Partnership is an agreement between two or more individuals to generate income together. It is governed by the Partnership Act, 1932. When a partner in a firm dies, the structure of the firm changes, but its functioning and accounting treatment remain the same. This is primarily determined by the Partnership Agreement made when the firm was established.
This article will discuss:
(1) how a partnership firm can dissolve or continue to exist after the death of a partner;
(2) the procedural requirements for partnerships with two or more partners;
(3) the elements required to prove the continuation of a partnership firm in court; and
(4) the rights, liabilities, and profits of the deceased partner’s legal heirs in the firm’s assets and income.
Dissolution or continuation of a Partnership Firm after the death of a partner:
According to Section 42 of the Partnership Act, a partnership firm can be dissolved in the following circumstances: (1) If it was established for a fixed term, by the expiry of that term; (2) If it was established for a specific project, by the completion of that project; (3) By the death of a partner; and (4) By the bankruptcy of a partner. As per Section 42, the death of a partner can lead to the dissolution of the partnership firm. However, if the partnership agreement specifies the effect of a partner’s death and whether a new partner can be added, then it needs to be determined whether the new partner will continue with the existing partnership firm. Section 6 of the Act states that the intention of the parties should be considered. In the case of Noorani Travels v Muhammad Hanif (2008 SCMR 1395), the Supreme Court held that even though the death of a partner is a cause for dissolution, if the conduct of the parties shows an intention to continue the partnership, the firm should not be dissolved.
Intention to continue the partnership after the death of a partner:
To demonstrate the intention of surviving partners to continue a partnership after the death of a partner, several facts and evidence can be considered. These include:
- Conduct of parties: This involves actions like exchanging letters and affidavits, signed by the new partner and legal heirs, affirming the changes in the partnership.
- Payment withdrawals: The new partner making withdrawals from the partnership account.
- Sale deeds: Documentation showing property transfers in favor of all partners.
- Renewal of agency agreements: Agreements pertaining to the partnership’s agency relationships being renewed.
- Change of Partnership agreements: Official agreements specifying the alteration in the partnership, along with confirmation from the Registrar of Firms.
These instances illustrating the “intention to continue the partnership firm” were recognized by the Lahore High Court in the case of Messrs Eastern Medical Technology Services v Province of Punjab and others (2019 PLD 395). The court concluded that even without an explicit contract, the conduct exhibited between the parties could serve as adequate evidence to establish the continuation of the partnership. Notably, filing income tax returns and other operational documents hold significance.
Without such evidence, the new partner, usually the legal heirs, would struggle to substantiate their partnership in the business, as exemplified in the case of Ali Muhammad and others v Faizullah and others (2017 PTD 1407).
Partnership consisting of only two partners:
If a partnership firm has more than two partners, the surviving partners can continue the firm after the death of a partner if they choose to do so.However, if a partnership firm has only two partners, the death of one partner will result in the dissolution of the firm. In such cases, it is advisable to create a new partnership with the legal heir(s) of the deceased partner, as mentioned in the 2019 PLD 395 case and supported by the Indian Jurisdiction Division Bench in the case of Sughrs and others v Babu (AIR 1952 Allah Abad 506). This is because partnership is a contractual matter and cannot be automatically imposed on the legal heirs without a new partnership contract.
Conduct of the partnership firm’s business after the death of a partner:
If the partnership firm continues after the death of a partner, the surviving partners can carry on the business in the same manner. If the bank or the general public is not informed about the partner’s death, the surviving partner can continue operating the bank account and conducting business as the legal representative of the deceased partner. This demonstrates the clear and unambiguous intention of the surviving partner to continue the business, as seen in the case of United Bank Ltd v Iftikhar and others [PLD 1990 Lahore 111]. If the deceased partner has executed an irrevocable general power of attorney, it remains valid after their death, unless it is challenged or revoked by the legal heir(s), as stated in the case of Muhammad Muqeem Sohail Builders and Developers v Shamsher Ali and others [2016 YLR 240].
It is important to note that when the legal heir(s) step into the shoes of the deceased partner, the partnership firm’s constitution remains the same and its status as a registered firm under the Income Tax Ordinance 1979 also remains intact, as confirmed by the Income Tax Tribunal Pakistan in the case reported as 2003 PTD (Trib.) 2189
Liability of estate of deceased partner:
As per Section 28 of the Act, all partners in a partnership firm are responsible if someone extends credit to the firm based on their representation. However, if a partner passes away, and the partnership continues without any changes, the legal heirs or estate of the deceased partner are not liable for the firm’s actions after their death, even if the deceased partner’s name is still used.
In addition, Section 35 of the Act provides additional protection to the estate of the deceased partner. If the partnership firm remains active and is not dissolved, the estate is shielded from any actions taken by the firm after the partner’s death. This was demonstrated in the case of Rukhsana Bank and others v Abdul Qadir and others (2009 MLD 1465), where the court determined that if a dispute arises following the partner’s death, it becomes the personal right of the legal heirs to seek legal recourse, and the previous agreement cannot be enforced upon them.
Personal profits by the partners:
Section 16(a) of the Act states that partners who earn personal profits in the name of the partnership firm must account for those profits and pay them to the firm.
Additionally, Section 50 of the Act applies Section 16(a) to transactions carried out by existing partners or legal representatives on behalf of the deceased partner if the firm’s dissolution occurs upon the death of the partner and before the winding up of its affairs is completed. However, the right to use the firm’s name is unaffected if it is for the benefit of the firm’s goodwill.
Outgoing Partner’s Right to Share Profits:
Section 37 of the Act states that if a partner dies or ceases to be a partner but still has a share in the partnership firm’s property, the outgoing partner is entitled to subsequent profits, provided the final settlement of accounts is not complete or the continuing partners haven’t purchased the outgoing partner’s share. However, this right doesn’t apply to property obtained independently after the firm’s dissolution.
Liability for Acts of Partners after Dissolution:
After dissolution, partners are still liable to third parties if they act as partners without giving notice of the firm’s dissolution. The legal heirs/estate of the deceased partner are not responsible for post-death acts, as highlighted in the case of Rubina Badar v Long Life Builders and others.
To summarise, the death of a partner can lead to the dissolution of a partnership firm, unless otherwise stated in the agreement. In partnerships with more than two partners, surviving partners can continue the business. In partnerships with two partners, the death of one partner dissolves the firm. New partnerships can be formed with legal heirs, and the continuation of the partnership can be determined by agreement or conduct. The Partnership Act, 1932 protects the estate of the deceased partner from liabilities caused by other partners after their death.