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Determination of Partnership

Partnerships are formed via a contract and they are administered via the Indian partnership act,1932. This act was formerly under chapter 11 of the Indian contract act,1872 which was later repealed and given an independent statute known as the Indian partnership act of 1932, which went into effect on October 1, 1932.

The provisions of the Indian contract act about the capacity to contract, offer, acceptance, etc. Except for the status of a minor, which is addressed in Section 30 of the Partnership Act, are applicable to a partnership.

Section 4 of the Partnership Act of 1932 defines partnership and its components (partner, company, and firm name) as:
the partnership formed by individuals who have decided to share the profits of a business carried on by both or some of them working on their behalf. and partners as Individuals who have formed a relationship with one another are referred to as partners.

A firm is defined as:
The partners operating together, and the company name is defined as the name under which their company runs.

Ramesh and Kaka purchase 50 Tonnes of material 'C,' which they sell and agree on together dividing profit and continue doing this in the future. This results in a relationship, with A and B as partners.

Ramesh and Kaka buy 50 Tonnes of material 'C' and agree to divide the cost. They did not form a partnership because they had no intention of doing business.

The extent of the relationship is dictated by the partners' intentions. There are no restrictions on the exercise of powers other than on such illegal, immoral, or fraudulent which applies equally to the individual If the partners of the other firm agree, the partnership will become a constituent of that other firm. Ratification of the contract eliminates all doubts about its validity.

All the partners are jointly liable in partnership. This liability’s scope is unlimited and as a result, private assets of partners may be sold to pay off the firm’s debts. There exist different types of partnership stated in the partnership act,1932.

These are based on 2 criteria's:
  • Partnership at will (section 7, partnership act,1932
  • [Based on the duration of the term of partnership]
  • Particular Partnership (section 8, partnership act,1932)
  • [Based on the scope of the business operations carried by a partnership]
  • Partnership deed and handling of the partnership firm’s business?

Partnership deed

A partnership arises from an agreement. Mostly in a partnership business, there is a written agreement known as The partnership deed which starts with the name of the company and the essence of the business. In addition, the location of the company and the date on which the agreement was reached between the parties will be stated. The terms of service are expressly stated in the deed, and any modifications are subject to formal approval, which is signed by both partners and dated
(Mentioned in sections 14 and 15 of the Indian Partnership Act of 1932)

How Partnership’s business is managed?

The capital invested in a partnership business is held in a separate capital account with each capital account being maintained according to the profit-sharing ratio stipulated in the agreement. The income statement will be prepared under each partner’s name, and profit/loss shared in compliance with the agreed-upon terms.

(Mentioned in sections 14 and 15 of the Indian Partnership Act,1932)
The partnership is voluntary and can be terminated at any time with the mutual consent of the parties. In the event of a partner's death, the surviving parties have the option of either entirely liquidating the partnership or buying the deceased partner's share.

(Mentioned in sections 31 to 35 of the Indian partnership act,1932)

Why the need for determining partnership?

We enter into partnership agreements on a regular basis, and there may be circumstances that appear to be a partnership agreement but are not. Some people invest and divide profits yet they are not in a partnership. thus, the question arises:

Where does the partnership exist and where does it not?

Section 6 of the Indian Partnership Act of 1932 provides an answer to the following question: =

Does partnership exist or not?

(Section 6, Indian partnership act,1932)

Mode of determining the existence of partnership
in determining the partnership’s existence, the relationship between the parties must be scrutinized with all the related evidence judged together which ultimately decides whether a group of individuals is or not a partnership

Explanation 1 to the Section clarifies that two or more parties who jointly own a property or have a shared interest in a specific property do not become partners simply by sharing the income or gross returns produced by such property.

In one instance, two people become co-owners of a home. They leased out the house and divided the rent each month. This is not the same as forming a relationship.

Similarly, Explanation 2 of the Section includes a list of individuals who receive a share of a company's income or fees based on the profits received by a business but are not partners in the business.
  1. An individual who loans money to a business partner or company might be given a share of the income instead of or in addition to the money lent. He would not, though, become a shareholder because of such a benefit split.
  2. In addition to or in lieu of his normal remuneration, a servant or employee of a company might be given a part of the business's income. But it does not make him a partner in the association.
For instance, in Santi Ranjan das Gupta Vs. Murzamull14 there was a question before the supreme court of India whether a partnership existed and herein the court came to a conclusion that there exists no partnership:

The following factors were adjudged which the court highlighted in their judgment:

  1. Agreement - There was no record of terms and conditions. The Deputy Director of procurement received no intimation regarding the new partnership
  2. Mutual agency -Firms made no record of their own Aswell, subjected to all parties' inspection
  3. Profit-sharing - The firm had no accounts with either of the banks.
So, determining a partnership is a key essence and is an ambiguous question that is tested and answered in the courts repeatedly and this is why the need for Section 6 of the Indian Partnership Act and the need for partnership determination.

Modes of determining the existence of the partnership
Section 6 concludes that these essential tests must be met in order to determine the existence of a partnership:
  • An arrangement should be drawn up between the parties. (agreement)
  • The primary goal of the business is to make a profit and distribute between the partners. (share profit) [evidence of partnership]
  • The agreement must be on the concept of mutual agency where partners carry out the business jointly or by any of them acting as an agent for the others. [the truest test - (law of mutual agency)]

These tests are a conclusive test of a partnership but there have been instances of criticism against these like in the judgement of Beecher v Bush15 wherein Judge Cooley criticized these tests as ‘erroneous’ and ‘mischievous’ but his judgment was called as an error and these tests were upheld by the court of law

An Agreement Is The Foremost Essential To A Partnership 1

Partnership requires a specific agreement between partners. It is not the status that creates a partnership but rather the agreement itself. Section 5 of the Indian Partnership Act of 1932 makes the following observation: "
The relationship of partnership emerges from the contract and not from status".

In Ross v. Parkyn. Jessel M.R explained the following:
While the right to share benefits is a good indicator of partnership, and there can be circumstances where there is a clear assumption, not of the statute, but of fact, that a partnership exists, whether or not a partnership arrangement occurs must be decided by the whole arrangement between the parties. The real meaning and arrangement of the parties must be used to determine whether or not a partnership agreement exists. 2

This agreement is expressed/implied in writing/orally, or it can be inferred from the parties' actions. The Supreme court of India ruled in Tarsem Singh v Sukhminder Singh3 that not all contract have to be in writing. Unless there is a statute that requires the agreement to be in writing, an oral agreement between the parties would result in an equally binding contract.

In case of oral or implied agreements the court will judge the intention of the parties and the pieces of evidence presented before the court and further on then will they decide upon the validity of the agreement.4

Sharing of Profit
Profit-sharing is one of the tests to determine if a partnership exists or not, it evidences that a partnership exists but it is not held to be very conclusive evidence as there are some cases where profit sharing might be contradictory to a partnership.

Receiving profit is an ambiguous proof of partnership, but failure to profit is solid proof of the nonexistence of partnership.

This area was explored in cases of Cox v. Hickman5 where Lord Cranworth affirmed:
Participation in profits is not the decisive test of a partnership

In Waugh v. Carver 6,
Profit-sharing was made a test of the existence of a partnership.

The determination of the existence of partnership becomes a difficult task especially when there isn't any expressed agreement. Thus, under section 6 the regards are given to the facts of the case to make sure if profit sharing can be regarded as decisive proof.

Some of the possible situations which are contradictory to the partnership in case of profit being sharing:
  • Profits derived from the property of individuals with a shared interest in that property does not signal that those persons are partners.7
  • Mere being given a share of profit does not mean that the agent or servant will be considered a partner. 8
  • If a partner dies and his wife or child earns a benefit share, the wife or child cannot claim to be a partner.9
  • If the previous owner is granted any profits as a form of goodwill or consideration, this does not mean he will be considered a partner.10

Mutual Agency
The relationship of partnership is based on the law of agency hence, each partner act as an agent for the other. each partner serves as the other's agent. Section 13 of the Partnership Act of 1932 specifies this principle. This was also further elaborated in judgments of Mandyala Govindu vs. C.I.T11 and Asha Ram vs. Ram Chander12.

Section 13 of Indian partnership act, 1932:
Mutual rights and liabilities:
All the partners are entitled & liable for an equal share in loss & profit in absence of any agreement.

In Cox v Hickman 5, it was maintained that:
In addressing the question of agency, the mutual agency is the truest test to assess the relationship.

The primary essence of partnership law is mutual agency. If the partner's role is of both agent and the principal them it can be said that there is mutual agency among them and if they share this agency and benefit and maintains a partnership it will be prima facie of an association.

The matter of law of agency as the test to a partnership was solidified in the judgment of N.R. Wadia & Co. vs Commissioner of Income-Tax before Bombay high court where the court stated:
The most accurate test for deciding whether an individual deriving income from a company in the form of profits is to look at whether the business was carried out by those working for him; if they had a principal-agent partnership, i.e., whether one was allowed to operate on behalf of another, rather than simply whether there was a profit-sharing agreement. The issue is still one of agency versus authority.13

An arrangement may be calculated to be a partnership agreement using either the agency test or the legal intent of the parties in this regard

Partnership is very vital and the key component section 6 has been an integral part in determining the existence of a partnership. The case laws and the research show that the evidence of the mutual agency is the most influential while sharing profit serves as evidence to back it up and the agreement is the base contract upon which whether a partnership was created levy upon.

Section 6 has done great work in protecting the interest of parties ever since its applicability and the courts have strictly adjudicated upon the matter of determination and it seems like all of the aspects that needed to be covered has been covered in the determination of partnership which makes the job easy for future litigation on the same topic.

Case laws referred to:
  1. Pooley v Driver (1876) 5 Ch 458
  2. Ross v. Parkyn (1875) L.R. 20 Eq.331,335
  3. Tarsem Singh v Sukhminder Singh (1998) 3 SCC 471, Para 13
  4. Mollow, March & Co. v Court of wards (1872) LR 4 PC 419
  5. Cox v. Hickman [(1860) 8 H.L.C. 268]
  6. Waugh v. Carver [(1763) 2 Hy. Bl. 235]
  7. Birdichand v. Harakchand AIR 1940 Nag 211
  8. Abdul Latif v Gopeshwar AIR 1933 Cal 204
  9. Holme v. Hammond (1872) L.R. 7 Ex. 218; 41 L.J. Ex. 157
  10. Pratt v. Strick (1932) 17 TC 459
  11. Mandyala Govindu vs. C.I.T 1975 AIR 2284, 1976 SCR (2) 131
  12. Asha Ram vs. Ram Chander 1993 (1) WLN 388
  13. N.R. Wadia & Co. vs Commissioner of Income-Tax (1960) 62 BOMLR 685, 1960 39 ITR 754 Bom
  14. Santi Ranjan das Gupta Vs. Murzamull AIR 1973 SC 48, (1973) 3 SCC 463
  15. Beecher v Bush 7 N.W. 785, 45 Mich. 188
Books referred to:
  • Avtar Singh, Introduction to the law of partnership: a study of the Partnership Act, 1932 (2000)
  • Frederick Pollock, Dinshah Fardunji Mulla & R. K. Abichandani, Pollock & Mulla on the Indian Partnership Act (1987).
Journals referred to:
  • Partnership. What Constitutes the Relation, (1913),
  • J. H. D., The Passing of the Partnership by Operation of Law, 22 Michigan Law Review 588 (1924).
Statues referred to:
  • Indian Partnership Act, 1932

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