Is a resigning partner bound by an arbitration clause in an agreement with a third party to which he is not a signatory?

Is a resigning partner bound by an arbitration clause in an agreement with a third party to which he is not a signatory?

The vexed issue of whether a partner who resigns from a partnership firm remains bound by an arbitration clause in a contract executed between the firm and a third party, to which such partner is not a direct signatory, raises complex questions at the intersection of contract, partnership, and arbitration law. Partnerships are frequently the medium through which business is conducted, and agreements with third parties, almost invariably incorporating arbitration clauses, form the bedrock of such transactions. When disputes emerge after a partner’s resignation, third parties often seek to bind the former partner to arbitral proceedings, arguing that the liability subsists for obligations incurred during tenure. Conversely, the retiring partner may invoke the doctrines of privity and novation to resist being drawn into arbitration, particularly in respect of post-resignation obligations. 

While Indian Courts have broadened the scope of arbitration to non-signatories through doctrines such as the group of companies, estoppel, and composite performance, their application to resigning partners remains unsettled. The discourse has revolved around the dichotomy between consent and autonomy underlying arbitrations, and joint and several liability of partners for acts of the firm as envisioned under the Indian Partnership Act, 1932.

This note examines the dichotomy between consent and autonomy underlying arbitrations, and joint and several liability of partners for acts of the firm as envisioned under the Indian Partnership Act, 1932 to illuminate the discourse on the subject. 

Arbitration clause and the doctrine of privity of contract

• Arbitration, a creature of contract, derives its validity from consent. Section 7 of the Arbitration and Conciliation Act, 1996 defines an arbitration agreement as one between parties agreeing to submit disputes to arbitration.
• Under traditional privity, only signatories are bound and prima facie, a partner who has not signed a third-party contract should not be compelled to arbitrate. However, Indian Courts have gradually adopted a more expansive view and recognise certain (limited) exceptions.
• In Chloro Controls India Pvt Ltd v. Severn Trent Water Purification Inc (2013) 1 SCC 641, the Supreme Court of India held that non-signatories may be bound where transactions are composite and interdependent, applying principles of ‘direct relationship’, ‘commonality of subject matter’, and ‘composite nature of the transaction’ to extend the arbitration agreement beyond its signatories.
• This doctrinal shift has significant implications for partnership law. If a partner is considered a part of the ‘group’ engaging in commercial dealings, even as a non-signatory, he may be implicated in arbitration proceedings arising out of contracts signed by the firm. The question, however, is whether such liability persists after resignation.

Partnership dynamics re incoming and outgoing partners

• Unlike a company incorporated under the Companies Act, a partnership firm under the Indian Partnership Act, 1932, does not enjoy a distinct legal personality separate from its partners. The firm and its partners are, in essence, a collective identity, and the acts of the firm are, by operation of law, the acts of the partners constituting it.
• Section 25 of the Partnership Act imposes joint and several liability on partners for acts of the firm. Section 32 allows retirement with the consent of partners and stipulates that, after public notice, liability for future acts ceases. As such, once a partner retires in accordance with the prescribed
• procedure and public notice of such retirement is given to third parties, the partner ceases to be bound by contracts entered into by the firm thereafter. Consequently, arbitration clauses in agreements executed post-retirement cannot extend to him.
• Yet, under Section 32(2), a retiring partner remains liable for acts done before retirement unless discharged by novation or agreement with third parties. The statutory framework, thus, imposes continuing liability on the resigning partner. Since the arbitration clause is an inseparable and procedural adjunct to the main contract, the retiring partner remains bound to arbitrate disputes arising under such contracts.
• This statutory framework suggests that while future obligations may be curtailed upon retirement, pre-existing liabilities may survive. Thus, resignation does not ipso facto insulate a partner from arbitral proceedings; the survival of his obligation hinges upon the nature of the dispute and the timing of the underlying cause of action.

Judicial trends in India

• In MTNL v. Canara Bank (2020) 12 SCC 767, the Supreme Court reiterated that non-signatories may be bound where there exists mutual intent and a close nexus with the contract.
• In Cheran Properties Ltd. v. Kasturi & Sons Ltd (2018) 16 SCC 413, the Supreme Court compelled a non-signatory shareholder to be bound by an arbitral award, invoking principles of estoppel and corporate affiliation. The Court underscored that arbitration obligations can extend beyond privity when commercial justice so demands.

• In Syndicate Bank v. RSR Engineering Works (2003) 6 SCC 265, the Supreme Court observed that a retiring partner remains liable for obligations incurred before his retirement unless discharged by agreement. Though the case did not directly involve arbitration, the reasoning applies mutatis mutandis to arbitral obligations.
• These cases collectively underscore a judicial willingness to pierce the veil of strict contractual privity, particularly when a non-signatory has derived benefits, played a role in the transaction, or is statutorily obligated. For resigning partners, this implies that their prior association with the firm may justify compelling them to arbitrate disputes relating to pre-retirement acts of the firm.

Grey areas and loopholes

• Ambiguity in notice requirements: The Act requires ‘public notice’ to absolve from future liability, but is silent on its form, mode, and sufficiency for arbitral purposes. Whether constructive notice through publication suffices, or whether specific intimation to contracting parties is needed, remains uncertain, enabling third parties to allege ignorance and invoke arbitration against retired partners.
• Timing of the cause of action: Disputes may crystallise after a partner’s retirement but relate to obligations incurred prior thereto. Whether such claims fall within the ambit of a retired partner’s arbitral liability is unsettled. Courts have yet to clearly delineate whether the relevant factor is the date of the contract, the date of performance, or the date of breach.
• Risk of strategic abuse: In the absence of clear limitations, third parties may attempt to drag retired partners into arbitration as a tactical measure, regardless of the tenuousness of their connection to the dispute. Without safeguards, resigning partners remain vulnerable to vexatious arbitral claims, imposing costs and burdens disproportionate to their involvement.

While the dichotomy continues to persist – binding a retired partner to arbitrate risks, substituting statutory imposition for consent, but, conversely, exempting entirely may undermine commercial certainty – it can be reasonably concluded that a resigning partner may remain bound to arbitrate disputes connected to obligations incurred during their tenure, unless expressly released through

novation or agreement. This balanced position preserves commercial certainty while respecting the principle of consent that underlies arbitration. It harmonises statutory liability under the Partnership Act with the consensual foundation of arbitration, ensuring fairness both to third parties and to retiring partners. Ultimately, this approach upholds the integrity of partnership and arbitration jurisprudence in India by reconciling the demands of business efficacy with the autonomy of parties.