People have been joining hands and working together since time immemorial. Even before a time that our imagination cannot extend till, symbiotic organisms like corals and bacteria have been partnering and co-existing for the common good and survival of both. The development of cohabitation and society, prove that partnership or working together as an option was already in existence. A collaboration or a mutually beneficial relationship is not always for business or profit making, it can also be for the purpose of welfare or defence and also be extended to illegal activities. For e.g. Four guys cooperating and jointly robbing a bank is also a partnership of sorts (though it may land you in prison). That is how simple and ingrained the concept of partnership is, in human society and existence. It is the sheer simplicity of the mutual dependency and incentive of common benefits that makes a partnership so effectively obvious.
Partnership in its Contemporary sense
In today’s world, a partnership is one of the favourites for the modern businessman who wishes to conduct business but without the creation of a separate legal entity. Most professionals like doctors, lawyers, accountants etc. prefer a partnership firm because of the convenience and reduced formalities. A partnership need not only be between individuals, even companies and corporations can enter into partnerships and forward their business accordingly. Also, an illegal partnership or a partnership formed for illegal purposes is disallowed by law and cannot be enforced in a court of law. This means that the terms agreed to for an illegal activity like a robbery cannot be enforced or claimed for in a court of law. This actually was attempted in an old English case Everett v. Williams, wherein one party claimed for the equal share in the loot as was decided before the robbery. As a result in that archaic time, both the parties were hanged and the lawyer was transferred to remote colony. Certainly, the punishment might not be that severe but there shall be definite sanctions imposed.
So, a partnership is quite similar to a sole proprietorship. It only involves more than one proprietor unlike a sole proprietorship. Just like a sole proprietorship, in a partnership also there is no separate legal entity and the business and the owners are one and the same for all legal purposes. All the partners have unlimited liability with respect to their partnership.
However, a partnership is a very simple and easy type of business entity to form and run, next to a sole proprietorship. This gives the partners the flexibility to take decisions depending on the changing times and the success of the business. The compliances and the statutory responsibilities are also negligible in this form of entity as compared to an LLP or a Company. This makes it a very attractive and convenient option for many budding entrepreneurs.
Laws governing Partnership Firms in India and its evolution
The Law revolving around partnerships has evolved as the years progressed similar to the evolution of the philosophy of partnership. When business and commerce were still new to the world, the principle behind a partnership was the trust and mutual dependency among the partners. In such a time, there was no need for a written document listing out the rights and duties of the partners, but with the changing times and society, even a written document could not be “trusted”.
Now, we have the Indian Partnership Act, 1932 which contains the law regulating partnerships, but previously the law of partnerships was restricted to a few provisions in the Indian Contract Act, 1872(Sections 239-266). These provisions soon became obsolete and defective due to the development of society and passing time which brought about the present legislation.
The Indian Partnership Act, 1932 was enacted on the 1st of October 1932 owing to the desperate need for a legislation governing this important type of business entity. This Act was a new beginning for the Partnership legalities and it came out with the objective of solving all practical issues and problems with the enforcement of this business entity. Section 69 of this Act came into force a year after the enactment, on 1st of October 1933.
Even though this Act was enacted to define and regulate the law of partnerships, it is not exhaustive in nature. Due to the partnership being a special kind of contract, the Indian Contracts Act, 1872 also applies to partnerships unless and until the Partnership Act provides otherwise.
Essential characteristics of Partnership firms in India
The Indian Partnership Act, 1932 defines a Partnership in section 4 as – “Partnership is 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”. This definition enlists the various essential requirements to be a partnership firm.
These essential characteristics of a Partnership firm, need to be examined in detail in order to completely understand its working and functioning.
A Partnership is always the result of a contract or an agreement that determines how the partnership shall exist and operate. A person cannot enter into a partnership on accord of his status, by the operation of any law or by inheritance/birth right. It can only happen by virtue of his entering into a contract with the other partners. For e.g. the members of a Hindu Joint Family business cannot be termed as a partnership even though the nature of relation is similar as the relation in itself arises out of birth and status. The Contract or the Partnership Deed is ‘the’ legal document which shall contain the terms of the partnership and the intricacies as to how the business is going to be handled by the partners.
The members of a partnership have certain conditions and limitations and only the individuals and entities who satisfy such conditions can be Partners. Even though the Indian Partnership Act, 1932 governs partnerships even the Companies Act regulates certain characteristics. According to the Companies Act, for a banking business a partnership can have a maximum of ten partners. For any other kind of business, you can have a maximum of 20 partners. For obvious reasons the minimum number of partners is 2. With respect to competency, a person who is competent to enter into a contract under the Indian Contracts Act,1872 can become a partner. A Company can also become a partner as a result of its separate legal entity, but for the same reason a partnership firm cannot enter into a partnership per se.
The carrying on and conducting of business is a very relevant characteristic for a partnership. Basically, a partnership can be formed only to carry on business or at least for the purpose of conducting business in future. The term business is not restrictive but instead should be understood in the broadest meaning possible, that is including even professions and occupations under the ambit of business. So, unless the partnership has a purpose of conducting business and commerce, it shall not be a valid partnership under the Act and cannot be registered due to it essentially not being a partnership. A partnership for a charitable purpose or with a welfare motive cannot be registered as the object of the partnership is not for business. In the same way, if the partnership’s sole objective is to distribute and divide goods and money purchased by them between the partners then such a purpose is not business oriented and the same partnership cannot be registered.
Sharing of Profits is another important function and purpose of a partnership, which entails that the business should always have a profit motive and such profit or gain shall be divided and shared between the partners in any ratio decided in the partnership deed (not necessarily equally). There should be no welfare motive to the partnership and the profits should go to the partners and not as charity or for the welfare. In case the profit sharing ratio is not in the partnership deed, the profits shall be divided equally among the partner as is laid down in the Indian Partnership Act of 1932. However, the sharing of losses is not at all mandatory and some partners together or one of them individually can bear the entire loss incurred by the firm. Even though the losses can be transferred, this still does not take away the unlimited liability of the partners towards outsiders and third parties.
The fifth and most important element of the partnership firm is that the business must be carried on by all partners or any of them acting for all. Essentially, there should be mutual agency among the partners of a firm. So, his actions can result in binding other partners or he can be bound by the actions of another partner. In this principle, every partner is both the Agent and the Principal, which allows or enables every partner to carry on the business on behalf of the others.
The Indian Partnership Act, 1932 does not compulsorily mandate registration of a partnership firm. Also, the registration of a partnership has come out to be an option for the partners from the Act. In India, a partnership can be formed without registration and it is also possible to exist without being registered in the register of firms. However, there are certain advantages that you are entitled to in the event that you are a registered partnership.
Section 69 of the Indian Partnership Act, 1932 enlists certain privileges that are not available unless the partnership is registered. The non-registration of the partnership results in the following effects:-
Inability to sue the firm or any partner – In the event that the partnership has not been registered the partners and the firm lose out on the right to file a suit or claim damages against each other. In cases where the partnership is registered but one of the persons is not shown as a partner in the Register, then that particular person loses out on any rights accompanied with suing or claiming for rights in a court of law.
Inability to sue a third party – If a partnership has not been registered, then the firm in itself is incapable of suing a customer or vendor or any third party for that matter. This is because the contract which gives rise to the rights and regulations of the partnership is in itself not valid or enforceable. Non-registration in certain cases makes the firm helpless and unable to do anything for its benefit. A third party can definitely sue an unregistered firm for an enforcement of any right.
Inability to claim set-off – An unregistered firm inherently cannot file a suit in a court of law and also, if a third party ends up suing the firm, the unregistered cannot claim set-off. In a case where there was money owed to the registered firm by the third party, the debt could have been set-off along with the prior claim of the third party, but as it is an unregistered firm this right cannot be enforced.
“The only thing necessary for the triumph of evil is for good men to do nothing”
These are the words of Edmund Burke, and, definitely, you are promoting evildoings to you by letting your business run without protecting it from the obvious problems one might face.
Every partnership should compulsorily register their firm and not undertake the risk of being exiled from their own success and goodwill. Perhaps, the main advantage of registering your trademark is to have the lack of tension and peace of mind that one enjoys once their business is out of danger.
“Prevention is better than cure” is an age-old saying, that has been repeated again and again by our well-wishers. There is a huge amount of time, effort and money that will be saved in case of ‘pro-action’ towards a potential issue as opposed to a ‘reaction’ to a problem.
Thus, a Partnership MAY not be registered, but a Partnership SHOULD be registered if one does not wish to risk the time and money invested and the hard work put into the business.