Obligation to Account
There is no specific obligation in the Partnership legislation which requires partners to keep accounts. Partner are in practice obliged to keep accounts for recording and taxation purposes.
Partners must render a true account to each other and give each other full and true information concerning all partnership activities. This requires, in effect that accounts, in the sense of accounting records, be kept of the financial transactions of the partnership, so as to enable the establishment of each partner’s rights and entitlement, from time to time. This implied obligation to keep accounts effectively applies as between the partners.
A partner can apply to court have an account taken of the partnership’s assets, liabilities and activities if the other partners have failed to keep proper accounts, or they have destroyed or falsified documents. If this is the case, inferences may be drawn against the parties concerned in relation to a failure in their general duty to account.
Where the partnership accounts are accepted by the partners, they will generally determine the position conclusively between the parties, except in relation to significant errors. If accounts are not approved, they do not bind the partner.
Unlike the case with companies, the form, extent and type of accounts which are required are not specified by law. The parties may agree to the keeping of records in relation to the financial position otherwise than by way of formal financial accounts. This does not necessarily discharge their obligations to third parties, such as the Revenue.
The partnership accounts are instrumental in the determination of partners’ tax liabilities. Taxation law fixes the assessment of liability for partnership profits and losses, with reference to the relevant partnership accounts and partnership accounting dates.
There is a statutory obligation to keep accounts where all partners have limited liability or where the partners who have unlimited liability are limited companies. There is an obligation under tax law to record transactions and keep books of accounts.
Keeping of Accounts
The partnership books should be kept at the partnership’s place of business or principal place of business unless the agreement provides otherwise. The Partnership Act provides that every partner may when he thinks fit, have access to and inspect and the partnership books and make copies of any of them.
The partners have the right to inspect the partnership accounts. The right to inspect may be exercised through an agent, such as an accountant. The inspection must be at reasonable times and on reasonable terms. The accounts may only be inspected for legitimate purposes and not for extraneous purposes.
The partnership accounts must show the position as between the partners and as regards third parties. As a practical matter, the accounts should be kept in accordance with general accounting standards and practices. There should be, at least, day-to-day books of accounts of receipts and payments, a profit and loss account periodically and balance sheet as at the period end.
Capital, in the narrow sense, is the sum contributed by the partner when he becomes a partner or when the firm is established. It may be contributed by way of cash or in kind by way of an asset.
Partners need not necessarily subscribe any particular amount of capital or any capital at all. The position is different in the case of limited and investment limited partnerships.
The partner’s obligation to contribute capital is limited to the amount he agrees to contribute. Partners are not entitled to interest on capital required to be contributed.The partners may agree to increase their contributions from time to time.
If a partner makes a payment beyond the amount he has agreed to subscribe, he is entitled to 5 percent interest from the date of the advance. The excess amount is, in effect, treated as a loan. It may be implied that there is to be a different rate of interest.
There are no formal capital protection rules under partnership law equivalent to those applicable to companies. Partners are potentially liable personally, for the debts of the partnership so that the requirement for capital maintenance is less.
The nominal amounts in the capital account will not usually vary. The initial capital contributions, which are determined by the amounts actually contributed. If it was contributed in a non-cash form, the original valuation will appear.
The capital account represents a sum to which the partner concerned will be entitled to a winding up, before payment of any surplus to the partners generally, provided that there are sufficient funds.
The entire interest of the partners in the partnership in the broader sense may increase and decrease in accordance with profits and losses and with changes in asset values. The actual value of their interest may vary on an ongoing basis, with reference to multiple factors which will not necessarily be related to the capital account values.
It is presumed that both capital profits (increases) and losses (decreases), and income profits and losses, are shared equally. This may affect the relative value of the partners’ interests over time.
The presumption is that partners share equally in the profits and benefits of the partnership. It is presumed that they contribute equally towards losses sustained.
An agreement to the contrary may apply or may be implied from a course of dealings by the partners. It may be implied from the books and accounts and the way in which the business has been conducted.
The partners’ current accounts will show additions or deductions by way of profits, losses, and drawings. The partner’s current account is usually available for drawing. It will be reduced by drawings.
The capital account may be adjusted upwards or downwards by the re-valuation of the capital assets contributed. Sums or losses in the current account may be capitalised so that they are no longer available as drawings.
The revaluation of assets may happen before new partners are admitted, on retirement, exit or another occasion. The revaluation may adjust the capital accounts so that they represent more closely, the economic position of the partners.
If there is a revaluation and capitalisation before a new partner is admitted, the increase is added to the existing partners’ capital accounts. Otherwise, it may be later added in the profit sharing ratios to all partners, including later partners.
The Partnership Act provides that the interests of the partners in the partnership property and their rights and duties in relation to the partnership are determined, by the following rules. In each case, this is subject to any agreement to the contrary, express or implied, between the partners.
All the partners are entitled to share equally in the capital and profits of the business. They must contribute equally towards the losses whether of capital or income nature, sustained by the firm.
The firm must indemnify every partner in respect of payments made and personal liabilities incurred by him in the ordinary and proper conduct of the business of the firm and in or about anything necessarily done for the preservation of the business or property of the firm.
A partner who makes any actual payment or advance for the purpose of the partnership beyond the amount of capital which he has agreed to subscribe is entitled to interest at the rate of five per cent. per annum from the date of the payment or advance.
A partner is not entitled, before the ascertainment of profits, to interest on the capital subscribed by him.
Every partner may take part in the management of the partnership business. No partner is entitled to remuneration for acting in the partnership business.
The partner’s share in the partnership is a chose in action. That is to say, it is an asset which is realised ultimately, if necessary in litigation. In the context of partnerships, the interest is realised on winding up or on an account being taken of the partnership assets and liabilities, either with or without court office supervision.
Although the partners collectively are owners of the underlying assets, the partners are not co-owners of the partnership assets as such. The partner’s interest is to a share of the residue as ascertained on winding up or on the taking of an account.
A partner may not assert rights to any particular partnership asset, until winding up or another agreed realisation. Until that point, the partnership assets are to be used for the partnership purposes. Each partner can require that the partnership acts be so used.
On a winding up or a technical dissolution (e.g. when one partner leaves), a notional accounting or winding-up is required. A mechanism is usually provided in the partnership agreement to agree or fix the value of the partner’s interest.
Capital on Winding Up
During the partnership term, partnership capital may be withdrawn only on a notional winding up in accordance with the provisions of the partnership agreement or with the agreement of all of the partners.
On a winding up, it is presumed, unless the contrary is provided, that a partner who has made an advance, loan or other contribution (not being capital) is to be paid off in priority to repayment of capital, but after external creditors.
In the absence of agreement, the partners are entitled to five percent per annum on advances made to the firm. They are not entitled to interest on capital unless the partnership agreement otherwise provides or it is otherwise agreed.
On a winding up, loans, capital and other capital contributions made by partners, are subordinated to external/ third party creditors. External creditors are paid first in a winding up. If there is a shortfall, capital and capital advances are paid proportionately. If there is a shortfall, the amount paid is proportionate.
Loans and Advances
Interest is not allowed on sums advanced by a partner to the firm in the absence of an agreement to the contrary. Subject to an agreement otherwise, a partner is not entitled to interest on capital. However, the contrary is commonly expressed or implied.
The general principle of law is that a person is not entitled to interest on loans made to another. A partner subscribing loan monies beyond the amount of capital agreed to be subscribed is entitled to interest of 5 percent in the absence of anything to the contrary.
A former partner is entitled to interest at 5 percent on the use of his partnership capital. This applies only after he has left the partnership.
When profits have been accounted for and allocated but not withdrawn, they may be withdrawn at any time in the absence of an agreement otherwise. Interest is not payable on undrawn profits.
Share of Profits
The default position, in the absence of an agreement to the contrary, is that the partners are entitled to share the profits of the partnership equally. In the same way, partners are presumed to be obliged to contribute to losses equally.
This presumption applies irrespective of the capital contributed. The mere contribution of capital in different proportions does not change the profit-sharing ratio, in the absence of an agreement to the contrary. This is in contrast to the company law position.
The presumption of equality applies both to income (trading) and capital profits. It can be varied by an express or implied contract of the partners to the contrary. This is very commonly done.
Where there is a technical dissolution of the partnership by reason of the departure of a partner, the entitlement to capital may be impliedly varied, if there is an agreement otherwise as to the profit sharing ratio.
The matter will be commonly determined by how the departing partners share profits. Where the outgoing partner does not get full credit for his interest, the continuing partners may take the departing partner’s profit share, in their existing profit-sharing ratio.
Contribution to Losses
The presumption is that partners are liable to contribute equally to losses. If one partner pays a firm debt from his own funds, the other partners must contribute. The presumption that the losses are shared equally may be displaced by an express or implied agreement to the contrary.
Where there is an express agreement to share profits in a particular ratio, it will be generally implied that losses are to be shared in the same ratio. As in the case of profits, the presumption that the losses are to be shared equally will not necessarily be displaced by a difference in capital contribution.
Capital losses are treated in the same manner as income losses. If there is no specific agreement regarding profit sharing, then it is likely that both profits and losses will be shared equally. If one partner is unable to pay his shares of loss, the other partners will be obliged ultimately, as regards outside creditors, to make up the losses in proportion to their loss sharing ratios.
If one partner causes the losses, this will not exonerate the other partners from the obligation to make a contribution. If one partner has acted recklessly, fraudulently or has engaged in wilful misconduct, the innocent partner may be entitled to an indemnity or contribution from the partner in default, unless he has ratified and approved the matter in question. This position does not apply as regards outsiders, to whom he generally remains accountable.
References and Sources
Partnership Act, 1890
Partnership Law 2000 Twomey M. Butterworths
Lindley & Banks on Partnership: (19th Revised edition) 2016 Banks, Roderick I’Anson
Partnership & Llp Law (8th edition) 2015 Morse, G.
Partnership Law (5th Revised edition) 2015 Blackett-Ord, Mark; Haren, Sarah;