Position of a partnership firm when a partner dies or retires or becomes insolvent

Section 42 of the Indian Partnership Act, 1932 (“Act”) provides for dissolution of partnership on occurrence of certain contingencies which includes ‘death of the partner’ or ‘adjudication of a partner as an insolvent’ or if constituted for a fixed term, by the expiry of that term, etc.as one of those contingencies. However, the partnership need not be dissolved under following circumstances.

Death of a partner:
On the death of a partner, subject to any contract to the contrary, the partnership ceases to exist. Here, the contract on the contrary means the partnership need not be dissolved if it is expressly mentioned in the partnership deed that the remaining partners (not a partner) can continue the firm’s business. On the other hand, if one of the two partners of a firm dies, the firm automatically comes to an end and, thereafter, there is no partnership for a third party to be introduced therein and, therefore, there is no scope for applying cl. (c) of s. 42 to such a situation. When there are only two partners in a firm, on the death of one partner, the firm is deemed to be dissolved despite the existence of any clause which says otherwise. In other words, in a partnership firm of two partners, when one of the partners dies then the partnership automatically dissolved even if the deed of partnership was made clearly instructed to appoint the heir of the deceased as a new partner. As per the wishes of the directions of the deceased partner, the surviving partner may enter into a new partnership with the heir of the deceased partner, but that would constitute a new partnership.
In a landmark judgment, in Mohd Laiquiddin v Kamala Devi Misra (deceased) by LRs,(1) the Supreme Court has ruled that on the death of a partner of a firm comprised of only two partners, the firm is dissolved automatically; this is notwithstanding any clause to the contrary in the partnership deed. The Supreme Court observed that when there are only two partners in a firm, on the death of one the firm is deemed to be dissolved despite the existence of any clause which says otherwise. Therefore, if in a firm comprised of only two persons as partners one dies, the contract comes to an end. There cannot be any contract unilaterally without acceptance by the other partner.

Similarly, in Smt. S. Parvathammal v. CIT[2] the court held that in a firm consisting of two partners on account of the death of one of the partners, the firm automatically dissolved and observed as follows:

“A partnership normally dissolves on the death of the partner unless there was an agreement in the original partnership deed. Even assuming that there was such an agreement in a partnership consisting of two partners on the death of one of them the partnership automatically comes to an end and there is no partnership which survives and into which a third party can be introduced”.
In case of nominee or legal representative joins the partnership in lieu of the deceased partner with the presumption that the partnership was never dissolved on the death of that partner. The above legal position is based on two assumptions- (a) there are more than two partners in the firm, and (b) the legal representatives are interested in taking forward the business of the firm.

When one of the partners becomes insolvent

If a partner is declared insolvent, he is no more a partner in the firm from the date he is declared insolvent by the court. Under the common law, the firm is automatically dissolved when one of the partners is declared insolvent by the Court. However, the partnership need not be dissolved if it is expressly mentioned in the partnership deed that the remaining partners can continue the firm’s business when such an incident takes place. The reconstituted firm is not liable for any act of the insolvent former partner of the firm after the date of the court declaring him as insolvent.

Expulsion of Partner:

The expulsion of a partner is normally not allowed by the law. However, if such a clause is included in the partnership deed (agreement), a partner may be expelled from a firm by the majority of the partners, in good faith, exercising their power as conferred to them by the agreement. Here good faith means the parties to an agreement shall exercise their powers reasonably and not arbitrarily or for some irrelevant purpose. Certain conduct may lack good faith if one party acts dishonestly, or fails to have regard for the legitimate interests of the other party.

As per section 33 of the partnership act, the expelled partner will be treated in the same way when a partner retires from the partnership.

Retirement of a partner:

A partner may retire from the partnership with the consent of all other partners. He may also retire in accordance with an express agreement by the partners or by giving notice to other partners of his intention to retire. The retired partner is however liable for all the acts of the firm dealing with third parties before his retirement.