Partnership Accounts 
Introduction and Special Aspects
(Account Theory)

 

Q.1. Define Partnership. Enumerate the essential elements of partnership. (Delhi 1987, 92, 93, 97)

Answer: In India, Partnership firm is governed by the Indian Partnership Act 1932. Section 4 of this act defines partnership as:

" The relationship between persons, who have agreed to share the profits of a business carried on by all or any one of them acting for all."

According to Prof. Haney, partnership is "the relation between persons competent to make contract who agree to carry on a lawful business in common with a view to private gain."

Partnership in this way is an agreement, between two or more persons to carry on legal business with profit motive, carried on by all or any one of them acting for all. In this way, partnership has the following characteristics:

(i) Contract: Partnership is the result of contract between the partners and their relation of partnership arises from contract and not from status. The relationship between the members of a Joint Hindu Family (governed by the Mitakshara School of Hindu Law) is determined by birth and not by agreement. Therefore, a Joint Hindu Family firm is not a partnership under the act.

(ii) Number of Persons: In a partnership firm there must be at least two person to form the business. Partnership Act 1932, does not specifies the maximum numbers of persons, but the Indian Company Act 1956, restricts the number of Partners to 10 for a partnership carrying on banking business and 20 in case of other kinds of business.

(iii) Business: Business must be carried on by all or any one of them acting for all. This is the cardinal principle of the working of the partnership firms. An act of one partner in the course of the business of the firm is in fact an act of all the partners. Each partner carrying on the business is the principle as well as the agent for all the other partners.

(iv) Motive: For a partnership firm there must be motive to earn profit. A partnership firm cannot be formed with service motive.

(v) Legality of the Business: The business to be carried on by the partners must be legal. There should be lawful consideration and the business should not be illegal in the eyes of law.

 

Q.2. What is a partnership deed? State the main contents of the partnership deed.

Ans. A partnership is formed by an agreement. This agreement may be oral or in writing. Though the law does not expressly require that the partnership agreement should be in writing, it is desirable to have it in writing. A document, which contains the terms of partnership, as agreed to by the partners is called ‘Partnership Deed.’

Contents of the Deed:

1. Name of the firm and its permanent address.

2. Names and addresses of the partners.

3. Nature of Business.

4. Methods of evaluating of assets and liabilities.

5. Date of commencement of partnership.

6. Amount of capital to be contributed by each partner.

7. Interest of Capital: According to section 13 of Partnership Act 1932, a partner is not entitled to interest on capital as a matter of right, but if there is an agreement that partner would receive interest on capital, it is paid at the agreed rate but such interest is payable only out of profits.

8. Drawings by the partners.

9. Interest on Drawings: The partnership deed must specifically mention whether interest on drawings will be charged, or not. If the interest is to be charged, rate of interest should also be specified.

10. Accounting Period of the Firm: -The period after which the final accounts of the firm are to be prepared. Whether yearly or half-yearly and the date on which accounts are to be closed every year.

11. Profit and loss sharing ratio: Partners must agree as to the ratio in which they will be distributing profit or loss. In the absence of any agreed ratio profit or loss will be shared equally

12. Partner’s salary: If any partner is allowed salary, it should be mentioned in the partnership deed and the amount of salary should also be specified.

13. Duration of partnership: The period for which the partnership has established and the mode of dissolution of partnership.

14. Valuation of goodwill: Method of valuation of goodwill in case of admission or retirement of a partner should also be mentioned.

15. Auditing: Whether the firm’s books will be audited or not? If so, the mode of auditor’s appointment.

16. Operation of Bank Account: -The deed should mention the name of partner or partners, authorised to operate Bank Account, i.e., who is authorised to sign on cheque.

17. Application of the Decision of Garner vs. Murray: -The partnership deed should specify whether accounts will be closed as per the decision of Garner Vs. Murray in case of dissolution of the firm caused by the insolvency of the partners.

18. Settlement of Disputes:-In case of dispute among the partners, how the dispute will be solved.

Q.3. What are the Duties and Rights of a Partner?

Answer. Duties (Obligations ) of a Partner:

1. Devotion of time and attention: It becomes duty to each partner to devote his full attention and time to the firm.

2. To carry on the business with the greatest common advantage and diligently. No partner is allowed any salary unless the deed provides.

3. To act within the authority and to be just and faithful to other partners.

4. Not to engage in competition against the firm. If he does so, he must account for the profits made in the competing business.

5. To hold and use of property of the firm only for the firm. In case the partner makes use of the property of the firm for his personal use and earns, he will have to hand over the profit so earned to the firm. If the partner suffers loss, the firm will not be liable for it.

6. To make good the loss that may have been caused by his willful neglect or breach of trust.

Rights of a Partner:

1. Every partner has a right to part in the conduct and management of the business.

2. Every partner has a right to be consulted in the matters of the partnership.

3. Every partner has a right to share profits (or losses) with others in the agreed ratio.

4. Partners have a right of free access to all records, books of accounts and also to examine and copy them.

5. A partner who has advances loan to the firm is entitled to receive interest. In case the rate of interest is not agreed, he will be given it @ 6% p.a.

6. Every partner has the right to prevent the introduction and admission of a new partner.

7. After giving a proper notice every partner has the right to retire from the business.

Q.4. State the main provisions of the Partnership Act relating to partnership accounts if there is no partnership agreement. (All India, 1993, 94,Delhi 94, 94 C, 99 C)

Answer: According to Indian Partnership Act 1932 (sec. 4), the following provision are applicable in the absence of partnership deed:

1. Profit Sharing Ratio: In the absence of partnership deed all partners will share Profit or losses in equal ratio.

2. Interest on Capital: No interest will be given to any partner on his capital. In case, there is a partnership deed, which allows interest on capital, it will be allowed in case of profit but not in case of loss in the business.

3. Interest on Drawings: No interest will be charged on drawing in the absence of partnership deed.

4. Partner’s Salary: No salary or commission will be given to any partner in the absence of partnership deed.

5. Interest on Partner’s Loan: Interest on partner’s loan will be given @ 6% p.a. In case of partnership deed interest will be allowed at the agreed rate.

Q.5. What is a Joint Life Policy? What is the purpose of taking joint life policy by a partnership firm?

Answer: A Joint Life Policy is an assurance policy taken on the joint lives of the partners. On the death of a partner, the firm becomes liable to pay the executors of deceased partner his capital, interest on capital, his share of profit from the closing of the previous year to the date of death and his share of reserves, goodwill etc. The total amount thus becoming due to the executors is usually significant and immediate payment of such heavy amount out of firm’s resources is likely to affect firm’s finances very adversely.

The above problem can be tackled if the firm takes policy on the lives of all the partners jointly from the Life Insurance Corporation of India. According to the firms of the policy, the premium is paid, periodically by the firm to the L. I. C. of India who undertakes to pay the sum assured to the firm either on the death of any partner or on the maturity of the policy whichever is earlier. The amount received is credited to all the partners including the deceased in their profit sharing ratio, while the amount received enables the firm to make the payment to the executors without affecting adversely the financial position of the firm.