Law of Contract - II

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 3rd Semester Kashmir University
(BA LLB) (Law
Law of Contract
Contract-II)

Unit Page No
01 03-17

02 18-39

03 40-46

04 47-84

05 85-108

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 3rd Semester Kashmir University
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Unit 1st : Indemnity and Guarantee Join Whatsp
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Indemnity
The Law of Contract in India is governed by the Indian Contract
Act, 1872, a comprehensive legislative framework designed to
address various forms of contracts, including the contract of
indemnity. Section 124 of the Act specifically defines a contract
of indemnity. In this detailed exploration, we will examine the
concept of indemnity, the nature and extent of the liability of
the indemnifier, and the commencement of such liability.
I. Definition of Indemnity
A contract of indemnity is defined under Section 124 of the
Indian Contract Act, 1872, as:
“A contract by which one party promises to save the other from
loss caused to him by the conduct of the promisor himself, or
by the conduct of any other person.”
This definition highlights two essential elements of a contract of
indemnity:
1. A promise to indemnify: One party, known as the
indemnifier, promises to compensate the other party,
referred to as the indemnified or indemnity-holder, for
losses.

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2. Cause of loss: The loss should arise either due to the

conduct of the promisor or any third party.
However, the Indian Contract Act does not cover indemnity
contracts arising from natural causes, such as fire or storms.
These are often dealt with under insurance contracts.
Essence of a Contract of Indemnity
The essence of a contract of indemnity lies in its preventive and
protective nature. It is designed to:
 Shield the indemnified from potential financial harm.
 Transfer the risk from the indemnified to the indemnifier.
Examples
1. If A contracts with B to indemnify B against the
consequences of any legal proceedings that C may initiate
against B, this forms a contract of indemnity.
2. A guarantees to pay for any loss B might suffer due to non-
performance by a third party, D.
Case Law
 Adamson v. Jarvis (1827): This English case established
that an indemnified party could claim reimbursement for
losses incurred due to acts done in good faith. The

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plaintiff, acting as an auctioneer, was indemnified for

selling goods on behalf of a principal who did not have title
to the goods.
In India, judicial interpretations have extended the application
of indemnity to include instances beyond direct monetary
losses, encompassing legal liabilities and other forms of
damages.

II. Nature and Extent of Liability of the Indemnifier

The liability of the indemnifier in a contract of indemnity is a
critical aspect of the agreement. It determines the extent to
which the indemnified party is protected from losses.
Nature of Liability
The liability of the indemnifier is contingent upon the terms and
scope of the contract:
1. Absolute Liability: The indemnifier is required to
compensate the indemnified for any agreed-upon losses,
irrespective of the circumstances leading to the loss.
2. Conditional Liability: In some contracts, liability arises only
upon the occurrence of specific conditions, such as proof
of loss or a court decree.

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Extent of Liability
The indemnifier’s liability is generally co-extensive with the loss
suffered by the indemnified. This includes:
1. Direct Loss: The indemnifier must compensate for direct
losses resulting from the actions specified in the contract.
2. Legal Costs: If the indemnified incurs legal costs while
defending claims arising from the indemnifier’s actions,
these costs are also recoverable.
3. Other Incidental Expenses: Expenses incurred in
mitigating or addressing the loss may also fall under the
indemnifier’s liability.
Case Law
 Gajanan Moreshwar v. Moreshwar Madan (1942): The
Bombay High Court ruled that the indemnified party could
seek reimbursement for losses even before actually paying
for the loss, as long as the loss was quantifiable and
incurred.
 Punjab National Bank v. Vikram Cotton Mills (1985): This
case reinforced that indemnity clauses should be
interpreted broadly to protect the indemnified party from

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all foreseeable losses arising from the indemnifier’s

conduct.
Scope of Indemnity Contracts
While the statutory definition in India is narrower compared to
common law jurisdictions, courts have adopted an expansive
interpretation to include contracts like guarantees, insurance,
and even certain employment agreements where indemnity
clauses are standard.

III. Commencement of Liability of the Indemnifier

A critical question in indemnity contracts is determining when
the indemnifier’s liability begins. Unlike contracts of guarantee,
where liability is contingent on the principal debtor’s default,
the commencement of liability in indemnity is often immediate
or as specified in the agreement.

General Rule
Liability begins as soon as the indemnified suffers a loss due to
the event or action covered under the contract. This principle
aims to ensure swift compensation and prevent prolonged
financial distress for the indemnified party.

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Judicial Interpretations
Indian courts have clarified the commencement of liability
through landmark judgments:
1. Gajanan Moreshwar v. Moreshwar Madan (1942): This
case established that the indemnified party could claim
indemnity as soon as the loss becomes imminent or is
incurred, even before the indemnified has made an actual
payment.
2. Osman Jamal & Sons Ltd. v. Gopal Purshottam (1928):
The court held that an indemnifier’s obligation arises not
upon actual payment of damages by the indemnified but
upon the incurrence of liability.
Practical Implications
In practice, contracts of indemnity often specify the exact
conditions under which liability arises. For instance:
 Liability may commence upon the occurrence of a
particular event (e.g., a legal claim being filed against the
indemnified).
 In some cases, liability begins only after the indemnified
provides notice to the indemnifier and allows a reasonable
opportunity for intervention or settlement.

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Significance of Timely Compensation

Prompt fulfillment of liability by the indemnifier is crucial to:
 Maintain trust and reliability in contractual relationships.
 Prevent further financial damage to the indemnified.
Case Law
 United Commercial Bank v. Bank of India (1981): The
court emphasized the importance of clarity in indemnity
contracts regarding the timing and extent of liability. It
held that any ambiguity should be resolved in favor of the
indemnified.
Guarantee
1. The Concept and Definition of Contract of Guarantee
A contract of guarantee is a tripartite agreement where one
party, called the surety, agrees to be responsible for the debt or
obligation of a second party, known as the principal debtor, to a
third party, the creditor. The contract of guarantee is defined
under Section 126 of the Indian Contract Act, 1872, as "a
contract to perform the promise or discharge the liability of a
third person in case of his default." The primary purpose of a
contract of guarantee is to ensure the creditor’s financial

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security by providing an additional source of repayment if the

principal debtor defaults.
The contract of guarantee involves three parties:
1. Principal Debtor: The person for whom the guarantee is
given.
2. Creditor: The person to whom the guarantee is given.
3. Surety: The person who provides the guarantee.
The contract may be oral or written. However, for better
enforceability, written guarantees are preferred. The essence
of this contract lies in the surety’s undertaking to fulfill the
obligation of the principal debtor if the latter fails to do so. It
serves as a risk mitigation mechanism for the creditor while
placing a moral and legal obligation on the surety.
For example, if A borrows money from B and C guarantees the
repayment, C becomes the surety. In case A defaults, B can
approach C for repayment under the terms of the guarantee.
The legal framework of the contract of guarantee ensures that
it is not lightly undertaken and that all parties are bound by the
terms mutually agreed upon. This contract differs from
contracts of indemnity, as in indemnity, the indemnifier

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undertakes to compensate for the loss without the involvement

of a third-party obligation.
2. Essentials of a Valid Guarantee
To constitute a valid contract of guarantee, certain essential
elements must be fulfilled:
1. Existence of a Principal Debt or Obligation: A contract of
guarantee can only exist when there is a lawful principal
debt or obligation to be secured. If the underlying debt or
obligation is void or unlawful, the contract of guarantee
becomes unenforceable. The surety’s liability is contingent
upon the existence of this obligation.
2. Consideration: Like any other contract, the contract of
guarantee must be supported by lawful consideration.
According to Section 127 of the Indian Contract Act, any
act done or promise made for the benefit of the principal
debtor is deemed sufficient consideration for the surety's
promise. For instance, if a creditor advances money to the
principal debtor on the promise of the surety, this
constitutes valid consideration.
3. Free Consent: The surety’s consent must be free from
coercion, undue influence, fraud, or misrepresentation.

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Any vitiation of consent can render the contract voidable

at the surety’s option.
4. Competency of Parties: The parties to the contract must
be competent as per the provisions of the Indian Contract
Act. The surety must have the legal capacity to contract.
5. Written or Oral Agreement: While a guarantee can be oral
or written, the terms must be clear and unambiguous.
Courts often prefer written agreements to ascertain the
terms and conditions of the guarantee.
6. Tripartite Agreement: The agreement involves three
parties: the creditor, the principal debtor, and the surety.
Each party must agree to the terms of the contract for it to
be valid.
7. Lawful Purpose: The contract of guarantee must be for a
lawful purpose and should not contravene any law or
public policy.
3. Continuing Guarantee
A continuing guarantee, as defined in Section 129 of the Indian
Contract Act, is a type of guarantee that extends to a series of
transactions. Unlike a specific guarantee, which applies to a
single transaction, a continuing guarantee binds the surety for

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all transactions that fall within the terms of the agreement until
it is revoked by the surety or by operation of law.
For instance, if C guarantees payment for goods supplied by B
to A over a period of time, C’s liability continues until the
guarantee is revoked.
Features of a Continuing Guarantee:
1. Series of Transactions: The guarantee applies to multiple
transactions between the creditor and the principal
debtor.
2. Revocation: The surety can revoke the guarantee
prospectively by providing notice to the creditor. However,
the surety remains liable for transactions already
completed.
3. Extent of Liability: The liability of the surety in a
continuing guarantee depends on the terms of the
agreement and the nature of the transactions.
Iv) Nature and Extent of Surety’s Liability
The liability of the surety under a contract of guarantee is
secondary and contingent upon the default of the principal
debtor. The surety’s liability arises only when the principal
debtor fails to fulfill their obligation.

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Characteristics of Surety’s Liability:

1. Co-extensive Liability: As per Section 128 of the Indian
Contract Act, the liability of the surety is co-extensive with
that of the principal debtor, unless otherwise provided by
the contract. This means that the surety’s liability is
equivalent to that of the principal debtor.
2. Conditional Liability: The surety’s obligation depends on
the default of the principal debtor. If the principal debtor
performs their duty, the surety is discharged.
3. Limited or Unlimited: The extent of liability may be limited
by the terms of the contract. The surety’s liability cannot
exceed the amount agreed upon.
For example, if A owes B Rs. 10,000 and C guarantees payment
up to Rs. 5,000, C’s liability is limited to Rs. 5,000.
v) Rights of Surety
The surety has certain rights under the Indian Contract Act,
which protect their interests:
1. Right of Subrogation (Section 140): Upon fulfilling the
principal debtor’s obligation, the surety steps into the
shoes of the creditor and can recover the amount from the
principal debtor.

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2. Right of Indemnity (Section 145): The surety is entitled to

be indemnified by the principal debtor for any amount
paid under the guarantee.
3. Right to Securities: The surety has the right to access any
security provided by the principal debtor to the creditor.
4. Right to Contribution: When multiple sureties exist, each
is liable to contribute proportionately unless agreed
otherwise.
vi) Position of Surety in the Eyes of Law
The surety’s position in a contract of guarantee is unique. The
law recognizes the surety as a party acting in good faith to
assist the creditor. However, the surety’s liability is not lightly
assumed, and their rights are protected rigorously. Courts have
consistently upheld that the surety’s consent must be free and
informed, and any misrepresentation or concealment of
material facts by the creditor can discharge the surety from
liability.
(VII) Co-Sureties and Manner of Sharing Liabilities and Rights
When multiple sureties provide a guarantee for the same debt,
they are referred to as co-sureties. The liability of co-sureties is
determined by the terms of the contract and the principle of
equity.

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Principles:
1. Equality of Contribution: Co-sureties share liability equally
unless the contract specifies otherwise.
2. Right to Contribution: A surety who pays more than their
proportionate share can recover the excess amount from
the other co-sureties.
Case Law:
In Steel v. Dixon (1881), it was held that co-sureties are liable to
contribute equally, regardless of whether they signed separate
agreements.
(VIII) Discharge of Surety’s Liability
The surety’s liability can be discharged under the following
circumstances:
1. Revocation by Surety: A surety can revoke a continuing
guarantee by giving notice to the creditor.
2. Discharge of Principal Debt: If the principal debt is
discharged, the surety’s liability also ceases.
3. Variance in Terms: Any material alteration in the terms of
the contract without the surety’s consent discharges their
liability.

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4. Act of Creditor: Negligence, release of securities, or

compounding with the principal debtor by the creditor can
discharge the surety.
Case Law:
In State Bank of India v. Indexport Registered (1992), the court
ruled that the surety is discharged if the creditor fails to take
reasonable steps to recover the debt from the principal debtor.

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Unit 2nd : Bailment, Pledge and Agency

Bailment
I. Definition of Bailment
The concept of bailment is enshrined in Section 148 of the
Indian Contract Act, 1872. Bailment refers to a relationship in
which the owner of goods (the bailor) delivers the goods to
another person (the bailee) for a specific purpose, under a
contract, with the condition that the goods will be returned
once the purpose is fulfilled, or otherwise dealt with according
to the bailor’s instructions. The term "bailment" is derived from
the French word "bailler," meaning "to deliver."
Essential Features of Bailment:
1. Delivery of Possession: Bailment involves the delivery of
goods by the bailor to the bailee. This delivery must be
voluntary and made for a specific purpose.
2. Transfer of Possession, Not Ownership: Ownership of the
goods remains with the bailor. The bailee only gets
possession of the goods for the duration of the contract.
3. Purpose: The delivery of goods must be for a specific
purpose mutually agreed upon by both parties.

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4. Return or Disposal of Goods: The bailee must return the

goods after the purpose is achieved or dispose of them
according to the bailor’s directions.
5. Contract: Bailment arises from a contract, express or
implied. However, in certain circumstances (e.g., finder of
goods), a bailment relationship may be established
without an explicit contract.
Types of Bailment:
Bailment can be classified into various types based on the
purpose and benefits:
1. Gratuitous Bailment: When one party receives no
consideration, such as lending a book for free.
2. Bailment for Hire: When goods are delivered for a
monetary consideration, such as renting a car.
3. Pledge: A specialized form of bailment where goods are
delivered as security for a loan.
4. Bailment for Repairs or Services: When goods are
delivered for repairs or other services, such as giving a
garment for dry cleaning.

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Legal Implications:
The law imposes specific duties on both the bailor and bailee to
ensure mutual trust and adherence to the agreed terms. Non-
compliance can lead to legal liabilities.

II. Rights and Duties of Bailor and Bailee

Rights of the Bailor:
1. Right to Claim Goods: The bailor has the right to claim the
return of goods upon the fulfillment of the purpose of
bailment.
2. Right to Compensation: If the bailee fails to take
reasonable care of the goods or misuses them, the bailor
can claim compensation for any loss or damage.
3. Right to Terminate Bailment: The bailor can terminate the
contract if the bailee acts inconsistently with the terms of
bailment.
4. Right to Demand Account: The bailor can demand an
account of how the goods are being used by the bailee.

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Duties of the Bailor:

1. Disclosure of Known Defects: The bailor must inform the
bailee of any known defects in the goods. Failure to do so
may render the bailor liable for damages.
2. Compensation for Expenses: The bailor is bound to
compensate the bailee for any necessary expenses
incurred in maintaining the goods.
3. Delivery of Goods: The bailor must deliver the goods to
the bailee in a condition fit for the agreed purpose.
Rights of the Bailee:
1. Right to Compensation: The bailee has the right to claim
reimbursement for expenses incurred in maintaining the
goods.
2. Right to Lien: The bailee has a right to retain the goods
until due compensation is paid, especially in the case of a
pledge.
3. Right to Indemnity: The bailee can claim indemnity from
the bailor for losses suffered due to defects in the goods
or other reasons attributable to the bailor.

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Duties of the Bailee:

1. Duty of Reasonable Care: The bailee must take reasonable
care of the goods. Negligence can lead to liability for
damages.
2. Duty to Return Goods: The bailee must return the goods
upon the completion of the purpose or as per the bailor’s
instructions.
3. Duty to Use Goods as Agreed: The bailee must use the
goods strictly in accordance with the terms of the contract.
4. Duty to Avoid Unauthorized Use: Unauthorized use of
goods may lead to termination of bailment and liability for
damages.

III. Finder of Goods as a Bailee

A finder of goods is someone who comes across goods
belonging to another person without the latter’s knowledge or
consent. Under Section 71 of the Indian Contract Act, 1872, the
finder of goods is treated as a bailee and is subject to certain
rights and duties.
Rights of the Finder of Goods:

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1. Right to Possess: The finder has the right to retain

possession of the goods until the true owner is located or
claims the goods.
2. Right to Compensation: The finder can claim reasonable
compensation for expenses incurred in preserving the
goods or searching for the owner.
3. Right to Lien: If the owner refuses to compensate the
finder for reasonable expenses, the finder may exercise a
lien over the goods.
Duties of the Finder of Goods:
1. Duty of Reasonable Care: The finder must take the same
care of the goods as a person of ordinary prudence would
take of their own goods.
2. Duty to Find the Owner: The finder must make reasonable
efforts to locate and notify the owner of the goods.
3. Duty to Return Goods: The finder must return the goods
to the true owner upon demand and cannot refuse unless
entitled to a lien.
Legal Implications for Finder of Goods:
The finder is not the owner of the goods but has certain legal
protections. If the finder sells the goods or misuses them

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without legal grounds, they can be held liable. However, if the

goods are perishable or if the owner cannot be found despite
reasonable efforts, the finder may dispose of them after giving
notice to authorities.
Case Laws on Finder of Goods:
1. Hollins v. Fowler (1875): This case established the
principle that a finder of goods is not entitled to use or
claim ownership but must act in good faith towards
preserving and returning the goods.
2. Armory v. Delamirie (1722): In this landmark case, it was
held that a finder of goods has a right to possession
against everyone except the true owner.
Contract of Pledge
(I) Pledge: Meaning & Definition
A pledge is a special kind of bailment wherein goods are
delivered by one party (the pawnor) to another party (the
pawnee) as security for the payment of a debt or the
performance of a promise. The essence of a pledge lies in the
transfer of possession of goods, while ownership remains with
the pawnor until the debt or obligation is discharged. If the
pawnor fails to fulfill their obligation, the pawnee has the right
to sell the goods to recover the debt.

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The Indian Contract Act, 1872, defines a pledge under Section

172. According to this section, “The bailment of goods as
security for payment of a debt or performance of a promise is
called a pledge. The bailor in this case is called the pawnor. The
bailee is called the pawnee.”
For instance, if A borrows money from B and delivers a piece of
jewelry as security for repayment, this transaction constitutes a
pledge. Here, A is the pawnor, B is the pawnee, and the jewelry
is the pledged good.
A pledge is characterized by its temporary nature. Unlike a sale,
where ownership is transferred, a pledge only transfers
possession. This ensures that the pledge serves as a collateral
arrangement rather than a permanent transfer of goods. The
goods pledged remain the property of the pawnor, and the
pawnee has a fiduciary responsibility to return them upon the
fulfillment of the obligation.
(ii) Essentials of Pledge
A valid pledge must satisfy specific essential elements, as
outlined below:
1. Delivery of Goods: The primary requirement for a pledge
is the delivery of goods by the pawnor to the pawnee. This
delivery can be actual or constructive. Actual delivery

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occurs when the goods are physically handed over, while

constructive delivery occurs when the goods are
symbolically handed over, such as handing over the keys
to a warehouse where the goods are stored.
2. Purpose of Delivery: The delivery of goods must be for a
specific purpose, i.e., as security for a debt or the
performance of a promise. If goods are delivered for any
other purpose, the transaction does not qualify as a
pledge.
3. Existence of Debt or Obligation: A pledge must be
supported by an existing debt or obligation. The goods
serve as security for repayment or fulfillment. If no such
debt or obligation exists, the transaction cannot be
considered a pledge.
4. Ownership and Title: The pawnor must have legal
ownership or authority over the goods to create a valid
pledge. If the pawnor does not have title, the pledge may
be invalid, except in specific circumstances where the law
recognizes the rights of possessors with limited titles.
5. Right to Redeem: The pawnor retains the right to redeem
the goods by fulfilling their obligation within the stipulated
time. The pawnee, however, may sell the goods if the
pawnor fails to meet their obligation.

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6. Mutual Consent: A pledge requires the mutual agreement

of both the pawnor and the pawnee. This agreement
establishes the terms and conditions of the pledge.
Failure to meet any of these essentials may render the pledge
invalid. For example, if A transfers possession of goods to B
without intending to use them as security for a debt, this would
not constitute a pledge.
(iii) Rights of the Pawnee under Contract of Pledge
The pawnee has specific rights under the Indian Contract Act,
1872, which ensure the security of their interest in the pledged
goods. These rights are as follows:
1. Right of Retention: Under Section 173, the pawnee has
the right to retain the pledged goods until the debt is
repaid or the promise is performed. This right exists
irrespective of whether the due date for repayment has
arrived. For example, if A pledges a piece of machinery
with B for a loan, B can retain the machinery until A repays
the loan.
2. Right to Claim Reimbursement: If the pawnee incurs
extraordinary expenses in preserving the goods, they have
the right to claim reimbursement from the pawnor, as
stated in Section 175. For example, if B incurs costs to

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maintain the pledged machinery, A must reimburse B for

these expenses.
3. Right to Sell: If the pawnor defaults in repayment or
performance, the pawnee has the right to sell the pledged
goods after giving reasonable notice to the pawnor. This
right is outlined in Section 176. The pawnee can apply the
proceeds from the sale to recover their dues but must
return any surplus to the pawnor.
4. Right to Sue for Debt: Instead of selling the pledged
goods, the pawnee may choose to sue the pawnor for
repayment of the debt or fulfillment of the promise.
5. Right to Retain Multiple Pledges: If the pawnor pledges
multiple goods for separate debts, the pawnee has the
right to retain all goods until all debts are repaid, provided
this was mutually agreed upon.
(iv) Person Who Can Pledge
The law recognizes that not all individuals are competent to
create a valid pledge. The following categories of persons can
pledge goods:
1. Owner of the Goods: The person who owns the goods has
the authority to pledge them. Ownership implies the legal
right to deal with the goods, including creating a pledge.

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2. Authorized Agents: An agent who has the authority to act

on behalf of the owner can create a valid pledge. However,
the scope of the agent’s authority must include the power
to pledge.
3. Possessor with Limited Title: A person in possession of
goods with limited title, such as a finder of goods or a
bailee, can create a pledge under specific circumstances.
For example, a finder of goods may pledge them to
recover necessary expenses.
4. Mercantile Agents: Under Section 178, a mercantile agent
who possesses goods with the owner’s consent can create
a pledge, provided they act in the ordinary course of
business.
5. Co-Owners: Co-owners of goods can create a pledge,
provided all co-owners agree to the transaction.

(v) Distinction between Bailment, Pledge, and Hypothecation

The concepts of bailment, pledge, and hypothecation share
similarities but differ significantly in purpose, rights, and
obligations:

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1. Purpose:
 Bailment involves the transfer of goods for
safekeeping or a specific purpose without security for
debt.
 Pledge involves the transfer of goods as security for a
debt or obligation.
 Hypothecation involves using goods as security for a
debt without transferring possession.
2. Transfer of Possession:
 In bailment, possession is transferred for a temporary
purpose.
 In a pledge, possession is transferred as collateral.
 In hypothecation, possession remains with the
debtor.
3. Ownership:
 In all three cases, ownership remains with the original
owner.
4. Legal Provisions:
 Bailment is governed by Sections 148-171 of the
Indian Contract Act.

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 Pledge is governed by Sections 172-181.

 Hypothecation is governed under the Securitisation
and Reconstruction of Financial Assets and
Enforcement of Security Interest Act, 2002.
5. Remedies for Default:
 In bailment, there is no provision for sale in case of
default.
 In a pledge, the pawnee can sell the goods after
providing notice.
 In hypothecation, the creditor may seize the goods
through legal enforcement.
Agency
Agency, as defined under the Indian Contract Act, 1872,
governs the relationship between a principal and an agent. An
agent is a person authorized to act on behalf of another, known
as the principal, in dealings with third parties. This relationship
is based on the principle of vicarious liability, where the acts of
the agent bind the principal, provided the agent acts within the
scope of authority granted to them. Agency forms an integral
part of commercial law, as it facilitates business transactions by

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enabling principals to conduct business through

representatives.
(I) Essentials of an Agency
For a valid agency relationship to exist, certain essential
elements must be present:
1. Principal and Agent Relationship:
 The relationship between the principal and agent
arises out of a contract. The principal must have the
legal capacity to contract, as the agent’s actions bind
the principal. However, the agent does not need to
have full contractual capacity; even minors can act as
agents.
2. Consent:
 Mutual consent between the principal and the agent
is crucial. The consent can be express (written or
spoken) or implied (arising from conduct or
circumstances).
3. Competence of the Principal:
 The principal must be of sound mind and attain the
age of majority. This is because the actions of the

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agent will bind the principal in contracts with third

parties.
4. Authorization:
 The agent must be authorized by the principal to act
on their behalf. The authority can be specific
(restricted to certain acts) or general (encompassing a
wide range of acts).
5. Purpose:
 The purpose of the agency relationship must be
lawful. Any agreement that facilitates illegal activities
is void.
6. Good Faith and Loyalty:
 An agent is obligated to act in good faith and in the
best interests of the principal. This fiduciary duty is a
cornerstone of the agency relationship.
7. Consideration Not Essential:
 Under Indian law, the existence of consideration is
not necessary to establish an agency relationship.
Gratuitous agencies, where the agent acts without
remuneration, are valid.

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(II) Kinds of Agents and Agencies

Agents and agencies can be classified based on the nature of
authority, the role performed, and the scope of their duties:
1. Kinds of Agents:
(a) General Agent:
 A general agent is authorized to act on behalf of the
principal in all matters concerning a specific business
or trade. For example, a manager of a store is a
general agent for the store’s owner.
(b) Special Agent:
 A special agent is appointed to perform a specific act
or transaction. Once the act is performed, the agency
relationship terminates. For example, appointing
someone to sell a house.
(c) Sub-Agent:
 A sub-agent is appointed by an agent to perform a
part of their duties. The appointment of a sub-agent
requires the principal’s consent unless necessitated
by the ordinary course of business.
(d) Co-Agent:

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 Co-agents are multiple agents appointed to perform

the same duties jointly or severally.
(e) Del Credere Agent:
 This agent acts as a guarantor for the principal,
ensuring that third parties perform their obligations
under a contract.
(f) Broker:
 A broker is an intermediary who negotiates and
arranges contracts for the principal without taking
possession of the goods.
(g) Auctioneer:
 An auctioneer is an agent employed to sell property
at auctions, acting as the principal’s agent until the
property is sold.
2. Kinds of Agencies:
(a) Express Agency:
 This arises when the principal explicitly appoints an
agent through a written or spoken agreement.

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(b) Implied Agency:

 This arises from the conduct or relationship between
the principal and the agent, such as in partnerships or
familial contexts.
(c) Agency by Necessity:
 This occurs when circumstances compel a person to
act as an agent to protect another’s interests. For
example, a shipmaster selling goods to prevent
spoilage during a voyage.
(d) Agency by Estoppel:
 If a principal’s actions or representations lead a third
party to believe that a person is their agent, the
principal cannot deny the existence of the agency
relationship.
(e) Agency by Ratification:
 When a person acts without authority, and the
principal subsequently ratifies the act, an agency
relationship is established retrospectively.
(III) Distinction Between Agent and Servant
Though both agents and servants act on behalf of others, their
roles, responsibilities, and legal implications differ:

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1. Nature of Work:
 An agent’s primary role is to establish contractual
relations between the principal and third parties,
whereas a servant performs tasks under the direct
supervision and control of their employer.
2. Authority:
 Agents exercise a degree of discretion in their actions,
while servants follow the detailed instructions of their
employer.
3. Liability:
 In agency relationships, the principal is bound by the
agent’s actions. In employer-servant relationships,
the employer is liable only for acts performed by the
servant in the course of employment.
4. Employment Relationship:
 A servant’s role is typically long-term and involves a
master-servant relationship, while an agency is often
task-specific and contractual.
5. Representation:
 An agent acts as a representative of the principal and
can bind the principal in contracts. A servant does not

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have the authority to represent or bind the employer

legally.
(IV) Various Methods of Creation of Agency
Agencies can be created in several ways, depending on the
intention of the parties and the circumstances:
1. Express Agreement:
 An agency can be created through an express
agreement where the principal appoints an agent in
writing or orally. This is the most common method of
creating an agency.
2. Implied Agreement:
 Implied agencies arise from the conduct of the parties
or the nature of their relationship. For example, a
partner in a firm acting on behalf of the other
partners.
3. Agency by Necessity:
 In situations where urgent action is required to
protect the principal’s interests, an agency by
necessity may arise. For instance, a carrier selling
perishable goods to prevent their spoilage.
4. Agency by Estoppel:

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 When a principal’s actions lead a third party to

believe that an agency relationship exists, the
principal is estopped from denying it, even if no
formal agreement exists.
5. Agency by Ratification:
 If a person acts without authority but the principal
later ratifies the act, the agency relationship is
established retrospectively. Ratification must cover
the entire act and not just a part of it.
6. Statutory Agency:
 In some cases, agency relationships are created by
statute, such as a company’s directors acting as
agents of the company.
7. Agency by Operation of Law:
 In certain relationships, such as those between
partners or spouses, agency may arise automatically
by operation of law.

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UNIT 3rd : Sale of Goods

Sale of Goods Act
The Sale of Goods Act, primarily derived from the Indian
Contract Act of 1872 and later consolidated under the Sale of
Goods Act, 1930, governs contracts concerning the sale and
purchase of goods. This legislation is a cornerstone of
commercial law in India, regulating transactions and ensuring
fairness between buyers and sellers. Below, we will discuss in
full detail the four critical aspects related to the sale of goods:
the concept of sale, the essentials of a contract of sale, implied
conditions in a contract of sale, and the rights of an unpaid
seller.
(I) Concept of Sale
A "sale" in legal terms refers to a contract wherein the seller
transfers or agrees to transfer ownership of goods to the buyer
for a monetary consideration, known as the price. This concept,
enshrined under Section 4 of the Sale of Goods Act, 1930,
delineates the nature and scope of a sale contract.
The concept of a sale can be analyzed under the following
components:
1. Transfer of Ownership: Ownership, or property rights, are
transferred from the seller to the buyer. It is essential to

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distinguish between a contract of sale and a contract for

work and labor. For instance, in a sale, the focus is on
transferring ownership of goods rather than the services
associated with their creation or modification.
2. Two Parties: There must be two distinct entities: a seller
and a buyer. The seller cannot sell goods to themselves.
This principle underscores the necessity of a bilateral
relationship in sale contracts.
3. Monetary Consideration: The price in a sale must be
expressed in monetary terms. While other forms of
consideration, like a barter exchange, are valid under
contract law, they do not fall under the definition of a sale
under this Act.
4. Goods: The subject matter of the sale must be tangible
goods. Goods are defined broadly under Section 2(7) of
the Act and include every kind of movable property,
excluding actionable claims and money.
5. Present or Future Goods: A sale may involve goods that
exist at the time of the contract (present goods) or goods
that will come into existence in the future. A contract for
future goods is classified as an agreement to sell, which
becomes a sale once the goods are ascertained and
ownership is transferred.

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The concept of a sale not only facilitates commerce but also

ensures legal clarity in ownership transfers, protecting the
rights of both parties. The importance of a sale extends to
defining tax liabilities, determining insurance responsibilities,
and settling disputes over ownership.
(II) Essentials of a Contract of Sale
For a contract of sale to be valid and enforceable under the Sale
of Goods Act, it must meet certain essential requirements:
1. Competent Parties: Both the buyer and seller must be
competent to contract as per the Indian Contract Act,
1872. This means they must be of legal age, sound mind,
and not disqualified by law.
2. Offer and Acceptance: A valid contract of sale begins with
an offer by one party and its acceptance by another. The
offer must relate to the sale or transfer of ownership of
goods.
3. Lawful Consideration: The price, or consideration, must be
lawful. It must not involve any illegal or immoral activities.
4. Goods as Subject Matter: The contract must concern
goods as defined under Section 2(7) of the Act. This
excludes immovable property and intangible rights.

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5. Mutual Consent: The contract must be entered into with

the free consent of both parties. Coercion, undue
influence, fraud, misrepresentation, or mistake renders
the contract voidable.
6. Transfer of Ownership: A defining element of the sale is
the transfer of ownership. The agreement must explicitly
or implicitly indicate the intent to transfer property in
goods from the seller to the buyer.
7. Certainty of Terms: The terms of the contract, including
the description of goods, price, and mode of payment,
must be clear and certain. Ambiguity can render the
contract void.
8. Compliance with Legal Formalities: While most sale
contracts are oral, some require written agreements. For
example, contracts exceeding a specified monetary value
may necessitate documentation.
Each essential element ensures the validity of the sale contract
and protects the interests of the parties involved. The lack of
any of these essentials may result in the contract being deemed
invalid or unenforceable.

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(III) Implied Conditions in a Contract of Sale

Implied conditions are unstated terms that the law presumes to
exist in every contract of sale. These conditions ensure fairness
and protect the buyer’s interests. Key implied conditions
include:
1. Condition as to Title: Under Section 14(a), the seller must
have a valid title to the goods and the right to sell them.
Any defect in the title can invalidate the sale.
2. Condition as to Description: Goods sold must correspond
with the description provided by the seller. This condition
protects buyers from deceptive practices.
3. Condition as to Quality or Fitness: Section 16 outlines that
goods must be fit for the purpose the buyer has
communicated to the seller. If the buyer relies on the
seller’s expertise, the seller must ensure the goods meet
the stated purpose.
4. Condition as to Merchantable Quality: Goods must be of
merchantable quality—fit for the purpose for which such
goods are generally used. Hidden defects or substandard
quality violate this condition.

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5. Condition as to Sample: When goods are sold by sample,

the bulk must correspond with the sample in quality. Any
discrepancy is a breach of this implied condition.
These conditions, unless expressly waived by the buyer, form
the backbone of the sale contract. Their breach entitles the
buyer to reject the goods or seek damages.

(IV) Unpaid Seller and His Rights

An unpaid seller is defined under Section 45 as a seller who has
not received the price in full or whose payment instrument has
been dishonored. The rights of an unpaid seller are divided into
rights against the goods and rights against the buyer:
1. Rights Against the Goods:
 Right of Lien: The unpaid seller can retain possession
of the goods until payment is made.
 Right of Stoppage in Transit: If the buyer becomes
insolvent, the seller can stop the goods in transit and
reclaim possession.
 Right of Resale: The seller can resell the goods if the
buyer defaults in payment, provided certain
conditions are met.

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2. Rights Against the Buyer:

 Right to Sue for Price: If ownership has transferred to
the buyer, the seller can sue for the price.
 Right to Sue for Damages: The seller can claim
damages for non-acceptance of goods or breach of
contract.
The unpaid seller’s rights are critical in ensuring financial
security and protecting their interests in commercial
transactions. These rights provide legal recourse and help
maintain balance in contractual relationships.

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Unit 4th : Partnership – Basic Concept and Fundamental

Principles.
Partnership: Basic Concept and Fundamental Principles
Partnership is a significant area within the law of contract in
India, governed primarily by the Indian Partnership Act, 1932. It
provides a framework for individuals to come together and
conduct business with mutual rights and responsibilities. This
document elaborates on the definition, essentials, agreement,
and related concepts of partnership in detail, providing a
comprehensive understanding of its legal framework.
Definition and Essentials
Definition: Section 4 of the Indian Partnership Act, 1932 defines
a partnership as “the relation between persons who have
agreed to share the profits of a business carried on by all or any
of them acting for all.” This definition highlights three key
elements of a partnership:
1. Agreement: A partnership arises from a mutual agreement
between two or more parties. Unlike other relationships
like co-ownership, a partnership does not exist by mere
operation of law.
2. Profit Sharing: The agreement must include provisions for
sharing the profits (and losses) of the business.

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3. Mutual Agency: Each partner acts as an agent for the

others and the firm. This principle of mutual agency is
central to the partnership relationship, as it signifies
shared authority and liability.
Essentials of a Partnership:
1. Existence of an Agreement: The foundation of a
partnership lies in a valid agreement. The agreement may
be oral, written, or implied, but it must indicate the
intention to form a partnership.
2. Number of Partners: The minimum number of partners is
two. The maximum limit, under Section 464 of the
Companies Act, 2013, is 50 in most cases.
3. Lawful Business: The partnership must involve a lawful
business activity. An agreement to conduct illegal activities
does not constitute a valid partnership.
4. Profit Sharing: There must be an arrangement to share
profits among partners. However, sharing profits alone
does not establish a partnership; the intention to form a
partnership must also be present.
5. Mutual Agency: Each partner must have the authority to
act on behalf of the firm, binding all partners by their
actions.

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6. Competence to Contract: All partners must be competent

to enter into a contract as per Section 11 of the Indian
Contract Act, 1872. Minors, while unable to form a
partnership, can be admitted for the benefits of the
partnership.
Agreement
A partnership is rooted in an agreement, which is the
cornerstone of this business relationship. Let us delve into the
components and nuances of such agreements:
(a) Deed of Partnership
A partnership deed is a written document that outlines the
terms and conditions governing the relationship between
partners. Although not mandatory, having a written deed helps
in avoiding disputes and ensures smooth functioning. It
typically includes the following:
 Name and Address of the Firm and Partners: Specifies the
identity of the partnership.
 Nature of Business: Defines the scope and activities of the
firm.
 Capital Contributions: Details the financial contributions
of each partner.

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 Profit and Loss Sharing: Specifies the ratio for sharing

profits and losses.
 Duties and Responsibilities: Defines the roles and
obligations of each partner.
 Dispute Resolution Mechanism: Provides a framework for
resolving conflicts.
The deed is usually registered with the registrar of firms,
although registration is optional under the Indian Partnership
Act.
(b) Interpretation of Agreement
The interpretation of a partnership agreement is crucial to
determine the rights and obligations of the partners. Courts
generally adopt a holistic approach, considering the intent of
the parties, the language used in the agreement, and
surrounding circumstances. Key principles include:
1. Literal Interpretation: Words are given their ordinary
meaning unless they lead to ambiguity.
2. Intention of Parties: The court seeks to ascertain the real
intention behind the agreement.
3. Conduct of Parties: The actions of the partners can
indicate how they understand the terms of the agreement.

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4. Usage and Custom: Established customs in the trade or

business may influence the interpretation.
(c) Devolution of Business
Devolution refers to the transfer of the partnership business
upon the death, retirement, or insolvency of a partner. The
rules for devolution include:
1. Continuity Clause: Many partnership agreements include a
provision for the continuation of the firm despite the exit
of a partner.
2. Settlement of Accounts: In the absence of such a clause,
the firm is dissolved, and the accounts are settled
according to the provisions of the Indian Partnership Act.
3. Admission of Legal Representatives: Legal heirs of the
deceased partner may be admitted into the firm with the
consent of the remaining partners.
4. Liability of Retiring Partners: Retiring partners remain
liable for obligations incurred before their retirement
unless expressly discharged by creditors.

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(d) Joint Venture

A joint venture is a temporary partnership formed for a specific
purpose or project. While similar to a partnership, a joint
venture has distinct characteristics:
1. Scope and Duration: Joint ventures are limited to a
specific objective and dissolve upon its completion.
2. Separate Legal Identity: Partners in a joint venture may
maintain their individual legal identities.
3. Profit and Loss Sharing: Similar to partnerships, profits
and losses are shared as per the agreement.
4. Legal Framework: While the principles of partnership law
apply, joint ventures are often governed by a separate
agreement tailored to the unique project.
5. Non-continuity: Unlike traditional partnerships, a joint
venture is not intended for ongoing business operations.
FIRM
(a) Firm Name
A firm name refers to the name under which the business of a
partnership is carried on. It is not the name of the individual
partners but the name they choose to represent their collective
enterprise. This name is critical in the business world as it

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identifies the firm in dealings with third parties. The firm name
is commonly used for transactions, signing contracts, and legal
documentation.
Under the Indian Partnership Act of 1932, a partnership firm is
not a separate legal entity from the partners; therefore, the
firm's name is not a distinct entity. Partners are personally
liable for the actions taken under the firm’s name. A firm name
is, however, crucial for its operation, as it denotes the business
identity.
In Ramaswamy Iyer and Sons v. Ayyaswamy, the Supreme
Court of India observed that the name under which the firm
operates is crucial in determining its identity and in cases of
disputes regarding the rights and liabilities of the firm.
The firm name can be a combination of the names of the
partners or any name that is agreed upon between them.
However, it cannot be misleading or infringe upon the rights of
another business or entity. The partners must ensure that the
chosen name complies with the regulations stipulated under
the Indian Partnership Act, 1932, and does not violate
trademarks or any other intellectual property laws.
Additionally, it’s important to note that the partnership firm,
under the Indian context, has to register with the Registrar of
Firms if it wishes to take advantage of legal benefits like the

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protection of the firm name, easy settlement of disputes, and

official recognition of the business. Registration is not
mandatory but is highly recommended.
(b) Partnership and Co-Ownership
Partnership and co-ownership are two distinct legal concepts
that have specific implications in the law of contract. A
partnership, governed by the Indian Partnership Act, 1932,
involves a contract between two or more persons who agree to
share the profits and losses of a business. On the other hand,
co-ownership typically refers to the joint ownership of
property, where two or more persons hold the ownership of
the property together, without the necessity of engaging in a
business.
In a partnership, there must be an agreement that creates
rights and obligations between the partners. This agreement is
not necessarily written but may be inferred from the actions or
conduct of the parties. Co-ownership, however, does not
require the parties to engage in a business activity. Co-owners
do not share profits from a business, but simply hold an
undivided interest in the property.
A key difference lies in the fact that in partnership, the
relationship is built around mutual participation in a business
venture, with the objective of generating profits. The profits are

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distributed according to the partnership agreement, whereas in

co-ownership, the profits do not arise from business activities
but from the appreciation or rental income of the property.
In D. C. R. K. Satyanarayana v. D. C. R. R. Krishnan, the Supreme
Court clarified that the nature of the agreement, whether
partnership or co-ownership, determines the legal relationship
between the parties. The court emphasized that in the case of a
partnership, the aim is to share profits, whereas, in co-
ownership, the primary aim is to hold property jointly.
(c) Partnership and Joint Family
The relationship between partnership and joint family is
another nuanced concept under Indian law. The Hindu Joint
Family business, governed by Hindu law, is often confused with
partnership. However, there are significant distinctions
between them.
A Hindu Joint Family is formed automatically by the birth of a
member into the family, and the family business is usually
managed by the head of the family (Karta). In contrast, a
partnership requires a voluntary agreement among individuals
to join together for a business venture. The Hindu Undivided
Family (HUF) is governed by the Mitakshara school of Hindu
law, which does not require formal documentation, unlike a
partnership which mandates a written agreement.

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One of the key points of difference is the liability of the

members. In a partnership, all partners are jointly and severally
liable for the debts and obligations of the business. However, in
a Hindu Joint Family, the liability of the Karta is unlimited, but
the liability of the coparceners (other members of the family) is
limited to their share in the family property.
In the case of CIT v. Raghunandan Prasad, the Supreme Court
of India clarified that the Hindu Joint Family business is distinct
from a partnership because it is based on family relations,
whereas a partnership is based on mutual consent and the
intention to conduct business with the objective of profit.
The distinction is essential because of the different legal
frameworks under which the two entities operate, and because
a Hindu Joint Family business may not need to formally register
as a partnership to enjoy certain legal rights.
(d) Partnership and Company
A partnership and a company are distinct entities, both in terms
of structure, operation, and legal status. A partnership is an
unincorporated association of two or more persons who agree
to carry on a business together. The partners share profits,
liabilities, and risks. However, a company, as defined under the
Companies Act, 2013, is a separate legal entity from its

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shareholders and has a more structured and regulated

framework.
A major difference is the liability of the owners. In a
partnership, the liability of the partners is unlimited, meaning
they are personally liable for the debts and obligations of the
business. However, in a company, the liability of the
shareholders is limited to the extent of their shareholding in
the company.
Additionally, the formation of a company involves a more
formal process, including the registration with the Registrar of
Companies and the drafting of a memorandum and articles of
association, which outline the company's objectives and
internal governance. In contrast, a partnership can be formed
with minimal documentation, and partners are free to decide
on the terms of their agreement.
In the case of Salomon v. Salomon & Co. Ltd., the House of
Lords established the principle of separate legal personality,
which remains the cornerstone of company law in India as well.
The case emphasized that a company is a distinct entity from its
members, unlike a partnership where the business is not
separate from the partners.

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(e) Duration of Firm

The duration of a firm refers to the period for which the
partnership exists. This can be either fixed or indefinite. The
partners may agree on a fixed duration for the business, or the
partnership may be formed without specifying a time period, in
which case it will continue until the partners decide to dissolve
it.
Under the Indian Partnership Act, a partnership may be
terminated by mutual consent, the expiration of the agreed
duration, or the achievement of the objective for which the
partnership was formed. In the absence of a partnership
agreement, the duration is indefinite.
If the partnership has a fixed duration, it will automatically
dissolve at the end of the term, unless the partners agree to
extend it. In cases where the partnership has no fixed duration,
it continues until one of the partners decides to dissolve it,
typically by giving notice to the other partners.
In Srinivasa v. Rajaram, the Supreme Court of India dealt with
the issue of partnership dissolution and clarified that the terms
of the partnership agreement, including the duration, govern
the dissolution process.

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This brings into focus the flexibility of partnership agreements

in terms of duration, offering a degree of freedom for the
partners to manage the longevity of the business venture
according to their preferences and business strategies.
IV) Sharing of Profit
The concept of sharing of profits is one of the key principles of
partnership. It is an essential feature of the relationship
between partners. Under Section 4 of the Indian Partnership
Act, 1932, a partnership is defined as the relationship between
persons who have agreed to share the profits of a business
carried on by all or any of them acting for all. This section
emphasizes that the partnership exists because of the
agreement to share profits and losses, and therefore, the
sharing of profits is foundational to the partnership structure.
Nature of Profit Sharing
The sharing of profits can be done in various ways, as per the
partnership agreement. The agreement between the partners
often outlines the specific percentage of profit each partner is
entitled to. In the absence of such an agreement, Section 13 of
the Partnership Act provides that profits and losses shall be
shared equally among the partners. The sharing ratio of profits
is not mandatory and can be negotiated according to the
understanding and contribution of each partner.

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For instance, if a partner contributes more capital or brings

more experience to the partnership, they may be entitled to a
greater share of the profits. The profit-sharing ratio is,
therefore, often determined by the mutual agreement of the
partners and should reflect the nature of their respective
contributions, whether financial, intellectual, or managerial.
Legal Implications of Profit Sharing
The sharing of profits also has legal implications in the
partnership. The partners are bound by the terms of the
partnership agreement regarding the distribution of profits. If
there is no agreement in writing, the law treats the partners as
having agreed to share profits equally. In case of disagreement
or dispute regarding the profit-sharing ratio, the partners can
resolve it by referring to the partnership agreement, if
available, or can take the matter to court for judicial
interpretation.
In some cases, partners may not share the profits equally, for
example, in cases where one partner provides capital and
another provides expertise. This unequal sharing arrangement
must, however, be clearly outlined in the partnership deed to
avoid future conflicts.

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Case Law: Lalchand v. J.S. Rathi & Co.

In the case of Lalchand v. J.S. Rathi & Co. (AIR 1954 SC 109),
the Supreme Court of India clarified that the sharing of profits
in a partnership must follow the terms of the partnership deed.
If there is no written agreement, the court will apply the default
provision under the Indian Partnership Act, which is equal
sharing of profits.
Furthermore, the court emphasized that the profit-sharing ratio
is crucial because it reflects the understanding and intention of
the partners regarding the division of returns from the business
venture. The legal validity of the partnership agreement heavily
relies on the clarity of profit-sharing terms.
Tax Implications
In terms of taxation, the profits of a partnership are not taxed
at the entity level. Instead, each partner’s share of the profits is
taxed as personal income, in accordance with the income tax
laws of India. Hence, the ratio of profit-sharing has a direct
effect on the partners' tax obligations.
V) Mutual Agency
The principle of mutual agency is another core element of the
partnership. In any partnership, each partner acts as both an
agent and a principal. In other words, each partner has the

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authority to represent the partnership and bind it in contractual

obligations. This principle is outlined in Section 18 of the Indian
Partnership Act, 1932, which states that the act of a partner
binds the firm in relation to third parties, as long as the act is
done in the course of the firm's business.
Nature of Mutual Agency
Mutual agency implies that the actions of one partner, when
performed within the scope of the partnership business, are
legally binding on all other partners and the partnership itself.
The partners, therefore, not only share profits but also share
the responsibility of actions taken on behalf of the business.
For example, if one partner enters into a contract with a
supplier for the business, the other partners are also bound by
the terms of the contract. Similarly, if a partner takes a loan in
the name of the partnership, the other partners are equally
liable for the repayment, unless the partners have specifically
excluded such actions in their partnership agreement.
Legal Implications of Mutual Agency
The principle of mutual agency has several legal consequences:
 Binding Effect: Each partner’s actions are binding on all
partners in relation to third parties, provided that the
actions are within the scope of the partnership business.

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However, if a partner acts outside the scope of the

business or exceeds the authority given to them, the
partnership may not be bound by such actions unless they
are ratified by the other partners.
 Joint Liability: The principle also implies joint liability for
the acts of the partners. This means that if one partner
incurs a debt in the course of business, the other partners
are liable for repaying it. This principle of joint liability
ensures that the partnership operates as a collective
entity, where each partner’s actions affect the partnership
as a whole.
 Power to Bind the Firm: In the course of business, each
partner has the power to bind the firm and other partners
through their actions. The partners are, therefore, agents
of each other, and the firm is jointly responsible for all acts
carried out by any of its partners within the agreed scope
of the business.
Exceptions to Mutual Agency
While mutual agency is the general rule, there are certain
exceptions. These include:
 Acts outside the business scope: If a partner engages in an
act that is not within the scope of the partnership

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business, the firm will not be bound by such an act unless

the other partners ratify it.
 Authority limitations: The partnership agreement may
limit a partner's authority to act or may specify the types
of actions that require unanimous consent from all
partners. If a partner acts in violation of these limitations,
the partnership may not be bound by their actions.
 Authority to represent the partnership: Some partners
may not have the authority to bind the firm in specific
situations, especially if the partnership agreement
specifies that particular decisions must be made
collectively by the partners or by a majority.
Case Law: Badridas Daga v. Gokuldas Daga & Co.
In the case of Badridas Daga v. Gokuldas Daga & Co., the
Supreme Court held that the act of a partner, when done within
the ordinary course of business, binds all the partners of the
firm. The court emphasized that mutual agency is a
foundational principle in a partnership and cannot be
disregarded unless the partnership agreement specifically
excludes the actions of certain partners or limits their authority
in a manner contrary to this principle.

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Duties of Partners under Mutual Agency

Each partner, under the mutual agency principle, has certain
duties and responsibilities:
 Duty of Loyalty: Partners are expected to act in good faith
and prioritize the interests of the partnership over
personal gain. They must not engage in activities that
would compete with the partnership business.
 Duty of Care: Partners must act with the level of care and
skill that a reasonable person would exercise in conducting
business. They must not engage in actions that could
jeopardize the partnership’s interests.
 Duty to Account: Partners must keep accurate records of
transactions and must provide a full accounting of their
actions and decisions made in the course of business.
Real Relationship of Agency and Non-Partner Interests
1. Joint Owners Sharing Gross Returns (Non-Partner
Relationship)
When two or more persons own property jointly, they may
sometimes share the gross returns or profits from that
property. However, merely sharing the returns does not create
a partnership unless there is an intention to form one. In

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partnership law, the fundamental concept is the intention to

carry on business together, with the aim of sharing profits.
A common situation involves joint owners of property, where
the property itself generates income (such as rents or
dividends). These individuals may agree to share the income
from the property but this sharing does not necessarily imply a
partnership unless they are also engaged in a business activity
together. The important legal question is whether their
relationship goes beyond that of a mere joint ownership of the
property into a partnership, which requires the elements of
mutual agency and sharing of profits.
In G.P. Singh v. G.P. Sharma (1962), the court held that sharing
of gross returns alone does not create a partnership unless the
parties are in the business of jointly conducting a commercial
enterprise. Simply owning property and sharing its income does
not make individuals partners. This case reinforced the idea
that the intention to carry on a business, combined with the
sharing of profits, is necessary to form a partnership.
2. Lender of Money Receiving Profits (Non-Partner
Relationship)
The second type of non-partnership relationship to consider is
when a person lends money to another party and in return
receives a portion of the profits. This situation can lead to

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confusion because the lender might receive a share of profits,

but this does not mean they are automatically a partner in the
business.
According to the Indian Partnership Act, the sharing of profits
by itself does not establish a partnership unless there is an
agreement to carry on business together. This principle is
illustrated in K.C. Roychoudhury v. T.C. Maity (1967), where it
was held that a lender who receives profits as part of an
agreement is not a partner unless the lender’s involvement in
the business is also based on a mutual agency relationship. The
key distinction here is that the lender’s interest is limited to the
return on the capital lent, not a share in the profits of the
business as a partner.
Thus, the lender’s relationship with the business remains one of
creditor and debtor, not one of partnership, unless additional
factors such as mutual agency and control of the business are
established.
3. Servants or Agents Receiving Profits (Non-Partner
Relationship)
Another key point in partnership law is the relationship of
servants or agents who might receive a share of the profits of a
business. In some cases, employees may be compensated not
just by salary, but also by a percentage of the profits. This can

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lead to confusion regarding whether the servant or agent is a

partner.
The Indian Partnership Act, 1932 makes it clear that an agent
or servant receiving a share of profits does not automatically
become a partner. The defining feature of a partnership is the
intention of the parties to engage in a business with mutual
agency and profit-sharing. In the case of a servant or agent
receiving a share of profits, their relationship remains one of
employer-employee or principal-agent, not a partnership.
This was illustrated in Union of India v. Satyabadi
Bhattacharjee (1961), where the court held that an employee
receiving a share of profits is not a partner unless there is
evidence of a partnership agreement and mutual agency. The
servant’s role is typically limited to performing services, while
the profits are a form of additional remuneration, rather than a
partnership interest.
4. Widow or Child of Deceased Partners
Another complex situation arises when a partner dies, and their
widow or children seek to claim a share in the business. It is
crucial to differentiate between the legal rights of the deceased
partner’s heirs and the rights of a partner.

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Under the Indian Partnership Act, the legal heirs of a deceased

partner do not automatically become partners in the business
unless there is an explicit agreement to this effect. The heirs
may be entitled to a share in the deceased partner’s estate, but
they do not have the authority to manage or participate in the
partnership unless they agree to join the business as partners.
The partnership can be dissolved or continued by the remaining
partners, and the deceased partner’s estate will be settled
according to the provisions of the partnership deed.
This principle was reaffirmed in M.C. Chockalingam v. K.
Kuppusamy (1966), where the court emphasized that the
widow or children of a deceased partner can only be made
partners if there is a clear agreement, and they are subject to
the same obligations and liabilities as other partners.
5. Seller of Goodwill (Non-Partner Relationship)
The last situation to consider is the sale of goodwill. Goodwill is
the intangible value of a business, and when it is sold, the seller
may receive a portion of the profits generated by the business
after the sale. However, selling goodwill does not imply a
partnership relationship.
In R.L. Malhotra v. G.P. Gupta (1972), the court made it clear
that the sale of goodwill is distinct from becoming a partner in a
business. When a person sells their interest in the goodwill of a

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business, they no longer have a right to share in the business

profits unless they are specifically made a partner through an
agreement.
This case highlights that while the sale of goodwill may involve
ongoing payments or shares in profits, it does not create a
partnership unless there is a separate agreement that
specifically acknowledges the buyer as a new partner.

Mutual Relationship of Agency and Non-Partner

A. Duties of Partners
I) Duty Not to Compete
One of the fundamental duties a partner owes to the firm is the
duty not to compete. This duty prohibits partners from
engaging in activities that directly compete with the firm’s
business or interests. The purpose of this duty is to ensure that
a partner’s actions do not undermine the profitability and
success of the partnership, as well as to prevent conflicts of
interest.
In legal terms, a partner is bound to act in the best interests of
the firm, and any activity that competes with the business
could be seen as a breach of this fiduciary duty. Under Section

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16 of the Indian Partnership Act, partners are restricted from

engaging in any business that is in competition with the
partnership without the consent of the other partners. If a
partner breaches this duty, they can be held liable for any loss
caused to the partnership.
The case of Sundararamier & Co. v. V. P. A. Ramaswami Iyer
(1967) 2 S.C.R. 653 is a classic example where the Supreme
Court emphasized that any partner who engages in a
competing business without the consent of the firm is liable to
account for any profits derived from such activity. This rule
exists to ensure fairness among partners, as each partner’s
contributions are meant to advance the collective business, not
individual interests.
II) Duty of Diligence
The duty of diligence requires each partner to act with
reasonable care and skill in managing the affairs of the
partnership. This duty implies that a partner must execute their
responsibilities competently and with the due care expected of
someone in a similar business environment. It encompasses not
only fulfilling tasks assigned within the firm but also proactively
engaging in the firm’s operations to ensure its success.
In K.S. Venkataraman & Co. v. State of Madras (1957) 1 MLJ
212, the Court ruled that negligence or lack of diligence can

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lead to the partner being personally liable for any losses

incurred by the firm. The duty to act with diligence is seen as an
essential part of the fiduciary relationship between the
partners. A partner is required to ensure that their actions align
with the best interests of the firm, using their skills and
expertise to enhance the firm’s performance.
III) Duty to Indemnify for Fraud
This duty is critical to the integrity of the partnership, as it holds
each partner accountable for their actions that might harm the
firm. If a partner commits any fraudulent act, they are required
to indemnify the firm for any losses caused by such acts. This
includes not only actions that are fraudulent in nature but also
those that are illegal, dishonest, or unethical. The principle
behind this duty is to protect the firm from the wrongful
actions of a partner.
The case of M/s. Mohanlal & Sons v. The New India Assurance
Co. Ltd. (1969) 2 SCC 207 deals with instances where partners’
fraudulent actions led to significant losses for the firm. In such
cases, the offending partner must compensate the firm for the
full amount of the loss. The doctrine ensures that other
partners, who have acted in good faith, are not financially
burdened by the fraudulent activities of one member.

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IV) Duty to Render True Accounts

Every partner is bound to render true and full accounts of the
firm’s financial dealings. The duty to render true accounts is
intrinsic to the fiduciary relationship and requires transparency
in the management of the firm’s affairs. This duty encompasses
both the obligation to maintain accurate financial records and
the obligation to disclose any personal financial interests that
might affect the firm’s operations.
In Tulsidas v. Bibi (1937) 39 Bom. L.R. 23, the Court stated that
a partner is required to provide accurate accounts of the firm’s
assets and liabilities, including the sharing of profits and losses.
If a partner refuses or fails to comply with this duty, the firm
has the right to seek legal redress, and the partner may be held
liable for the breach of trust.
This duty also extends to the right of every partner to inspect
the books of the firm at any time, thus ensuring that no partner
can hide information or misappropriate funds. The accuracy of
accounts is crucial to maintain fairness, transparency, and trust
among the partners.
V) Proper Use of Property
The duty to properly use the property of the firm is another
essential fiduciary duty. Partners must ensure that the property

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owned by the partnership is used solely for the purpose of the

firm’s business and not for personal gain. The misuse of firm
property for personal interests or for purposes outside the
scope of the business can result in a partner being held liable
for any damage or loss incurred.
In C. Natarajan v. M/s. Rajaratnam & Co. (1982) 2 SCC 243, the
Court held that the misappropriation of firm property for
personal gain, such as using partnership assets for private
purposes, is a serious breach of the partnership agreement. The
partner involved in such actions can be made to account for
any profits made from the unauthorized use of the firm’s
property and could face further legal consequences.
VI) Duty to Account for Personal Profits
One of the core duties in a partnership is to account for any
personal profits made by a partner that arise from the business
dealings of the firm. This duty prevents a partner from unfairly
enriching themselves through transactions that are in the firm’s
business but are not disclosed to the other partners. If a
partner makes a personal profit through a transaction that
involves the firm’s affairs, they must account for it and share it
with the other partners.
This principle was reiterated in the case of A. Raghuramaiah v.
P. Chinnam (1984) 1 MLJ 304, where the Court ruled that

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partners must disclose and account for any personal gains

made from the firm’s activities. Failure to account for these
profits can lead to legal action for breach of the partnership
agreement, with the offending partner having to return the
profits.
B. Right of Partners
(I) Right to Take Part in Business
The right of a partner to take part in the business of the
partnership is a fundamental right that arises from the very
nature of the partnership relationship. Under Section 9 of the
Indian Partnership Act, 1932, every partner has a right to take
part in the conduct of the business. This right is essential
because partnership is based on the mutual agency principle,
where each partner is an agent of the firm and also the
principal. Thus, they are entitled to take part in the business
activities and decision-making processes, unless restricted by
the terms of the partnership agreement.
Detailed Explanation
The right to participate in the management and conduct of the
partnership business is a key feature that distinguishes a
partnership from other business structures, such as
corporations or limited liability partnerships. This right ensures
that partners are actively involved in the firm’s day-to-day

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operations, decision-making, and strategy formulation. The

active involvement of partners promotes accountability and
ensures that the interests of the partners align with the overall
goals of the firm.
However, this right is not absolute in all cases. The partnership
agreement may specify particular conditions under which a
partner can or cannot take part in the business. For example, a
partnership agreement may provide that certain partners have
limited involvement in the management, or they may be
restricted to a certain role (e.g., as a sleeping partner).
Moreover, partners have a duty to act in good faith and
exercise their right to participate in the business in a manner
that is not detrimental to the interests of the firm or the other
partners. If a partner deliberately hinders the business, acts
contrary to the firm’s interests, or engages in activities that are
detrimental to the firm’s success, the remaining partners may
seek to limit or exclude that partner’s involvement.
The right to take part in the business also involves the right to
vote on decisions relating to the firm’s operations. In the
absence of an agreement specifying otherwise, all partners
have equal voting power. Decisions are usually made based on
the majority vote, unless the agreement stipulates otherwise.

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Indian Case Law

In the case of Gurupad Khandappa Magdum v. Hirabai
Khandappa Magdum (1978), the Supreme Court of India
observed that the right to participate in the business is inherent
in the partnership agreement, and unless otherwise stipulated,
every partner has an equal right to take part in the business.
(II) Majority Rights
The majority rights in a partnership are crucial for the smooth
functioning of the partnership business. Section 12 of the
Indian Partnership Act recognizes that decisions in a
partnership are usually made by majority rule, unless the
partnership agreement specifies otherwise. This provision helps
ensure that a partnership can make decisions efficiently
without requiring unanimous consent for every action.
Detailed Explanation
In any partnership, decision-making can become cumbersome if
every partner has to agree on every issue. The majority rights
ensure that decisions are made swiftly and efficiently. Majority
rule also provides a mechanism to resolve disagreements
between partners. In case of a deadlock, where partners cannot
agree on a course of action, the majority can decide on the
matter.

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Majority rights do not give partners the license to act in ways

that undermine the partnership agreement or the interests of
minority partners. For instance, major decisions such as
admitting new partners, altering the partnership agreement, or
dissolving the partnership require unanimous consent, unless
the partnership agreement allows otherwise.
The principle of majority rule is based on the assumption that
partners act in good faith and that the majority decision reflects
the collective interests of the partnership. However, a majority
cannot act in such a way that it violates the rights of the
minority or acts outside the scope of the partnership
agreement.
For example, a decision that adversely affects the minority
partners without their consent can be challenged. In K. L.
Verma v. Union of India (1985), the court ruled that majority
rights cannot override the fundamental terms of the
partnership agreement and that such decisions must be made
within the scope of the partners’ mutual consent.
(III) Access to Books
Partners have the right to access the books of accounts and
financial records of the partnership firm. This right is enshrined
in Section 12 of the Indian Partnership Act, 1932, and is a
crucial aspect of the partnership relationship. The right to

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inspect the books of accounts ensures that each partner can

oversee the financial health and operations of the firm.
Detailed Explanation
Access to books is necessary to ensure transparency in the
partnership’s operations. Partners have the right to inspect and
take copies of the firm’s books at any reasonable time. This
right allows each partner to be informed about the financial
status of the business, including profits, losses, assets,
liabilities, and the overall financial performance. This
transparency helps in building trust among partners and
prevents any one partner from mismanaging the firm’s
finances.
Moreover, access to books also ensures that partners can
properly manage their contributions and withdrawals from the
firm, and that they are adequately informed when it comes to
decisions regarding profit-sharing. The right of access is
typically not restricted, though the partnership agreement can
specify reasonable limits or conditions for the inspection.
A partner’s right to inspect the books is also crucial in case of
disputes or when there is a need to resolve differences
regarding profit-sharing, remuneration, or other financial
matters. Partners can use their access to the books to ensure

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that the terms of the partnership agreement are being followed

and that there is no financial mismanagement.
Indian courts have consistently held that the right of access to
books is an essential aspect of the partnership. In Nagarajan v.
Krishna (2003), the court held that denying access to the books
of accounts is a breach of the fundamental rights of partners,
and such actions may lead to a legal dispute.
(IV) Right to Indemnity
A partner’s right to indemnity arises when they incur liabilities
or expenses in the course of carrying out the partnership’s
business. According to Section 16 of the Indian Partnership Act,
partners have a right to be indemnified by the firm for
expenses or liabilities incurred while acting within the scope of
the partnership's affairs.
Detailed Explanation
The principle of indemnity ensures that partners are protected
from personal financial loss while conducting the firm’s
business. If a partner is required to pay any debt, expenses, or
liabilities that are incurred in the course of partnership
business, they are entitled to seek indemnity from the firm.
This right is essential to prevent partners from bearing the
financial burden of the firm’s activities, especially when those

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activities were carried out in good faith and for the benefit of
the firm.
The indemnity right is not limited to financial liabilities. It also
includes protection against legal claims, actions, or other
obligations that arise from the partner’s actions while
conducting the business. However, this right does not extend to
situations where a partner has acted negligently, fraudulently,
or outside the scope of the partnership agreement.
The right to indemnity is crucial in maintaining the stability of
the partnership. If a partner was not indemnified, it could
discourage them from acting on behalf of the firm or taking
risks that benefit the business. In B. P. Saha v. B. P. Saha (1994),
the court emphasized that indemnity is a fundamental right
that ensures partners are not unduly burdened by their actions
for the firm.
(V) Right to Profits
The right to profits is one of the most critical rights a partner
has. Section 13 of the Indian Partnership Act provides that a
partner has a right to share in the profits of the business, in
accordance with the terms of the partnership agreement.
Detailed Explanation
Profits are the primary incentive for partners in a business

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partnership. The right to share in the profits is typically defined

by the partnership agreement. In the absence of an agreement,
partners are entitled to share profits equally, unless the nature
of their contribution justifies a different allocation. Profit-
sharing is essential for determining the economic returns each
partner receives for their investment of time, money, or skills.
The right to profits is not just limited to the distribution of
income, but also involves the right to any surplus that remains
after all expenses, taxes, and liabilities have been paid. Partners
have an obligation to contribute towards the losses of the firm,
but this does not negate their entitlement to profits.
In the event that profits are not distributed as agreed, partners
have the right to claim their share through legal means. In
Chandrika Prasad v. Radha Devi (1998), the court upheld the
principle that profit-sharing rights are fundamental to
partnership relationships and that the partnership agreement
must be adhered to unless a partner's conduct invalidates the
agreement.
(VI) Right to Interest
Partners are entitled to interest on their capital contribution
and loans advanced to the firm, as per Section 13 of the Indian
Partnership Act, 1932. However, this right to interest is

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contingent on the partnership agreement and is not

automatically granted unless specified.
Detailed Explanation
Interest on capital and loans is an essential aspect of
partnership economics. It provides an incentive for partners to
invest money into the business and ensures that they are
compensated for the use of their funds in the firm’s operations.
Typically, interest is paid on the capital invested in the business,
which incentivizes partners to maintain or increase their
contributions.
The interest rate is usually decided by the partnership
agreement. In the absence of an agreement, Indian courts have
held that interest is payable at a reasonable rate, often
calculated at the prevailing market rate of interest.
However, partners are not entitled to interest on their share of
profits unless agreed upon in the partnership agreement. The
issue of interest is crucial in cases where a partner has lent
money to the firm or made additional contributions beyond
their original capital investment.
(VII) Right to Remuneration
The right to remuneration is one of the key differences
between partners and employees in a firm. Unlike employees,

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partners are not automatically entitled to receive a salary or

remuneration for the work they perform for the firm. However,
Section 13 of the Indian Partnership Act provides for the
payment of remuneration in certain circumstances.
Detailed Explanation
Partners generally do not receive a salary for their role in the
firm’s business. However, if the partnership agreement
provides for it, partners may be entitled to receive
remuneration for their work. This is often the case in larger
firms where some partners may have more significant
managerial responsibilities or where partners contribute more
substantially to the firm’s day-to-day operations.
Without such a provision, partners can only expect to benefit
from the firm’s profits and are not entitled to a fixed salary.
Remuneration, if applicable, is typically negotiated in the
partnership agreement and is subject to the terms agreed upon
by the partners.
In K.C. Goyal v. Union of India (1990), the court held that
partners are entitled to remuneration only if specifically
provided for in the partnership agreement. This decision
reinforces the principle that remuneration is not automatically
a right of every partner.

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Unit V : Partnership - Registration, Dissolution, and Liability

1. Registration of Partnership
(I) Procedure of Registration
The registration of a partnership firm in India is governed by
the Indian Partnership Act, 1932. While the partnership act
does not make registration compulsory, it offers several
advantages for registered firms, including the ability to file suits
in courts and claim various legal privileges. Here’s a detailed
explanation of the registration process:
The procedure for registering a partnership involves filing an
application with the Registrar of Firms in the area where the
partnership is situated. The application must be filed in the
prescribed format and should include the following details:
1. Firm Name: The name under which the firm intends to
carry on its business. The name must not resemble or be
identical to another registered firm or be deceptive.
2. Principal Place of Business: The primary location where
the partnership firm conducts its business activities.
3. Details of Partners: Information about all the partners,
including their full name, address, and occupation.

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4. Date of Commencement: The date on which the

partnership was formed.
5. Partnership Deed: A partnership deed that outlines the
terms and conditions of the partnership. This includes the
profit-sharing ratio, capital contribution, duties, and
responsibilities of each partner. A copy of this deed should
be submitted to the registrar.
After preparing the necessary documents, an application is
submitted to the Registrar, who then verifies the details. If
everything is in order, the firm is registered, and the Registrar
issues a Certificate of Registration. This certificate acts as
official proof that the partnership has been registered and
recognized under Indian law.
The Partnership Act further allows for online registration in
some states, streamlining the process.
A partnership can be registered at any time, whether it is a new
firm or an already existing one. It is advisable to register the
firm soon after its formation to avoid legal complications.

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(II) Change of Particulars

Once a partnership firm is registered, there might be changes
that require updating the registrar about the particulars of the
firm. These changes can relate to the name, business address,
partners, or any other essential detail provided at the time of
registration. The procedure for changing particulars is as
follows:
1. Filing a Notice: Any change in the partnership details must
be notified to the Registrar of Firms within 30 days. The
notice must be signed by all partners, indicating the nature
of the changes.
2. Documents to be Submitted: When notifying the change,
documents such as a revised partnership deed (if
applicable), an affidavit from the partners, and any other
supporting papers should be filed.
3. Filing the Amendment: The partners need to file an
application with the Registrar, stating the change and the
reason for it. For instance, if a new partner joins, the
revised partnership deed must clearly indicate the profit-
sharing ratio and capital contributions.
4. Registrar’s Verification: After the notice is received, the
registrar examines the submission. If everything complies

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with the legal requirements, the registrar updates the

records and issues a Certificate of Change.
These changes are particularly relevant for matters such as a
new partner joining, an old partner leaving, changes in the
business premises, or alterations to the profit-sharing
agreement. The Indian Partnership Act mandates these
updates to ensure that the partnership firm’s records remain
accurate and transparent.
(III) Proof of Registration
The proof of registration serves as evidence that the
partnership firm has been legally recognized by the relevant
authorities under the Indian Partnership Act. The primary
document that serves as proof is the Certificate of Registration
issued by the Registrar of Firms.
The Certificate of Registration serves as a legal document
confirming that the firm has fulfilled the registration formalities
and is entitled to enjoy the benefits provided under the Act.
This certificate is crucial for various legal proceedings,
including:
 Filing Lawsuits: A registered partnership firm can file a
lawsuit in court, which is not permitted for unregistered

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firms. This gives the registered firm the ability to seek legal
recourse for disputes and claims.
 Claiming Rights: Registered firms have the right to claim
set-offs or file claims for set-offs in certain types of
disputes.
 Proof of Existence: For banking or financial purposes, the
registration certificate acts as proof of the existence of the
firm and its ability to open a bank account or enter into
contracts.
To prove the firm’s registration, the partners can present the
Certificate of Registration along with the Partnership Deed as
proof when required. A firm may also provide this proof when
conducting transactions with other businesses, organizations,
or government agencies.
(IV) Effects of Non-Registration
While the Indian Partnership Act does not make the
registration of a partnership compulsory, the non-registration
of a partnership firm carries significant disadvantages,
especially in terms of legal rights and enforceability. Below is a
detailed explanation of the effects of non-registration:
1. Inability to File Suits: The most critical consequence of
non-registration is that an unregistered firm cannot file a

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lawsuit in court against third parties, such as customers or

suppliers, for matters related to the business. This means
that if the firm is wronged or has a dispute, it cannot take
the matter to court unless the firm is registered. However,
partners in an unregistered firm can still file suits against
each other.
2. No Right to Claim Set-off: If an unregistered firm is
involved in a dispute where it is required to pay money to
another party, it will not be able to claim set-offs
(deductions) for any debts it owes to that party.
Registered firms, on the other hand, can offset their
liabilities in a legal suit.
3. Limited Enforcement of Rights: An unregistered
partnership cannot enforce certain rights in a court of law,
which registered firms can. This limits the scope of legal
actions available to the firm for recovering dues or
enforcing contracts.
4. Impact on Partner Liability: Non-registration can also
affect how a partner’s liability is perceived in the event of
insolvency. Unregistered firms might face difficulties in
proving the extent of a partner's liability.
5. Restriction on Credit Facilities: Many financial institutions
require firms to be registered before offering loans or

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credit facilities. Therefore, an unregistered partnership

might face obstacles when seeking financial support.
6. Hindrance in Business Operations: From a practical
standpoint, non-registration may hinder the firm's growth
and business dealings. It might not be recognized as a
legitimate entity by other businesses or governmental
bodies, reducing opportunities for expansion and
collaboration.
7. Ineligibility for Government Benefits: Certain government
schemes or benefits are only available to registered firms.
An unregistered firm may lose out on these financial or
developmental advantages.
Thus, while it is not mandatory to register a partnership firm,
doing so provides legal protection and several operational
benefits, including the ability to enforce contracts and sue or be
sued in court.
Dissolution of Partnership
Partnerships are formed by two or more individuals or entities
who agree to carry on a business with the intention of sharing
profits. However, the relationship formed in a partnership is
not necessarily permanent. There are several ways in which a
partnership can be dissolved, either by mutual consent, by

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agreement, or due to other circumstances that make the

continuation of the partnership impossible or undesirable. The
dissolution of a partnership is a critical aspect of the Law of
Contract in India, governed under the Indian Partnership Act,
1932.
The dissolution of a partnership can be broadly classified into
the following categories:
I. By Consent
Dissolution by consent refers to the voluntary termination of a
partnership when all partners mutually agree to dissolve the
partnership. This is the simplest form of dissolution, where all
parties involved come to a consensus that they no longer wish
to continue the business operations. The consent for
dissolution must be clear, unequivocal, and formalized by all
partners involved.
Legal Framework: Under Section 40 of the Indian Partnership
Act, 1932, a partnership may be dissolved by mutual consent of
all the partners. This is different from mere termination of the
business because it signifies the end of the partnership
agreement, and the partners are no longer bound by its terms.
It is crucial that all partners are in agreement about the
dissolution, and if there is any disagreement, the dissolution
cannot be enforced.

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Procedure: The procedure for dissolution by consent includes:

1. All partners must express their willingness to dissolve the
partnership.
2. A formal agreement is made in writing or orally (though it
is advisable to have it in writing for legal clarity).
3. Any liabilities or debts of the partnership must be settled
among the partners.
4. Distribution of the partnership’s assets, including goodwill,
is to be agreed upon by the partners.
Indian Case Law: In the case of Kailash Nath Associates v.
Dinesh Kumar Gupta, the Supreme Court held that the
dissolution of a partnership could be effected by mutual
consent and that all partners must agree to the dissolution. The
court also highlighted the importance of a clear written
agreement to avoid disputes in the future.
II. By Agreement
Dissolution by agreement refers to a situation where the terms
of the partnership agreement specify the conditions under
which the partnership can be dissolved. It is governed by the
terms outlined in the partnership deed, which may include
provisions for dissolution in case certain conditions are met.

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Legal Framework: Section 43 of the Indian Partnership Act,

1932 provides that a partnership can be dissolved in
accordance with the terms set out in the partnership deed. This
includes clauses for termination under specific circumstances
such as the completion of the partnership's purpose, the
expiration of the partnership’s term, or upon the occurrence of
an event that makes it impossible to carry on the business.
Types of Agreements for Dissolution:
1. Fixed-Term Agreement: The partnership is to be dissolved
after a specific period unless renewed.
2. Specific Event Clause: The dissolution occurs when a
particular event, such as the death or insolvency of a
partner, takes place.
3. Achievement of Purpose: If the business of the
partnership was formed for a particular objective (like
completing a project), the partnership can be dissolved
once that goal is achieved.
Procedure: If dissolution by agreement is included in the
partnership deed, the partners must follow the procedure
outlined in the deed. This may include notifying all concerned
parties, paying off debts, and distributing any profits or losses
according to the terms of the agreement.

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Indian Case Law: In Gajanan Moreshwar v. Moreshwar

Madan, the court held that if the partnership agreement has a
provision for dissolution upon the occurrence of a specific
event, such an event must occur for the dissolution to take
effect.
III. Compulsory Dissolution
Compulsory dissolution occurs when the partnership must be
dissolved as a result of an external event or legal order. These
types of dissolution are mandatory and occur when the law
requires it.
Legal Framework: Under Section 41 of the Indian Partnership
Act, 1932, a partnership will be compulsorily dissolved in the
following circumstances:
1. If a partner becomes insolvent.
2. If the partnership business becomes illegal due to a change
in law.
3. If the business becomes impossible to carry on due to the
death of a partner.
4. If a partner becomes incapable of performing their duties
due to mental incapacity.

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Procedure: When compulsory dissolution occurs, the partners

must:
1. Settle all debts and liabilities of the partnership.
2. Distribute the assets of the firm in accordance with the
law.
3. File for any necessary legal notices or paperwork to
dissolve the business entity.
Indian Case Law: In Dinesh Chandra v. Gopi Chand, the court
observed that compulsory dissolution could occur when a
partner becomes insolvent, and in such a case, the remaining
partners have no choice but to dissolve the firm.
IV. Contingent Dissolution
Contingent dissolution refers to the dissolution of a partnership
when certain events or conditions specified in the partnership
agreement occur. These events are contingent, meaning that
they depend on the happening of a specific event.
Legal Framework: Under Section 42 of the Indian Partnership
Act, 1932, a partnership can be dissolved upon the occurrence
of a contingency specified in the agreement between the
partners. This could include events such as the completion of a

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project, the expiration of a contract, or the occurrence of a

specified event.
Procedure: The process for contingent dissolution is governed
by the terms of the agreement, and the partners must ensure
that the contingency event occurs. Upon the occurrence of
such an event, the partnership can be dissolved following the
steps outlined in the partnership deed.
Indian Case Law: In the case of Rameshwar Lal v. Gurdial
Singh, the court held that a partnership formed for a specific
purpose or project could be dissolved as soon as that project or
purpose is completed, even if it was not explicitly mentioned in
the partnership deed.
V. By Notice
Dissolution by notice typically refers to the dissolution of a
partnership at will, where one partner may give notice to the
other partners to end the partnership. This is typically
applicable in partnerships that are not formed for a fixed period
or purpose.
Legal Framework: Section 43 of the Indian Partnership Act,
1932, also provides for the dissolution of a partnership by
notice. If the partnership is a partnership at will (i.e., not
formed for a fixed term or for a specific project), any partner

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may dissolve the partnership by providing a written notice to

the other partners.
Procedure: The notice of dissolution must be served in writing,
stating the intention to dissolve the partnership. Once the
notice is given, the partnership is dissolved immediately, unless
the partners agree otherwise.
Indian Case Law: In Chandreshwar v. Keshav Kumar, the court
clarified that in a partnership at will, one partner can dissolve
the partnership by giving notice to the other partners, and the
partnership is deemed dissolved once the notice is
communicated.
VI. Dissolution by Court
A partnership can be dissolved by a court order if it is justifiable
due to certain circumstances that make the continuation of the
partnership difficult or impossible.
Legal Framework: Section 44 of the Indian Partnership Act,
1932 provides the grounds for dissolution by the court. These
grounds include:
1. A partner being declared insane.
2. A partner becoming permanently incapable of performing
their duties.

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3. A partner is guilty of misconduct that affects the business.

4. The partnership is not able to carry on business due to
disputes between partners.
5. If the court believes that it is just and equitable to dissolve
the partnership.
Procedure: To initiate a dissolution by the court, one partner
must file a petition in court, explaining the grounds for
dissolution. The court will then hear the case, and if it finds the
grounds are sufficient, it will issue an order for dissolution.
Indian Case Law: In M/s. Rajinder & Co. v. Smt. Surinder Kaur,
the court held that a partnership could be dissolved by a court
order if a partner’s actions were found to be detrimental to the
business operations.
Limited Liability Partnership Act
(I) Object of the Limited Liability Partnership Act
The Limited Liability Partnership (LLP) Act was enacted in India
in 2008 to provide a business structure that blends the
advantages of both a partnership and a company. The object of
this Act is to establish a framework that offers a distinct legal
entity with limited liability, facilitating the creation of business
ventures while offering a more flexible management structure

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compared to traditional corporate entities. The LLP structure

allows businesses to operate in a manner that minimizes
personal liability for its members, in contrast to general
partnerships, where partners are personally liable for the debts
of the business.
One of the primary objectives of the LLP Act is to encourage
entrepreneurship by providing a structure that is less complex
than a company, yet provides more protection than a
traditional partnership. This structure is designed to benefit
small and medium enterprises (SMEs), where business owners
may want to limit their exposure to financial risks while
maintaining the ease of partnership-style management.
The Act also aims to provide an effective alternative to other
business forms, such as sole proprietorships or traditional
partnerships, by offering limited liability to all partners
involved. The limited liability aspect protects the personal
assets of the partners in the event of business failure or debt
accumulation, which is a significant difference from traditional
partnerships, where partners are jointly and severally liable for
the obligations of the firm.
Furthermore, the LLP framework is designed to encourage
investment in the business, as investors and stakeholders are
more likely to contribute to a venture where their financial risk

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is limited to the extent of their capital contribution. This

contrasts with the personal exposure in general partnerships.
Additionally, the LLP Act promotes transparency and
accountability, as it mandates certain regulatory compliances
like the filing of annual returns and financial statements.
The LLP Act thus contributes to improving the ease of doing
business in India by offering a hybrid model that combines the
simplicity of a partnership with the protection afforded by a
company’s limited liability. This helps reduce the regulatory
burden on small enterprises and enhances their
competitiveness in the marketplace.
(II) Essential Features of LLP
The Limited Liability Partnership Act of 2008 provides a
framework for the formation of an LLP, which possesses certain
essential features that differentiate it from other business
forms. These features are designed to provide flexibility, limited
liability, and ease of management, making it an attractive
option for entrepreneurs.
1. Separate Legal Entity: An LLP is a separate legal entity
distinct from its partners. This means it can enter into
contracts, own property, and sue or be sued in its own
name. The separate entity status is one of the primary

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features that distinguishes an LLP from a traditional

partnership.
2. Limited Liability: One of the most significant features of an
LLP is the limited liability of its partners. The liability of
each partner is limited to the extent of their agreed
contribution to the LLP. This means that the personal
assets of the partners are not at risk in case the LLP faces
financial difficulties or liabilities. The limited liability
protection is an important advantage over traditional
partnerships, where partners are jointly and severally
liable for the firm’s debts.
3. Partnership Structure: An LLP operates on the basis of an
agreement between its partners, much like a traditional
partnership. The agreement outlines the rights, duties, and
obligations of the partners, including profit-sharing
arrangements and the management of the LLP. This allows
for flexibility in decision-making and business operations.
4. Perpetual Succession: Unlike traditional partnerships,
where the death or withdrawal of a partner may lead to
the dissolution of the partnership, an LLP enjoys perpetual
succession. This means that the LLP continues to exist
even if a partner leaves, dies, or is declared insolvent,
subject to the provisions of the partnership agreement.

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5. No Minimum Capital Requirement: The LLP Act does not

prescribe any minimum capital requirement for the
formation of an LLP. This makes it a cost-effective business
structure for small and medium-sized enterprises.
6. No Requirement for a Board of Directors: Unlike a
company, an LLP does not require a board of directors or
formal corporate governance structures. This makes the
management of the LLP simpler and more flexible.
7. Flexibility in Profit Sharing: The partners in an LLP have
the flexibility to decide on the profit-sharing ratio, which
need not be equal. This is typically decided based on the
LLP agreement.
8. Regulation and Compliance: LLPs are required to file
annual returns and financial statements with the Ministry
of Corporate Affairs (MCA), which promotes transparency
and accountability. However, the regulatory burden is
relatively lighter compared to companies.
9. No Requirement for Annual General Meetings (AGMs):
LLPs are not required to hold annual general meetings,
which is a mandatory requirement for companies under
the Companies Act. This feature adds to the simplicity of
operating an LLP.

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(III) Limited Liability

Limited liability is the hallmark feature of an LLP. It ensures that
the partners' liability is limited to their agreed capital
contribution in the LLP, unlike in a traditional partnership,
where each partner is personally liable for the debts and
obligations of the firm. This limited liability feature provides a
significant safeguard for the personal assets of the partners.
For example, if the LLP incurs debts or is sued by a third party,
the liability of the partners is restricted to the extent of their
investment in the LLP. In other words, if the LLP’s assets are
insufficient to cover its liabilities, the partners are not
personally liable for the outstanding debts beyond their
contributions.
This concept of limited liability has a profound impact on the
way businesses operate. It encourages risk-taking and
entrepreneurship, as individuals are more likely to invest in a
business venture when their personal assets are protected. It
also enhances the attractiveness of the LLP structure for
investors and creditors, who are assured that their exposure is
limited to the business’s capital rather than to the personal
wealth of the partners.
The limited liability protection is not absolute. For instance, if a
partner has personally guaranteed a loan or has committed

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fraud or illegal acts, they may be held personally liable for such
actions. Additionally, the LLP must adhere to all statutory
compliance requirements, including filing of annual accounts
and maintaining proper accounting records. Failure to comply
with these legal obligations can result in penalties or even
personal liability for the partners.
(IV) Difference Between Limited Liability Partnership, Firm,
and Company
The distinctions between an LLP, a traditional partnership firm,
and a company are significant in terms of structure, liability,
and governance.
1. Legal Status:
 LLP: A Limited Liability Partnership is a separate legal
entity distinct from its partners. It can own property,
enter into contracts, and sue or be sued in its own
name.
 Firm: A partnership firm, on the other hand, does not
possess separate legal identity from its partners. The
partners and the firm are legally the same entity,
meaning the partners are personally liable for the
debts and obligations of the firm.

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 Company: A company is also a separate legal entity,

but it is regulated under the Companies Act, which
has more stringent requirements compared to the
LLP Act. A company has a more structured
governance system, including the requirement for a
board of directors, shareholders, and regular
meetings.
2. Liability:
 LLP: In an LLP, partners have limited liability. Their
liability is restricted to their capital contribution to
the LLP.
 Firm: In a traditional partnership firm, partners have
unlimited liability. Each partner is personally liable for
the firm’s debts, which can extend to their personal
assets.
 Company: In a company, shareholders have limited
liability, which is limited to the amount unpaid on
their shares. This means that their personal assets are
generally not at risk.
3. Management and Control:
 LLP: An LLP operates based on an agreement
between its partners. The partners manage the

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business, and there is no requirement for a formal

board of directors.
 Firm: A partnership firm is managed directly by its
partners, who may share decision-making or
designate specific roles.
 Company: A company has a formal management
structure, including a board of directors and officers.
Shareholders elect directors to manage the company
on their behalf.
4. Regulation:
 LLP: LLPs are subject to the regulations under the LLP
Act of 2008, which includes filing annual returns and
financial statements with the Ministry of Corporate
Affairs.
 Firm: A partnership firm is governed by the Indian
Partnership Act, 1932, which is simpler in terms of
regulatory requirements.
 Company: Companies are subject to the provisions of
the Companies Act, 2013, which imposes more
rigorous regulatory compliance, including holding
annual general meetings and preparing more detailed
financial disclosures.

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5. Continuity:
 LLP: An LLP enjoys perpetual succession, meaning it
continues to exist even if a partner leaves or dies.
 Firm: A partnership firm may dissolve upon the death
or retirement of a partner unless otherwise agreed
upon in the partnership deed.
 Company: A company also has perpetual succession,
unaffected by changes in the shareholders or
directors.
The LLP structure offers a balance between the flexibility of a
partnership and the protection of a limited liability company,
making it an attractive option for business owners who seek a
less cumbersome regulatory environment while still enjoying
limited liability protection.

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