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CHAPTER 3 DISSOLUTION AND WINDING UP
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Apr 13, 2018

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CHAPTER 3DISSOLUTION AND WINDING UP

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Art. 1828. The dissolution of a partnershipis the change in the relation of the partnerscaused by any partner ceasing to beassociated in the carrying on asdistinguished from the winding up of thebusiness. (n) 

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Art. 1829. On dissolution the partnership isnot terminated, but continues until thewinding up of partnership affairs iscompleted. (n) 

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Art. 1830. Dissolution is caused: 

(1) Without violation of the agreement between thepartners: 

(a) By the termination of the definite term or particularundertaking specified in the agreement; 

(b) By the express will of any partner, who must act in

good faith, when no definite term or particular isspecified; 

(c) By the express will of all the partners who have notassigned their interests or suffered them to be chargedfor their separate debts, either before or after thetermination of any specified term or particular

undertaking;  (d) By the expulsion of any partner from the business

bona fide in accordance with such a power conferred bythe agreement between the partners; 

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(2) In contravention of the agreement between the partners,where the circumstances do not permit a dissolution underany other provision of this article, by the express will of anypartner at any time; 

(3) By any event which makes it unlawful for the business ofthe partnership to be carried on or for the members to carry iton in partnership; 

(4) When a specific thing which a partner had promised tocontribute to the partnership, perishes before the delivery; inany case by the loss of the thing, when the partner who

contributed it having reserved the ownership thereof, has onlytransferred to the partnership the use or enjoyment of thesame; but the partnership shall not be dissolved by the loss ofthe thing when it occurs after the partnership has acquired theownership thereof; 

(5) By the death of any partner; 

(6) By the insolvency of any partner or of the partnership; 

(7) By the civil interdiction of any partner; 

(8) By decree of court under the following article. (1700a and1701a) 

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Art. 1831. On application by or for a partner the courtshall decree a dissolution whenever: 

(1) A partner has been declared insane in any judicialproceeding or is shown to be of unsound mind; 

(2) A partner becomes in any other way incapable ofperforming his part of the partnership contract; 

(3) A partner has been guilty of such conduct as tends toaffect prejudicially the carrying on of the business; 

(4) A partner wilfully or persistently commits a breach ofthe partnership agreement, or otherwise so conductshimself in matters relating to the partnership businessthat it is not reasonably practicable to carry on thebusiness in partnership with him; 

(5) The business of the partnership can only be carried on

at a loss;  (6) Other circumstances render a dissolution equitable. 

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On the application of the purchaser of apartner's interest under Article 1813 or1814: 

(1) After the termination of the specifiedterm or particular undertaking; 

(2) At any time if the partnership was apartnership at will when the interest wasassigned or when the charging order wasissued. (n) 

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Art. 1832. Except so far as may be necessary towind up partnership affairs or to completetransactions begun but not then finished,dissolution terminates all authority of any partnerto act for the partnership: 

(1) With respect to the partners:  (a) When the dissolution is not by the act,

insolvency or death of a partner; or 

(b) When the dissolution is by such act, insolvency

or death of a partner, in cases where article 1833so requires; 

(2) With respect to persons not partners, asdeclared in article 1834. (n) 

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Art. 1833. Where the dissolution is caused by theact, death or insolvency of a partner, each partneris liable to his co-partners for his share of anyliability created by any partner acting for the

partnership as if the partnership had not beendissolved unless: 

(1) The dissolution being by act of any partner, thepartner acting for the partnership had knowledgeof the dissolution; or 

(2) The dissolution being by the death orinsolvency of a partner, the partner acting for thepartnership had knowledge or notice of the deathor insolvency. 

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Example

A, B and C formed a partnership contributingP10,000 each. The contract was executed onJune 10. On June 15, A partner died. The nextday, June 16, C partner, not knowing that apartner died, contracted an obligation to X,liability caused is P60,000. After X exhausted

the partnership capital of P30,000, can heproceed against the estate of A to collectP10,000?

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Answer

Yes, the transaction is in good faith, thepartners and all partners are liable.

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In the preceding problem, suppose C hadknowledge of the death of A, would youranswer be the same?

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Answer

Yes, the partnership and all partners are liableif the third person (X) is in good faith becausethird persons shall not be prejudiced by theact of any partner. After the obligation is fullysatisfied, the right of the innocent parties isto proceed against the guilty partner (C) and

ask for reimbursement. In effect, Cshouldered all the liability because he shouldnot have done what he did.

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. 1834. After dissolution, a partner can bind thepartnership, except as provided in the third paragraph ofthis article: 

(1) By any act appropriate for winding up partnershipaffairs or completing transactions unfinished atdissolution; 

(2) By any transaction which would bind the partnershipif dissolution had not taken place, provided the other

party to the transaction:  (a) Had extended credit to the partnership prior to

dissolution and had no knowledge or notice of thedissolution; or 

(b) Though he had not so extended credit, hadnevertheless known of the partnership prior todissolution, and, having no knowledge or notice ofdissolution, the fact of dissolution had not beenadvertised in a newspaper of general circulation in theplace (or in each place if more than one) at which thepartnership business was regularly carried on. 

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The liability of a partner under the first

paragraph, No. 2, shall be satisfied out of

partnership assets alone when such partner

had been prior to dissolution: 

(1) Unknown as a partner to the person with

whom the contract is made; and 

(2) So far unknown and inactive in partnershipaffairs that the business reputation of the

partnership could not be said to have been in

any degree due to his connection with it. 

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The partnership is in no case bound by anyact of a partner after dissolution: 

(1) Where the partnership is dissolvedbecause it is unlawful to carry on thebusiness, unless the act is appropriate forwinding up partnership affairs; or 

(2) Where the partner has becomeinsolvent; or 

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(3) Where the partner has no authority to wind uppartnership affairs; except by a transaction with onewho:

(a) Had extended credit to the partnership prior todissolution and had no knowledge or notice of hiswant of authority; or

(b) Had not extended credit to the partnership priorto dissolution, and, having no knowledge or notice

of his want of authority, the fact of his want ofauthority has not been advertised in the mannerprovided for advertising the fact of dissolution in thefirst paragraph, No. 2 (b).

Nothing in this article shall affect the liability under

Article 1825 of any person who, after dissolution,represents himself or consents to anotherrepresenting him as a partner in a partnershipengaged in carrying business. (n)

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When partnership is bound by

transaction entered afterdissolution 1. Business transaction is for winding up

2. The transaction is to complete businessbegun but unfinished

3. Completely new business with innocentthird parties.

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When partnership is not

bound by transaction enteredafter dissolution 1. When the acting partner is not authorized

2.When the acting partner is insolvent 3. When the business of the partnership

becomes unlawful.

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Illustrative case

A, B and C are partners under a certain firmname. Later, C retires, but A and B continuethe business. Is C liable to previous customerswho transact with the new firm if the firm stilluses the old firm name?

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Answer

Yes, unless C actually notifies said oldcustomers or unless said customers actuallyknow of his retirement.

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Art. 1835. The dissolution of the partnershipdoes not of itself discharge the existingliability of any partner. 

A partner is discharged from any existingliability upon dissolution of the partnership byan agreement to that effect between himself,the partnership creditor and the person orpartnership continuing the business; and such

agreement may be inferred from the course ofdealing between the creditor havingknowledge of the dissolution and the personor partnership continuing the business 

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The individual property of a deceasedpartner shall be liable for all obligations ofthe partnership incurred while he was apartner, but subject to the prior payment ofhis separate debts. (n) 

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How partner’s liability is

discharged General Rule:

Dissolution will not automatically discharge

the liability of a partner from his obligation tothe firm. His liability will be discharged onlywhen an agreement to that effect is reachedby:

1. The partner concerned

2. Other partners

3. Creditors

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Effect of Novation

If novation of the partnership debt is doneafter one of the partners has retired, andwithout the consent of such retired partner,said partner cannot be held liable by creditorswho made the novation with knowledge ofthe firm dissolution.

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Art. 1836. Unless otherwise agreed, thepartners who have not wrongfully dissolvedthe partnership or the legal representativeof the last surviving partner, not insolvent,has the right to wind up the partnershipaffairs, provided, however, that any

partner, his legal representative or hisassignee, upon cause shown, may obtainwinding up by the court. (n) 

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Persons who can wind up partnership affairs

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Art. 1837. When dissolution is caused in any way,except in contravention of the partnershipagreement, each partner, as against his co-partners and all persons claiming through them inrespect of their interests in the partnership, unlessotherwise agreed, may have the partnershipproperty applied to discharge its liabilities, and

the surplus applied to pay in cash the net amountowing to the respective partners. But if dissolutionis caused by expulsion of a partner, bona fideunder the partnership agreement and if theexpelled partner is discharged from all partnershipliabilities, either by payment or agreement underthe second paragraph of Article 1835, he shallreceive in cash only the net amount due him fromthe partnership. 

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When dissolution is caused in contravention of the partnershipagreement the rights of the partners shall be as follows: 

(1) Each partner who has not caused dissolution wrongfullyshall have: 

(a) All the rights specified in the first paragraph of this article,and 

(b) The right, as against each partner who has caused thedissolution wrongfully, to damages breach of the agreement. 

(2) The partners who have not caused the dissolutionwrongfully, if they all desire to continue the business in thesame name either by themselves or jointly with others, maydo so, during the agreed term for the partnership and for thatpurpose may possess the partnership property, provided theysecure the payment by bond approved by the court, or payany partner who has caused the dissolution wrongfully, the

value of his interest in the partnership at the dissolution, lessany damages recoverable under the second paragraph, No. 1(b) of this article, and in like manner indemnify him against allpresent or future partnership liabilities. 

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(3) A partner who has caused the dissolution wrongfullyshall have: 

(a) If the business is not continued under the provisionsof the second paragraph, No. 2, all the rights of a partnerunder the first paragraph, subject to liability for damagesin the second paragraph, No. 1 (b), of this article. 

(b) If the business is continued under the secondparagraph, No. 2, of this article, the right as against hisco-partners and all claiming through them in respect oftheir interests in the partnership, to have the value of hisinterest in the partnership, less any damage caused tohis co-partners by the dissolution, ascertained and paid

to him in cash, or the payment secured by a bondapproved by the court, and to be released from allexisting liabilities of the partnership; but in ascertainingthe value of the partner's interest the value of the good-will of the business shall not be considered. (n) 

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Dissolution without

violation of partnershipcontract Each partner may apply the partnership

property to discharge the liability of the firm,

and the surplus, if any distributed to allpartners in cash

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Expulsion of a partner from

the partnership A. Rightful expulsion ( if discharged from allpartnership liabilities)

Entitled to receive in cash only the amount due

him from the partnership

B. Wrongful Expulsion

Other partners must account not only for what is

due him at the date of dissolution but also fordamages or for his share of the profits realizedfrom the appropriation of the partnershipbusiness and goodwill.

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Dissolution in violation of

partnership contract A. Rights of the innocent partners

1. To sell partnership property

2. To discharge all partnership obligation 3. If there is owing, divide among the partners

4. Remaining partners can continue the

business. 5. Innocent partners can ask for damages

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Rights of the Guilty Partner

1. To sell partnership property

2. To discharge all partnership obligation

3. If there is owing, divided among thepartners.

Note: He cannot continue the businessbecause he is guilty of breach of contract andhe is liable for damages.

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Right of a partner entitled

to rescind partnershipcontract 1. The right of lien or retention of partnership

property

2. Right to be subrogated in place ofpartnership creditors

3. Right of indemnification against all debts

and liabilities of the partnership.

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Illustrative case

A, B and C formed Y partnership contributingthe following: A, P30,000

B, P20,000

C, P10,000

The partnership is indebted to the following:

X P60,000W P30,000

C P20,000 (partner in Y partnership)

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Requirement:

Liquidate the partnership observing the orderof preference, step by step. . Gross capitalupon dissolution is P290,000.

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Original capital bal. =

P290,000 1. Pay Outside creditor

X and W: P60,000 and P30,000 respectively.

Remaining balance: 200,000

2. Pay inside creditor

C : P20,000 Remaining balance: 180,000

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3. Return of capital contribution

A: P30,000

B: P20,000

C: P10,000 Remaining balance : P120,000

4. Partners’ profit

A: P60,000 B: P40,000

C: P20,000

Remaining balance : P 0

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Illustrative case 2 (

Partnership suffered losses) A, B and C formed Y partnership contributingP20,000 each. Profit and loss sharing : A, 40%; B,30% ; and C, 30%.

The partnership upon dissolution is indebted to thefollowing:

X: P60,000

W: P30,000

C: P20,000 (partner in Y partnership) The gross capital upon dissolution is P30,000.

Liquidate the partnership observing the order ofpreference, step by step.

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Original balance: P30,000

1. Pay outside creditors

X : P20,000

W:P 10,000

Remaining balance: P 0

2. Inside creditor (NA) 3. Return of capital (NA)

4. Partners’ profit ( NA)

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Distribution of individual

property of an insolventpartner 1. give to the individual or separate creditors

2. to the partnership creditors 3. those owing to the other partners by way

of contribution

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Art. 1838. Where a partnership contract is rescindedon the ground of the fraud or misrepresentation ofone of the parties thereto, the party entitled torescind is, without prejudice to any other right,entitled: 

(1) To a lien on, or right of retention of, the surplusof the partnership property after satisfying the

partnership liabilities to third persons for any sumof money paid by him for the purchase of an interestin the partnership and for any capital or advancescontributed by him; 

(2) To stand, after all liabilities to third persons have

been satisfied, in the place of the creditors of thepartnership for any payments made by him inrespect of the partnership liabilities; and 

(3) To be indemnified by the person guilty of thefraud or making the representation against all debts

and liabilities of the partnership. (n) 

li b h

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Art. 1839. In settling accounts between the partnersafter dissolution, the following rules shall be observed,subject to any agreement to the contrary: 

(1) The assets of the partnership are: 

(a) The partnership property, 

(b) The contributions of the partners necessary for thepayment of all the liabilities specified in No. 2. 

(2) The liabilities of the partnership shall rank in order ofpayment, as follows: 

(a) Those owing to creditors other than partners, 

(b) Those owing to partners other than for capital andprofits, 

(c) Those owing to partners in respect of capital, 

(d) Those owing to partners in respect of profits. 

(3) The assets shall be applied in the order of theirdeclaration in No. 1 of this article to the satisfaction ofthe liabilities. 

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(4) The partners shall contribute, asprovided by article 1797, the amountnecessary to satisfy the liabilities. 

(5) An assignee for the benefit of creditorsor any person appointed by the court shall

have the right to enforce the contributionsspecified in the preceding number. 

(6) Any partner or his legal representative

shall have the right to enforce thecontributions specified in No. 4, to theextent of the amount which he has paid inexcess of his share of the liability. 

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(7) The individual property of a deceased partnershall be liable for the contributions specified inNo. 4. 

(8) When partnership property and the individualproperties of the partners are in possession of acourt for distribution, partnership creditors shallhave priority on partnership property andseparate creditors on individual property, saving

the rights of lien or secured creditors.  (9) Where a partner has become insolvent or his

estate is insolvent, the claims against his separateproperty shall rank in the following order: 

(a) Those owing to separate creditors;  (b) Those owing to partnership creditors; 

(c) Those owing to partners by way ofcontribution. (n) 

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Art. 1840. In the following cases creditorsof the dissolved partnership are alsocreditors of the person or partnershipcontinuing the business: 

(1) When any new partner is admitted intoan existing partnership, or when any

partner retires and assigns (or therepresentative of the deceased partnerassigns) his rights in partnership propertyto two or more of the partners, or to one or

more of the partners and one or more thirdpersons, if the business is continuedwithout liquidation of the partnershipaffairs; 

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(2) When all but one partner retire and assign(or the representative of a deceased partnerassigns) their rights in partnership property tothe remaining partner, who continues thebusiness without liquidation of partnershipaffairs, either alone or with others;

(3) When any partner retires or dies and thebusiness of the dissolved partnership iscontinued as set forth in Nos. 1 and 2 of thisarticle, with the consent of the retired

partners or the representative of thedeceased partner, but without anyassignment of his right in partnershipproperty;

(4) When all the partners or their representatives

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(4) When all the partners or their representativesassign their rights in partnership property to one ormore third persons who promise to pay the debts anwho continue the business of the dissolved

partnership;  (5) When any partner wrongfully causes a dissolution

and the remaining partners continue the businessunder the provisions of article 1837, second

paragraph, No. 2, either alone or with others, andwithout liquidation of the partnership affairs; 

(6) When a partner is expelled and the remainingpartners continue the business either alone or withothers without liquidation of the partnership affairs. 

The liability of a third person becoming a partner inthe partnership continuing the business, under thisarticle, to the creditors of the dissolved partnershipshall be satisfied out of the partnership property only

unless there is a stipulation to the contrary. 

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When the business of a partnership afterdissolution is continued under any conditions

set forth in this article the creditors of thedissolved partnership, as against the separatecreditors of the retiring or deceased partner orthe representative of the deceased partner,

have a prior right to any claim of the retiredpartner or the representative of the deceasedpartner against the person or partnershipcontinuing the business, on account of the

retired or deceased partner's interest in thedissolved partnership or on account of anyconsideration promised for such interest or forhis right in partnership property. 

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Nothing in this article shall be held to modifyany right of creditors to set aside anyassignment on the ground of fraud.

The use by the person or partnershipcontinuing the business of the partnershipname, or the name of a deceased partner aspart thereof, shall not of itself make the

individual property of the deceased partnerliable for any debts contracted by suchperson or partnership. (n)

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1. Creditors of the dissolved partnership arecreditors of the partnership continuing thebusiness ( if without liquidation of the debts

of the dissolved partnership)

2. The newly admitted partner’s liability shall

be satisfied only out of the partnershipproperty, unless otherwise agreed.

Art 1841 When any partner retires or dies and the

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Art. 1841. When any partner retires or dies, and thebusiness is continued under any of the conditions setforth in the preceding article, or in Article 1837, secondparagraph, No. 2, without any settlement of accounts

as between him or his estate and the person orpartnership continuing the business, unless otherwiseagreed, he or his legal representative as against suchperson or partnership may have the value of hisinterest at the date of dissolution ascertained, and

shall receive as an ordinary creditor an amount equalto the value of his interest in the dissolved partnershipwith interest, or, at his option or at the option of hislegal representative, in lieu of interest, the profitsattributable to the use of his right in the property of

the dissolved partnership; provided that the creditorsof the dissolved partnership as against the separatecreditors, or the representative of the retired ordeceased partner, shall have priority on any claimarising under this article, as provided Article 1840,

third paragraph. (n) 

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When right to account

accrues On the date of dissolution in the absence ofcontrary agreement

1. Persons entitled to accounting A. Any partner

B. Legal representative of a partner

2. Against whom?

Winding up partner Surviving partner

The person or partnership continuing thebusiness

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Art. 1842. The right to an account of hisinterest shall accrue to any partner, or hislegal representative as against the winding

up partners or the surviving partners or theperson or partnership continuing thebusiness, at the date of dissolution, in the

absence of any agreement to the contrary.(n) 

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