THE NATURE OF PARTNERSHIP

Partnership is essentially a meeting of minds, of dreams, of vision, an agreement concerning an end

goal. Two or more persons who may or may not have been engage in business on their own account
come together to improve their fortunes, their resources and their expertise. The main impetus for the
formation of partnership is the inadequacy of capital and the inability of the sole proprietor to access
other sources of capital. With partnership, the persons coming together can pool their resources, share
ideas, share risk and also share profits. Non-profit organizations, for example, may partner together
to increase the likelihood of which each achieve their mission. Governments may partner with other
governments to achieve their mutual goals as may religious and political organizations. In education,
accrediting agencies increasingly evaluate schools by the level and quality of their partnerships with
other schools and across sectors. Partnerships also occur at personal levels, such as when two or
more individuals agree to domicile together. Partnerships between governments, interest-based
organizations, schools, businesses, and individuals, or some combination thereof, have always been
and remain commonplace.

2.9 DEFINITION OF PARTNERSHIP:

Partnership is defined as the relationship which subsists between persons carrying on a
business in common with the view of making profit.
Act 152 defines partnership as “the association of two or more individuals carrying on
business jointly with the view of making profit.
According to Kojomo, partnership is the association of two or more individuals carrying
on business jointly with the purpose of satisfying customer at a profit.
Partnership entails the mutual agency of the partners. Each partner, while himself a
principal, is also an agent of the other partners within the scope of the business carried
on and the other partner are bound by his act so performed. It is therefore imperative that
any person going into partnership with another ascertains the reliability and integrity of
such a partner. Partners are thus entitled to rely upon utmost good faith of their partners
(S.D.K.N Gavor).
According to Alan Pizzy (2001) partnership is defined as “the relationship which exist
between persons carrying on a business in common with a view of profit”. Thus, three
essentials must exist before partnership can be established
a) Carrying on a business
b) Working in common
c) Having a view to profit.
According to Larson Nelson Zin Carroll partnership is defined as “the relationship which
subsists between persons carrying on a business in common with a view of making profit
or association of two or more competent persons under a contract combine some or all
of the property, labor and skill in the operation of a business”.

2.10 CHARACTERISTICS OF PARTNERSHIP

 After having a brief idea about partnership, it is thus prudent to identify the various
features of this form of business organization.
1. Two or more Members - At least two members are required to start a partnership
business. But the number of members should not exceed 10 in case of banking business
and 20 in case of other business. If the number of members exceeds this maximum limit
then that business cannot be termed as partnership business. A new form of business
will be formed.
2. . Agreement - This agreement contains the amount of capital contributed by each
partner, profit or loss sharing ratio, salary or commission payable to the partner, if any,
duration of business, if any, name and address of the partners and the firm, duties and
powers of each partner, nature and place of business, and any other terms and conditions
to run the business.
3. Lawful Business - The partners should always join hands to carry on any kind of lawful
business. To indulge in smuggling, black marketing, etc., cannot be called partnership
business in the eye of the law. Again, doing social or philanthropic work is not termed as
partnership business.

4. Competence of Partners - Since individuals join hands to become the partners, it is

necessary that they must be competent to enter into a partnership contract. Thus, minors,
lunatics and insolvent persons are not eligible to become the partners. However, a minor
can be admitted to the benefits of partnership i.e., he can have a share in the profits only.

5. Sharing of Profit - The main objective of every partnership firm is sharing of profits of
the business amongst the partners in the agreed proportion. In the absence of any
agreement for the profit sharing, it should be shared equally among the partners.

6. Unlimited Liability - Just like the sole proprietor the liability of partners is also unlimited.
That means, if the assets of the firm are insufficient to meet the liabilities, the personal
properties of the partners, if any, can also be utilized to meet the business liabilities.

7. Voluntary Registration - It is not compulsory that partnership firm is registered. The

effects of non-registration are that, the firm cannot take any action in a court of law against
any other parties for settlement of claims. In case there is any dispute among partners, it
is not possible to settle the disputes through a court of law. Thus, the partnership firm
cannot claim adjustments for amount payable to or receivable from any other parties.

8. No Separate Legal Existence - Just like sole proprietorship, partnership firm also has
no separate legal existence from that of it owners. Partnership firm is just a name for the
business as a whole. The firm means the partners and the partners collectively mean the
firm.
9. Principal Agent Relationship - All the partners of the firm are the joint owners of the
business. They all have an equal right to actively participate in its management. Every
partner has a right to act on behalf of the firm. When a partner deals with other parties in
business transactions, he/she acts as an agent of the others and at the same time the
others become the principal. So there always exists a principal agent relationship in every
partnership firm.
10. Restriction on Transfer of Interest - No partner can sell or transfer his interest to any
one without the consent of other partners.
11. Continuity of Business - A partnership firm comes to an end in the event of death, lunacy
or bankruptcy of any partner. Even otherwise, it can discontinue its business at the will of
the partners. At any time, they may take a decision to end their relationship.

2.11 TYPES OF PARTNERS IN PARTNERSHIP FIRM

Depending on the reason behind which a particular partnership is made, partners may be of different
types. To understand this better, consider the following:

 Active Partners
The partners who actively participate in the day-to-day operations of the business are known as
active partners. They contribute capital and are also entitled to share the profits of the business.
They also share the losses that the business faces (S.D.K.N Gavor, 2001).

Dormant Partners
Those partners who do not participate in the day-to-day activities of the partnership firm
are known as dormant or “sleeping partners”. They only contribute capital and share the
profits or bear the losses, if any.

Nominal Partners
These partners “only” allow the firm to use their “name” as a partner. They “do not” have
any real interest in the business of the firm. They do not invest any capital, or share
profits and also do not take part in the business of the firm. However, they do remain
liable to third parties for the acts of the firm.

Minor as a Partner
In special cases a minor can be admitted as partner with certain conditions. A minor can
only share the profit of the business. In case of loss his liability is limited to the extent of
his capital contribution for the business.

Qausi partners:
 These are partners who have retired but leave their capital in the partnership firm. It may
also be in the form of a person who is not a partner but holds out himself or allow his
name to be used as a partner (Kojomo).

2.12 TYPES OF PARTNERSHIP FIRMS

1. A Limited Liability Partnership (LLP)

It is a partnership in which some or all partners (depending on the jurisdiction) have
limited liability. It therefore exhibits elements of partnerships and corporations. In an LLP
one partner is not responsible or liable for another partner's misconduct or negligence.
This is an important difference from that of an unlimited partnership. In an LLP, some
partners have a form of limited liability similar to that of the shareholders of a corporation.
In some countries, an LLP must also have at least one "general partner" with unlimited
liability. Unlike corporate shareholders, the partners have the right to manage the
business directly.

2. Unlimited Liability
Just like a sole proprietorship, the liability of partners in a partnership is also unlimited.
This means, if the assets of the firm are insufficient to meet the liabilities, the personal
properties of the partners, if any, can be utilized to meet the business liabilities.
Suppose the firm has to make payment of $25,000 to the suppliers for some goods. The
partners are able to arrange for only $19,000 from the business. The balance amount,
of $6,000 will have to be arranged from the personal properties and assets of the
partners.

2.13 THE PARTNERSHIP AGREEMENT

A partnership relationship is a complex matter and as such the agreed terms of the
relationship should be clearly expressed in a partnership agreement. The financial terms
that is expected to be covered by the partnership agreement includes the following:
I. Name and address of partners
II. Firm’s name
III. Nature of business
IV. Place of business
V. Capital - The capital per partner should either be a fixed amount settled at the beginning
of the partnership of it can be varied from year to year.
VI. The Division of profit: - The profit sharing ratio which exists between the partners’ states
what proportion of the business profit each partner is to receive.
VII. Current account:- These are maintained to record the remuneration of partners by
means of salary, interest and share of profits and to set against this remuneration the
amount of drawings made by each partner.
VIII. Interest on drawings or capital - The agreement should specify whether partners are to
be paid interest on capital and the rate concerned. Where partners have contributed
different amount of capital, interest is seen as a method of compensating the partner who
has contributed most. Alternatively, it may be agreed among the partners that they should
pay interest on their drawings, so that any partner who draws out part of their profit share,
before it is earned and is thus overdrawn will pay for this.
IX. Interest on current account - If partners leave their share of business profits in a current
account, this is equivalent to the profits ploughed back into the reserves of a limited
company. A partner should be paid interest on his current account balance, which is an
extension of his fixed capital amount.
X. A limit to drawings - The partners may wish to limit the amount by which partners can
overdraw current account profits.
XI. The remuneration of partners - Some partners may work harder for the business than
others, and thus the profits are attributable to their efforts. The senior partner may have
contributed more in capital to the partnership, but the junior partner with a much smaller
capital may work harder. If interest is paid on capital then salaries should be paid to those
partners who contribute most in terms of effort. Such partnership salaries are an
appropriation of profit, and not a charge thereto. Both interest on capital and partner’s
salaries must be deducted from profit before the figure to be divided in the profit-sharing
ratio is computed.
XII. The preparation of accounts - Financial statements should be produced at least once
per annum and these accounts should be binding on the partners once they are agreed
intense.
XIII. Goodwill - Goodwill arises in partnerships when a new partner joins the original term or
when one of the original partner leaves. In order to ensure that a new partner pays a fair
price for a share of the partnership assets, or that a retiring partner takes with them the
appropriate amount, goodwill is involved on these occasions. There are many different
ways of making such a valuation and the method to be used for the partnership should
be contained in the agreement.
XIV. Retirement - The agreement should state how the amount to be paid to the partners on
retirement shall be determined and what steps shall be taken to pay this amount. If a
retiring partner does not withdraw capital, the amount is transferred to a loan account.

2.14 THE PARTNERSHIP ACT

The terms of the Act of 1962 are subordinated to those in the partnership agreement, but
where there is no agreement or where the agreement is silent on any point, then the terms
of the Act apply. Ghana’s Incorporated Private Partnership Act 1962 states the following:
a) Partners are to contribute the same amount of capital to the firm or organization.
b) No interest is paid on partners’ capital.
c) Profit should be shared equally between partners
d) There is no interest to be charge on partnership drawings
e) Introduction of new partners should only be done upon the consent of all the other
partners of the firm
f) Partners receive 5% per annum on loans given to the organization
g) Regarding the management of the firm, every partner has the right to take part
h) No salary or commission is receive by any partner who acts on behalf of the business
i) The firm’s book of accounts are to be placed at the place of business and every partner
may have access to them
j) If any partner incurs any debt or make any payments on behalf of the partnership he
shall be reimbursed.

2.15 NATURE OF PARTNERSHIP EARNINGS

Because they are its owners, partners are not employees of the partnership. If partners
devote their time and services to the affairs of their partnership, they are understood to
do so for profit and not for salary. Therefore, when the partners calculate the net income
of a partnership, salaries to partners are not deducted as expenses on the income
statement. However, when the net income or loss of the partnership is allocated among
the partners, the partners may agree to base part of the allocation on salary allowances
that reflect the relative values of the service provided by the partners. Partners are also
understood to have invested in a partnership for profit, not for interest. Nevertheless,
partners may agree that the division of partnership earnings should include a return base
on their invested capital. For example, if one partner contributes five times as much capital
as another, it is only fair that this fact be considered when earnings are allocated among
the partners. That is, a partnership agreement may provide for interest allowances based
on the partners’ capital balances. Like salary allowances, interest allowances are not
expenses to be reported on the income statement.

2.16 THE APPROPRIATION ACCOUNT

The profit and loss account of a partnership is the same as for a company or sole trader
down to the net profit before tax. The appropriation account is used in partnerships to
make adjustments for the rights of partners, so that the accounting profit is reduced by
interest payable on the capital of the partners and salaries before the profits to be divided
among the partnership before their profit-sharing ratio is determined. These amounts are
debited to the appropriation account and credited to the current account of each partner.
Drawings are set against them (debit) and the balance of undrawn profit is carried forward
and shown on the balance sheet. A current account in columnar form will be easy to
assimilate and can also be used to show up adjustments between the partners, such as
where partner A guarantees partner B a certain minimum income. In such a case, if
partner Bs income does not reach the guaranteed minimum, he will be credited with the
appropriate amount and partner A will be debited.
Partners pay tax as individuals, declaring their partnership income separately to the
taxation authorities. The partnership as such is not taxed so no tax entry appears in the
profit and loss account.

2.17 WITHDRAWAL OR ADDITION OF A PARTNER

A partnership is based on a contract between specific individuals. Therefore, when a

partner withdraws from a partnership, the old partnership ceases to exist. Nevertheless,
the business may continue to operate as a new partnership among the remaining
partners.
The withdrawal of a partner from a partnership may take place in two ways.
First, the withdrawing partner may sell his or her interest to another person who pays
for the interest by transferring cash or other assets to the withdrawing partner. Second,
cash or other assets of the partnership may be distributed to the withdrawing partner in
settlement of his or her interest in the partnership.
When a new partner is admitted to a partnership, the old partnership technically ends and
is replaced by a new partnership. Similar to the withdrawal of a partner, there are two
ways a new partner may be admitted to an existing partnership: First, the new partner
may purchase an interest directly from one or more of the existing partners in exchange
for an interest in the partnership. Second, a new partner may join an existing partnership
by investing cash or other assets in the business.

2.18 ACCOUNTING ENTRIES FOR A JOINING PARTNER

The most common method is to recognize the true value of the assets and the existence
of goodwill and to apportion the surplus or capital profit to the existing partners in their
profit-sharing ratio before a new partner joins the firm. This involves the creation of a
revaluation account, to which the debit balances of the asset accounts are written off,
while the newly agreed values of the assets are credited to the revaluation account and
debited in turn to the asset accounts. A credit balance on the revaluation account means
that there is a surplus on revaluation which is divided among the partners in their profit-
sharing ratio and credited to their capital accounts. Next, value the goodwill and debit the
goodwill account. Divide the amount of goodwill in the old profit-sharing ratio, crediting it
to partners’ capital accounts. Then divide the goodwill in the new profit-sharing ratio to be
used after the new partner has joined the firm and debit it to partners’ capital accounts.
The corresponding credit is to goodwill account, so that the goodwill balance does not
appear in the balance sheet.
2.19 DISSOLUTION OF A PARTNER

Technically, a partnership is dissolved whenever there is a change of partners, but often

the business carries on and a new partnership comes into existence. If there is a
bankruptcy or all partners retire, the business will cease and the partnership will be
dissolved. The assets are sold for cash and or for shares if they are sold to a company.
The debts are collected, the liabilities are paid and any funds remaining are repaid to the
partners. Profit on the sale of assets shown as the credit balance on a realization account
is apportioned in the profit-sharing ratio and posted to the credit side of the capital
account. The partnership Act 1962 lays down rules for the disbursement of partnership
funds on a dissolution. The assets of the firm are to be applied first to repay the debts
and liabilities of the firm to persons who are not partners, second to repay partners’ loans
to firm, third to repay partners’ capital balances and last to pay out any surplus on
dissolution to the partners in their profit-sharing ratio. If the assets are sufficient to meet
the liabilities of the firm the deficiency shall be met out of profits and, if they are
insufficient, out of capital, and if that is still not enough then the partners must contribute
to the remaining deficiency in their profit-sharing ratio. If at this stage one partner is
bankrupt and is unable to contribute a share of the deficiency, under the rule in Garner V.
Murray, a case decided in 1904, the solvent partners must make up the share of the
deficiency of an insolvent partner, in the ratio of the capital accounts before the dissolution
commenced.