PARTNERSHIP DISSOLUTION

LESSON – 12
PARTNERSHIP DISSOLUTION
OBJECTIVES
After studying this chapter, you should be able to understand:
• Explain the meaning of dissolution.
• Distinguish between dissolution of firm and dissolution of partnership
• Explain the different modes of dissolution
• Understand the procedure for closing the books of the firm
STRUCTURE
12.1 Introduction
12.2 Differences between Dissolution of partnership & Dissolution of a firm
12.3 Settlement of Accounts
12.4 Preparation of Accounts
12.5 Insolvency of Partner and All Partner Insolvent
12.6 Piece-meal Distribution
Unit Questions.
12.1. INTRODUCTION
The term dissolution stands for discontinuation. This may lead to dissolution of partnership or dissolution of firm. In dissolution of partnership, change in partnership relation takes place. The firm continues its business. In the case of dissolution of firm the dissolution of partnership between all the partners of the firm and termination of the firm’s business take place.

12.2. DIFFERENCES BETWEEN DISSOLUTION OF PARTNERSHIP AND DISSOLUTION OF FIRM
Continuation of Business. In the firm dissolution business ceases to exist but in partnership dissolution the business of the firm is continued.
Partnership Relationship. In the dissolution partnership among partners does not exist. Partnership among partners does exist in partnership dissolution.
Scope. Dissolution of firm implies dissolution of partnership whereas the reverse is not so, i.e., dissolution of partnership does not necessarily mean the dissolution of firm.
CIRCUMSTANCES UNDER WHICH A FIRM IS DISSOLVED
Dissolution by mutual agreement.
Dissolution due to the happening of contingencies.
Dissolution by notice in the case of partnership at will.
Dissolution by court.
CIRCUMSTANCES FOR THE DISSOLUTION OF PARTNERSHIP
Admission of a partner
Retirement of a partner
Death of a partner
Insolvency of a partner
On removal of a partner
Change in the profit-sharing ratio.
12.3. SETTLEMENT OF ACCOUNTS
Regarding the settlement of accounts partnership deed may specify explicitly. If it is not specified in the partnership deed then settlement is to be made on the lines specified below in accordance with provisions of Partnership Act. The act specified two important points:
Treatment of losses, and
Application of assets.
Treatment of Losses. Losses including deficiencies of capital are to paid in the following order:
First out of Profit
Then out of capital
Lastly by partners individually in their profit-sharing ratio.
Application of Assets. Assets of the firm shall be applied in the following manner and order.
In paying firm’s debts to third parties
In paying to each partner, what is due to him on account of advances.
In paying to each partner, which is due to him on account of capital.
The residue, if any, shall be divided among the partners in their profit-sharing ratio.
DIFFERENCES BETWEEN REVALUATION AND REALISATION ACCOUNT
Meaning. Revaluation account is prepared to record the revaluation of assets and liabilities but Realisation account is prepared to record the realization of assets and discharge of liabilities.
Purpose. Revaluation account is prepared to know the profit/loss due to revaluation while realization account is prepared to determine the profit/loss due to realization.
Time of Preparation. Revaluation account is prepared at the time of reconstitution of partnership (admission, retirement/death), whereas realization account is prepared at the time of dissolution.
Recording: Only Revaluation Account only revaluation of assets and liabilities are recorded and in Realisation Account both book values and realisation values are recorded to close down the assets and liabilities.
PROCEDURE
Transfer all assets and liabilities other than cash, capital and reserves to the Realisation A/c at book value.
Open cash, capital and Reserve accounts separately.
Post all the adjustments twice.
Transfer the balance in the P&L A/c and Reserve A/c to the Partners’ Capital A/c in the profit-sharing ratio.
Transfer the balance in the Capital A/c to Cash A/c
All accounts will close.
12.4. PREPARATION OF ACCOUNTS
For dissolution, the accounts to be prepared are: (a) Realisation A/c, (b) Partner’s Capital Account, (c) Cash account or Bank account.
Journal Entries
Realisation A/c Dr.
To Sundry Assets A/c
(For closing all assets at book value except cash or bank balance)
Sundry Liabilities A/c Dr.
To Realisation A/c
(For closing all liabilities at book values except cash, capital and reserves)
Cash A/c Dr.
To Realisation A/c
(For the actual amount realised on sale of assets)
Partners’ Capital A/c Dr.
To Realisation A/c
(For the agreed value of assets taken over by partners)
Realisation A/c Dr.
To Cash A/c
(For payment of liabilities)
Realisation A/c Dr.
To Partners Capital A/c
(For payment of liabilities by a partner)
Realisation A/c Dr.
To Cash A/c
(For expenses of realization)
Partners Capital A/c Dr.
To Cash A/c
(For when a partner is to bear the expenses of realisation)
Realisation A/c Dr.
To Partners’ Capital A/c
(For transferring the profit on realisation to Partners’ Capital A/c.
For loss a reverse entry will be passed)
Partners’ Capital A/c Dr.
To Cash A/c
(For paying the amount due to the partner)
Cash A/c Dr.
To Partners’ Capital A/c
(For the amount received from the partner)
Example 1:
A,B and C sharing profits in the proportion of 3:2:1 agreed upon dissolution of their partnership firm on 31.3.1990 and its balance sheet was as under:
BALANCE SHEET
Liabilities Rs. Assets Rs.
Creditors
Joint Life Policy Reserve
Investment Flutuation Reserve
Capital:
A
B
Mrs. A Loan 18,500
14,000
6,000

40,000
20,000
10,000 Cash at Bank
Debtors 9,300
Less: Provision 600

Stock
Investment (Cost)
C’s Current Account
Machinery
Joint Life Policy 5,420


8,700
7,550
20,830
11,500
40,500
14,000
1,08,500 1,08,500

The life policy is surrendered for Rs. 12,000. The investments are taken over by A for Rs.17,500. A agrees to discharges his wife loan. B taken over all the stock at Rs.7,000 and debtors amounting Rs.5,000 at Rs.4,000. Machinery is sold for Rs.55,000. The remaining debtors realize 50% the book value. The expense of realization amount to Rs.600.
It is found that an investment not recorded in the books is worth Rs.3,000. The same is taken over by one of the creditors at this value.
Show the necessary ledger accounts including the Final Accounts of the partners on completion of the dissolution of the firm.
Solution.
Dr REALISATION A/c Cr.
Particulars Rs. Particulars Rs.
To Machinery
To Stock
To Investments
To JLP
To Debtors
To Cash Expenses
To A’s Capital(Wife loan)
To Cash (Drs.18,500-3,000)
To Capital A/c:
A
B
C 40,500
7,550
20,830
14,000
9,300
600
10,000
15,500

14,235
9,490
4,745 By Creditors
By JLP Reserve
By Investment Fluctuation Res.
By RDD
By Mrs. A’s Loan A/c
By Cash (JLP)
By Cash(Machinery+Debtors)
By A’s Capital A/c(Investment)
By B’s Capital A/c(7,000+4,000) 18,500
14,000
6,000
600
10,000
12,000
57,150
17,500
11,000
1,46,750 1,46,750

Dr. PARTNERS’ CAPITAL A/cs Cr.
Particulars A
Rs. B
Rs. C
Rs. Particulars A
Rs. B
Rs. C
Rs.
To Balance
To Realisation
To Cash A/c -
17,500
46,735 -
11,000
18,490 11,500
-
- By Balance
By Realisation
By Realisation
By Cash 40,000
14,235
10,000
- 20,000
9,490
-
- -
4,475
-
6,755
64,235 29,490 11,500 64,235 29,490 11,500

Dr. CASH A/c Cr.
To Balance
To Realisation A/c
To Realisation A/c
To C’s Capital A/c 5,420
12,000
57,150
6,755 By Realisation (Expenses)
By Realisation(Crs.)
By A’s Capital A/c
By B’s Capital A/c 600
15,500
46,735
18,490
81,325 81,325

12.5. INSOLVENCY OF A PARTNER
PROCEDURE
Find out the loss on realization and transfer it to Partners Capital A/cs in the profit-sharing ratio.
Make the solvent partners bring in cash equal to their share of realization loss.
Find out the deficiency in the Insolvent Partner’s Capital A/c to the Solvent Partner’s Capital A/c according to the rule in Garner Vs. Murray.
RULE IN GARNER VS. MURRAY
Partnership arises on the basis of contract between the partners. The Contract Act prescribes the qualification for contract. An insolvent loses his contractual capacity when he is declared insolvent. Prior to 1904 an important decision was given in the case of Garner Vs. Murray on this point. The facts in the case of Garner Vs. Murray were:
There were three equal partners Garner, Murray, Wilkins.
Capital of all the partners were not equal
Wilkins became insolvent and the firm was dissolved
He was unable to pay anything
Murray took objection to the point that the loss due to the firm on account of insolvency is capital loss and that it should be shared in capital ratio.
Justice Joyce came out with the following striking decisions. The implications of the decision were:
Solvent partners must bring in cash equal to their share of realization loss
Deficiency in the Insolvent Partner’s Capital account is to be shared by the solvent partners in the ratio of their capitals as stood on the day of the dissolution. i.e., in the ratio of their capitals adjusted for Reserve and P&L A/c given in the opening balance sheet.
When the capitals are fixed, the deficiency in the Insolvent Partner’s Capital A/c will be transferred to the Solvent Partners Capital A/c in the opening capital ratio.
CRITICISMS OF GARNER VS. MURRAY
There are two important criticisms regarding this rule. They are:
a) The solvent partners are to introduce cash first to meet the realization loss and then introduce cash for meeting the loss due to insolvency.
b) Solvent partners with surplus capital alone are to meet the insolvency loss. This will induce the solvent partners to reduce their capital to nil or to make it as negative balances.
Steps in insolvency are:
1. Preparation of Realisation account.
2. Capital accounts of Partners
3. Cash account or Bank account
Applicability of Garner vs. Murray in India
There is nothing which prevents to assume that the decision in Garner vs. Murray will also apply to India on the following grounds:
a) Section 48 of Indian Partership Act is almost a copy of Section 44 of British Partnership Act upon shich the decision in Garner vs. Murray is based.
b) Secondly, there has been no case law in India which has examined this issue.
JOURNAL ENTRIES
a) Realisation A/c Dr.
To Sundry Assets
(For closing all assets at book value except cash or bank balance)
b) Sundry Liabilities A/c Dr.
To Realisation A/c
(For Closing all liabilities at book value except cash, capital and reserves)
c) Cash A/c Dr.
To Realisation A/c
(Actual amount realised on sale of assets)
d) Partners Capital A/c Dr.
To Realisation A/c
(For the agreed value of assets taken over by partners)
e) Realisation A/c Dr.
To Cash A/c
(For payment of liabilities)
f) Realisation A/c Dr.
To Partners Capital A/c
(For payment of liabilities by a partner)
g) Realisation A/c Dr.
To Cash A/c
(For expenses of realisation)
h) Partner’s Capital A/c Dr.
To Cash A/c
(For a partner is to bear the expenses of realisation)
i) Partners Capital A/c Dr.
To Realisation A/c
(For the loss on realization and transfer it to Partners Capital A/c in the profit-sharing ratio)
j) Cash A/c Dr.
To Solvent Partner’s Capital A/c
(For the cash brought in by the solvent partners equal to their share of realization loss)
k) Solvent Partner’s Capital A/c Dr.
To Insolvent Partner’s Capital A/c
(For transferring the deficiency in the Insolvent Partner’s Capital A/c to
solvent partners capital account according to the rule in Garner Vs. Murray)
l) Transfer the Balance in the Solvent Partners Capital A/c Dr.
To Cash A/c
m) All accounts will close.
Example 2:
The positions of A, B and C on June 30, 2002 was as follows:
Liabilities Rs. Assets Rs.
Creditors
A’s Loan
A’s Capital A/c
B’S Capital A/c
P& L A/c 63,000
40,000
64,000
36,000
70,000 Cash
Assets
C’s Capital A/c 25,000
1,70,000
78,000
2,73,000 2,73,000
Profit and losses are shared-A 18/35; B 7/35; and C 10/35. The firm is dissolved on the above date. Sundry assets realize Rs.1,40,000. Sundry creditors are paid Rs.60,000 in full settlement. Expenses amount to Rs.8,000. C is insolvent. Assume the capital are not fixed. Close the books of the firm.
Solution.
Dr. REALISATION A/c Cr.
Rs. Rs.
To Sundry Assets
To Cash (Sundry creditors)
To Cash (Expenses) 1,70,000
60,000
8,000 By Sundry Creditors
By Cash (Sundry assets)
By Loss transferred to Capital A/cs:
A
B
C 63,000
1,40,000



18,000
7,000
10,000
2,38,000 2,38,000

Dr. CASH A/c Cr.
Rs. Rs.
To Balance b/d
To Realisation (Sundry Assets)
To A’s Capital A/c(Loss on realn.)
To B’s Capital A/c(Loss on realn.) 25,000
1,40,000
18,000

7,000 By Realisation A/c (Creditors)
By A’s Loan Account
By Realisation A/c(Expenses)
By A’s Capital A/c(Settlement)
By B’s Capital A/c(Settlement) 60,000
40,000
8,000
54,670

27,330
1,90,000 1,90,000

Dr. CAPITAL A/cs Cr.
Particulars A
Rs. B
Rs. C
Rs. Particulars A
Rs. B
Rs. C
Rs.
To Balance
To Realisation Loss
To C’s Capital Deficiency
To Cash
18,000
45,330
54,670
7,000
22,670
27,330 78,000
10,000 By Balance b/d
By P&L A/c (Profit)
By Cash (Loss)

By A’s Capital A/c
By B’s Capital A/c 64,000
36,000
18,000 36,000
14,000
7,000
20,000


45,330
22,670
1,18,000 57,000 88,000 1,18,000 57,000 88,000
12.6. PIECEMEAL DISTRIBUTION
At the time of dissolution, all the assets are realised and liabilities are paid. Hence, it is assumed that all the assets are realised on the date of dissolution. But, in reality, it is not possible to realize all the assets at the same time. Depending on the type of assets, whether current or fixed, the realisation of the same takes some time, i.e., the assets are realised gradually and not at once. However, the available cash, as and when the assets are realised, is used in the order of paying the realisation expenses, outsiders’ liabilities, partners’ loan and finally the partners capital.
If a liability is having any charge over any assets, then the cash realised through the sale of such asset is first used for paying of the liability. If the asset is not having any charge, then the cash realised through the sale of such asset is used for paying all the liabilities. While setting the accounts, after paying the outsiders’ liabilities, the internal liabilities (i.e., partners capital)are paid as and when any asset is realised, without waiting for realisation of all assets.
Piecemeal distribution literally means distribution of available cash immediately on realisation without waiting for the realisation of entire assets.
PROCEDURE
When assets realise gradually all the liabilities cannot be paid on one day. The procedure is pay the external liabilities:
First in the ratio of amount outstanding.
The balance must be utilised to pay off internal loans in the ratio of amount outstanding.
Finally, if there is any balance that will be distributed among Partners Capital A/c under:
(a) Proportionate capital method, or
(b) Maximum loss method.
PROPORTIONATE CAPITAL METHOD
The capitals of the partners will be compared with their respective profit-sharing ratio. Any partner who has contributed in excess of his profit-sharing proportion will be paid first. So that the capitals are brought in the profit-sharing ratio. Finally, the balance outstanding will be loss of partners which will be in the profit-sharing ratio. This method is suitable when the following conditions are satisfied:
(a) Partners’ profit-sharing ratio is not as per their capital contribution.
(b) All the partners are solvent and are likely to remain so.
The steps involved are:
(1) Adjust the capital by adding up capital, current account and reserve. Divide adjusted capital of each partner by his profit-sharing ratio. The smallest quotient should be taken as base capital.
(2) Multiply base capital and profit-sharing ratio of each partner to calculate relative capital.
(3) Calculate the surplus capital by deducting relative capital(as per step 2) from adjusted capital of each partner.
(4) Divide the surplus capital in step 3 by profit-sharing ratio of each partner. The smallest quotient should be taken as revised base capital.
(5) Calculate relative by multiplying revised base capital and profit-sharing ratio.
(6) Deduct revised base capital from surplus capital to arrive at absolute surplus.
MAXIMUM LOSS METHOD
After paying external liabilities and partner’s loan find the cash available for distribution among the partners capital. Deduct from the total capital the amount available. The balance will be maximum loss (assuming no more realisation) which will be distributed in the profit- sharing ratio. The amount due minus the maximum loss will be the amount paid to the partners. The same procedure will be continued, every time when a realisation is made. The final balance will be maximum loss of partners, which will be in the profit - sharing ratio.
In maximum loss method the points to be considered are:
(1) Cash in hand is to be considered as the first realisation.
(2) For calculating capital ratio adjustment is to be made by adding capital balance share of reserve and profit when capitals are fluctuating. In case of fixed capital no adjustments is required.
Section – C
Example 3:
Following is the Balance Sheet of M/s Amir, Bakshi and Chander who share profits and losses in the ratio of 2:2:1.
Liabilities Rs. Assets Rs.
Sundry creditors
Capitals:
Amir
Bakshi
Chander 30,000

30,000
24,000
8,000 Cash in Hand
Sundry Debtors
Stock
Furniture
4,000
24,000
44,000
20,000

92,000 92,000

The firm was dissolved and the assets were realised gradually; Rs.20,000 was received once, Rs.30,000 another time and Rs.18,000 finally. Show how each instalments is to be distributed under Proportionate Capital Method.
Solution.
DISTRIBUTION OF CASH UNDER PROPORTIONATE CAPITAL METHOD
Creditors
Rs. Amir
Rs. Bakshi
Rs. Chandar
Rs.
Balance
Cash given to Creditors

I Instalment: Rs.20,000 to creditors

II Instalment: Rs.30,000
(Rs.6,000 to Cr. and Rs.6,000 to Amir)

Rs.8,000 TO Amir and Rs.8,000 to Bakshi
(to make their capital in the profit-sharing ratio)

Balance 2,000 to all partners(2:2:1)

III Instalment:18,000 to all partners(2:2:1)
Loss 30,000
4,000
26,000
20,000
6,000
6,000
NIL


30,000

30,000
______
30,000
6,000
24,000


8,000
16,000
800
15,200

7,200
8,000 24,000

24,000
______
24,000
______
24,000


8,000
16,000
800
15,200

7,200
8,000 8,000

8,000
_____
8,000
_____
8,000


_______
8,000
400
7,600

3,600
4,000
Example 4:
Kamala, Vimala and Kokila were sharing profit and losses in the ratio of 3:2:1. They decided to dissolve
the firm on 30th June 1996. Their balance sheet as on that date was as under:
BALANCE SHEET
Liabilities Rs. Assets Rs.
Creditors
Capital Accounts:
Kamala
Vimala
kokila 35,000

25,000
25,000
15,000 Fixed Assets
Current Assets 60,000
40,000
1,00,000 1,00,000
All the assets were realised Rs.85,000. That amount realised in first instalment Rs.35,000, in second instalment Rs.25,000 and in third instalment Rs.25,000. Prepare the statement showing distribution of cash under maximum loss method.
Solution.
Particulars Total
Rs. Creditors
Rs. Kamala
Rs. Vimala
Rs. Kokila
Rs.
Balance Outstanding
I Instalment Rs.35,000
Balance Outstanding
II Instalment Rs.25,000
(65,000-25,000=40,000)(3:2:1)
Cash Paid
Balance Outstanding 1
Cash paid 2
Balance Outstanding (1-2)
III Instalment Rs.25,000
(40,000-25,000=15,000)(3:2:1)
Cash Paid 3
Balance Outstanding
Cash Paid 3
Balance Outstanding* [(1-2)-3] 1,00,000
35,000
65,000
40,000
______
25,000
65,000
25,000
40,000
15,000

25,000
40,000
25,000
15,000 35,000
35,000
0


______
0 25,000
-
25,000
20,000
______
5,000
25,000
5,000
20,000
7,500

12,500
20,000
12,500
7,500 25,000
-
25,000
13,333
______
11,667
25,000
11,667
13,333
5000

8,333
13,333
8,333
5,000 15,000
-
15,000
6,667
_____
8,333
15,000
8,333
6,667
2,500

4,167
6,667
4,167
2,500
Balance unpaid (loss on realisation)

Example
Ram, Shyam and Madan share profits and losses in the ratio of 4:2:1. They decide to dissolve the partnership their balance sheet on the date of dissolution being as follows:
BALANCE SHEET
Liabilities Rs. Assets Rs.
Creditors
Bank Overdraft
General Reserve
Capital Accounts:
Ram
Shyam
Madan 5,700
16,250
9,450

40,000
80,000
65,000 Land and Building
Plant and Machinery
Furniture
Investments
Stock
Debtors
Cash 95,720
16,300
2,460
15,000
64,150
22,700
70
2,16,400 2,16,400
The partners also decide that after the creditors have all been paid and providing a sum of Rs.1,200 to meet probable expenses of realisation, all cash should immediately be divided among them. The assets realised as follows:
Realisation 1-15,360; 2-18,400;3-96,399;4-56,300. Expenses of realisation amounted to Rs.1,132. Prepare a statement showing in detail how cash should be distributed among the partners.
Solution:
Particulars Creditors
Rs. Bank loan
Rs. Ram
Rs. Shyam
Rs. Madan
Rs.
Amount due
I Realisation 15,360+70-1,200=14,230
(ratio 5,700:16,250)
Balance Due
II Realisation Rs.18,400
Balance in II Realisation
(18,400-7,720)Rs.10,680
Max. loss=1,94,450-10,680=1,83,770
(in the ratio of 4:2:1)

Deficiency of Ram tfr to others in the ratio of 82,700:66,350

Deficiency of Shyam tfr to Madan
Cash Paid
Balance outstanding
III Realisation Rs.96,366(ratio 4:2:1)
Max. loss=1,83,770-96,399=87,371

Deficiency tfr to other partners-4,526 in
capital ratio
Cash paid
Balance outstanding
IV Realisation 56,300+62=56,362
Max. loss=87,371-56,362=31,003
(ratio 4:2:1)
Cash paid
Unpaid amount 5,700
3,695
2,005
2,005
0 16,250
10,535
5,715
5,715
0 45,100*




45,400
1,05,011
-59,611

+59,611
0
0
0
45,400
-49,926

-4,526
+4,526
0
45,400
-17,716


27,684
17,716 82,700




82,700
52,506
30,194

-33,075
-2,881
+2,881
0
82,700
-24,963

57,737
-2,511
55,226
27,474
-8,858


18,616
8,858 66,350




66,350
26,253
40,097

-26,536
13,561
-2,881
10,680
55,670
-12,482

43,188
-2,015
41,173
14,497
-4,429


10,068
4,429

Unit Questions:
1. What is dissolution of a firm? Distinguish between dissolution of partnership and dissolution of a firm.
2. Discuss the circumstances in which partnership is dissolved and a firm is dissolved.
3. The following was the balance sheet of A and B as at Dec. 31st 2001:
Liabilities Rs. Assets Rs.
Creditors
A’s Loan
General Reserve
Capitals:
A 30,000
B 25,000 20,000
10,000
10,000



55,000 Plant
Patent
Stock
Debtors 19,000
Less: Provision for Bad Debts 1,000

Cash 40,000
6,000
25,000


18,000
6,000
95,000 95,000
A and B shared profits in the ratio of 3:2. On 1st January, 2002, the firm was dissolved. A took over the patents at a valuation of Rs.5,000. The other assets realised as under:
Goodwill – Rs.15,000; Plant – Rs.30,000; Stock – Rs.22,000; Debtors – Rs.18,500.
The sundry creditors were paid off at a discount of 5%. The expenses of realisation came to Rs,3,500. Prepare the necessary Ledger Accounts to close the books of the firm.
4. Aki, Bki and Cki were partners in a firm. They shared profits and losses: Aki 40% Bki 30% and Cki 30%. The firm was dissolved and Bki was appointed to realise the assets and distribute the proceeds. Bki is to receive 5% commission on the amounts realised from sale of assets and to bear all expenses of realisation.
The balance sheet on the date of dissolution was as under:
Liabilities Rs. Assets Rs.
Creditors
Aki’s Capital A/c
Bki’s Capital A/c 59,000
30,000
20,000 Cash
Debtors 45,000
Less: Provision 2,500

Stock
Cki’s Capital o/d 1,500


43,000
60,000
4,500
1,09,000 1,09,000
Debtors realised Rs.35,000. Stock Rs. 45,000. Goodwill Rs.2,000. Creditors were paid Rs.57,500 in full settlement. In addition, outstanding creditors, Rs.500 were also paid. The expenses amounted to Rs.600. Aki and Bki agreed to receive Rs.3,000 in full settlement from Cki.
Show the Realisation A/c, Cash A/c and Capital A/cs of the partners.
5. Mani, Ramu and Sethu are partners sharing profits and losses in the ratio of 3:4:5. They decided to dissolve the firm on 1-7-1989. They decided to realise the assets gradually. Payments to be made as and when assets are realised.
The Balance sheet of the firm on 1-7-1989 is given below:
Liabilities Rs. Assets Rs.
Creditors
Ramu’s Loan A/c
Capitals:
Ramu
Mani
Sethu 10,000
2,000

8,000
12,000
4,000 Sundry Assets 36,000
36,000 36,000
The realisation of assets was as follows:
I instalment Rs.5,000, II instalment Rs.10,000, III instalment Rs,5,100, IV instalment Rs.6,300, V instalment Rs.5,700.
Prepare a detailed statement showing distribution of cash.
[Ans. II instalment Mani gets Rs.3,000; III instalment mani gets Rs.3,450, Ramu gets Rs. 1,650; IV instalment both Mani and Ramu gets Rs.3150 each; V instalment Mani gets Rs.1,425; Ramu gets Rs.1,900, Sethu gets Rs.2,375]






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1. FINANCIAL ACCOUNTING – R.L. GUPTA & V.K. GUPTA
2. FINANCIAL ACCOUNTING – T.S. REDDY & A. MURTHY
3. FINANCIAL ACCOUNTING – S. SANTHANA GOPALAN & P. PARTHASARATHY
4. FINANCIAL ACCOUNTING – Dr. S. GANESAN & S.R. KALAVATHI

RETIREMENT AND DEATH OF A PARTNER

LESSON - 11
RETIREMENT AND DEATH OF A PARTNER

OBJECTIVES
After studying this chapter, you should be able to understand:
• New and gaining ratio at the time of retirement and death of a partner.
• Value and goodwill at the time of retirement and death of a partner.
• Amount payable to the retiring of the deceased partner.
• Modalities of setting the amount due to the deceased partner.
STRUCTURE
11.1 Introduction
11.2 Adjustment
11.2.1 Revaluation of Assets and Liabilities
11.2.2 Treatment of Goodwill
11.2.3 Readjustment of Capital
Examples
11.3 Death of Partner
Unit Questions
11.1 INTRODUCTION
In partnership business, like admission of a partner, retirement or death of a partner may also take place. If a partner is retired or died, then the firm is to be reconstituted. Through reconstitution, the old partnership comes to an end and a new partnership between continuing partners (excluding the retiring or deceased partner) comes into existence. However, the firm continues its business. Further , the profit sharing ratio of remaining partners, who continue to stay in the business, changes.
According to the Indian Partnership Act 1932, Sec 32(1) a partner may retire (a) With the consent of all other partners (Whether implied or expressed ) or (b) in accordance with an express agreement by the partners: or (c) by conveying his intention to retire (in case of partnership at will) by a written notice. The retiring or deceased partner gets back his share of interest in the business which normally includes his share of capital , goodwill, revaluation profit or loss, profit earned or sustained by the business till the date of retirement or death, accumulated reserves, profits and losses.


DIFFERENCE BETWEEN RETIREMENT AND DEATH
If a partner wants to leave the business of the firm, then he may retire from the firm at any time. By this, he loses his right as a partner from the date of retirement. Death of a partner is a sudden natural event, over which no partner is having control. In both the cases, a reduction in the number of partners is resulted into. The basic differences between retirement and death of a partner are as follows:
The retirement of a partner can be planned and effected from a specified date. Whereas the death of a partner may occur at any time during the year.
In case of retirement, the payment of amount due (i.e., his share of interest in the business) is paid to the retiring partner himself. Whereas, in case of death of partner, the payment of amount due to the deceased partner is paid to his legal representive through an executor. The accounting steps involved and treatment to be given incase of retirement or death of a partner are one and the same.
STEPS IN ACCOUNTING
When a partner is retired or died various accounting adjustments are to be made. As all the partners are responsible for the state of affairs of business till the time or retirement or death of any partner, they have to share the undistributed reserved, profits or losses, profit or loss on the change in the value of assets and liabilities. Thus , the following accounting steps are followed while solving problems, when a partner is retired or died:
Calculation of New Profit Sharing Ratio or continuing partners excluding the retiring or deceased partner.
Calculation of Gaining Ratio of continuing partners.
Revaluation of Assets and Liabilities
Adjustment of accumulated reserves, profits or losses.
Treatment of Goodwell.
Adjustment of Capital Accounts of partners.
CALCULATION OF NEW PROFIT SHARING RATIO
When a partner is retired or died, the profit sharing ratio of continuing partners , changes and hence , a new profit sharing ratio of continuing partners(excluding retiring or deceased partner) is to be found Thus, new profit and losses of the firm. With the given information, the new profit sharing ratio is to be calculated. Following are the different types of examples:
When old ratio of partners alone is given : in this case, future profits of the firms are to be shared by the continuing partners in the old ratio.
When the continuing partners purchase specific share from the retiring partner : In this cas, the continuing partners’ old shares of profit are to be raised by the specific share gained from the retiring partner.
Example : Bansilal, Gujral and Devilai are partners in a firm sharing profits and losses in the ratio of 5:3:2 Calculate the new profit sharing ratio, if (a) Devilal retires: (b) Bansilal retires: and (c) Gujral retires.
Solution :
As the old profit sharing ratio of partners alone is given, it is assumed that the continuing partners share the future profits and losses in their old ratio.
If devilal retires, the new profit sharing ratio between Bansilal and Gujral is 5:3
If Bansilal retires, the new profit sharing ratio between Gujral and Devilal is 3:2
If Gujral retires, the new profit sharing ratio between Bansilal and Devilal is 5:2.
CALCULATION OF GAINING RATIO
When a partner is retired or died, the continuing partners’ profit sharing ratio is raised to the extent they gain from outgoing partner. Thus, Gaining ratio is the ratio in which the continuing partners gain their share of profit from a retiring or deceased partner. After retirement or death, the share of continuing parners increases than what they had before retirement or death. It helps to calculate the amount of compensation to be paid by each of the continuing partners to the outgoing partner. It is calculated by using the following formula:
Gaining Ratio = New Ratio – Old Ratio
Given below are the examples of different situations
1. When old ratio of partners alone is given : In this case the continuing partners gain in their old ratio.
2.When old ratio continuing partners purchase specific share from the retiring partner : In this case, the continuing partners gain their share in the specific ratio given.
When new ratio of containing partners and old ratio of all partners are given: In this case, the gaining ratio is calculated by applying the formula.
Gaining Ratio = New Ratio – Old Ratio
Example:
A,B and R are partners in a firm sharing profits and losses in the ratio of 5:3:2 Calculate the gaining ratio if (a) A is retired (b) b is retired : and (c) if R is retired.
Solution:
As only old ratio of partners is given without any details about what the continuing partners take from the outgoing partner, it is assumed that the continuing partners gain in their old profit sharing ratio .Thus.
If A retires, the gaining ratio B and R is 3:2
If B retires, the gaining ratio A and R is 5:2
If R retires, the gaining ratio A and B is 5:3
Example :
Indira , sonia and Rajiv are partners sharing profits in the ratio of 5:4:3 .Rajiv is retired and his share was taken up by Indira and Sonia in the ratio of 3:2 Calculate the gaining ratio.
Solution:
In this case, the continuing partner gain their share in the specific ratio given., i.e Indira and Sonia gain the Rajiv’s share in the ratio of 3:2
Share of Rajiv = 3:2
Share gained by Indira = 3/12 of 3/5 = 9/60
Share gained by Sonia = 3/12 of 2/5 = 6/60
Gaining Ratio of continuing partners Indira and Sonia is
9/60:6/60 or 9 : 6 or 3:2
Example
Ragul, priya and Lakshmi ae partners sharing profits in the ratio of 5:4:3 lakshmi retires and surrender 1/12th to Ragul and the remaining in favour of Priya Calculate the gaining ratio.
Solutions :
The continuing partners gains from the retiring partner.
Retiring partner, Lakshmi’s share = 3/12
Surrender to Ragul = 1/12
Remaining surrender to Priya = 3/12 – 1/12 = 2/12
Thus, Gaining ratio of Ragul and Priya is 1/12 : 2/12 or 1:2.
Example:
Subash, Stalin and Sarath are partners sharing profits and losses in the ratio of 3:2:1 . Sarath retires and the new profit sharing ratio of remaining Subash and Stalin is agreed at 7:5 respectively. Calculated the gaining ratio.
Solution:
When the old and new profit sharing ratios are given, the gaining ratio is found by applying the following formula:
Gaining Ratio = New Ratio – Old Ratio
Gaining Ratio of Subash - 7/12 – 3/6 = 6/12 = 1/12
Gaining Ratio of Stalin - 5/12 – 2/6 = 4/12 = 1/12
Thus, Gaining Ratio of Subash and Stalin is 1:1
11.2.1 REVALUATION OF ASSETS AND LIABILITIES
When a partner is retired or died, one of the accounting adjustments to be made is revaluation of assets and liabilities. The profit or loss on the revaluation is to be shared between al the partners in the old ratio. By this process,. Share of profit or loss on the revaluation is to be shared between all the partners in the old ratio. By this process, share of profit or loss on any increase or decrease in the value of assets and liabilities is given to the retiring or deceased partner. The effect of revaluation (profit or loss on revaluation) is known with the help of opening an account called “Revaluation Account”. It is also called as “Profit and Loss Adjustments Account” It is nominal in nature. For any profit ,i.e any increase in asset or decrease in liability, the revaluation account is to be credited. For any loss, i.e any decrease in asset or increase in liability, the revaluation account is to be debited.
If any unrecorded assets and liabilities are found in the business, it is to be treated as increase in assets and liabilities and the revaluation account is credited and debited respectively.
There are two methods of maintaining revaluation account:
Revaluation Account Method to record the revised valued of assets and liabilities.
Memorandum Revaluation Account Method to record the original values of assets and liabilities.
REVALUATION ACCOUNT METTHOD
Following are the accounting entries to be passed to record the revised values of assets and liabilities:
1. For any increase in the value of asset:
Asset A/c Dr (With the increased amount)
To Revaluation
2. For any decrease in the value of asset:
To Revaluation A/c Dr.
To Asset A/c (With the decreased amount)
3. For any increase in the value of liability
Revaluation A/c Dr. (With the increased amount)
To liability A/c
4. For any decrease in the value of liability
Liability A/c Dr. (With the decreased amount)
To Revaluation A/c
5. For any unrecorded asset:
Unrecorded Asset A/c Dr. (With the value of asset)
To Revaluation
6.For any unrecorded liability:
Revaluation A/c Dr. (With the value of liability)
To Unrecorded Liability A/c
7.For any decrease in the existing provision for doubtful debts:
It results in increase of existing debtors (assets)and hence the
revaluation account is to be credited.
Provision for Doubtful Debt A/c Dr. (With the decreased amount)
To Revaluation A/c
8.For any decrease in the existing provision for doubtful debts:
It results in increase of new liability and hence the revaluation account is to be debited
Revaluation A/c Dr. (With the amount of new provision)
To Provision for Doubtful Debts A/c
9. For closing the revaluation account:
If Profit:
Revaluation A/c Dr.
To All partner’s Capital A/c (in the old ratio)
If Loss:
All Partners’ Capital A/c Dr. ( in the old ratio)
To Revaluation A/c
The specimen of a Revaluation Account is given below.
Revaluation A/c
Dr. Cr.

To Decrease in the value of assets
To Increase in the value of liabilities
To Unrecorded Liabilities
To New provision for doubtful debts

To Profit transferred to old partners Capital account (in old ratio)
Rs.
xxx
xxx

xxx
xxx


xxx*



xxx
By Increase in the value of assets
By Decrease in the value of liabilities
By Unrecorded Assets
By Decrease in the existing provision for doubtful debts

By loss transferred to old partners
Capital accounts (in old ratio)

Rs.
xxx

xxx
xxx

xxx



xxx*
xxx

* Only one figure shall appear.

Example:-
Venkat,nagu and Selvam are partners sharing profits and losses in the ratio of 5:3:2 . Their Balance Sheet as on 31st March 2000 was as under.
Liabilites Rs. Rs. Assets Rs. Rs.
Creditors
Outstanding expenses
Capitals:
Venkat
Nagu
Selvam


6,52,500
3,37,500
3,60,000
8,66,250
90,000




13,50,000




23,06,250 Cash
Stock
Prepaid Insurance
Debtors
Less. Provision

Machinery
BuildingsFurniture


2,11,500
9,000
4,05,000
3,37,500
33,750


2,02,500
4,27,500
7,87,500
1,12,500


23,06,250
Selvam retires. The new profit sharing ratio of continuing partners Venkat and nagu is 5:3 .Following are the changes taken place in the assets and liabilities:
Stock to be depreciated at 5%
Provision for doubtful debts is to be Rs.11,250
Funiture to be depreciated at 10%.
Building is valued at Rs. 9,00,000
You are required to pass necessary journal entries and prepare Revaluation Account.
Journal Entries
Date Particulars L.F Rs. Rs.
2000
Mar.31



,,



,,




,,











Revaluation A/c
To Stock A/c
(Depreciation on stock is recorded)
Revaluation A/c
To Provision for Doubtful Debts A/c
(Increase in the provision for doubtful debts is recorded)
Revaluation A/c
To Furniture A/c
(Depreciation on furniture at 10% on Rs.1,12,500 is recorded)
Buildings A/c
Revaluation A/c
(increase in the value of building is recorded)
Revaluation A/c
To Venkat’s Capital A/c
To Nagu’s Capital A/c
To Selvam’s Capital
(Profit on revaluation of assets and liabilities transferred to all partners in the old ratio 5:3/;2)

Dr.


Dr.



Dr.



Dr.


Dr.




16,875


2,250



11,250



1,12,500


82,125





16,875


2,250



11,250



1,12,500


41,062.50
24,637.50
16,425.00




Revaluation A/c

To Stock A/c
To Provision for doubtful debts A/c
To Furniture A/c

To Profit transferred to
Venkat(5/10)
Nagu (3/10)
Selvam (2/10) Rs.






41,062.50
24,637.50
16,425.00


Rs.

16,875
2,250
11,250





82,125

1,12,500
By Building A/c
Rs.
1,12,500










1,12,500
MENORANDUM REVALUATION ACCOUNT METHOD.
The Memorandum Revaluation A/c
Dr. Cr.

To Decrease in the value of assets
To Increase in the value of liabilities
To Unrecorded Liabilities
To New provision for doubtful debts
To Profit transferred to old partners’
Capital accounts (in old ratio)


To Increase in the value of assets
To Decrease in the value of liabilities
To Unrecorded Assets
To Decrease in the existing
Provision for doubtful debts
To Profit transferred to all partners

Capital accounts (in new ratio)
Rs.
xxx
xxx
xxx
xxx
xxx

xxx
xxx
xxx
xxx

xxx*


xxx

By Increase in the value of assets
By Decrease in the value of liabilities
By Unrecorded Asserts
By Decrease in the existing provision
for doubtful debts.
By loss transferred to old partners’
Capital accounts (in old ratio)

By Decrease in the value of assets
By Increase in the value of liabilities
By Unrecorded Liabilities
By New provision for doubtful debts
By Loss transferred to all partners’
Capital accounts (in new ratio)
Rs.
xxx
xxx
xxx



xxx
xxx
xxx
xxx

xxx*


xxx
• Only one figure shall appear.
ADJUSTMENT OF ACCUMULATED RESERVES, PROFITS AND LOSSES
When a partner is retied or died, one of the accounting adjustment to be made is transfer of accumulated reserves, profits and losses This adjustment is done because the retiring or deceased partner is also eligible for his share in the accumulated reserves, profits and losses. Therefore , the past reserves, profits and losses, etc. (for which all the partners are responsible) are transferred to all partners ; (including the retiring or deceased partner) capital accounts in the old profit sharing ratio. In case of fluctuating capitals, they are transferred to capital accounts of partners and in case of fixed capitals, they are transferred to current account of partners, For transfer, the accumulated reserves and profits are credited and the accumulated losses are debited to partners’ capital or current accounts. The accounting entries to be passed in this regard are as follows:
For tranfer of acumualated reserves, profits:
General Reserve A/c Dr.
Profit and Loss A/c Dr.
Workmen Compensation Fund A/c Dr.
Any Other reserve A/c Dr.
To all Partner’s Capital or Current A/c (in old ratio)
For transfer of accumulated losses:
All partner’s Capital or Current A/c Dr. (in old ratio)
To Profit and Loss A/c
To Defered Revenue Expenditure A/c.
11.2.2 TREATMENT OF GOODWILL
When a partner is retied or died, goodwill of the firm is tob e adjusted and treated according to the terms and conditions agreed previously. There are three methods of treating the goodwill of the firm at the time of retirement of death of partner , They are.
When Goodwill is raised.
When Goodwill is written of.
When Goodwill account is not maintained.
When Goodwill is raised:
Under this method, the following are the steps involved.
First, the present value of goodwill of the firm is to b taken . Normally, the present value will be given in the problem. If it is not given , it is to be calculated based on the information given in the problem. Calculation of goodwill may be based on the average profits or super profits or capitalization of profit method
The present value of the goodwill of the firm is compared with the existing book value of goodwill and the diference between them is found. When the book value of the goodwill is equal to the present value of goodwill, then there is no need for any adjustment.


When no goodwill appears in the Balance Sheet, then the book value of goodwill is to be taken as zero. Hence to raise the goodwill to its present value, all the partners’ (including the outgoing partner) capital accounts are to be credited in the old profit sharing ratio. Following is the journal entry to be passed.
Goodwill A/c Dr. (with the present value)
To All Partner’s Capital A/c ( in old ratio)

If the present value of goodwill of the firm is more than the book value of goodwill , then the difference amount of goodwill is to be raised and all the partners’ (including the outgoing partner) capital accounts are to be credited in the old profit sharing ratio, Following is the journal entry to be passed:
Goodwill A/c Dr. (With the difference between
Present value and Book value)
To All Partner’s Capital A/c ( in old ratio)

In the present value of goodwill fo the firm is less than the book value of goodwill , then the difference amount of goodwill is to be reduced and all the partners’ capital accounts are to be debited in the old profit sharing ratio. Following is the journal entry to be passed:
All Partner’s Capital A/c Dr. ( in old ratio)
Goodwill A/c Dr. (With the difference between
Present value and Book value)
Sometimes , the retiring or deceased partner’s goodwill alone may be
raised and recorded . In that case, the journal entry to be passed is:
Goodwill A/c Dr. (With his share of goodwill)
To Retiring or Deceased partner’ Capital A/c
Example:
Patil, Saxena and Dave are partiers in a firm sharing profits and losses in the ratio of 5:3:2 . Dave retired. The goodwill of the firm was valued at Rs.50,000 . Their new profit sharing ratio is 5:3 . Pass the necessary journal entries to record the goodwill under each of the following cases:
If no goodwill appears in the books of the firm and the present value of
goodwill is to be raised.
If the goodwill account appears in the books of the firm at Rs.50,000
If the goodwill account appears in the books of the firm at Rs.35,000
If the goodwill account appears in the books of the firm at Rs.67,000
If no goodwill account appears in the books of the firms and Dave’s share
of goodwill alone is raised.
Solution:
The present value of goodwill = Rs.50,000
Comparing the present value of goodwill of firm with the book value of goodwill : Following are the goodwill amount to be raised for each case:
(a) If no goodwill appears in the books of the firm: In this case, the book
value of goodwill is taken as zero. Hence, the goodwill to be raised is as
follows:

Goodwill = Present value of Goodwill - Book value of Goodwill
= Rs. 50,000 - 0 = Rs.50,000
(b)If the goodwill account appears in the books of the firm at Rs.50,000: In
this case, the goodwill to be raised is as follows:

Goodwill = Present value of Goodwill - Book value of Goodwill
= Rs. 50,000 - Rs. 50,0000 = 0
(c) If the goodwill account appears in the books of the firm at Rs,35,000:
In this case, the goodwill to be raised is as follows:

Goodwill = Present value of Goodwill - Book value of Goodwill
= Rs. 50,000 - 35,0000 = Rs.15,000
(d) If the goodwill account appears in the books of the firm at Rs.67,000: In
this case, the goodwill to be raised is as follows:
Goodwill = Present value of Goodwill - Book value of Goodwill
= Rs. 50,000 - 67,000 = Rs.17,000
If Dave’s share of goodwill alone is raised:
Dave’s share o good will = Rs.50,000 x2/10 = Rs. 10,000
Following are the journal entries to be passed for each case:
Journal Entries
Particulars L.F Rs. Rs.


Good will A/c
To Patil’s Capital A/c
To Saxena’s Capital A/c
To Dave’s Capital A/c
(The value of goodwill raised to its present value.i.e. 50,000 and is credited to all partners’ capital account in the old ratio 5:3:2)

No Entry is required because the book value of goodwill is equivalent to its present value.

Good will A/c..
To Patil’s Capital A/c
To Sazena’s Capital A/c
To Dave’s Capital A/c
(The Value of goodwill is brought up to value ie. 50,000 and is credited all partner’s capital accounts in old ratio 5:3:2)

Patil’s CapitalA/c
Saxena’s Capital A/c
Dave’s Capital A/c
To Goodwill A/c
(The value of goodwill is brought down to its present value ie. 50,000 by reducing the difference of Rs.17,000 and is debited to all partner’s capital accounts in old ratio 5:3:2)

Good will A/c
To Dave’s Capital A/c
9Dave share of good will alone is raised


Dr.










Dr.







Dr
Dr.
Dr.







Dr.
50,000










15,000







8,500
5,100
3,400







10,000


25,000
15,000
10,000








7,500
4,500
3,000








17,000






10,000

When Goodwill is written off:
In this method , the present value of goodwill is determined and raised by following the same procedure given in the first method” Full value of good will is raised” The journal entries to be passed are also the same as given in the first method.
Then, the raised goodwill is written off by debiting the continuing partners’ capital accounts excluding the retiring or deceased partner in the new profit sharing ratio. The amount of goodwill to be written off may be full or part. The accounting entry for writing off goodwill is
Continuing partner’s Capital A/c Dr. (in new ratio)
To Good will A/c (With the value of goodwill written off)
Sometimes, if the retiring or deceased partner’s goodwill alone is raised and recorded. For writing of the same, the journal entry to be passed is
Continuing partner’s Capital A/c Dr. (in gaining ratio)
To Good will A/c (With the Outgoing partner’s share of goodwill )

Example:
For the illustration 9, Pass the required additional journal entry if it is decided that the good will account should not appear in the books of the new firm.

Solution:
As the goodwill account should not appear in the books of the new firm, the goodwill is to be written off among the continuing partners excluding the retiring or deceased partner in the new ratio.
The new profit sharing ratio of continuing partners is 5:3
The gaining Ratio = New Ration – Old Ratio
For patil = 5/8 – 5/10 = 50-40/80=10/80
For Saxena = 3/8 – 3/10 =30-24/80 = 6/80
Thus, the gaining ratio is 10:6 or 5:3
The following additional journal entries are to be passed:
Date Particulars Rs. Rs.
a,c,&d






(b)
( c) Patil’s Capital A/c Dr
Sasena’s Capital A/c Dr
To Goodwill A/c
(The present value of raised goodwill is written off among the continuing partners excluding retiring partner in the new ratio 5:3)
No entry is required
Patil’s Capital A/c Dr.
Saxena’s Capital A/c Dr.
To Goodwill A/c
(Dave’s share of goodwill is written off among the continuing partners in the gaining ratio 5:3)


31,250
18,750






9,375
5,625

50,000







10,000

3. When Goodwill account is not maintained:
This method is followed when the retiring or deceased partner’s share of goodwill alone is raised and written off through the capital accounts of partners. I.e. goodwill account is not raised. The retiring or deceased partner’s share of goodwill is borne by the continuing partners in their gaining ratio. Hence , the outgoing partner’s share of goodwill is credited to his capital account and debited to the continuing partners’ capital accounts in the gaining ratio. Following is the journal entry to be passed.
Continuing partner’s Capital A/c Cr. (in gaining ratio)
To Retiring or Deceased partner’s Capital A/c (with his share of goodwill)

Example:
Prasad, Prakash and Praveen are partners shareing profits and losses in the ratio of 2:1:1 Praveen retires and it is decided to raise his share of goodwill alone without raising a goodwill account. The goodwill of the firm is valued at Rs.12,000 . The new ratio of continuing partner is 2:1 Pass necessary journal entry.
Solution:
Gaining Ratio = New Ratio – Old Ratio.
Gaining Ratio or Prasad = 2/3 –2/4= 8-61/12 = 2/12
Gaining Ratio or Prakash = 1/3-1/4 = 4-3/12 = 1/12
Gaining Ratio of Prasad and prakash is 2/12: 1/12 or 2:1
Prasad’s Capital A/c Dr. 8,000
Prakash’s Capital A/c Dr. 4,000
To praveen’s Capital A/c 12,000
(Praveen’s share of goodwill is raised and written off among the continuing partners in the gaining ratio 2:1.
ADJUSTMENT OF CAPITAL ACCOUNTS
(a) On the basis of availability of total capital of the new firm: Under this method , the total capital of the new firm will be given in the problem and following are the steps followed to adjust the capital accounts of partners:
The old capital of the continuing partners are adjusted with profit or loss on revaluation, goodwill and accumulated reserves, profits or losses, etc.
The new capital of continuing partners is found by dividing the total capital of the firm in their new profit sharing ratio.
The continuing partner’s new capitals are compared with their adjusted old capitals.
If the new capital is more than the adjusted capital, shortage is the result. For the shortage amount of capital, the continuing partners have to bring cash or it will be debited to their current accounts.
If the new capital is less than the adjusted capital, surplus is the result. For the surplus amount, the continuing partners have to withdraw the excess capital or it will be credited to their current accounts.
Example:
Bina, Ganguly and Susan are partner sharing profits and losses in the ration of 5:3:2 . Susan retired . On the date of retirement, the adjusted capitals of Bina, Ganguly and Susan were Rs.50,000 , Rs.40,000 and Rs.20,000 respectively. The total capital of the new firm is agreed at Rs.90,000 between Bina and Ganguly in the ratio of 5:3 .Calculate the actual cash to be paid off or to be brought in by the continuing partners.
Solution:
It is asked to adjust the capitals of the partners on the basis of availability of total capital of the new fire. i.e the total capital of the new firm is given as Rs.90,000 . The following steps are followed:
Adjusted old capital of partners are
Bina = Rs.50,000
Ganguly = Rs.40,000
Susan = Rs.20,000
2.Total Capital of the new firm is given as Rs. 90,000
New capitals of the continuing partners, Bina and Ganguly in new ratio is
Bina = Rs.90,000 x5/8 = Rs.56,250
Ganguly = Rs.90,000 x3/8 = RS.33,750
Comparing new capitals with the adjusted old capital :
Excess or shortage of Capital = New Capital – Adjusted Old Capital
For Bina = Rs.56,250 – Rs.50,000 = Rs.6,250 (Shortage)
For Ganguly = Rs.33,750 – Rs.40,000 = Rs.6,250 (Excess)
Thus, , Birth has to bring cash to the extent of Rs.6,250 for the shortage of capital and Ganguly has to be paid off cash to the extent of Rs. 6,250 for the excess of capital.
b) On the basis of adjusted capitals of continuing partners: Under this method, the total capital of the new firm will not be given in the problem and following are the steps followed to adjust the capital accounts of partner:
The old capitals of the continuing partners are adjusted with profit or loss on revaluation, goodwill and accumulated reserves, profits or losses, etc.
As new firm’s capital is not available , the total of adjusted old capitals of continuing partners is to be assumed as total capital of the new firm.
The continuing partners new capitals are compared with their adjusted old capitals.
If the new capital is more than the adjusted capital, shortage will be the result. For the shortage amount of capital , the continuing partners have to bring cash or it will be debited to their current accounts.
If the new capital is less than the adjusted capital, surplus will be the result. For the surplus amount, the continuing partners have to withdraw the excess capital or it will be credited to their current accounts.

Example:
Magesh, Videsh and Naresh are partners sharing profits and losses equally, Naresh retired. On the date of retirement, the adjusted capitals of Magnesh , Videsh and Naresh were Rs.50,000 , Rs.40,000 paying off cash so that the future capital of Mangesh and Videsh will be in their future profit sharing ratio. Calculate the actual cash to be paid off or to be brought in by the continuing partners.
Solutions:
Iit is asked to adust the capitals of the aprtenrs on the basis of adjusted capitals of continuing partners. The following steps are followed:
Adjusted old capitals of partner are
Magesh = Rs,50,000
Videsh = Rs.40,000
Naresh = Rs,20,000
Total capital of the new firm = Adjusted Old Capitals of continuing partners.
Total capital of the new firm = Adjusted Old Capitals of Magesh + Videsh
= Rs.50,000 + Rs.40,000
= Rs.90,000
As only old ratio of partners alone is given, the continuing partners share future profits and losses in their old ratio ,i.e 1:1
New capitals of the continuing partners, Magesh and Videsh in new ratio is
Magesh = Rs.90,000 x1/2 = Rs.45,000
Videsh = Rs.90,000 x1/2 = Rs.45,000
Comparing new capitals with eh adjusted old capitals:
Excess or shortage of capital = New Capital – Adjusted Old Capital
For Magesh = Rs.45,000 – Rs.50,000 = Rs.5,000 (Excess)
For Videsh = Rs.45,000 – Rs. 40,000= Rs.5,000 (Shortage)
Thus, Videsh has to bring cash to the extent of Rs.5,000 for the shortage of capital and Magesh has to be paid off cash to the extent of Rs.5,000 for the excess of capital.
11.3 CALCULATION AND DISPOSAL OF RETIRING OR DECEASED PARTNER’S INTEREST
When a partner is retired or died, the retiring or the deceased partner gets back his share of interest in the business. Normaly, the calculations of outgoing partner’s share of interest includes the following:

Balance in the capital and current accounts.
His share of goodwill
His share of profit or loss on revaluation of assets and liabilities.
His share of accumulated reserves, profits and losses.
His share of profit earned or loss sustained by the business till date of retirement or death.
Regarding the disposal of retiring or deceased partner’s interest in the business, the following procedure is adopted. In case of retiring partner. The amount due to him from the business is paid to him immediately or transferred to his loan account. In the absence of any agreement, the retiring partner is entitled to receive interest at the rate of 6% on the loan amount, till it is paid out. In case, the firm encounters any financial crisis, the consent of the outgoing partner can be obtained to pay the loan amount in equal instalments.
In case of deceased partner, the amount due to him from the business is paid to his legal representative (or executor) or transferred to the loan account is repaid. In case, the firm encounters any fiancial crisis, the consent of the legal representative (executor) of the deceased partner can be obtained to pay the loan amount in equal instalments.
Example
Shastri, Patil and Prabu are partner sharing profits and losses in the ratio of 2:1:1 .Following is their Balance Sheet as on 31st December 2000.
Liabilities Rs. Assets Rs. Rs.
Sundry Creditors
Bills Payable

General Reserve
Capital Accounts
Shatri
Patil
Prabu 18,000
2,000

5,000

30,000
25,000
10,000


90,000 Cash in hand and at bank
Sundry Debtors
Less: Provision

Stock in trade
Furniture


45,000
1,000
20,000


44,000
20,000
6,000




90,000

Prabu retired and the partners agree to the following revaluation.
The provision for doubtful debts is to be increased to Rs.1,800
Unrecorded investments amounting to Rs.4,000 are to be recorded
in the books of accounts.
Goodwill account is to be raised at Rs.25,000
The new profit sharing ratio of Shastri and Patil shall be 2:1
respectively.
You are required to give the journal entries to carry out the above arrangements and prepare the Balance Sheet of the new firm if it is decided to (a) show the assets and liabilities at their revised values.
Journal Entries
Date Particulars L.F Rs. Rs.
2000
Mar.31



,,



,,




,,


,,



,,



1994
Jan.1
Revaluation A/c
To Provision for doubtful debts
(Increase in the provision for doubtful debts recorded)
Investment A/c
To Revaluation A/c
(Unrecorded investment recorded
Revaluation A/c
To Shastri’s Capital A/c
T0 Patil’s Capital A/c
To Prabu’s Capital A/c
(Profit on revaluation of assets transferred to all partner ‘s capital accounts in the old ratio 2:1:1
General Reserve A/c
To Shastri’s Capital A/c
T0 Patil’s Capital A/c
To Prabu’s Capital A/c
(General Reserve transferred to all partners, Capital account in old ratio 2:1:1
Goodwill A/c
To Shastri’s Capital A/c
T0 Patil’s Capital A/c
To Prabu’s Capital A/c
(Goodwill of the firm is raised at Rs.25,000 and is credited to all Partners’capital accounts in old Ratio)
Prabu’s Capital A/c
To Cash A/c
(Amount due to Prabu is paid)

Cash A/c
To Shastri’s Capital A/c
To Patil’s Capital A/c
(Cash brought in by continuing partners)

Dr.



Dr.


Dr.






Dr.





Dr.






Dr
800



4,000


3,200






5,000





25,000






18,300



18,300

800



4,000


1,600
800
800




2,500
1,250
1,250



12,500
6,250
6,250




18,300



12,200
6,100




Revaluation A/c
Dr. Cr.
2000
Dec.31
,,

To Provision for doubtful debts
To Profit on Revaluation
Transferred to
Shastri’s Capital A/c (2/4) 1,600
Patil’s Capital A/c (1/4) 800
Prabu’s Capital A/c (1/4) 800
Rs.
800





3,200
4,000 1993
Dec.31
Investment A/c Rs.
4,000





4,000
Capital Accounts of Partners
Shastri
Rs. Patil
Rs. Prabu
Rs. Shastri
Rs. Patil
Rs. Prabu
Rs.
To Cash A/c
To Balance c/d
--
58,000





58,800 --
58,000





39,400 18,300
--





18,300 By Balance b/d
By Revaluation A/c
By General Reserve
By Goodwill A/c
By Cash A/c



By Balance b/d 30,000
1,600
2,500
12,500
12,250


58,800
58,800 25,000
800
2,500
6,250
6,100


39,400
39,400 10,000
800
1,250
6,250
--


18,300



BALANCE SHEET OF SHASTRI AND PATIL AS ON 31.12.2000
Liabilities Rs. Assets Rs. Rs.
Sundry Creditors
Bills Payable


Capital Accounts
Shatri
Patil
18,000
2,000



58,800
39,400



1,18,200 Cash in hand and at bank
Sundry Debtors
Less: Provision

Stock in trade
Furniture
Investment
Goodwill


45,000
1,800
20,000


43,200
20,000
6,000
4,000
25,000


1,18,200
Example:-
Khanna and Krishna are partners sharing profits and issues in the ratio of 3:2 respectively . They close their books of accounts every year on 31st March. Their Balance as on 31st Marth 2000 was as under.
Liabilities Rs. Rs. Assets Rs. Rs.
Capitals
Khanna
Krishna
General Reserve
Creditors


1,35,000
90,000
45,000
30,000

3,00,000 Furniture
Stock
Debtors
Cash
30,000
1,50,000
75,000
45,000


3,00,000
Krishna died on August 31st 2000 .Partnership deed provided that in the event of death of any partner his heirs would be entitled to be paid out:
Capital to his credit at the date of death.
His share of reserve at the date of the last Balance Sheet.
His share of profits to the date of his death based on the average profits of the last three accounting years.
By way of goodwill his share of total profits for the preceding three accounting years.
The profits for the three proceeding accounting years were as follows:
1999 – 2000 Rs.67,500
1998 – 2000 Rs.58,800
1997 – 1998 Rs.62,700

He is decided to transfer the amount due to Krishna to his heir’s Loan Account Prepare
Solution:
Krishna’s Capital A/c

2000
Aug.31

To Krishna Heir’s Loan A/c Rs.

1,94,100




1,94,100 1999
Apr.1
Aug.31
By Balance b/d
By General Reserve
By P & L A/c
By Goodwill Rs.
90,000
18,000
10,500
75,600


1,94,100

Working Notes:
Calculation of Share of Prifit of Krishna to the date of death:
Profit for three preceding accounting years.
1999 – 2000 Rs.67,500
1998 – 2000 Rs.58,800
1997 – 1998 Rs.62,700
Total profit Rs.1,89,000
Average Profits Rs. 1,89,000/3 = Rs.63,000
Profit up to the date of death of Krishna = Rs.63,000x5/12
= Rs.26,250
Krishna’s share of profit =Rs.26,250 x2/5=Rs.10,500

Calculation of Krishna’s Share of Goodwill:
Goodwill = Average Profit x 3 years
= Rs.63,000 x3 = Rs.1,89,000
Krishna’s share of goodwill = Rs.1,89,000x2/5=Rs.75,600
Unit Questions:
1. What are the adjustments to be made when a partner is retired or died?
2. A, B and C are partners sharing profits in the ratio of 4:3:2. C is retired and his share was purchased by A and B. Calculate the new profit sharing ratio and gaining ratio.
3. A, B, C and D are partners sharing profits in the ratio of 3:3:2:2. D is retired and the new profit sharing ratio among A,B and C will be 3:3:2. Calculate the gaining ratio.
4. A, B and C are partner sharing profits in the ratio 4:3:2. C retired and it is decided to raise only his share of good will only. No goodwill account appears in the books. Goodwill of the firm is valued at Rs.36,000. Pass journal entry.
5. Raja, Bala and Gaja were partners sharing profits and losses in the ration of 3:2:1 respectively. The Balance Sheet of the firm as on 31st December 2000 was as follows:
Liabilities Rs. Assets Rs.
Bills Payable 1,00,000 Cash at Bank 50,000
Sundry Creditors 3,80,000 Debtors 3,20,000
Reserve 2,40,000 Less:Provision 10,000 3,10,000
Capital Accounts
Raja 8,00,000
Bala 6,00,000
Gaja 5,00,000




19,00,000
Stock
Motor Vechicle
Plant and Machinery
Buildings
5,00,000
1,60,000
7,00,000
9,00,000
26,20,000 26,20,000
6. The Balance Sheet of a partnership firm of A, B and C, who were sharing profits and losses in the ratio 5:3:2 respectively, as on 31st March 2000 was as follows:
Liabilities Rs. Assets Rs.
Creditors 75,000 Cash at Bank 33,600
General Reserve 60,000 Bills Receivable 38,400
Capital Account Debtors 60,000
A 2,25,000 Stock 1,05,000
B 1,80,000 Furniture 63,000
C 1,50,000 Land and buildings 1,50,000
5,55,000 Machinery 2,40,000
6,90,000 6,90,000
On the above date C retired on the following terms:
The goodwill of the firm is valued at Rs.2,40,000
Machinery was to be depreciated by 10% and land and building was to be appreciated by 20%
Stock valued at 25% above cost. It was to be brought into the books of the new firm at cost price.
There was a liability for repairs to furniture amounting to Rs.600, the same was to be recorded in the books.
Capital accounts of the continuing partners were to be adjusted in the new profit sharing ratio by opening necessary current accounts.
You are required to prepare Revaluation Account, Capital Accounts and the opening Balance Sheet of the new firm.
7. Following is the Balance Sheet of A, B and C as on 31st December 1999:
Liabilities Rs. Assets Rs.
Sundry Creditors 14,000 Goodwill 16,000
General Reserve 12,800 Furniture 21,200
Fixed Capital Accounts Stock 20,800
A 40,000 Sundry Creditors 24,000
B 20,000 Cash at Bank 16,000
C 20,000 Cash in hand 8,800
1,06,800 1,06,800
C died on 31st March 2000. Under the terms of the partnership deed, the executors of the deceased partner were entitled to:
(a) Amount standing to the credit of partner’s capital account.
(b) Interest on capital at 5% per annum.
(c) Share of goodwill on the basis of thrice the average of the past three years profits and
(d) Share of profit from the closing of the last financial year to the date of death on the basis of the average of the last three years’ profits.

PARTNERSHIP ACCOUNTS – ADMISSION OBJECTIVES

LESSON – 10

PARTNERSHIP ACCOUNTS – ADMISSION
OBJECTIVES
After studying this unit, you should be able to:
• discuss the adjustments to be made on the admission of a partner
• calculate of new and sacrificing ratios
• explain the meaning of Goodwill and factors affecting Goodwill
• describe the different methods of valuing Goodwill
• pass adjustments regarding revaluation of assets and liabilities.
STRUCTURE
10.1 Definition of Partnership
10.2 Methods of Maintaining Capital Accounts
10.2.1 Fixed Capital Account
10.2.2 Fluctuating Capital Accounts
10.3 Admission
10.3.1 Introduction
10.3.2 Steps in Accounting
10.3.2.a Calculating New Profit Sharing Ratio
10.3.2.b Calculating Sacrificing Ratio
10.3.2.c Revaluation of Assets and liabilities
10.3.2.d Adjustment of accumulated Reserve Profit or Losses
10.3.2.e Treatment of Goodwill
10.3.2.f Adjustment of Capital Accounts
Unit Questions

10.1 DEFINITION OF PARTNERSHIP

In India. The main provisions governing partnership fro or organizations are given by the Indian partnership Act.1932. Section 4 of Indian partnership Act. 1933 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 ”

From the above definition, the following special features of partnership are derived:
1. Minimum Two Persons: It is clear from the definition that partnership is the relation between persons, “ Persons” represent more than one person. Thus, to constitute a partnership firm, there must be at least two business and 20 in case of other businesses.
2. Presence of Agreement: A partnership firm comes into existence only by mutual agreement. i.e the persons involved should enter into an agreement. Thus, partnership can arise only from a contract and not from status.

3. Carrying out of Some Business: In partnership firm, the relation between two or more persons is established through agreement for the purpose of carrying out some business. Thus, the intention to carry on some business is an essential element. The word ‘business’ includes any trade, profession or vocation . It is also necessary the firm should not carry on a illegal business.

4. Sharing the Results of the Business: partnership is constituted by an agreement to share the profit of the business at an agreed proportion among the partners. However, in case of loss, if there is no say in the agreement then loss should be borne by the partners in the profit sharing ratio. Thus, the results of the business are share between partners in some agreed ratio.

5. Managing the Business: The business of partnership must be carried on by all or any of them acting for all. It means the business must be carried on by all the partners or by any one or more of the partners acting on behalf of all. Thus, there must be mutual agency among partners.

10.2 METHODS OF MAINTAINING CAPITAL ACCOUNTS
The capital accounts of partners can be maintained by adopting two methods. They are
10.2.1 Fixed capital Accounts
10.2.2 Fluctuating Capital Accounts.
10.2.1 FIXED CAPITAL ACCOUNTS
Under this method, except by special agreement, the amount of capital contributed by the partners remains counstant and shall not be increasd or decreased throughout the duration of partnership. As the capital accounts are kept unaltered. It is necessary to keep an additional account to make usual adjustments like interest on capital, interest on drawings salary, commission , etc. This additional account is called “Current Account”

It is clear from the above that under the fixed capital method, two account viz. (i) capital accounts and (ii) current accounts for each partner are maintained. In the capital accounts of partners. Only the capital introduced and withdrawn are recorded. Thus, the balance in the capital accounts of partners continues to show the same amount unless any adjustment like introduction of additional capital or withdrawal is made.

In the current accounts of partners, the transactions . relating to interest on capital,. Interest on drawings, Salary. Commission, share of profit or loss etc. are recorded. Thus, the balance in the current accounts of partners changes every year. A debit balance in current account is shown on the assets side and a credit balance on the liabilities side of the Balance sheet.

The specimen of Capital Accont and Current Account under Fixed Capital Method is as follows (assume two partners A and B are there):

CAPITAL ACCOUNTS OF PARTNERS.
Date Particulars Rs. Rs. Date Particulars Rs. Rs.

To Balance c/d A
xx

B
xx
By Balance b/d A
xx

xx B
Xx

xx
CUURENT ACCOUNTS OF PARTNERS.
Date Particulars Rs. Rs. Date Particulars Rs. Rs.

To drawings A/c

To Interest on
Drawings A/c

To P & L Appropriation
A/c*(share of loss)

To Balance c/d A
xx

xx

xx


xx


xx B
xx

xx

xx


xx


xx
By Interest on Capital A/c
By Salary A/c
By Commission
By P & L Appropriation A/c*(share of loss)




To Balance b/d
A
xx

xx

xx


xx


xx B
xx

xx

xx


xx


xx

* Only on figure shall appear.
10.2.2 FLUCTUATING CAPITAL ACCOUNTS
Under this method, one account called capital account for each partner is maintained. In the capital accouns of partners, with the capital introduced and withdrawn, the transactions relating to interest on capital, interest on drawings, salary, commission , share of profit or loss, etc., are recorded. Thus , the balance in the current accounts or partners charges every year. A debit balance in current account is shown on the assets side and a credit balance on the liabilities side of the Balance Sheet.

The specimen of Capital Account under Fluctuating Capital Method is as follows (assume two partners A and B are there)
CAPITAL ACCOUNTS OF PARTNERS.
Date Particulars Rs. Rs. Date Particulars Rs. Rs.

To drawings A/c

To Interest on
Drawings A/c

To P & L Appropriation
A/c*(share of loss)

To Balance c/d A
xx

xx

xx


xx


xx B
xx

xx

xx


xx


xx
By balance b/d
By interest on Capital A/c
By Salary A/c
By Commission
By P & L Appropriation A/c*(share of loss)




To Balance b/d
A
xx
xx
xx
xx
xx


xx


xx B
xx
xx
xx
xx
xx


xx


xx
* Only one figure shall appear.
Example:-
Ganesh and Mahesh commenced business with capitals of Rs.15,000 and Rs.12,000 on 1st January 2000 Mahesh is entitled to a salary of Rs.450 per month. Interest is allowed on capital for Ganesh is Rs.1,800 and for Mahesh Rs, 1,440. During the year, Ganesh withdrew Rs.1,000 and Mahesh with drew Rs. 4,000 Interest on drawings woks out ot Rs.150 for Ganesh and Rs.200 for Mahesh. Profit are to be distributed equally after the above given adjustments. The profit for the year. Before the above adjustments. Was Rs.10,000 . Prepare Profit and Loss
Appropriation Account and Capital Accounts of partners when (a) capitals are fixed and (b) capitals are fluctuating.
Solution:
(a) When Capitals are Fixed:
M/s. Ganesh and Mahesh
Profit and Loss Appropriation A/c
Date Particulars Rs. Rs. Date Particulars Rs.
To Mahesh’s Current A/c
Salary
To Interest on Capital
- Ganesh’s Current A/c
- Mahesh’s Current A/c
To Profit transferred to
Ganesh’ Current A/c
Mahesh’s Current A/c






855
855



5,400
1,800
1,440


1,710

10,350 By Net profit

By Interest on Drawings
Ganesh’s Current A/c
Mahesh’s Current A/c 10000


150
200




10,350
CAPITAL ACCOUNTS OF PARTNERS
Date Particulars Rs. Rs. Date Particulars Rs. Rs.
2000
Dec.31
To Balance c/d
Ganesh
15,000
Mahesh
12,000
2000
Jan.1
2000
Jan.1
By Bank A/c

By Balance b/d Ganesh
15,000

15,000 Mahesh
12,000

12,000

CURRENT ACCOUNTS OF PARTNERS
Date Particulars Rs. Rs. Date Particulars Rs. Rs.
2000
Dec.31
ToBank Drawing A/c

To Interest on Drawing A/c

To Balance c/d Ganesh
1,000

150

1,505

2,655
Mahesh
4,000

200

3,495

7,695
2000
Dec.31
2000
,,





2001
Jan.1
By interest on By Salary A/c

ByP & L Appropriation A/c





Balance b/d Ganesh
1,800
-
855



2,655

1,505 Mahesh
1,440
5,400
855



7,695

3,495

(b) When capitals are Fluctuating:
M/s. Ganesh and Mahesh
Profit and Loss Appropriation A/c
Date Particulars Rs. Rs. Date Particulars Rs.
To Mahesh’s Capital A/c
Salary
To Interest on Capital
- Ganesh’s Current A/c
- Mahesh’s Current A/c
To Profit transferred to
Ganesh’ Current A/c
Mahesh’s Current A/c





855
855

5,400
1,800
1,440


1,710

10,350 By Net profit

By Interest on Drawings
Ganesh’s Current A/c
Mahesh’s Current A/c 10,000


150
200



10,350

CAPITAL ACCOUNTS OF PARTNERS
Date Particulars Rs. Rs. Date Particulars Rs. Rs.
2000
Dec.31
ToBank Drawing A/c

To Interest on Drawing A/c

To Balance c/d Ganesh
1,000

150

16,505

17,655
Mahesh
4,000

200

15,495

19,695
2000
Dec.31
2000
,,






2001
Jan.1
By Bank A/c
By interest on
Capital A/c

By Salary A/c
By P & L Appropriation A/c (share of profit)




By Balance b/d Ganesh
15,000
1,800

-

855


17,655

16,505 Mahesh
12,000
1,440

5,400

855


19,695

15,495


10.3 ADMISSION OF A PARTNER
10.3.1 INTRODUCTION
According to the Indial Partnership Act,1932,Sec 31(1) a person can be admitted as a new partner only with the consent of all the existing partners unless otherwise agreed upon. An incoming partner acquires two legal rights. Viz., 1) right to share the assets of the firm and 2) right to share the future profits of the business. The new partner has to contribute an agreed amount of capital to acquire the right to share the assets of the firm. Nevertheless, the Indian partnership Act is silent in this regard. Likewise, he has to bring his share of goodwill to acquire the right to share the future profits or losses. The good will amount brought in by the new partner is to be shared between the old partners for sacrificing their part of share in favors of a new partner.

10.3.2 STEPS IN ACCOUNTING
When a new partner is admitted. Various accounting adjustments are to be made. Because, the old partners are responsible for the state of affairs of business till the time of admission and hence, they have to share the undistributed reserves. Profits or losses, profit or loss on the change in the value of assets and liabilities. Thus, the following accounting steps are followed while solving problems, when a partner is admitted:

10.3.2.a Calculation of New Profit Sharing Ratio of all partners including new partner.
10.3.2.b Calculation of Sacrificing Ratio of old partners.
10.3.2.c Revaluation of Assets and Liabilities
10.3.2.d Adjustment of accumulated reserves, profits or losses.Treatment of Good will
10.3.2.e Adjustment of Capital Accounts of partners.
10.3.2.a CALCULATION OF NEW PROFIT SHARING RATIO
When a person is admitted as a new partner. The profit sharing ratio of old partners change and a new profit sharing ratio of al the partners (including new partner) is to be found. Thus, new profit sharing ratio is the ratio in which all the partners share profits and loss after admission. With the given information, the new profit sharing ratio is to be calculated . Following are the different types of examples.
When the share of new partner alone is given : In this case the remaining profits are to be shared by old partners in the old ratio.

When the new partner gets his share from old partners in a specific ratio : In this case, the old partners shares are to be reduced by the specific ratio sacrificed in favour of new partner.
When surrenders by old partners alone are given : In this case, new partner’s share is to be reduced by the surrender portion of share.
Example –1
Bannalal and Vadilal are partners in a firm sharing profits and losses in the ratio of 5:2 Rakesh is admitted for 2/5 th share in the profits. Calculate the new profit sharing ratio of all partners.

Solution :
Assume the Total Profit = 1
Less: Rakesh’s share = 2/5
Remaining profit = 1-2/5 =3/5
Remaining Profit of 3/5 is to be shared between old partners in the old ratio .Thus,
Bannalal’s share of profit = 5/7 of 3/5 = 5/7 x3/5=15/35
Vadilal’s Share of profit = 2/7 of 3/5 = 2/7 x 3/5=6/35
Net Profitd Sharing Ratio of all partners is
Bannalal Vadilala Rakesh
15/35 : 6/35 : 2/5
15/35 : 6/35 : 2/5 x7/7
15/35 : 6/35 : 14/35
15 : 6 : 14

Example :2
Madu and Sethu are partners sharing profits in the ratio of 5:4 .They admit Velu into partnership for 1/4th share of profit which he takes 1/8 from Madu and 1/8 from Sethu. Calculate the new profit sharing ratio of all partners.

Solution :
Velu’s share of profit = ¼
Madhu’s new profit sharing ratio is calculated as follows:
Madu’s old profit sharing ratio = 5/9
Less: Given to Velu = 1/8
Madu’s new profit sharing ratio = 5/9 – 1/8
= 40-9
-------- = 31/72
72
Sethu’s new profit sharing ratio is calculated as follows:
Sethu’s old profit sharing ratio = 4/9
Less: Given to Velu = 1/8
Sethu’s new profit sharing ratio = 4/9 – 1/8
= 32 - 9
---------- = 23/72
72
The new profit sharing ratio of partners is

Madhu Sethu Velu
31/72 : 23/72 : 1/4
31/72 : 23/72 : 18/72
31 : 23 : 18
Example:-
Vanitha and Savitha are partners sharing profit and losses in the ratios of 5:3 .They decided to admit Sangeetha. Vanitah surrenders 3/8th sahre of her profit and Savitha 2/8 th share of her profit in favour of Sangeetha. Calculate the new profit sharing ratio of all partners.
Solution:
To find the new partner, Sangeetha’s share, the surrenders from old partners are to be found.
Surrender from Vanitha = 5/8x3/8 = 15/64
Surrender from Savitha = 3/8 x 2/8=6/64
Thus,Sangeetha’s share = 15/64 +6/64 = 21/64

Vanith’s new profit sharing ratio is calculated as follows:
Vanith’s old profit sharing ratio = 5/8
Less: Given to Sangetha = 15/64
Vaniths’s new profit sharing ratios = 5/8-15/64
= 40-15
------- = 25/64
64
Savitha’s new profit sharing ratio is calculated as follows:
Savitha’s old profit sharing ratio = 3/8
Less: Given to Sangetha = 6/64
Vaniths’s new profit sharing ratios = 3/8-6/64

24 - 6
= --------- = 18/64
64
NEW RATIO 25 : 18 : 21
10.3.2.b CALCULATION OF SACRIFICING RATIO

While admitting a new partner, the old partner’s profit sharing ratio is reduced to the extent they sacrifice.

Sacrificing Ratio = Old Ratio –New Ratio

Example:
Zeenath ,Kamath are partners sharing profits and losss in the ratio of 3:2 .They admit surath into partnership and the new profit sharing ratio of all partners Zeenath, Kamath and Surath is agred at 7:4:1 respectively, Calculate the sacrificing ratio and the share of incoming partner.
Solution :
When the old and new profit sharing ratios are given. The sacrificing ratio is found by applying the following formula:
Sacrificing Ratio = Old Ratio – New Ratio
Sacrificing Ratio of Zeenath = 3/5-7/12 = 36/60-35/60=1/60
Sacrificing Ration of Kamath = 2/5-4/12 = 24/60-20/60=4/60
Thus, Sacrificing Ration of Zeenath and Kamath is 1:4
Share of Surath is 1/12(1/60+4/60=5/60 or 1/12)
10.3.2.c REVALUATION OF ASSETS AND LIABILITIES
There are two methods of maintaining revaluation account.
Revaluation Account Method to record the revised values of asets and liabilities.
Memorandum Revaluation Account Method to record the original values of assets and liabilities.
REVALUATION ACCOUNT METHOD
Following are the accounting entries to be passed to record the revised values of assets and liabilities:
1. For any increase in the value of asset:
Asset A/c Dr. (With the increased amount)
To Revaluation A/c
2. For any decrease in the value of asset:
To Revaluation A/c Dr.
To Asset A/c (With the decreased amount)
3. For any increase in the value of liability
Revaluation A/c Dr. (With the increased amount)
To liability A/c
4. For any decrease in the value of liability
Liability A/c Dr. (With the decreased amount)
To Revaluation
5. For any unrecorded asset:
Unrecorded Asset A/c Dr. (With the value of asset)
To Revaluation
6. For any unrecorded liability:
Revaluation A/c Dr. (With the value of liability)
To Unrecorded Liability A/c
7.For any decrease in the existing provision for doubtful debts:
It results in increase of existing debtors (assets)and hence the
revaluation account is to be credited.
Provision for Doubtful Debt A/c Dr. (With the decreased amount)
To Revaluation A/c
8.For any decrease in the existing provision for doubtful debts:
It results in increase of new liability and hence the revaluation account is to be debited
Revaluation A/c Dr. (With the amount of new provision)
To Provision for Doubtful Debts A/c
9. For closing the revaluation account:
If Profit:
Revaluation A/c Dr.
To Old partner’s CapitalA/c (in the old ratio)
If Loss:
Old Partners’ Capital A/c Dr. ( in the old ratio)
To Revaluation A/c
The specimen of a Revaluation Account is given below.
Revaluation A/c
Dr. Cr.
To Decrease in the value of assets
To Increase in the value of liabilities
To Unrecorded Liabilities
To New provision for doubtful debts

To Profit transferred to old partners Capital account (in old ratio)
Rs.
xxx
xxx

xxx
xxx


xxx*




xxx By Increase in the value of assets
By Decrease in the value of liabilities
By Unrecorded Assets
By Decrease in the existing provision for doubtful debts

By loss transferred to old partners
Capital accounts (in old ratio)

Rs.
xxx

xxx
xxx

xxx



xxx*


xxx

* Only one figure shall appear.
Example:-
Raju and Nagu are partners sharing profits and losses in the ratio of 5:3 . Their Balance Sheet as on 31st March 2000 was as under.
Liabilites Rs. Rs. Assets Rs. Rs.
Creditors
Outstanding expenses
Capitals:
Raju
Nagu


6,52,500
3,37,500
8,66,250
90,000



9,90,000



19,46,250 Cash
Stock
Prepaid Insurance
Debtors
Less. Provision

Machinery
Buildings
Furniture


2,11,500
9,000
45,000
3,37,500
33,750


2,02,500
4,27,500
7,87,500
1,12,500
19,46,250

Partners decided to admit Somu as a new partner who introduced Rs.3,60,000 as capital. The new profit sharing ratio of partners is 6:4:3 .Following are the changes taken place in the assets and liabilities:
i) Stock to be depreciated at 5%
ii) Provision for doubtful debts is to be Rs. 11,250
iii) Furniture to be depreciated at 10%
iv) Building is valued at Rs.9,00,000
You are required to pass necessary journal entries and prepare Revaluation Account.
Journal Entries
Date Particulars L.F Rs. Rs.
2000
Mar.31



,,



,,




,,


,,



,,




Revaluation A/c
To Stock A/c
(Depreciation on stock is recorded)
Revaluation A/c
To Provision for Doubtful Debts A/c
(Increase in the provision for doubtful debts is recorded)
Revaluation A/c
To Furniture A/c
(Depreciation on furniture at 10% on Rs.1,12,500 is recorded)
Buildings A/c
Revaluation A/c
(increase in the value of building is recorded)
Cash A/c
To Somu’s Capital A/c
(Capital brought by new partner Somu is recorded)

Revaluation A/c
To Raju’s Capital A/c
To Nagu’s Capital A/c
(Profit on revaluation of assets and liabilities transferred to old partners in the old ratio 5:3)

Dr.


Dr.



Dr.



Dr.



Dr.



Dr.
16,875


2,250



11,250



1,12,500



3,60,000



82,125

16,875


2,250



11,250



1,12,500



3,60,000



51,328
30,797
Revaluation A/c



To Stock A/c
To Provision for doubtful debts A/c
To Furniture A/c

To Profit transferred to
Raju (5/8)
Nagu (3/8) Rs.







51,328
30,797

Rs.

16,875
2,250
11,250





8,125

1,12,500

By Building A/c
Rs.

1,12,500









1,12,500

MEMORANDUM REVALUATION ACCOUNT METHOD

In this method, the revised values of assets and liabilities are not shown in the books of reconstituted firm. A new account called “
Memorandum Revaluation Account” is opened and recording is done in two stages.
The specimen of a Memorandum Revaluation Account is given below.
Memorandum Revaluation A/c
Dr. Cr.

To Decrease in the value of assets
To Increase in the value of liabilities
To Unrecorded Liabilities
To New provision for doubtful debts
To Profit transferred to old partners’
Capital accounts (in old ratio)


To Increase in the value of assets
To Decrease in the value of liabilities
To Unrecorded Assets
To Decrease in the existing
Provision for doubtful debts
To Profit transferred to all partners

Capital accounts (in new ratio)

Rs.
xxx
xxx
xxx
xxx
xxx

xxx
xxx
xxx
xxx

xxx*


xxx

By Increase in the value of assets
By Decrease in the value of liabilities
By Unrecorded Asserts
By Decrease in the existing provision
For doubtful debts.
By loss transferred to old partners’
Capital accounts (in old ratio)

By Decrease in the value of assets
By Increase in the value of liabilities
By Unrecorded Liabilities
By New provision for doubtful debts
By loss transferred to all partners’
Capital accounts (in new ratio)
Rs.
xxx
xxx
xxx



xxx
xxx
xxx
xxx

xxx*


xxx


10.3.2.d ADJUSTMENT OF ACCUMULATED RESERVES PROFITS AND LOSSES

When a partner is admitted one of the accounting adjustmens to be made is transfer of accumulated reserves, profits and losses.

The accounting entries to be passed in this regard are as follows:

For transfer of accumulated reserves, profits
General Reserve A/c Dr.
Profit and Loss A/c Dr.
Workmen Compensation Fund A/c Dr.
Any other reserve A/c Dr.
To Old partner’s Capital or Current A/c (in old ratio)

For transfer of accumulated losses:
Old Partners’ Capital or Current A/c Dr. (in old ratio)
To Profit and Loss A/c
To Deferred Revenue Expenditure A/c

10.4. Goodwill and its treatment in accounts.
Goodwill may be defined as the benefit and the advantage of the good name or reputation of a business. It enables a concern to earn more profits on the capital employed by attracting more customers than in comparable organizations. The following of the judicial definitions of goodwill.
Goodwill of a business is the advantage, whatever it may be which a person gets by continuing to carry on and being entitled to represent to the outside would that he carrying on a business, which has been carried on for some time previously’.
‘Goodwill is a thing very easy to describe, very difficult to define. It is the benefit or advantage of the good name, reputation or connection of a business. It is the attractive force which brings in customers.’

10.4.1. Methods of valuation of goodwill
The method of valuing goodwill is usually mentioned in the Partnership Deed. The following are the usual methods of valuation of goodwill:
(1) Simple Profit Method
(2) Super Profit Method
(3) Capitalisation Method

10.4.1.a) Simple Profit Method
Under this method, the goodwill is valued at agreed number of years’ purchase of the average profit of the past few years. Thus, for calculating the value of goodwill, the average profit of the past few years, is to be ascertained first. This advantage profit is multiplied by an agreed number of years during which the anticiupated profits are expected to accure. The resultant figure is considered to be the value of goodwill.
Example:
From the information given below compute the value of goodwill at 3 years’ purchase of 5 years average profits.
Year 1992 1993 1994 1995 1996
Profit (Rs.) 20,000 21,000 22,000 25,000 30,000
Solution:
Total Profit
Average Profit = --------------------------
Number of years
20,000 + 21,000 + 22,000 + 25,000 + 30,0000
= --------------------------------------------------------------
5
1,18,000
= -----------------
5
Goodwill = 3 years’ purchase of 5 years’ average profits
= 3x23,600 = Rs.70,800
Note: If there is loss in a given year that should also be considered.
10.4.1.b) Super Profit Mehtod
Super profit is the excess of actual average profit of a firm over the normal earning on capital. Normal earning on capital is ascertained by multiplying capital employed with the normal rate of return enjoyed by similar firms.
Under the method, goodwill is valued by multiplying the super profit with the decided number of years. The steps involved in the calculation of the value of goodwill, under this are given below:
1. Calculate the actual average profit.
2. Ascertain the normal earning on capital employed. It can be ascertained using he formula given below:
Normal rate of earning
Normal earning on capital = Capital employed x -----------------------------
100
3. Ascertain the super profit
Super profit = Actual average profit – Normal earning on capital employed.
Calculate goodwill by multiplying the super profit by the decided number of years.
Example – 6
Profits of the firm for the last five years were:
Year 1994 1993 1992 1991 1990
Profit(Rs.) 30,000 28,000 25,000 4,00,000 18,000
The capital employed in the firm is Rs. 4,00,000. You are required to compute the value of goodwill at 2 year’s purchase of super profits, assuming that the normal rate of return on capital employed is 5%.
Ans.:
30,000+28,000+25,000+24,000+18,000
Acutal average profit = ------------------------------------------------
5
Normal rate of earning
Normal profit = Capitalemployed x ---------------------------
100
5
= 4,00,000 x ------ = Rs.20,000
100
Super profit = Actual average profit – Normal Profit
= 25,000 – 20,000 = Rs.5,000
Goodwill = 2 years’ purchase of super profit
= 2 x 5,000 = Rs.10,000

10.1.4.c) Capitalisation Method
Under the method the average profit is to be capitalized on the basis of normal rate. From the value so obtained the total of net tangible assets is subtracted to arrive at the value of goodwill. Thus the steps involved for the computation of goodwill, under this method are
1. Ascertian the average profit of the past few years.
2. Capitalise the average profit on the basis of normal rate by following the formula:
100
Average profit x --------------------------
Normal rate of return
3. Ascertain the net assets by deducting outside liabilities from the total value of assets (excluding Goodwill).
Compute the value of Goodwill by subtracting net assets from the capitalized value of average profit.
10.3.2.e TREATMENT OF GOODWILL
When a partner is admitted , goodwill of the firm is to be adjusted and treated according to the goodwill of the firm at the time of admission of a partner . They are
Revaluation Methods
Memorandum Revaluation Method
Premium Method.
Revaluation Method:
This method is followed when the new partner does not bring any cash as the amount of his share or good will. Under this method, the following are the steps involved.
Total amount of good will of the firm is calculated . Calculation of goodwill may be based on the following methods.
Based on average profits or super profits or
capitalization of profits method (which are already
explained under the head methods of calculating
goodwill in chapter 22a – Introduction Aspects)
Based on the share of new partner. Under this method the total amount of goodwill of the firm is calculated by taking the share of the new partner in the firm as base. For example A and B are partners. C is admitted for 1/6 th share of the profit in the new firm and he is required to bring Rs.15,000 as capital and Rs.7,000 as his share of good will . Calculate the value of goodwill of the firm.

For 1/6th the share of goodwill brought by C = Rs.7,000
Therefore, the full share of good will is = Rs.7,000 x6/1
Value of goodwill of the firm =Rs.42,000
The total goodwill of the firm is compared with the existing bookd value of goodwill and the diference between them is found. When no goodwill appears in the Balance Sheet. Then the book value of goodwill is to be taken as zero.
If the total goodwill of the firm is more than the books value of goodwill, then the difference amount of goodwill is to be raised and the old partners’ capital accounts are to be credited in the old profit sharing ratio. Following is the journal entry to be passed:
Goodwill A/c Dr.
To Old Partners’ Capital A/c (in old ratio)
If the total amount of goodwill of the firm is less than the book value of goodwill, then the difference amount of goodwill is to be reduced and the old partners’ capital accounts are to be debited in the old profit sharing ratio, Following is the journal entry to be passed:
Old Partners’ Capital A/c Dr. (in old ratio)
To Goodwill A/c
Example:
Patil and Sazena ae partners in a firm sharing profits and losses in the ratio of 5:3 . They admit Dave as a partner with 1/6th share of profit.Dave acquires his share from Patil and Saxena in the ratio of 2:1 Dave’s share of goodwill is calculated at Rs.36,000 pass the necessary journal entries under each of the following cases.

If no good will appears in the books of the firm.
If the goodwill account appears in the books of firm at
Rs.2,16,000
If the goodwill account appears in the books of firm at
Rs.1,35,000
If the goodwill account appears in the books of the firm at
Rs.2,97,000
Solution:
As the new partner , Dave does not bring goodwill in the form of cash, the Revaluation Method of treating good will is adopted.
Step – 1. Calculation of total value of good will of the firm:
For 1/6 the share, the share of goodwill of the Dave= Rs.36,000
Therefore, the total value of goodwill of firm =Rs.36,000x6/1
= Rs. 2,16,000
Step -- 2. Comparing the total value of goodwill of firm with the book value of goodwill .Following are the goodwill amount to be raised for each case:
If no goodwill appears in the books of the Firm: In this case, the book value of goodwill is taken as zero. Hence , the goodwill to be raised is as follows:
Goodwill = Total Good will – Book value of Good will
= Rs.2,16,000 - 0 = Rs.2,16,000
If the good will account appears in the books of the firm at
Rs.2,16,000 : In the case, the goodwill to be raised is as follows:
Goodwill = Total Good will – Book value of Good will
= Rs.2,16,000 = Rs.2,16,000 = 0
If the goodwill account appears in the books of the firm at
Rs.1,35,000 : In this case, the goodwill to be raised is as follows:
Goodwill = Total Good will – Book value of Good will
= Rs.2,16,000 = Rs.1,35,000 = Rs.81,000
If the goodwill account appears in the books of the firm at Rs. 2,97,000 : In this case , the goodwill to be raised is as follows:
Goodwill = Total Good will – Book value of Good will
= Rs.2,16,000 = Rs.2,97,000 = - Rs.81,000
Following are the journal entries to be passed for each case:
Journal Entries
Particulars L.F Rs. Rs.


Good will A/c
To Patil’s Capital A/c
To Saxena’s Capital A/c
(The value of goodwill raised to its present value.i.e. 2,16,000 and is credited to old partners’ capital account in the old ratio 5:3)

NoEntry is required because the book value of goodwill is equivalent to its present value.

Good will A/c..
To Patil’s Capital A/c
To Sazena’s Capital A/c
(The difference is present value of goodwill is raised and goodwill is raised to its present value ie. 2,16,000 and is credited old partner’s capital accounts in old ratio 5:3)

Patil’s CapitalA/c Dr.
Saxena’s Capital A/c Dr.
To Goodwill A/c
(The difference is present value of goodwill is reduced and goodwill is brought down to its present value ie. 2,16,000 and is debited to old partner’s capital accounts in old ratio 5:3)
Dr.











Dr.



2,16,000











81,000





50,625
30,375



1,35,000
85,000










50,625
30,375





81,000


Memorandum Revaluation Method:
In the method , the amount of goodwill to be increased is found by adopting the steps given in the revaluation method and the same accounting entry is passed . The entry is
Goods will A/c… Dr.
To Old Partners’ Capital A/c (in old ratio)
Then, the raised goodwill is written off by debiting all the partners capital accounts including the new partner in the new profit sharing ratio. The amount of goodwill to be written off may be full or part. The accounting entry for writing off good will is
All Partner’s Capital A/c… Dr. (in new ratio)
To Goodwill A/c
Premium Method:
This method is followed when the new partner brings cash for his share of goodwill. The following are the accounting entries to be passed:
For cash brought in by the new partner as goodwill :
Cash A/c.. Dr.
To New Partner’s Capital A/c
For crediting the goodwill to sacrificing old partners and which is retained in the business:
New Partner’s Capital A/c Dr.
To Sacrificing Old Partners’ Capital A/c ( in sacrificing ratio)
For withdrawal of good will by old partners:
Sacrificing Old Partners’ Capital A/c
To Cash A/c
10.3.2.f ADJUSTMENT OF CAPITAL ACCOUNTS
When a partner is admitted, the capitals of the partners should be adjusted in their profit share assets and liabilities, i.e profit or loss on revaluation, treatment of goodwill, transfer of accumulated reserves, profits and losses, capital brought in by the new partner are to be incorporated into the capital accounts of the partners. The capitals of the partners may be adjusted in two ways. They are a) on the basis of the share of capital of the new partner of b) on the basis of the adjusted capitals of old partners.
a) On the basis of the share of capital of the new partner: Under this method, following are the steps followed to adjust the capital accounts of partners:
The total capital of the firm is found by taking the new partner’s share of capital as the basis. For example, if a new partner brings Rs.50,000 as capital for 1/4th share. then the total capital of the firm taking his share of capital as base is = Rs.50,000 x4/1= Rs.2,00,000

The total capital of the firm is divided in the profit sharing ratio to find the new capitals of old partners.
The capitals of the old partners are adjusted with profit or loss on revaluation, goodwill and accumulated reserves, profits or losses.

The difference between the new capitals and adjusted capitals(arrived in step3) is found. If the new capitals are more than the adjusted capitals, the excess capital is paid to the partners or credited to the current account of the partners. If the new capitals are less than the adjusted capital, the shortage in capital is received from the partners or debited to the current account of the partners.
Example:
Bina and Ganguly are partners sharing profits and losses in the ratios of 5:3 with capitals of Rs. 30,000 and Rs.13,500 respectively. They decided to admit Susan as a partner with Rs.18,750 for 1/3th share of the profits of the new firm. Adjust the capitals of the partners according to the profit sharing ratio and transfer the same to current accounts of partners.
Solution
It is asked to adjust the capitals of the partners on the basis of new partner’s capitals . The following steps are followed.
Calculation of total capital of the firm:
For 1/3rd share , capital of Susan = Rs. 18,750
Therefore, the total capital of firm = Rs. 18,750 x 3/1
= Rs. 56,250
Calculation of newcapitals of partners in the new profit sharing ratio:
For this , the new profit sharing ratio of partners is required.
Assume the Total Profit =1
Less: Susan’s share = 1/3
Remaining profit = 1-1/3 = 2/3
Remaining Profit of 2/3rd is to be shared between old partners in the old ratio. Thus.
Bina’s share of profit = 5/8 of 2/3 = 5/8x2/3=5/12
Ganguly’s share of profit = 3/8 of 2/3 = 3/8 x2/3=3/12
New Profit Sharing Ratio of all partners is
Bina : Ganguly : Susan
5/12 : 3/12 : 1/3
5/12 : 3/12 : 4/12
5 : 3 : 4
The new capitals of the partners in new profit sharing ratio is
Total capital of the firm = Rs.56,250
Share of Bina Rs.56,250 x5x12 = Rs.23,438
Share of Ganguly Rs.56,250 x3/12 = Rs.14,062
Share of Susan Rs. 56,250 x4/12 = Rs.18,750

Comparing the old capitals and new capitals:
Excess of shortage of capital = Old Capital - New Capital
For Bina = Rs.30,000 – 23,438 = +Rs.6,562(Excess)
For Ganguly = Rs.13,500 – Rs.14,062 = Rs.562 (Shortage)
The Journal entries are
Bina’s Capital A/c.. Dr 6,562
To Bina’s Current 6,562
(The surplus capital creditedto
Bina’s current account)
Ganguly’s Current A/c Dr. 562
To Ganguly’s Capital A/c 562
(The shortage of capital debited
to Ganguly’s current account)

b) On the basis of the adjusted capitals of old partners: Under this method, following are the steps followed to adjust the capital account of partners:
The capitals of the old partners ae adjusted with profit or loss on revaluation, goodwill and accumulated reserves, profits or losses.
The total capital of the firm is found by taking the adjusted capitals of old partners as base.
The proportionate capital of the new partner is calculated taking the total capital of the firm (arrived in step2) as base. The proportion of new partner’s capital will be given in the problem.
If any capital is already introduced by the new partner, the same is compared with his proportionate capital (arrived in step2). If the proportionate capital is move than the capital already introduced by him. Then the new partner has to bring cash for the shortage of capital and if the proportionate capital is less than the capital already introduced by him. Then the new partner has to withdraw the excess amount of capital.

Example:-
Mangesh and Suresh are partners sharing profits and losses equally. They admit Natesh as partner who has to be contribute sufficient capital to acquire a 1/4th share of the total capita of the new firm equally from both the partners Mangesh and Suresh . The adjusted capitals of Mangesh and Suresh are Rs.50,000 and 40,000 respectively, Calculate the capitals to be brought in by Naresh.
Solution:-
Calculation of adjusted capitals of old partners:
Total Adjusted Capitals = Rs.50,000 + Rs.40,000
= Rs. 90,000
Calculation of total capital of the firm based on adjusted capitals of old partners:
Assume Total Profit = 1
Less: Share of Naresh = ¼
Remaining share = 1-1/4 = ¼
For 3/4th share, the adjusted capital = Rs.90,000
Therefore, the total capital of firm = Rs.90,000 x4/3
= Rs.1,20,000
Calculation of Proportionate capital of new partner:
Capital of Naresh = Total Capital x1/4th share
=Rs.1,20,000x1/4=Rs.30,000
PROBLEMS WITH ALL ADJUSTMENTS
Example :-
Jaiveer and Vishnu are partners sharing profits and losses in the ratio of 3:2 Following is their Balance Sheet as on 31st December 1993.
Liabilities Rs. Assets Rs. Rs.
Sundry Creditors
Bills Payable
General Reserve
Capital Accounts
Jaiveer
Vishnu 18,000
2,000
5,000

30,000
25,000
80,000 Cash in hand and at bank
Sundry Debtors
Less: Provision

Stock in trade
Furniture
45,000
1,000
10,000


44,000
20,000
6,000
80,000

On 1.1.94 they admit Rajesh as a partner on the following terms:
The provision for doubtful debts is to be increased to Rs.1,800
Unrecorded investments amounting to Rs.4,000 are to be recorded in the books of accounts.
Goods of the firm should be valued at Rs.25,000
The new profit sharing ratio of Jaiveer, Vishnu and Rajesh shall be 5:3:2 respectively.
Rajesh shall bring in a capital of Rs.25,000
You are required to give the journal entries to carry out the above arrangement. Prepare Revaluation Account, show the capital accounts and the Balance Sheet of the firm after admission of the new partner, Rajesh.
Journal Entries
Date Particulars L.F Rs. Rs.
2000
Mar.31



,,



,,




,,


,,



,,



1994
Jan.1
Revaluation A/c
To Provision for doubtful debts
(Increase in the provision for doubtful debts recorded)
Investment A/c
To Revaluation A/c
(Unrecorded investment recorded
Revaluation A/c
To Jaiveer’s Capital A/c
T0 Vishnu’s Capital A/c
(Profit on revaluation of assets transferred to old partner ‘s capital accounts in the old ratio 3:2
General Reserve A/c
To Jaiveer’s Capital A/c
T0 Vishnu’s Capital A/c
(General Reserve transferred to old partners, Capital account in old ratio 3:2
Goodwill A/c
To Jaiveer’s Capital A/c
T0 Vishnu’s Capital A/c
(Goodwill of the firm valued at Rs.25,000 and is credited to old partners’capital accounts in old Ratio)
Cash will A/c
To Rajesh’s A/c
(Capital brought by Rajesh Rs.25,000 is recovered )

Dr.



Dr.



Dr.



Dr.



Dr.



Dr.




Dr.
800



4,000



3,200




5,000




25,000*





25,000

800



4,000



1,920
1,280



3,000
2,000



15,000
10,000




25,000


Revaluation A/c
1993
Dec.31
Dec.31

To Provision for doubtful debts
To Profit on Revaluation
Transferred to
Jaiveer’s Capital A/c (3/5) 1,950
Vishnu’s Capital A/c (2/5) 1,280
Rs.
800




3,200
4,000 1993
Dec.31
Investment A/c Rs.
4,000





4,000


Capital Accounts of Partners

Jaiveer
Rs. Vishnu
Rs. Rajesh
Rs. Jaiveer
Rs. Vishnu
Rs. Rajesh
Rs.
To Balance c/d
49,920





49,920
38,280





38,280 25,000





25,000 By Balance b/d
By Revaluation A/c
By General Reserve
By Goodwill A/c
By Cash A/c


By Balance b/d 30,000
1,920
3,000
15,000


49,920
49,920 24,000
1,280
2,000
10,000


38,280
38,280 --



25,000

25,000
25,000

Balance Sheet of Jaiveer, Vishnu and Rajesh As on 1.1.1994.

Liabilities Rs. Assets Rs. Rs.
Sundry Creditors
Bills Payable

Capital Accounts
Jaiveer
Vishnu
Rajesh 18,000
2,000


49,920
38,280
25,000


1,33,200 Cash in hand and at bank
Sundry Debtors
Less: Provision

Stock in trade
Furniture
Investment
Goodwill
45,000
1,800 35,000


43,200
20,000
6,000
4,000
25,000

1,33,200

Working Notes:
(1) Cash A/c

To Balance b/d
To Rajesh’s Capital A/c


To Balance b/d Rs.
10,000
25,000

35,000
35,000

By Balance c/d Rs.
35,000


35,000



Unit Questions:
1. Define the term ‘Partnership’. List its essential elements.
2. What is meant by fixed capital method? How does it differ from fluctuating capital accounts?
3. Show how the following items will appear in the capital accounts of the partners Babu and Gopu when their capitals are fluctuating.
Babu
Rs. Gopu
Rs.
Capital on 1-1-1987 8,00,000 7,00,000
Drawings during 1987 1,60,000 1,40,000
Interest at 5% on drawings 4,000 2,000

Shares of profits for 1987 84,000 66,000
Interest on capital at 6% 48,000 42,000
Salary 72,000 Nil

4. What are the adjustments to be made while admitting a new partner?
5. What is a Revaluation Account? How does it differ from Memorandum Revaluation Account?
6. Explain the various methods of treating goodwill at the time of admission of a partner?
7. P and Q were sharing profits in the ratio of 4:3. R was admitted in the business as a partner on 1st January, with 3/7th share in profits of the firm which he takes 2/7th from P and 1/7th from Q. Find the new and sacrificing ratio.

8. L and M are partners sharing profits and losses in the ratio of 7:3. N is admitted into the partnership. L surrenders 1/7th of his share and M surrenders 1/3rd of his share in favour of N. Calculate the new and sacrificing ratio.

9. A and B are partner sharing profits in the ratio 3:2. They admit C into partnership, C paying a premium of Rs.4,000 for 1/4th share of profit. No goodwill account appears in the books. They withdrew the amount of goodwill. Pass journal entry.

10. The following was the Balance Sheet of Sharma, Varma and Seshan on 31st March, 2000.
Liabilities Rs. Assets Rs.
Bills Payable 19,800 Cash 3,600
Creditors 36,000 Debtors 64,800
Capital accounts Stock 68,400
Sharma 1,00,800 Furniture 14,400
Varma 75,600 Building 1,17,000
Seshan 36,000
2,68,200 2,68,200

They agree to admit Gil into partnership for 1/4th share in the profits on the following terms:
That Gil should bring in Rs.54,000 for goodwill and Rs.90,000 as capital.
That one half of the goodwill shall be withdrawn by the old partners.
That stock and furniture be depreciated by 10%
That a provision of 5% on debtors be created against bills discounted.
That a liability for Rs.6,840 be created against bills discounted.
That the value of the building is undervalued by Rs.51,000
That the value of liabilities and assets other than cash are not to be altered.
You are required to give necessary journal entries to give effect to the above arrangements and prepare Revaluation Account and the opening Balance Sheet of the newly constituted firm.

Dinesh Kandagatla
Dinesh
Kandagatla
an email at crmnldan1729@gmail.com