Settling accounts when a partnership is dissolved

When a partnership is dissolved, section 44 of the Partnership Act 1890 sets the default order: losses, including lost capital, are met first from profits, then from capital, then by the partners personally in their profit sharing ratio, and the firm’s assets go first to outside creditors, then to repay partners’ advances, then to repay capital, with any surplus split in the profit sharing ratio. The partners can agree a different order between themselves, but not one that defeats the firm’s creditors.

When does section 44 apply?

Section 44 applies “in settling accounts between the partners after a dissolution of partnership”, and its rules apply “subject to any agreement”. It is the default for a general partnership in England, Wales, Scotland and Northern Ireland, and section 7 of the Limited Partnerships Act 1907 carries it across to limited partnerships except where the 1907 Act provides otherwise. It does not apply to an LLP, which is a body corporate wound up under insolvency and company law.

Three other sections frame it. Section 38 keeps each partner’s authority alive after dissolution so far as necessary to wind up the firm’s affairs and complete unfinished transactions, but not otherwise. Section 39 gives every partner the right to have the partnership property applied in paying the firm’s debts and liabilities, and the surplus applied in paying what is due to each partner after deducting what each partner owes the firm; any partner may ask the court to wind up the business. Section 43 makes the amount due to an outgoing partner a debt accruing at the date of dissolution, subject to agreement.

Section 44 is about the account between solvent partners. Where the firm cannot pay its debts, it can instead be dealt with under the Insolvent Partnerships Order 1994, which applies the Insolvency Act 1986 to partnerships; see partnership insolvency.

How are losses shared?

Rule (a) of section 44 says losses, including losses and deficiencies of capital, are paid first out of profits, next out of capital and lastly, if necessary, by the partners individually in the proportion in which they were entitled to share profits.

The point most often missed is that a capital deficiency is a loss. If the firm cannot repay all the capital the partners put in, the shortfall is shared in the profit sharing ratio, not in proportion to the capital each contributed. The ACCA’s technical factsheet on partnership law spells this out: where there is a surplus after paying debts but it is not enough to repay all the capital, the unrepaid capital is treated as a loss divided in the profit sharing proportions. Where there is no agreed ratio, section 24(1) says partners share capital and profits equally and contribute equally to losses, and the official receiver’s technical guidance (paragraph 52.34) notes that this can mean equal sharing of losses even where capital contributions were unequal.

In what order are the assets paid out?

Rule (b) says the assets of the firm, including any sums the partners contribute to make up losses or deficiencies of capital, are applied in this order:

1. In paying the debts and liabilities of the firm to persons who are not partners.
2. In paying each partner rateably what the firm owes them for advances, as distinguished from capital.
3. In paying each partner rateably what the firm owes them in respect of capital.
4. Any ultimate residue is divided among the partners in the proportion in which profits are divisible.

“Rateably” means in proportion to the amounts due within each class. If there is not enough to repay all advances, each lending partner receives the same percentage of their advance before anything goes to capital.

What is the difference between an advance and capital?

The distinction decides who is repaid first. Capital is what each partner agreed to contribute to the firm. An advance is money a partner pays in beyond that agreed capital. Section 24(3) entitles a partner who makes a payment or advance beyond their agreed capital to interest at 5 per cent a year from the date of the advance, while section 24(4) says a partner is not entitled to interest on capital before profits are ascertained. Both rules are defaults that the agreement can change.

In practice the label in the books carries weight. The ACCA factsheet describes the appeal court’s approach in Hopper v Hopper, where undrawn profits had been added to the capital account each year and that accounting treatment was accepted as evidence that the partners intended them to be capital. Keeping separate capital and current accounts, and recording any loan from a partner as a loan, avoids that argument. See partnership capital and current accounts.

What if one partner cannot pay their share of the loss?

The ACCA factsheet explains that if a partner is insolvent and cannot contribute their share of a capital loss, the solvent partners do not have to make up that partner’s shortfall in the way rule (a) would otherwise suggest. Less capital is available for distribution, made up of the surplus and the notional contributions of the solvent partners only, and it is distributed according to capital entitlement. The result is that the solvent partners bear the insolvent partner’s unpaid contribution in proportion to their capital, not their profit shares. If the insolvent partner is bankrupt, their trustee claims whatever net share is due; see what happens when a partner goes bankrupt.

How does this work with figures?

Illustration only. Asha, Ben and Cal share profits equally. Asha’s capital is £40,000, Ben’s £20,000 and Cal’s nil. Asha also lent the firm £3,000. On dissolution the assets realise £75,000 and outside creditors are owed £30,000.

Step	Amount
Assets realised	£75,000
Less outside creditors	£30,000
Less Asha’s advance	£3,000
Left for capital	£42,000
Capital owed (£40,000 plus £20,000)	£60,000
Capital deficiency treated as a loss	£18,000

The £18,000 loss is shared equally, £6,000 each. Asha is due £34,000 of capital, Ben £14,000, and Cal must pay £6,000 into the firm. With Cal’s £6,000 the firm holds £48,000, which pays Asha and Ben in full.

If Cal cannot pay, only £42,000 is available. On the ACCA approach Asha and Ben bear Cal’s £6,000 shortfall in proportion to their capital of £40,000 and £20,000, so Asha bears £4,000 and Ben £2,000. Asha receives £30,000 and Ben £12,000.

Can partners agree something different?

Yes, as between themselves. Section 44 applies subject to any agreement, so a partnership agreement can, for example, share capital losses in proportion to capital, set out how goodwill is valued, or fix how a partner’s insolvency is dealt with. It cannot change the priority of the firm’s outside creditors, who must be paid from the firm’s assets first under section 39. Section 40 also lets the court order repayment of part of a premium paid to join a fixed term partnership that ends early, unless the dissolution is wholly or chiefly the payer’s fault or was agreed without provision for repayment.

Where the business carries on without a final settlement, section 42 gives an outgoing partner or their estate a choice between a share of later profits attributable to the use of their share of the assets and interest at 5 per cent a year. The capital gains treatment of assets distributed to partners is separate; see partnership capital gains and SP D12.

What mistakes come up most often?

• Repaying capital before every outside creditor and every partner’s advance has been paid.
• Sharing a capital shortfall in proportion to capital when the default is the profit sharing ratio.
• Treating a partner’s loan as capital, or capital as a loan, because the books do not distinguish them.
• Forgetting to deduct amounts a partner owes the firm, such as overdrawn current accounts, before paying them out.
• Assuming the default rules apply when the partnership agreement sets its own order.

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Related Accountapedia entries

• Leaving a partnership and dissolution
• Settling a tax appeal by agreement with HMRC
• Investigations into directors of dissolved companies
• Partnership capital and current accounts
• Can HMRC investigate a dissolved company

Sources

• legislation.gov.uk: 44
• legislation.gov.uk: 7
• legislation.gov.uk: Act 2000 c. 12, section 1
• legislation.gov.uk: 38
• legislation.gov.uk: 39
• legislation.gov.uk: 43
• GOV.UK: 52 partnerships
• ACCA: Tf partnerships
• legislation.gov.uk: 24
• legislation.gov.uk: 40

Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 24 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.