Dissolution of Partnership FirmClass 12 Accountancy Part 1 Case Study Questions

According to Section 39 of the Partnership Act 1932, the dissolution of partnership between all the partners of a firm is called the dissolution of the firm. This brings an end to the existence of the firm, and no business is transacted after dissolution except the activities related to closing of the firm. The affairs of the firm are to be wound up by selling the firm's assets and paying its liabilities and discharging the claims of the partners. In contrast, dissolution of partnership changes the existing relationship between partners but the firm may continue its business. This may happen due to admission, retirement, or death of a partner. A key distinction lies in the finality of the process. In a dissolution of partnership, assets and liabilities are revalued, and a new balance sheet is drawn. However, in a dissolution of firm, assets are sold, liabilities are paid-off, and the books of account are closed permanently. The economic relationship between partners ends completely upon dissolution of the firm, whereas it continues in a changed form after the dissolution of a partnership.

Dissolution of a partnership firm may take place without the intervention of court or by the order of a court. A firm may be dissolved by agreement, with the consent of all partners. It can also be dissolved compulsorily when all partners or all but one partner become insolvent, or when the business becomes illegal. Subject to a contract between the partners, a firm is also dissolved on the happening of certain contingencies like the expiry of its term, completion of its venture, or the death or insolvency of a partner. For a 'partnership at will', the firm may be dissolved if any partner gives a notice in writing to the other partners. Finally, a court may order dissolution at the suit of a partner on grounds such as a partner becoming insane, being permanently incapable, or guilty of misconduct. The court can also dissolve a firm if the business cannot be carried on except at a loss, or on any other ground it finds just and equitable.

In case of dissolution of a firm, the firm ceases to conduct business and has to settle its accounts. Subject to agreement among the partners, Section 48 of the Partnership Act 1932 provides rules for this. Losses, including deficiencies of capital, shall be paid first out of profits, then out of capital, and lastly, by the partners individually in their profit sharing ratio. The assets of the firm, including any contributions from partners to make up capital deficiencies, shall be applied in a specific order. First, in paying the debts of the firm to third parties. Second, in paying each partner what is due to him from the firm for advances (partner's loan) as distinguished from capital. Third, in paying to each partner what is due to him on account of capital. The residue, if any, is divided among the partners in their profit sharing ratio. Section 49 further clarifies that firm's property is first used for firm's debts and a partner's private property is first used for his private debts.