Ways to Close / Dissolve a Partnership Firm

If you run a partnership firm, then must know that partners can dissolve a partnership firm at any time. The process of dissolving a partnership firm includes a process to sale the assets and settle off the liabilities including the final settlement of firm’s accounts. Section 189 of the Income Tax Act deals with the dissolution of a partnership firm. 

But the decision of dissolution of partnership firm, is collectively made by the partners of the business entity. Below the different ways to dissolve a partnership are shared through which you are going to learn the many ways through to dissolve a partnership firm.

What is a Dissolution of a Partnership Firm?

When the partners of a partnership firm decide to discontinue the partnership firm, this means that the firm will be discontinued under the said partnership firm. In case of dissolution, all the liabilities of the firm will be settled by selling the assets or can be transferred into an account of a particular partner. 

After the partnership firm dissolution, any profit/ loss is distributed among the partners as per the profit-sharing ratio established in the partnership deed. Remember, dissolving a partnership is different from dissolving a partnership.

In the case of a partnership firm, the name of the firm will end and you cannot do business in the future. But in case of dissolving a partnership, the existing partnership will end. Here the partnership can retain its existence if the remaining partners can come into a new partnership agreement.

Different Types of a Partnership Firm Dissolution

To dissolve a partnership firm, there are different ways the partners can choose from. Some of the ways are shared below:

1. Closing a Partnership Firm by Mutual Consent

Dissolving a partnership firm through mutual consent is perhaps the easiest and the most coherent way to dissolve such a firm. Now, this form of dissolution is referred to as voluntary dissolution. 

The reason for it to be called voluntary is that the partners mutually agree that the partnership has run its course or it’s time for the partnership to end. The process of dissolving the voluntary closing of a partnership firm involves the production of a “partnership dissolution agreement”. This agreement entails the following terms:

• The date when the company was established.
• The profits that the firm has made till now.
• The division of profits after the dissolution of the partnership.
• The date of dissolving the firm.
• The reason for the dissolution.
• Mutual consent clause of dissolution

The formulated agreement should have the signatures of all the partners. Therefore, a partnership business should include mutually respecting partners beforehand if this is the way you are choosing to dissolve a partnership firm.

2. Partnership Dissolution by Notice

The chances that both the partners will agree to close the firm are quite slim. However, any one of the partners can initiate partnership dissolution by notice. This is a specific notice that is to be filed and forwarded to the Registrar of Partnerships for partnership dissolution. The notice shall include the following information:

1. Date of dissolution.
2. Partners or partners who are seeking dissolution.
3. Other information.

While it might appear to be a simpler way to dissolve a partnership business, it is truly not. When there is discord between the partners, the chances of this notice being challenged are also high. Therefore, one should always be ready with a legal team because one can foresee the challenge happening.

3. Closing of Partnership Firm by Contingency

There are certain clauses specified in the partnership deed that make partnership firm dissolution important in cases of certain circumstances. It is called the Dissolution of a partnership firm through contingency. The circumstances that can trigger the closure are as follows:

• The aim of the partnership is complete.
• One of the partners has left the mortal coil (death of a partner).
• Either one or all of the partners have gone insolvent.
• The partnership period has expired.

4. Compulsory Closing of Partnership Firm

Compulsory dissolution of a partnership firm happens after the contingencies or the orders from the court. As the saying goes- “A clap requires more than one hand”. Therefore, there can be certain conditions where the court might declare that the partnership is unfit to function. These conditions are as follows:

Mental Incapacitation: In case one of the partners is mentally incapacitated, that would result in improper functioning of the partnership business. In this case, other partners have to file an application to the court for dissolution of partnership firm.

Misconduct: The court steps in without warning if the firm has been involved in some sort of misconduct. It can range from breaching the partnership agreement to conducting activities that can be counted as morally wrong. In both cases, the court strikes off the partnership firm. However, in this case too, a notice is needed to be filed by the partners or by the court.

How the Accounts of Partnership Firm will be Settle?

The accounts of a partnership dissolved in the following ways which are given below:

1. The loss will be paid out from the profits. If the loss is still not completely paid then the capital of the partners is used and the remaining loss is further divided among the partners in the profit-sharing ratio.
2. All the assets of the firm and capital contributed will be used in the below-mentioned order to set off losses:

• • First, the third-party debt will be paid.
  • The loan taken from any partner will paid to that partner.
  • Contributed capital of each partner will be distributed as per their contribution.
  • The balance amount will be paid to partners as per their profit-sharing ratio.

Upon the realization, all assets will be sold in the market and the cash realised from such sale will be used to pay the outstanding amount.

Conclusion

To conclude, if the closure of the partnership is not because of misconduct, the resultant profits will be divided among the partners as per the agreement. In case, the closure is due to misconduct, the equity of the firm is transferred to a third party. Also, any partner who paid a premium to enter into a partnership for a fixed term, and the partnership dissolved before the end of the fixed term, then the firm is liable to repay the complete premium of the partner.

Author: Dushyant Sharma

Hey there, I'm Dushyant Sharma. With the extensive knowledge I've gained in past 8 years, I have been creating content on various subjects such as banking, insurance, telecom, and all the important registration and licensing processes for various companies. I'm here to help everyone with my expertise in these areas through my articles.