the affairs of the firm and to
complete transactions begun but unfinished
at the time of the dissolution, but not
otherwise.
 Exception - Proviso to Section 47
• Provided that the firm is in no case bound by
the acts of a partner who has been
adjudicated insolvent.
• But this proviso does not affect the liability of
any person who has after the adjudication,
represented himself or knowingly permitted
himself to be represented as a partner of the
insolvent (Exception to the Exception).
 Mode of Settlement of Accounts
Between Partners (Section 48)
• In settling the accounts of a firm after dissolution,
the following rules shall, subject to agreement by
the partners, be observed: —
• (a) Losses, including deficiencies of capital, shall
be paid first out of profits, next out of capital,
and, lastly, if necessary, by the partners
individually in the proportions in which they were
entitled to share profits.
 Mode of Settlement of Accounts
Between Partners (Section 48)
• (b) The assets of the firm, including any sums contributed
by the partners to make up deficiencies of capital, shall
be applied in the following manner and order:—
• (i) in paying the debts of the firm to third parties;
• (ii) in paying to each partner rateably what is due to him
from the firm for advances as distinguished from capital;
• (iii) in paying to each partner rateably what is due to him
on account of capital; and
• (iv) the residue, if any, shall be divided among the
partners in the proportions in which they were entitled to
share profits.
 Example
• A, B and C, three partners in a firm, contributed a capital of
Rs. 25 Lakhs, Rs. 20 Lakhs and Rs. 5 Lakhs respectively, at the
time of establishing the firm.
• The total capital is Rs. 50 Lakhs.
• They agreed to share the profits and losses equally.
• At the time of dissolution, the firm’s realized assets are Rs.
20 Lakhs. So there is deficiency of capital to the extent of Rs.
30 Lakhs.
• Each partner is bound to contribute Rs. 10 Lakhs to bear the
loss.
• Once the partners make good the loss, the total amount of
Rs. 50 Lakhs will be available for the return of the capital
contributed by them.
 Payment of Firm Debts and Separate
Debts (Section 49)
• Where there are joint debts due from the firm, and
also separate debts due from any partner, the property
of the firm shall be applied:
• In the first instance in payment of the debts of the
firm; and
• If there is any surplus, then the share of each partner
shall be applied in payment of his separate debts or
paid to him.
• The separate property of any partner shall be applied
first, in the payment of his separate debts, and the
surplus (if any) in the payment of the debts of the firm.
 Question
• Can a surviving partner, or the representatives
of a deceased partner derive and retain profits
made by them by using the firm name or from
any transaction of the firm, after the dissolution
of the firm by the death of a partner, but before
its affairs have been completely wound up?
Personal Profits Earned After Dissolution
(Section 50)
• Subject to contract between the partners, the
provisions of Section 16(a) shall apply to
transactions by any surviving partner or by the
representatives of a deceased partner, undertaken
after the firm is dissolved on account of the death of
a partner and before its affairs have been
completely wound up.
• Provided that where any partner or his
representative has bought the goodwill of the firm,
nothing in this Section shall affect his right to use
the firm name.
 Section 16(a) - Personal Profits
Earned by Partners
• Subject to a contract between the partners, if
a partner derives any profits for himself from
any transaction of the firm, or from the use
of the property or business connection of the
firm or the firm name, he shall account for
that profit and pay it to the firm.
 Right to Restrain from use of Firm
Name or Firm Property (Section 53)
• After a firm is dissolved, every partner or his
representative may, in the absence of a contract
between the partners to the contrary, restrain any
other partner or his representative from carrying on a
similar business in the firm name or from using any of
the property of the firm for his own benefit, until the
affairs of the firm have been completely wound up:
• Provided that where any partner or his representative
has bought the goodwill of the firm, nothing in this
Section shall affect his right to use the firm name.
 Return of Premium on Premature
Dissolution (Section 51)
• Where a partner has paid a premium on entering
into partnership for a fixed term, and the firm is
dissolved before the expiry of that term
otherwise than by the death of a partner, he shall
be entitled to repayment of the premium or of
such part thereof as may be reasonable, regard
being had to the terms upon which he became a
partner and to the length of time during which he
was a partner.
 Exceptions to Section 51

• A partner shall not be entitled to repayment of

premium in the following situations:
• If the dissolution of firm is mainly due to his own
misconduct, or
• If the dissolution of firm is in pursuance of an
agreement containing no provision for the return
of the premium or any part of it.
 Rights where Partnership Contract is Rescinded for
Fraud or Misrepresentation (Section 52)
• Where a partnership contract is rescinded on the ground of
fraud or misrepresentation of any of the parties thereto, the
party entitled to rescind is, without prejudice to any other
right, entitled—
• (a) to a lien (right of retention) on the surplus or the assets
of the firm remaining after the debts of the firm have been
paid, for any sum paid by him for the purchase of a share in
the firm and for any capital contributed by him;
• (b) to rank as a creditor of the firm in respect of any
payment made by him towards the debts of the firm (right
to priority of claim); and
• (c) to be indemnified by the partner or partners guilty of the
fraud or misrepresentation against all the debts of the firm.
BK Kapoor & Another vs Tajinder Kapoor
& Another [2008 (57) CCC (P&H)] (Facts)
• A firm named M/s BK Engineering Works was established on
1st April 1992.
• Later on, the plaintiff-respondent claimed that it had
become very difficult to continue with the partnership
business of the firm as there were no good relations of the
plaintiff with her husband, father-in-law, and brother-in-law
and therefore claimed the dissolution of the partnership
and rendition of account.
• She further claimed that as per the terms of the agreement,
she was entitled to 18% of the profit in the first Rs.75,000;
12% of the profit in respect of the next Rs.75000 of Book
Profit, and 8% in the balance amount of Book Profit.
 Facts
• Notice of the suit was issued to the defendant,
who moved an application under Section 8 of
the Arbitration and Conciliation Act, 1996,
claiming that the dispute raised in the suit is
covered under the Arbitration Agreement
executed between the parties i.e. Clause 16 of
the Partnership Deed.
 Clause 16
• That in case of there being any dispute among the
parties to this Deed, none of the partners shall be
competent to rush straight away to a court of law.
• The matter at the first instance shall be referred to a
Board of Arbitrators constituted by one nominee of
each party to this Deed.
• The unanimous decision of the arbitrators or the
decision of a majority of them shall be binding on
the parties.
 Issue Involved
• Whether the Court should issue an order for
the dissolution of firm under Section 44 of the
Partnership Act, or should the matter be
referred to Arbitration under Clause 16 of the
Partnership Deed?
 Decision
• The Punjab and Haryana High Court held that
the petitioner is seeking the dissolution of firm
on just and equitable grounds as covered
under Section 44 and not as per the terms of
the partnership deed.
• Therefore, the matter could not be referred to
arbitration under Section 8 of the Arbitration
and Conciliation Act, 1996, as claimed.