Nature of Partnership

Partnership arises when two or more people come together to run a business and share its profits and losses. The legal definition comes from Section 4 of the Indian Partnership Act, 1932, which calls partnership 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.” The individuals are called partners, and collectively they are called a firm. The name under which the business operates is the firm’s name.

A critical point to grasp right away: a partnership firm has no separate legal entity apart from its partners. This means the firm and the partners are not distinct in the eyes of the law — the partners are personally liable for the firm’s debts.

Essential Features of Partnership

The Act lays down six essential features. If any one of these is missing, the relationship is not a partnership.

1. Two or More Persons

   You need at least two persons to form a partnership. The maximum number is governed by the Companies Act, 2013. Under Section 464 of that Act, the Central Government has fixed the upper limit at 50 partners. So a partnership firm can have anywhere from 2 to 50 partners.

2. Agreement

   Partnership is born out of an agreement between the partners. This agreement is the foundation of their relationship. It does not have to be in writing — an oral agreement is equally valid in law. However, to avoid future disputes, a written partnership deed is strongly recommended.

3. Business

   The agreement must be to carry on some business. Mere co-ownership of property does not create a partnership. For example, if two people jointly buy a plot of land, they are joint owners, not partners. But if they buy and sell land with the intention of making a profit, they are partners. The key is the existence of a business activity.

4. Mutual Agency

   This is the most distinctive feature. The business may be carried on by all partners or by any one of them acting for all. This creates a relationship of mutual agency: each partner is both a principal (binding others by his acts) and an agent (bound by the acts of others) for the firm. If the element of mutual agency is absent, there is no partnership. This is what separates a partnership from, say, co-ownership.

5. Sharing of Profit

   The agreement must be to share the profits of the business. Although the definition mentions only profits, the sharing of losses is implied. If people join hands for a charitable purpose, it is not a partnership. Profit-sharing is the economic motive.

6. Liability of Partners

   Each partner is jointly and severally liable for all acts of the firm done while he is a partner. Jointly means all partners together are liable; severally means each partner individually can be held liable for the entire debt. Moreover, the liability is unlimited — a partner’s personal assets can be used to pay off the firm’s debts. This is a major risk and a key difference from a company.

Accounting Implication …