Admission of Partner, Retirement of Partner, Death of Partner

Table of contents

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Admission of Partner

According to Section 4 of the Indian Partnership Act, 1932, the term ‘partnership’ refers to ‘the relation between two or more persons who have agreed to share the profits of a business carried on by all or any of them acting for all.’ The persons who have entered into partnership agreement with each other are referred to as Partners, and they are collectively referred to as the Partnership Firm.

Sometimes for the requirement of additional capital, technical support or to improve managerial efficiency, a continuing partnership firm, in consensus with all the partners, decides to admit a new partner in their business.

Section 31(1) of the Indian Partnership Act, 1932 provides that a person can be admitted as a new partner only with the consent of all the existing partners, unless otherwise agreed upon.

This is a form of reconstruction of partnership, as because whenever a new partner is admitted to a firm, the partnership between/among the existing partners comes to an end which begins a new partnership.

Usually the following accounting adjustments are required at the time of such admission:

1.  Computation of New Profit-Sharing Ratio
2. Revaluation of Assets and Liabilities
3. Distribution of Reserves, Accumulated Profits and Losses
4.  Adjustment for Goodwill
5.  Adjustments regarding Capital Contribution of new partner and the Capitals of the existing partners
6. Adjustment for Life Policy.

Computation of New Profit-Sharing Ratio:

In the event of admission of a partner, the existing partners usually sacrifice a share of their future profit, which the new partner becomes entitled to.

The ratio in which each of the existing partners sacrifice their share of profit on the event of admission of a new partner is referred to as Sacrificing Ratio [which is basically, (Old Ratio – New Ratio)].

The new profit-sharing ratio may be agreed upon by the partners, or the mutual profit-sharing ratio among the existing partners may remain unchanged after giving away the share of the new partner.

Revaluation of Assets and Liabilities:

In order to unveil any ‘secret profit’ or ‘secret loss’ existing in the books of accounts, the revaluation of Assets and Liabilities are done at the time of Admission (or any other form of Reconstruction), so that they reflect their fair values. A firm earns profit as a result of increase in the value of assets and/or decrease in the value of liabilities.

Similarly loss suffered by an entity when there is decrease in assets and/or increase in liabilities. The effect of such revaluations are given by opening a Revaluation Account through the following journals: 

Particulars		Journal Entry
Assets	Upward revaluation:	Asset A/c
		To Revaluation A/c
	Downward revaluation:	Revaluation A/c
		To Asset A/c
	Recording of unrecorded asset	Asset A/c
		To Revaluation A/c
Liabilities	Upward revaluation:	Revaluation A/c
		To Liability A/c
	Downward revaluation:	Liability A/c
		To Revaluation A/c
	Recording of unrecorded asset	Revaluation A/c
		To Liability A/c
Revaluation Expenses	Paid by the firm	Revaluation A/c
		To Bank A/c
	Paid by the partner	Revaluation A/c
		To Partner’s Capital A/c

A firm may decide to give the effect of such revaluations without incorporating the changes in the Balance Sheet values of those assets and liabilities. In that case, they have to open one Memorandum Revaluation Account. The preparation of Memorandum Revaluation Account involves the following:

(i) Record increase/decrease in the value of assets and liabilities as discussed.

(ii) Share the profit or loss on Revaluation amongst the old partners in their old profit sharing Ratio.

(iii) Reverse the increase/decrease in the value of assets and liabilities.

(iv) After reversal, calculate profit or loss.

(v) Share the profit/loss, after reversal amongst all the partners (including the new partner) in their new profit sharing ratio.

Memorandum Revaluation Account

Particulars	(₹)	Particulars	(₹)
To Assets (Decrease)	x x	By  Assets (Increase)	x x
To, Liabilities A/c (Increase)	x x	By, Libilities A/c (Decrease)	x x
To, Partners Capital A/c Share of Revaluation Profit)		By,  Partners Capital A/c (Share of Revaluation loss) [Old Partners in their Old profit sharing ratio]	x x
[Old Partners in old Profit sharing Ratio]	x x
	xxx		xxx
To, Reversal of Items b/d	x x	By,  Revarsal of Items b/d	x x
To, Partners’ Capital A/c (Revaluation Profit amount all partners in new profit sharing Ratio)	x x	By,  Partners’ Capital A/c (Revaluation loss amought all partners in their new Profit sharing (Ratio)	x x
	xxx		xxx

Distribution of Reserves, Accumulated Profits and Losses:

Reserves and accumulated profits or losses refer to the profits/losses that had been earned in preceding accounting periods but not yet distributed to the existing partners. For reserves and accumulated profits, partners’ capital accounts are credited and for accumulated losses partners’ capital accounts are debited in the old profit sharing ratio. The accounting entries are as follows:

In case of Reserves/ Accumulated Profits
Under Fluctuating Capital Method	Under Fixed Capital Method
Reserves A/c	Reserves A/c
Profit and Loss A/c	Profit and Loss A/c
To Partners’ Capital A/c (Among old partners in old p.s.r.)	To Partners’ Current A/c (Among old partners in old p.s.r.)
In case of Accumulated Loss
Under Fluctuating Capital Method	Under Fixed Capital Method
Partners’ Capital A/c	Partners’ Current A/c
To Profit and Loss A/c (Among old partners in old p.s.r.)	To Profit and Loss A/c (Among old partners in old p.s.r.)

When the incoming partners brings in his share of Premium for goodwill then it is to be shared among the existing partners in the Sacrificing Ratio.

•  Journal Entry
  

  Bank A/c

  To, Sacrificing Partners’ Capital A/c

  In case the incoming partner fails to bring in the Premium for Goodwill, it is to be checked whether the 
  failure on the part of the incoming partner is a ‘temporary failure’ or a ‘permanent failure’.
  
  
• Temporary Failure: In such a case, accounting is done involving ‘New Partner’s Loan A/c’, as follows:
  

  New Partner’s Loan A/c

  To, Sacrificing Partners’ Capital A/c

• Permanent Failure: This adjustment can be given effect to in two alternative ways:
  • Involving Goodwill Account; or
  • Without involving Goodwill Account/ Capital Adjustment.

Involving Goodwill Account In this case, the Goodwill account is first raised to its full value by giving due credit to the old partners, and subsequently written-off among all the partners (including the new partner) as follows:

1. Raising of Goodwill

Goodwill A/c

To, Existing/ Old Partners’ Capital A/c  [in the old p.s.r.]

To Partners’ Capital A/c (Among old partners in old p.s.r.)

2. Writing-off the Raised Goodwill

All Partners’ Capital A/c

To, Goodwill A/c [in new p.s.r.]

Without involving Goodwill Account/ Capital Adjustment

In this case, the accounting entries to be passed will involve the Partners’ Capital Accounts, as follows:

New Partner’s Capital A/c

To, Sacrificing Partners’ Capital A/c

When the incoming partner fails to bring in his share of Premium for goodwill, it is adjusted through the Partners’ Capital Accounts. 

There are different methods of valuation of goodwill. They are discussed as under: 

Sr. No	Name of the Method	Description of the method	Other Consideration
1.	Average Profits  Methods	Under this method	i. If profits are fluctuating, simple average is taken. If profits show an increasing trend, weights may be used. If  profits  constantly decrease, the lowest of the profits after adjustments may be considered.  ii. Exceptional Income or Expense of any particular year, should better be adjusted against the profit of that year.  iii. More weightage is usually given to later years.
		Value of Goodwill = Agreed Number of Years (Purchase) × Average Maintainable Profits
		Average Maintainable/Profit
		Average Annual Profits [Simple average or may be weighted average considering the trend of profits]
		Less: “Exceptional/Casual Income
		Add: Abnormal Loss
		Add: Capital Expenditure wrongly charged against profits
		Less: Provision for Taxation (As may be required)
		Adjusted Maintainable Profits
		(“Adjustments for undercharged or overcharged Depreciation or under or over valuation of stocks to be made, if required)
2.	Super Profits Method	Super Profit = Future maintainable profits – Normal Return on Capital Employed	i. Calculation of Average capital Employed cannot be made if current years’ profits are not separately given. ii. Trading Profits exclude any non trading income like Interest on Non- trading investments.  iii. Adjustments against profits including provision for managerial remuneration, should be made.  iv. If there is any change in the value of any fixed asset on revaluation, that does not affect  Annual Trading Profit. But adjustment for over charged or undercharged depreciation may be required to adjust the profits.  v. If there is any decrease in the value of any Current Asset like bad debts or reduction of stock and that has not been adjusted, the adjustment should be  made for finding out correct Trading Profit of the current year.  vi. For calculating capital employed, proposed dividend need not be deducted.  [Please see valuation of shares’]
		Goodwill = Super Profit × No. of years Steps to be followed
		Steps (a) Calculation of Capital employed OR Average Capital Employed
		Sundry Assets
		Excluding:
		i. Goodwill But including Goodwill at Cost Paid for
		ii. Non-trading assets and
		iii. Fictitious Assets
		Less: (i) Current Liabilities & Provisions
		(ii) Contingent & Probable Liabilities
		(Trading) Capital Employed
		Less: ½ of Current years trading profits after taxation (if the profits remain undistributed)
		Average Capital Employed
		Step(b) Average Annual Adjusted Profits(Maintainable)
		Step(c) Calculate Normal Return on Capital Employed or Average Capital Employed
		[Say at 10% or 12%, etc. — as may be given or assumed]
		Step(d) Deduct Normal Return (c) from Average Maintainable Profits (b).
		The difference is called Annual Super Profit
		Step(e) Goodwill = Annual Super Profit × No of Years for which the Super Profit can be maintained.  [Usually expressed as...years purchase of super profit]
3.	Capitalization of Profits Methods (A)Profits	Under the method follow these steps	Here also the profits should be adjusted considering necessary adjustments for managerial remunerations, change of depreciation, etc
		a. Calculate Annual Maintainable Profit as shown above.
		b. Calculate normal Capital Employed capitalizing the above profit by applying the normal rate of return.
		Normal Capital Employed =  Maintainable  Profit/ Normal Rate of Return * 100
		c. Calculate actual Capital Employed
		d. Goodwill = Normal Capital Employed – Actual capital Employed.
	(B)Capitalization of Super Profits	a. Calculate Super profit as said under Method 2.
		b. Goodwill =  Super Profit/Normal Rate of Return * 100
4.	Annuity Method	It is a derivative of super profit concept. If super profit is expected to be earned uniformly over a number of years, Goodwill is computed with the help of Annuity Table.	Here also similar principles as said before should be followed for calculating  — Capital Employed or Average Capital Employed, Annual Average Profits and  Annual Super Profits.
		Calculate Super Profit as discussed before
		Goodwill    =    Annual    Super    ProfitxPresent    Value    of     Annuity of ₹ 1.

Adjustments regarding capital contribution of new partner and the capitals of the existing partners

At the time of admission the incoming partner is required to bring capital into the firm, the amount of which is mutually agreed upon by the partners. The capital introduced by the new partner may be either in cash or in the form of any other assets. Necessary adjustments regarding revaluation profit/loss, distribution of reserves, adjustment for goodwill etc. are effected in the books of the firm and thus, the adjusted capital account balances are found out which are shown in the Balance Sheet after admission of the new partner. The partners may decide to maintain the closing balances of their capital accounts in a pre-determined ratio.

Adjustment for Life Policy:

Joint Life Insurance Policy is a common Life insurance policy which covers the lives of all the partners of the firm and the premium of which is borne by the firm. The Surrender Value of the Joint Life Policy as on the date of admission is to be considered for the accounting purpose. The Maturity Value is irrelevant in these cases.

Illustration 1

A and B are currently partners in a firm sharing Profit/Loss in the ratio of 4 : 3. A new partner C is admitted and after his admission new profit sharing ratio between A, B and C becomes 5: 3 : 2. What will be the sacrifice ratio of A and B after admission of C?

Solution:

Calculation of Sacrificing Ratio of A & B after C’s admission

A  :  B :  C

Old Ratio  4 : 3

New Ratio  5 : 3 : 2

A =         =       =   

 

B =      =          =   

Sacrificing Ratio is 5 : 9

Illustration 2

X, Y and Z are partners in the ratio of 3 : 2:1. W is admitted with 1/16 th share in future profits. Z would retains his original shares. Find out the new profit sharing ratios of the partners.

Solution:

X’s New share	= 3/6 - (1/6 × 3/5) = 12/30
Y’s New share	= 2/6 - (1/6 × 2/5) 1=8/30
Z’s share	= 1/6
W’s share	= 1/6
Therefore, New Profit Sharing Ratio	= X:Y:Z:W = 12:8:5:5

 Illustration 3

S and N are partners sharing Profit /(Loss) in the ratio of 5:3. They admit J into partnership for 3/10th in the Profit /(Loss) in which J acquired 1/4th share from S and 1/10th share from N respectively.

Calculate the new profit and loss sharing ratios of the partners.

Solution:

S’s new share =       =   =

N’s new share =     =   = 

J’s share =    =   

Hence New profit/loss sharing ratios of the partners = 17:11:12

 Illustration 4

X and Y are partners sharing profit/loss in the ratio of 5:4. They admit Z into partnership for 1/5 th the share in the profits which is given 2/15th  by X and 1/15th by Y. Z brings ₹ 1,50,000 as his capital and ₹ 60,000 as premium.

Goodwill account appears in the books at ₹ 1,65,000; Give necessary journal entries in the books of the firm at the time of Z’s admission and find out the new profit sharing ratio. 

Solution:

Journal

Particulars		Dr. (₹ )	Cr. (₹ )
i. Bank A/c	Dr.	2,10,000
To, Z’s Capital A/c			1,50,000
To, Premium for Goodwill A/c			60,000
(Being amount brought in as capital and premium for goodwill by Z)
ii. X’s Capital A/c (5/9 × ₹ 1,65,000)	Dr.	91,667
Y’s Capital A/c (4/9 × ₹ 1,65,000)	Dr.	73,333
To, Goodwill A/c			1,65,000
(Being existing Goodwill account written off)
iii. Premium for goodwill A/c	Dr.	60,000
To, X’s Capital A/c			40,000
To, Y’s Capital A/c			20,000
(Being transfer of premium brought by Z to X & Y’s A/c)

New Profit sharing ratio will be: 

X’s new share =         =      =     =

Y’s new share =      =      = 

Y’s new share  =     OR 

Hence new ratio = 19 : 17 : 9 

 Illustration 5

X & Y share profit & loss in the ratio of 5:3. They admit Z with 1/5th share of profits. He pays ₹ 80,000 as capital but does not contribute anything towards goodwill which is valued at ₹ 60,000. The capitals of the Partners are fixed. All adjustments are to be made through partners’ current accounts. Their Balance Sheet as on March 31, 2022 is as follows:

Balance Sheet as on 31.03.2022

Liabilities	(₹ )	(₹ )	Assets	(₹ )	(₹ )
Capital:			Plant and Machinery		50,000
X	80,000		Investments		31,000
Y	60,000	1,40,000	Sundry Debtors		60,000
Current account:			Stock and Trade		90,000
X	5,000		Bank		30,000
Y	6,000	11,000
General Reserve		60,000
Sundry Creditors		50,000
		2,61,000			2,61,000

Additional Information:

(i) Plant and Machinery is valued at ₹ 46,000 and stock at ₹ 96,000.

(ii) One Creditor for ₹ 6,000 is dead and nothing is likely to be paid on this account.

(iii) The Capital accounts are to be proportionately adjusted on the basis of Z’s capital and his share of profit, through Current accounts

(iv) Partners decide to maintain the General Reserve in the books of the firm.

Prepare Revaluation Account, Capital and Current Accounts, Bank Account and Balance Sheet of the new firm.

Solution:

Revaluation Account 

Liabilities	(₹ )	(₹ )	Assets	(₹ )	(₹ )
To, Plant & Machinery A/c		4,000	By, Stock A/c		6,000
To, Partner’s Current A/c			By, Creditors A/c		6,000
X	5,000
Y	3,000	8,000
		12,000			12,000

Partners’ Capital Account

Particulars	X (₹ )	Y (₹ )	Z (₹ )	Particulars	X (₹ )	Y (₹ )	Z (₹ )
To, Balance c/d	80,000	60,000	80,000	By Balance B/d	80,000	60,000	-
					-	-	80,000
	80,000	60,000	80,000		80,000	60,000	80,000

Partners’ Current Account

Particulars	X (₹ )	Y (₹ )	Z (₹ )	Particulars	X (₹ )	Y (₹ )	Z (₹ )
To, General Reserve A/c	30,000	18,000	12,000	By, Balance b/d	5,000	6,000	-
To, X’s Current A/c	-	-	7,500	By, Revatuation A/c	5,000	3,000	-
To, V’s Current A/c	-	-	4,500	By, Z’s Current A/c	7,500	4,500	-
To, Balance c/d	1,20,000	60,000	-	By, General Reserve A/c	37,500	22,500	-
				By, Cash A/c (B/F) (W.N. 2)	95,000	42,000	24,000
	1,50,000	78,000	24,000		1,50,000	78,000	24,000

W.N (2) Cash brought by partners

x = ₹ 2,00,000 – ₹ 80,000 – ₹ 5,000 – ₹ 5,000 – ₹ 7,500 – ₹ 37,500 + ₹ 30,000 = ₹ 95,000

y= – ₹ 1,20,000 – ₹ 60,000 – ₹ 6,000 – ₹ 3,000 – ₹ 4,500 – ₹ 22,500 + ₹ 18,000 = ₹ 42,000

z = ₹ 80,000 - ₹ (80,000 - 7,500 – 4,500 – 12,000) = ₹ 24,000

General Reserve is to be maintained in the books of the firm hence is credited to old partners capital A/c & debited to all partner’s capital A/c.

Z’s share of Goodwill = ₹ 60,000 × 1/5 = ₹ 12,000

X’s share in Goodwill of Z = ₹ 12,000 × 10/16 = ₹ 7,500 in Sacrificing Ratio.

Y’s share in Goodwill of Z in S.R. = ₹ 12,000 × 6/16 = ₹ 4,500

Through Z’s capital A/c & his share of profit the in current A/c.

Sacrificing Ratio = X : Y

Old Ratio 5 : 3

Share of Z = -1/5 th

Share of X & Y in the firm = 1 - 1/5  =4/5

X’s share = 4/5 * 5/8  = 5/10

Y’s share = 4/5 * 3/8   = 3/10

  = New Ratio

Sacrificing Ratio = Old Ratio — New Ratio.

X =     =    =

Y =     =    =

10 : 6

Total Capital of the firm according to capital contribution of Z.

= ₹ 80,000 × 5 = ₹ 4,00,000.

X’s Capital balance = ₹ 4,00,000 × 5/10 = ₹ 2,00,000

Y’s Capital balance = ₹ 4,00,000 × 3/10 =  ₹ 1,20,000

Z’s Capital balance = ₹ 4,00,000 × 2/10 =  ₹ 80,000 

Bank Account

Particulars	( ₹ )	Particulars	( ₹ )
To Balance b/d	30,000
To Z’s Capital A/c	80,000	By Balance c/d	2,90,000
To X’s Capital A/c	1,20,000
To V’s Capital A/c	60,000
	2,90,000		2,90,000

Balance Sheet as on 31.03.22

Liabilities	( ₹ )	Assets	( ₹ )
Capital:		Bank	2,90,000
X	2,00,000	Debtors	60,000
Y	1,20,000	Stock	96,000
Z	80,000	Machine	46,000
Current A/c:		Investment	31,000
X	25,000	Z’ Current Account	24,000
Y	18,000
General Reserve	60,000
Sundry Creditors	44,000
	5,47,000		5,47,000

 Illustration 6

The Balance Sheet of a firm as on 31.3.2022 was

Liabilities	( ₹ )	Assets	( ₹ )
Capital: Sun	50,000	Property	35,000
Moon	41,000	Motor car	7,500
Loan (Sun)	5,000	Furniture	1,000
General Reserve	5,000	Debtors	25,000
Sundry Creditors	15,000	Stock	45,000
Outstanding Expenses	1,500	Cash	4,000
	1,17,500		1,17,500

The profit sharing ratio between Sun & Moon was 3 : 2. They decided to admit Pluto as a new partner from 1st April, 2022 on the following terms & conditions:

(1) Property & Motor Car to be revalued at ₹ 45,000 & ₹ 6,500 respectively and 5% provision to be created on debtors.

(2) Pluto should pay premium for goodwill to be valued at 2 years’ purchase of last three years average profits. Such amount of premium was to be credited to old partners loan accounts.

(3) Pluto should pay ₹ 37,500 as capital.

(4) The new profit sharing ratio should be 2: 1: 1.

(5) Last three years’ profit were ₹ 5,000, ₹ 6,000 and ₹ 7,500.

The last three years’ books of accounts, on verification, disclosed the following discrepancies:

2019-20 : Bad debts previously written of recovered ₹ 400, credited to Debtors Account, Closing Stock under valued by ₹ 1,250. 

2020-21 : Furniture purchased ₹ 300 debited to Purchases Account,

Depreciation was provided @ 10% on reducing balance method but Closing Stock was overvalued by ₹ 2,000. 

2021-22 : A purchase invoice of ₹ 1,000 was omitted from the books and Closing Stock was undervalued by  ₹ 1,000.

Pass the journal entries at the time of admission of Pluto and prepare the Balance Sheet just after his admission. 

Solution:

Revaluation Account

Particulars		(₹)	Particulars	(₹)
To, Motor Car A/c		1,000	By, Property A/c	10,000
To, Provision for Bad Debts A/c		1,250
To, Profit on Revaluation:
Sun 3/5	4,650
Moon 2/5	3,100	7,750
		10,000		10,000

Partners’ Capital Account

Particulars	Sun  (₹)	Moon  (₹)	Pluto (₹)	Particulars	Sun (₹)	Moon (₹)	Pluto (₹)
				By Balance b/d	50,000	41,000	-
				By Cash A/c	-	-	37,500
				By Profit on Revaluation	4,650	3,100	-
To Balance c/d	57,650	46,100	37,500	By General Reserve	3,000	2,000
	57,650	46,100	37,500		57,650	46,100	37,500

Calculation of sacrificing / gaining ratio of sun & moon because of admission , Pluto.

	Sun: Moon : Pluto
Old Ratio	3:2
New Ratio	2:1:1
Sacrificing ratio (Sun’s)	=        =
Moon’s Sacrificing ratio =	=     =
Or, 2: 3

Statement showing Adjusted Profit Account  

Particulars	2019-20 (₹)	2020-21 (₹)	2021-22 (₹)
Profits	5,000	6,000	7,500
Bad Debts Recovered	+ 400	-	-
Closing Stock Undervalued	+ 1,250	- 1,250	-
Furniture purchased debited to Purchases A/c		+ 300
Depreciation		-30
Clossing stock overvalued		- 2,000	+ 2,000
Purchases not recorded			- 1,000
Closing stock undervalued			+ 1,000
	6,650	3,020	9,500

Calculation of premium to be paid by Pluto Average profit of 3 year’s:

      = 6,390

Goodwill = ₹6,390 × 2 = ₹12,780  

Pluto’s share of goodwill = ₹12,780 × 1/4   = ₹3,195 

Journal 

Particulars		Dr. (₹)	Cr. (₹)
Property A/c	Dr.	10,000
To, Revaluation A/c			10,000
(Being revaluation of property done at the time of admission of Pluto)
Revaluation A/c	Dr.	2,250
To, Motor Car A/c			1,000
To, Provision for bad debts A/c			1,250
(Being revaluation done of motor car & Provision calculated on debtors @ 5%)
Revaluation A/c	Dr.	7,750
To, Sun’s Capital A/c			4,650
To, Moon’s Capital A/c			3,100
(Being profit on revaluation distributed to Partner’s Capital A/c)
Cash A/c	Dr.	37,500
To, Pluto’s Capital A/c			37,500
(Being cash brought in by Pluto as his share of capital)
Cash A/c	Dr.	3,195
To, Pluto’s Capital A/c			3,195
(Being cash .brought by Pluto for his share of goodwill)
Pluto’s Capital A/c	Dr.	3,195
To, Sun’s Loan A/c			1,278
To, Moon’s Loan A/c			1,917
(Being Pluto’s share of premium for goodwill credited to Old Partner’s Capital A/c in their sacrificing ratio)

Balance Sheet (Post-Admission)

Liabilities	(₹)	Assets	(₹)
Capital:		Property (35,000 + 10,000)	45,000
Sun	57,650	Motor Car (7,500 - 1,000)	6,500
Moon	46,100	Furniture	1,000
Pluto	37,500	Debtors (25,000 - 1,250)	23,750
Loan (Sun) (5,000 + 1278)	6,278	Stock	45,000
(Moon)	1,917	Cash (4,000 + 37,500 + 3,195)	44,695
Sundry creditors	15,000
Outstanding Expenses	1,500
	1,65,945		1,65,945

 Illustration 7

P and Q are partners sharing profits and losses in the ratio of 5:4. On 1st April, 2021 they admitted their Manager R into partnership for 1/5 th the share of the profits. As Manager, R was receiving a salary of ₹ 60,000 per year and a commission of 5 percent on the net profit after charging such salary and commission. It is, however, agreed that any excess over his former remuneration to which R becomes entitled as a partner is to be borne by Q.The profits of the firm for the year ended 31st March, 2022 amounted to ₹ 4,27,500. You are required to show the division of profits among the partners.

Solution:

(i) R’s remuneration as Manager

    Salary ₹ 60,000 & Commission ₹ 4,27,500 - ₹ 60,000 = ₹ 3,67,500 × 5/105 = ₹17,500 

     Or ₹ 60,000 + ₹ 17,500 = ₹ 77,500

(ii) R’s share in profit = ₹ 4,27,500 × 1/5  = ₹ 85,500; it excess over above (i)

     = ₹ 85,500 - ₹ 77,500 = ₹ 8,000 which to be borne by Q

(iii) Share in profits of P & Q

      P = ₹ 4,27,500 - ₹ 77,500 = ₹ 3,50,000 × 5/9  =₹ 1,94,444

Q = ₹ 3,50,000 × 4/9  =₹ 1,55,556 - ₹ 8,000 = ₹ 1,47,556

 Profit and Loss Appropriation Account    

Particulars	(₹)	(₹)	Particulars	(₹)	(₹)
To P’s Capital A/c:		1,94,444	By Profit for the year		4,27,500
To, Q’s Capital A/c:	1,55,556
Less: transferred to R:	8,000	1,47,556
To, R’s Capital A/c
As Manager:	77,500
Add: Transferred from Q	8,000	85,500
		4,27,500			4,27,500

Illustration 8

A and B were partners of a firm sharing profits and losses in the ratio 2:1. The Balance Sheet of the firm as at 31st March, 2022 was as under: 

Liabilities	(₹)	Assets	(₹)
Capital Accounts:		Plant and Machinery	5,00,000
A	8,00,000	Building	9,00,000
B	4,00,000	Sundry Debtors	2,50,000
Reserves	5,25,000	Stock	3,00,000
Sundry Creditors	2,75,000	Cash	1,50,000
Bills Payable	1,00,000
	21,00,000		21,00,000

They agreed to admit P and Q into the partnership on the following terms:

(i) The firm’s goodwill to be valued at 2 years’ purchase of the weighted average of the profits’ of the last 3 years. The relevant figures are:

   Year ended 31.03.2019 - Profit 37,000

   Year ended 31.03.2021 - Profit 40,000

   Year ended 31.03.2022 - Profit 45,000

(ii) The value of the stock and Plant & Machinery were to be reduced by 10%. 

(iii) Building was to be valued at ₹ 10,11,000.

(iv) There was an unrecorded liability of ₹ 10,000.

(v) A, B, P & Q agreed to share profits and losses in the ratio 3 : 2 :1:1.

(vi) The value of reserve, the values of liabilities and the values of assets other than cash were not to be altered.

(vii) P and Q were to bring capitals equal to their shares of Profit considering B’s capital as base after all adjustments.

You are required to prepare:

(1) Memorandum Revaluation Account,

(2) Partner’s Capital Accounts and

(3) The Balance Sheet of the newly constructed firm. 

Solution:

Memorandum Revaluation Account

Particulars	(₹)	Particulars	(₹)
To, Stock A/c	30,000
To, Plant & Machinery A/c	50,000	By, Building	1,11,000
To, Unrecorded Liability A/c	10,000
To, Profit transferred to Partners’ Capital A/c (in old ratio)
A = 14,000
B = 07,000	21,000
	1,11,000		1,11,000
To, Building	1,11,000	By, Stock A/c	30,000
		By, Plant & Machinery A/c	50,000
		By, Unrecorded liability A/c	10,000
		By, Loss transferred to Partners’ Capital A/c s (in new ratio)
		A = 9,000
		B = 6,000
		P = 3,000
		Q = 3,000
	1,11,000		1,11,000

Partners’ Capital Accounts

Particulars	A (₹)	B (₹)	P (₹)	Q (₹)	Particulars	A (₹)	B (₹)	P (₹)	Q (₹)
To, Memorandum Revaluation A/c	9,000	6,000	3,000	3,000	By, Balance b/d	8,00,000	4,00,000	-	-
To, Reserves A/c	2,25,000	1,50,000	75,000	75,000	By, Memorandum Revaluation A/c	14,000	7,000	-	-
To, A & B A/c  (W.N.2)	-	-	12,000	12,000	By, Reserves A/c	3,50,000	1,75,000	-	-
To, Balance c/d  (Refer W.N.3)	9,50,000	4,30,000	2,15,000	2,15,000	By, P & O A/c (W.N.2)	20,000	4,000	-	-
					By, Cash A/c (Bal. fig.)	-	-	3,05,000	3,05,000
	11,84,000	5,86,000	3,05,000	3,05,000		11,84,000	5,86,000	3,05,000	3,05,000

Balance Sheet of newly reconstituted firm as on 31.03.2022 

Liabilities	(₹)	Assets	(₹)
Capital Accounts:		Plant and Machinery	5,00,000
A — 9,50,000		Building	9,00,000
B — 4,30,000		Sundry Debtors	2,50,000
P — 2,15,000		Stock	3,00,000
Q — 2,15,000	18,10,000	Cash  (₹1,50,000 + ₹3,05,000 + ₹3,05,000)	7,60,000
Reserves	5,25,000
Sundry Creditors	2,75,000
Bills Payable	1,00,000
	27,10,000		27,10,000

Working Notes:

1.  Calculation of Goodwill Weighted Average Profit:

Year	Profit (₹)	Weight	Weighted Profit (₹)
2020	37,000	1	37,000
2021	40,000	2	80,000
2022	45,000	3	1,35,000
		6	2,52,000

Weighted Average Profit = ₹2,52,000/6 = ₹42,000

Goodwill is valued at 2 year’s purchase

Value of Goodwill: ₹42,000 × 2 = ₹84,000

2.      (a) Profit Sacrificing Ratio

Particulars	Old Shares	New Shares Share	Sacrificed Share	Gained
A	2/3	3/7	5/21	-
B	1/3	2/7	1/21	-
P	-	1/7	-	1/7
Q	-	1/7	-	1/7

(b) Adjustment for Goodwill

Partners	Goodwill as per old ratio (₹)	Goodwill as per new ratio (₹)	Effect (₹)
A	56,000	36,000	+ 20,000	-
B	28,000	24,000	+ 4,000	-
P	-	12,000	-	12,000
Q	-	12,000	-	12,000
	84,000	84,000	24,000	24,000

Journal

Particulars		Dr. (₹)	Cr. (₹)
P’s Capital A/c	Dr.	12,000
Q’s Capital A/c	Dr.	12,000
To A’s Capital A/c			20,000
To B’s Capital A/c			4,000

3. Calculation of closing capitals of P and Q

B’s capital is taken as base. Closing capital of B after all adjustments is 4,30,000. Total capital of firm will be = 4,30,000 × 7/2 = 15,05,000 Hence, P’s and Q’s closing capital should be 2,15,000 (15,05,000 × 1/7) each i.e. at par with B (as per new profit and loss sharing ratio).

 

Retirement of Partner

PARTNERSHIP ACCOUNTS: RETIREMENT

Partners form a partnership business. But sometimes a partner may decide to discontinue from the firm for different reasons. Normally the retirement takes place by consent of all the partners and/or by other mode of communication by the intended partner to all other partners.

As per Section 32 of the Indian Partnership Act, 1932 a partner may retire:

● With the consent of all the existing partners; or
● In accordance with an express agreement by the partners; or
● By giving a written notice to all other partners of his intention to retire in case of ‘Partnership at Will’.

Like admission, retirement of a partner is another mode of reconstitution of partnership firm.

After retirement of a partner, the other partners may continue the business.  For paying off the retiring partner(s), some specific adjustments are required to be done in the books of the firm. These are discussed as follows:

● Calculation of new profit sharing ratio and gaining ratio,
● Distribution of reserves and accumulated profits and losses,
● Revaluation of assets and liabilities,
● Adjustment for goodwill,
● Adjustment for Joint Life Policy (JLP),
● Settlement of final balance of the retiring partner,
● Adjustment of existing partners’ capital accounts.

Calculation of New Profit Sharing Ratio and Gaining Ratio

As a consequence of retirement, the share of profit of the retiring partner gets distributed to the continuing partners which results in again in the share of the continuing partners. The ratio in which the continuing partners will share future profits and losses is known as the New Profit Sharing Ratio.

The ratio in which the continuing partners acquire the share of profit forgone by the retiring partner is referred to as Gaining Ratio. It is calculated by taking the difference between the old profit sharing ratio and the new profit sharing ratio.

Distribution of Reserves and Accumulated Profits and Losses

The balance of reserves or profit and loss account are distributed among all the partners (including the retiring partner), in their Old Profit Sharing Ratio in the event of Retirement.

Revaluation of Assets and liabilities

The logic for revaluation of Assets and liabilities at the time of retirement of a partner is same as that at the time of admission of a new partner. In case of retirement, the revaluation profit or loss is distributed among all the partners in the Old Profit Sharing Ratio.

Adjustment for Goodwill

The goodwill of the existing partnership firm had been created and developed by all the existing partners (including the retiring partner). That is why the continuing partners are required to compensate the retiring partner in their Gaining Ratio and the necessary adjustments for Goodwill is required to be made. Gaining ratio is the ratio of the gain or increase in the profit share that is made by the continuing partners on the retirement of an outgoing partner. It is calculated by taking the difference between the old profit sharing ratio and new profit sharing ratio. The accounting treatment of goodwill in the event of retirement of a partner is as under:

Writing-off the value of Goodwill A/c (if any) appearing in the pre-retirement Balance Sheet of the firm:

All Partners’ Capital A/c    (in old p. s. r.)

To, Goodwill A/c (existing book value)

The Capital Accounts of the partners are required to be adjusted:

Gaining Partners’ Capital A/c      (in Gaining Ratio)

To, Outgoing Partner’s A/c (with his share of goodwill)

Adjustment for Joint Life Policy (JLP)\

Joint Life Insurance Policy is a common Life insurance policy which covers the lives of all the partners of the firm and the premium of which is borne by the firm. The Surrender Value of the Joint Life Policy as on the date of reconstitution (i.e. Admission, Retirement, Change in Profit Sharing Ratio) is to be considered for the accounting purpose. The Maturity Value is irrelevant in these cases.

Settlement of Final Balance of the Retiring Partner:

After considering all the points discussed above, the amount due to the retiring partner is ascertained and to be settled in a mode as decided by the firm according to the terms of the partnership deed; or in the absence of such deed it is to be mutually decided by the partners.

The amount due to the retiring partner can either be discharged immediately after his retirement by paying off the whole amount using the business funds (i.e. Cash or Bank), or, if the firm is having paucity of liquid funds, then the retiring partner is paid in a certain number of instalments. In such case, the firm opens a Loan Account in the name of the retiring partner. Right of retiring partner under Section 37 of the Indian Partnership Act,1932: The retiring partner has the option of claiming higher of the following amounts:

(a) Share in Profits: The retiring partner’s profit share is determined since the date of retirement which is to be calculated in the ratio of the present adjusted capitals or

(b) Interest @ 6% per annum: Such interest is calculated on the amount due to the retiring partner from the  firm for the period starting from the date of retirement up to the date of settlement.

 Illustration 9

P, Q and R sharing profits and losses equally, had been trading for many years. R decided to retire on 31.3.2022 on which date Balance Sheet of the firm is as follows.

Liabilities	(₹)	Assets	(₹)
Capital accounts:		Cash	36,000
P	1,20,000	Debtors	74,000
Q	85,000	Stock	60,000
R	75,000	Plant and Machinery	1,20,000
Creditors	85,000	Land and Building	75,000
	3,65,000		3,65,000

Value of goodwill was agreed as ₹93,000. Land and building increased in value, it being agreed at ₹1,05,600, plant and machinery was revalued at ₹1,00,500 and it was agreed to provide 6% in respect of debtors. Prepare Revaluation Account, Capital Accounts and Balance Sheet. 

Solution:

In the Books of the Firm 

Revaluation Account

Particulars		(₹)	Particulars	(₹)
To, Plant & Machinery A/c		19,500	By, Land & Building A/c	30,600
To, Provision for Bad Debts A/c		4,440
To, Capital A/c (Profit)
P	2,220
Q	2,220
R	2,220	6,660
		30,600		30,600

Partners’ Capital Accounts

Particulars	P (₹)	Q (₹)	R (₹)	Particulars	P (₹)	Q (₹)	R (₹)
To, Balance	1,53,220	1,18,220	-	By, Balance	1,20,000	85,000	75,000
To, Loan A/c	-	-	1,08220	By, Revaluation A/c	2,220	2,220	2,220
				By, Goodwill A/c	31,000	31,000	31,000
	1,53,220	1,18,220	1,08,220		1,53,220	1,18,220	1,08,220

Balance Sheet as on 31.3.202

Liabilities	(₹)	Assets		(₹)
Capital Accounts:		Cash		36,000
P	1,53,220	Debtors	74,000
Q	1,18,220	Less: Provision	4,440	69,560
Loan Account: R	1,08,220	Stock		60,000
Creditors	85,000	Plant & Machinery		1,00,500
		Land & Building		1,05,600
		Goodwill		93,000
	4,64,660			4,64,660

 Illustration 10

A, B & C were in partnership sharing profits in the proportions of 5:4:3. The balance sheet of the firm as on 31st March, 20X2 was as under:

Liabilities	(₹)	Assets	(₹)
Capital accounts:		Goodwill	40,000
A	1,35,930	Fixtures	8,200
B	95,120	Inventories	1,57,300
C	61,170	Trade receivables	93,500
Trade payables	41,690	Cash	34,910
	3,33,910		3,33,910

A had been suffering from ill-health and gave notice that he wished to retire. An agreement was, therefore, entered into as on 31st March, 20X2, the terms of which were as follows:

(i) The profit and loss account for the year ended 31st March, 20X2 which showed a net profit of ₹48,000 was to be re-opened. B was to be credited with ₹4,000 as bonus, in consideration of the extra work which had devolved upon him during the year. The profit sharing was to be revised from 1st April, 20X1, as 3:4:4.

(ii) Goodwill was appearing in the Balance Sheet on 31st March, 20X2 as it was purchased goodwill. It was decided by the partner to write off this goodwill. Presently goodwill was to be valued at two years’ purchase of the average profits of the preceding five years. The fixtures were to be valued by an independent valuer. A provision of 2% was to be made for doubtful debts and the remaining assets were to be taken at their book values.

(iii) The valuations arising out of the above agreement were goodwill ₹56,800 and fixtures ₹10,980.

(iv) B and C agreed, as between themselves, to continue the business, sharing profits in the ratio of 3:2 and decided to eliminate goodwill from the balance sheet, to retain the fixtures on the books at the revised value, and to increase the provision for doubtful debts to 6%.

Required:

Submit the journal entries necessary to give effect to the above arrangements and to draw up the capital account of the partners after carrying out all adjusting entries as stated above.

Solution:

Journal Entries

Particulars		Dr.(₹)	Cr.(₹)
A's Capital Account	Dr.	20,000
B's Capital Account	Dr.	16,000
C's Capital Account	Dr.	12,000
To Profit and loss Adjustment Account			48,000
(Profit written back for making adjustments)
Profit and loss Adjustment Account	Dr.	4,000
To B's Capital Account			4,000
(Bonus Credited to B's Capital Account)
Profit and loss Adjustment Account	Dr.	44,000
To A's Capital Account			12,000
To B's Capital Account			16,000
To C's Capital Account			16,000
(Distribution of profits in the new ratio)
Fixtures Account	Dr.	2,780
Goodwill A/c		16,800
To, Profit & Loss Adjustment A/c			19,580
(Revaluation of assets on A's Retirement)
Profit & Loss Adjustment A/c	Dr.	1,870
To, Provision for doubtful debts A/c			1,870
[Provision created @ 2% on Debtors]
Profit & Loss Adjustment A/c	Dr.	17,710
To A's Capital Account			4,830
To B's Capital Account			6,440
To C's Capital Account			6,440
[Profit on Revaluation shared among all partners as 3 : 4 : 4]
A's  Capital Account	Dr.	1,32,760
To A's Loan Account			1,32,760
[Transfer of A’s dues to his Loan A/c]
B's Capital Account	Dr.	36,324
C's Capital Account	Dr.	24,216
To, Goodwill A/c			56,800
To, Provision for doubtful debts A/c			3,740
[Goodwill Account written off and provision on debtors increased by 4% further on ₹ 93,500]

Partners’ Capital Accounts

	A (₹)	B (₹)	C (₹)		A (₹)	B (₹)	C (₹)
To Profit and Loss Adjustment A/c	20,000	16,000	12,000	By Balance b/d	1,35,930	95,120	61,170
To A’s Loan A/c	1,32,760	-	-	By Adjustment A/c	-	4,000	-
To  Goodwill & Provision for Doubtful Debts A/c	-	36,324	24,216	By Profit and loss Adjustment A/c	12,000	16,000	16,000
To Balance c/d	-	69,236	47,394	By Profit and loss Adjustment A/c	4,830	6,440	6,440
	1,52,760	1,21,560	83,610		1,52,760	1,21,560	83,610

 Illustration 11

Compass, Cone and Circle are in partnership sharing profits and losses in the ratio of 3 : 2 : 1. The Balance Sheet of the firm as on 31st December, 20X1 was as follows:

Liabilities	₹	₹	Assets	₹	₹
Capital accounts :			Machinery (at Cost)	50,000
Compass	40,000		Less : Provision for Dep.	8,000	42,000
Cone	60,000		Furniture		1,000
Circle	20,000	1,20,000	Sundry Debtors	80,000
Reserve		30,000	Less : Prov. for Doubtful Debts	3,000	77,000
Sundry Creditors		60,000	Stocks		50,000
			Cash at Bank		40,000
		2,10,000			2,10,000

On 31st March, 20X2 Conre retired and Compass an Circle continued in partnership, sharing profits and losses in the ratio of 3 : 2. It was agreed that adjustments were to be made in the Balance Sheet as on 31st March, 20X2, in respect of the following :

(a) The Machinery was to be revalued at ₹ 45,000; (b) The Stock was to be reduced by 2%; (c) The Furniture was to be reduced to ₹ 600; (d) The Provision for Doubtful Debts would be ₹ 4,000; (e) A provision of ₹ 300 was to be made for Outstanding Expenses.

The Partnership agreement provided that on the retirement of a partner, goodwill was to be valued at ₹ 24,000 and Cone’s share of the same was to be adjusted into the accounts of Compass and Circle. The profit up to the date of retirement was estimated at ₹ 18,000.

Cone was to be paid off in full, Compass and Circle were to bring such an amount in cash so as to make their capital in proportion to the new profit sharing ratio. Subject to the condition that a cash balance of ₹ 20,000 was to be maintained as working capital.

Pass the necessary journal entire to give effect to the above arrangements and prepare the partners’ Capital Accounts on 31st March, 20X2.

Solution:

In the books of Compass, Cone and Circle

Journal

Date	Particulars		L.F	Debit ₹	Credit ₹
31.3.20X2	Reserve A/c	Dr.		30,000
	To Compass’s Capital A/c				15,000
	To Cone’s Capital A/c				10,000
	To Circle’s Capital A/c				5,000
	(Reserve transferred to the capital accounts of the partners in 3 : 2 : 1)
	Machinery A/c	Dr.		3,000
	To Revaluation A/c				3,000
	(Value of the machinery increased on Cone’s retirement)
	Revaluation A/c	Dr.		2,700
	To Stock A/c				1,000
	To Furniture A/c				400
	To Provision for Bad Debts A/c				1,000
	To Outstanding Expenses A/c				300
	(Value of the assets reduced on Cone’s retirement)
	Revaluation A/c	Dr.		300
	To Compass’s Capital A/c				150
	To Cone’s Capital A/c				100
	To Circle’s Capital A/c				50
	(Profit on revaluation transferred to the capital accounts of the partners)
	Compass’s Capital A/c	Dr.		2,400
	Circle’s Capital A/c	Dr.		5,600
	To Cone’s Capital A/c				8,000
	(Cone’s share of goodwill to be adjusted against remaining partner’s capital accounts in the gaining ratio of 3 : 7)
	Profit and Loss Suspense A/c	Dr.		18,000
	To Compass’s Capital A/c				9,000
	To Cone’s Capital A/c				6,000
	To Circle’s Capital A/c				3,000
	(Estimated profit transferred to the capital accounts of the partners)
	Cone’s Capital A/c	Dr.		84,100
	To Bank A/c				84,100
	(Payment is made to Cone on his retirement)
	Bank A/c	Dr.		46,100
	To Compass’s Capital A/c				16,430
	To Circle’s Capital A/c				29,670
	(Cash to be brought in by Compass and Circle as per agreement)

Capital Account

Particulars	Compass ₹	Cone ₹	Circle ₹	Particulars	Compass ₹	Cone ₹	Circle ₹
To Cone’s Capital	2,400	—	5,600	By Balance b/d	40,000	60,000	20,000
To Bank (bal. fig.)	—	84,100	—	By Reserve	15,000	10,000	5,000
To Balance c/d	78,180	—	52,120	By Revaluation - Profit	150	100	50
				By Share of Profit	9,000	6,000	3,000
				By Compass’s Capital	-	2,400	-
				By Circle’s Capital	-	5,600	-
				By Bank (bal. fig.)	16,430	-	29,670
	80,580	84,100	57,720		80,580	84,100	57,720
				By Balance b/d	78,180	-	52,120

Working Notes :

1. Total value of goodwill ₹ 24,000

∴ Cone’s share of goodwill = 24,000 × 2/6 = 8,000 to be adjusted against Compass’s and Circle capital in 3 : 7.

Computation of ratio :

Compass = 3/5 - 3/6 = 3/30 (gain)

Circle = 2/5 - 1/6 = 7/30 (gain)

2. Bank Account

Dr			Cr.
Particulars	₹	Particulars	₹
To Balance b/d	40,000	By Cone’s Capital	84,100
To Profit — increase in Cash	18,000	By Balance c/d (to be maintained)	20,000
To Compass and Circle’s Capital (balance figure)	46,100
	1,04,100		1,04,100

3. Total adjusted capitals of Compass and Circle :

	₹
Compass’s Capital (40,000 + 15,000 + 150 + 9,000 – 2,400)	61,750
Circle’s Capital : (20,000 + 5,000 + 50 + 3,000 – 5,600)	22,450
Add : Total Cash to be brought in	46,100
Combined adjusted capitals	1,30,300
Compass’s Cap. = 1,30,300 x 3/5 = 78,180
Circle’s Cap. = 1,30,300 x 2/5 = 52,120

 Illustration 12

The Balance Sheet of A, B and C who are sharing profits in proportion to their capital stood as follows on March 31st 2022:

Liabilities	(₹)	(₹)	Assets	(₹)	(₹)
Capital Accounts:			Land and Buildings		50,000
A	40,000		Plant and Machinery		17,000
B	30,000		Stock		16,000
C	20,000	90,000	Debtors	10,000
		13,800	Less: Provision	200	9,800
			Cash at Bank		11,000
		1,03,800			1,03,800

B retired on the above date and the following was agreed upon:

(i) The stock be depreciated by 6%.

(ii) That the provision for doubtful debts be brought up to 5% on Debtors.

(iii) That the Land and Buildings be appreciated by 20%.

(iv) That a provision for ₹ 1,540 be made in respect of outstanding legal charges.

(v) That the Goodwill of the entire firm be fixed at ₹ 21,600 and B’s share of it be adjusted into the accounts of A and C who are going to share future profits in the ratio of 5: 3.

(vi) That the assets and liabilities (except Cash at Bank) were to appear in the Balance Sheet at their old figures.

(vii) That the entire capital of the firm as newly constituted by fixed at ₹ 56,000 between A and C in the proportion of 5: 3 (actual cash to be brought in as paid off, as the case may be).

Show the Balance Sheet after B’s retirement.

Solution:

Balance Sheet as on 31st March, 2022

Liabilities	(₹)	(₹)	Assets	(₹)	(₹)
Capital Account:			Land and Building		50,000
A	35,000		Plant and Machinery		17,000
C	21,000	56,000	Stock		16,000
B’s Loan A/c		39,600	Debtors	10,000
Creditors		13,800	Less: Provision for Bad Debt	200	9,800
			Cash at Bank ( ₹ 11,000 + ₹ 5,600)		16,600
		1,09,400			1,09,400

Note: Since assets and liabilities will appear in the Balance Sheet at their old figure Memorandum Revaluation Account should be opened.

Working Notes:

Gaining Ratio

A = 5/8 - 4/9 = 45-32/72 = 13/72

C = 3/8 - 2/9 = 27-16/72 = 11/72

Hence, gaining ratio = 13: 11

Memorandum Revaluation Account

Particulars	(₹)	(₹)	Particulars	(₹)	(₹)
To, Under valuation of Stock		960	By, Overvaluation of Land and Building		10,000
To, Provision for Bad Debts  ₹(500-200)		300
To, Provision for legal changes		1,540
To, Profit on Rev:
A	3,200
B	2,400
C	1,600	7,200
		10,000			10,000
To, Reversal of items			By, Reversal of items:
To, Over valuation of Land and Building		10,000	By, Undervaluation of Stock		960
			By, Provision for Bad Debts		300
			By, Provision for legal changes		1,540
			By, Capital A/c
			Profit to be written-back
			A-5/8 =	4,500
			0-3/8 =	2,700	7,200
		10,000			10,000

B’s share of goodwill   = ₹ 21,600 × 3/9

= ₹ 7,200 

The entry being: 

Particulars		Debit (₹)	Credit (₹)
A’s Capital A/c	Dr.	3,900
C’s Capital A/c	Dr.	3,300
To, B’s Capital A/c			7,200
(Being gaining ratio)

Partners’ Capital Account

Dr.                                                                                                                                                                                                                                                                                                                                                                                                 Cr.

Particulars	A (₹)	B (₹)	C (₹)	Particulars	A (₹)	B (₹)	C (₹)
To, Memo. Reval. A/c	4,500	-	2,700	By, Balance b/d	40,000	30,000	20,000
To, B’s Capital A/c	3,900	-	3,300	By, Revaluation A/c – Profit	3,200	2,400	1,600
To, B’s Loan A/c	-	39,600	-	By, A’s capital A/c	-	3,900	-
To, Balance c/d	35,000	-	21,000	By, B’s Capital A/c	-	3,300	-
				By, Bank A/c (Balance Fig.)	200	-	5,400
	43,400	39,600	27,000		43,400	39,600	27,000

* Total Capital = ₹ 56,000 in 5 : 3, i.e., A ₹ 35,000; C ₹ 21,000.

RETIREMENT-CUM-ADMISSION

In many cases, whenever an existing partner retires, another partner joins the continuing partners in the firm. This situation is referred to as Retirement-cum-Admission. The principles of accounting in the event of admission of a partner and retirement of a partner have been separately discussed. In this section, the combined effect of simultaneous admission and retirement has been highlighted. It should be remembered that no separate treatment is practically needed i.e. same principles for admission and retirement are followed but only two sets of transactions are incorporated simultaneously.

Illustration  13

Gita and Mita are equal partners. Gita, by agreement, retires and Lata joins the firm on the basis of one-third share of profits on 01.04.20X1. The balances of the books as on 31st March 20X1 were:

Particulars	Dr.	Cr.
	₹	₹
Goodwill	10,000
Fixed Assets at Cost	1,20,000
Current Assets:
Stock	60,000
Debtors	40,000
Bank Balance	8,000
Creditors		20,000
Provision for Depreciation		12,000
Capital Accounts:
Gita		1,04,0000
Mita		1,02,000
	2,38,000	2,38,000

Goodwill and Fixed Assets valued at ₹ 30,000 and ₹ 1,40,000 respectively and it was agreed to be written up accordingly before admission of Lata as partner. Sufficient money is to be introduced so as to enable Gita to be paid off and leave ₹ 5,000 cash at Bank; Mita and Lata are to provide such sum as to make their Capitals proportionate to their share of profit. Assuming the agreement was carried out, show the journal entries required and prepare the Balance Sheet after admission of Lata.

All working should form part of your answer.

Solution:

I. Capital of the new firm

Particulars	Amount ₹
Goodwill	30,000
Fixed Asset	1,40,000
Stock	60,000
Debtors	40,000
Cash at Bank	5,000
	2,75,000
Less: Creditors	20,000
	2,55,000

Mita = ₹ 2,55,00 x 2/3 = ₹ 1,70, 000

Lata = ₹ 2,55,000 x 1/3 = ₹ 85,000

II. Amount to be brought in by Mita

Particulars	Amount ₹	Amount ₹
Capital to be maintained		1,70,000
Less: Opening balance	1,02,000
Profit on Revaluation	26,000	1,28,000
To be brought in by Mita		42,000

Revaluation Account

Dr.				Cr.
Particulars		Amount	Particulars	Amount
		₹		₹
To Capital A/c - Profit on Revaluation			By Goodwill A/c	20,000
Gita	26,000		By Fixed Assets A/c	20,000
Mita	26,000	52,000	By Prov. For Depreciation A/c.	12,000
		52,000		52,000

Bank Account

Dr.				Cr.
Particulars		Amount	Particular	Amount
		₹		₹
To Balance b/d		8,000	By Gita’s capital A/C	1,30,000
To Mita’s capital	42,000		By Balance c/d	5,000
Lata’s Capital	85,000	1,27,000
		1,35,000		1,35,000

Journal

Date	Particulars		L.F.	Debit ₹	Credit ₹
1.4.X1	Goodwill A/c	Dr.		20,000
	Fixed Asset A/c	Dr.		20,000
	Prov. for Depreciation A/c	Dr.		12,000
	To Revaluation A/c				52,000
	(Increased value of assets transferred to Revaluation A/c).
	Revaluation A/c	Dr.		52,000
	To Gita’ s Capital A/c				26,000
	To Mita’s Capital A/c				26,000
	(Profit on revaluation transferred).
	Gita’s Capital A/c	Dr.		1,30,000
	To Bank A/c				1,30,000
	(Amount paid to Gita)
	Bank A/c	Dr.		1,27,000
	To Mita’s Capital A/c				42,000
	To Lata’s Capital A/c				85,000
	(Additional cash to be brought in to make their capital in proportion).

Balance Sheet

as at April 1, 20X1

Liabilities	Amount ₹	Assets	Amount ₹
Capital:		Goodwill	30,000
Mita	1,70,000	Fixed Assets	1,40,000
Lata	85,000	Stock	60,000
Creditor	20,000	Debtors	40,000
		Cash at Bank	5,000
	2,75,000		2,75,000

 Illustration 14

X, Y, & Z were equal partners. Their Balance Sheet as on 31.X1.X1 was as follows :

Liabilities	₹	₹	Assets	₹
Partners’ Capital			Land & Freehold Property	1,00,000
X	1,00,000		Plant & Machinery	2,00,000
Y	1,00,000		Furniture & Equipment	50,000
Z	2,00,000		Stock in-trade	1,00,000
Partner’s Current A/c :		4,00,000	Sundry Debtors	1,00,000
X	50,000		Balance with Bankers	1,50,000
Y	75,000
Z	25,000	1,50,000
Sundry Creditors		1,50,000
		7,00,000		7,00,000

On 1.1.X2 X retired and it was agreed that he should be paid all his dues in full on that date. For this purpose, goodwill was to be calculated on the basis of 3 years purchase of past 3 years profits which amounted to ₹ 1,00,000, ₹ 1,40,000 and ₹ 1,20,000 respectively.

In order to meet his obligation, a bank loan was arranged on 1.1.X2 for ₹ 2,00,000 pledging the fixed assets as security. Further, to compensate a loyal manager Q, it was agreed between Y and Z that Q should be admitted as a partner, who should bring in, over and above a capital of ₹ 1,00,000, his share of Goodwill in cash to serve as working capital.

Y and Z agreed to forego 1/3rd of their individual share of profits to Q.

Prepare the opening Balance Sheet of the firm as on 1.1.X2.

Solution:

Working Notes :

(1) Valuation of Goodwill

Average Annual Profits = (1,00,000 + 1,40,000 + 1,20,000)/3 = ₹ 1,20,000

∴ Goodwill = 3 × 1,20,000 = ₹ 3,60,000

Premium to be paid by Q = 1/3 of 3,60,000 = ₹ 1,20,000 and to be shared by Y and Z equally. Similarity X should be provided ₹ 1,20,000 by Y and Z equally.

(2) Balance with Bank on 1.1.2022

Bank Account

Particulars	(₹)	Particulars	(₹)
To,  Balance  b/d	1,50,000	By, X’s Capital A/c	2,70,000
To, Bank Loan A/c	2,00,000
To, Cash A/c (Premium for goodwill)	1,20,000
To, Q’s capital A/c	1,00,000	By, Balance  c/d	3,00,000
	1,00,000		5,70,000

(3) Partner Capital Accounts

Particulars	X	Y	Z	Q	Particulars	X	Y	Z	Q
To Cash A/c (Final settlement)	2,70,000	-	-	-	By Balance b/d	1,00,000	1,00,000	2,00,000	-
To Balance c/d	-	1,00,000	2,00,000	1,00,00	By X’s Current A/c (Transfer)	1,70,000	-	-	-
					By Cash A/c (Capital introduced)	-	-	-	1,00,000
	2,70,000	1,00,000	2,00,000	1,00,000		2,70,000	1,00,000	2,00,000	1,00,000

(4) Partners Current Account

Particulars	X	Y	Z	Particulars	X	Y	Z
To X’s Capital A/c (Tran)	1,70,000	-	-	By Balance b/d	50,000	75,000	25,000
To X’s Current A/c	-	60,000	60,000	By Y’s Current A/c	60,000	-	-
To Balance c/d	-	75,000	25,000	By Z’s Current A/c	60,000	-	-
				By Cash A/c	-	60,000	60,000
	1,70,000	1,35,000	85,000		1,70,000	1,35,000	85,000

(5) Balance with Bankers Account

Particulars	Amount ₹	Particulars	Amount ₹
To Balance b/d	1,50,000	By X’s Capital A/c	2,70,000
To Bank Loan A/c	2,00,000	By Balance c/d	3,00,000
To Cash A/c (Premium for goodwill)	1,20,000
To Q’s capital A/c	1,00,000
	5,70,000		5,70,000

Balance Sheet as at 1.1.X2

Liabilities	Amount ₹	Amount ₹	Assets	Amount ₹	Amount ₹
Partners’ Capital A/cs :			Land and Freehold Property		1,00,000
Y	1,00,000		Plant & Machinery		2,00,000
Z	2,00,000		Furniture & Equipment		50,000
Q	1,00,000	4,00,000	Stock		1,00,000
Partner’s Current A/cs :			Debtors		1,00,000
Y	75,000		Cash at Bank (W5)		3,00,000
Z	25,000	1,00,000
Bank loan (Secured)		2,00,000
Sundry Creditors		1,50,000
		8,50,000			8,50,000

Illustration 15

X,Y and Z are partners sharing profits and losses in the proportion to 3:2:2, respectively. The Balance Sheet of the firm as on 01.01.20X2 was as follows:

Liabilities	Amount (₹)	Assets	Amount (₹)
Capital Accounts;		Plant and Machinery	72,000
X: 1,00,000		Furniture	28,000
Y: 80,000		Stock	1,12,000
Z: 70,000	2,50,000	Sundry Debtors	96,000
Bank overdraft	20,000	Cash at Bank	18,000
Sundry Creditors	56,000
	3,26,000		3,26,000

X retired on 01.01.20X2 on which date R is admitted as new partner. For the purpose of adjusting the rights as between on partners’ goodwill to be valued at ₹ 84,000 and Sundry Debtors and Stock to be reduced by ₹ 16,000 and to ₹ 1,00,000 respectively. X is to receive ₹ 44,000 in cash on the date of retirement and the balance due to him is to remain as loan at 8% p.a. Repayment of loan to be made at the end of each year by annual installments representing 25% of the future profit before charging interest on loan.

R is to bring in ₹ 1,00,000 in cash as his capital on the date of admission. The new partners are to share profits and losses equally after paying the interest on X’s Loan.

The net profit for the year ended 31st December 20X2, is ₹ 64,000 before taking into account the installment payable to X.

You are required to show:

(a) Profit and Loss Appropriation Account for the year ended 31st December,20X2.

(b) Capital Accounts of the new partners; and

(c) X’s Loan Account as on 31st Dec, 20X2.

Solution:

In the books of X, Y, Z and R

Revaluation Account

Dr.				Cr.
Particulars		Amount (₹)	Particulars	Amount (₹)
To Provision for Bad Debts		16,000	By Goodwill	84,000
To Stock		12,000
To Share of Profit:
- X 3/7	24,000
- Y 2/7	16,000
- Z 2/7	16,000	56,000
		84,000		84,000

Capital Account

Particulars	X	Y	Z	Particulars	X	Y	Z
	(₹)	(₹)	(₹)		(₹)	(₹)	(₹)
To, Bank – Repayment	44,000	-	-	By Balance c/d	1,00,000	80,000	70,000
To X’s Loan A/c	80,00	-	-	By Revaluation A/c - Profit	24,000	16,000	16,000
To Balance c/d	-	96,000	86,000
	1,24,000	96,000	86,000		1,24,000	96,000	86,000

Profit and Loss Appropriation Account

for the year ended 31.12.20X2

Dr.				Cr.
Particulars		Amount (₹)	Particulars	Amount (₹)
To, Loan Redemption Fund A/c (25% of ₹ 64,000)		16,000	By Profit and Loss A/c - Net Profit	64,000
To Share of Profit:
- Y (1/3)	16,000
- Z (1/3)	16,000
- R (1/3)	16,000	48,000
		64,000		64,000

Capital Account

Dr.									Cr.
Date	Particulars	X	Y	Z	Date	Particulars	X	Y	Z
		(₹)	(₹)	(₹)			(₹)	(₹)	(₹)
31.12.X2	To Balance c/d	1,12,000	1,02,000	1,16,000	1.1.X2	By Balance c/d	96,000	86,000	-
						By Bank A/c
					31.12.X2	By Share of profit	16,000	16,000	16,000
		1,12,0000	1,02,000	1,16,000			1,12,0000	1,02,000	1,16,000
						By Balance b/d	1,12,0000	1,02,000	1,16,000

X’s Loan Account (8%)

Date	Particulars	Amount (₹)	Date	Particulars	Amount (₹)
20X2 Dec. 31	To Bank A/c	16,000	20X2 Jan. 1	By X’s Capital A/c	80,000
	To Balance c/d	70,400		By Interest [80,000 × 8%]	6,400
		86,400			86,400
				By balance c/d	70,400

Illustration 16

P, Q and R were partners sharing Profits & Losses as 2 : 3 : 5. P retired on 31.3.X3 and X joined as a new partner on the same date, the new profit sharing ratio between Q, R and X being 2 : 3 : 1. The Balance Sheet of P, Q & R on 31.3.20X3 was as follows :

Sundry Creditors		50,000	Cash in hand	2,000
Loan from X		50,000	Cash at Bank	93,000
General Reserve		40,000	Sundry Debtors	30,000
Capitals :			Stock	20,000
P	10,000		Machinery	30,000
Q	15,000		Buildings	10,000
R	20,000	45,000
		1,85,000		1,85,000

X was admitted on the following terms :

(1) Machinery was to be depreciated by ₹ 3,000 (2) Buildings were revalued at ₹ 30,000 (3) Stock was to be written off by ₹ 5,000 (4) Provision of 5% was made against doubtful debts (5) General Reserve would be apportioned among the partners (6) The firm’s Goodwill was to be valued at two years purchase of the average profits of the last three years (7) The amount due to P was retained in the business as a loan but X’s Capital contribution should be 1/5th of the combined adjusted capitals of Q and R. His capital would be transferred from his Loan Account, (8) the Goodwill would be wiped off from the books after X’s admission. (9) Partners decided not to alter the book values of assets & liabilities after admission.

The profits/losses during the last 3 years had been 31.3.X1 ₹ 20,000 (Profit) 31.3.X2 ₹ 15,000 (loss) and 31.3.X3 ₹ 40,000 (Profit).

Show the necessary Accounts and Balance Sheet of the firm.

Solution:

Working Notes :

1. Valuation of Goodwill

Profits for years ended :	31.3.X1	₹ 20,000
	31.3.X2	₹ (15,000)
	31.3.X3	₹ 40,000
		₹ 45,000

So, Average Annual Profits = 45,000/3 = ₹ 15,000. Goodwill = 2 x ₹ 15,000 = ₹ 30,000

For Goodwill raised :

Goodwill A/c	Dr.	30,000
To P			6,000
To Q			9,000
To R			15,000
For Goodwill written off :
Q	Dr.	10,000
R	Dr.	15,000
X	Dr.	5,000
To Goodwill			30,000

Memorandum Revaluation Account

Dr.			Cr.
Particulars	Amount ₹	Particulars	Amount ₹
To Machinery	3,000	By Building	20,000
To Stock	5,000
To Prov. for doubtful Debts	1,500
To Capital A/c (Share of Rev. Profit)
P – 2,100
Q – 3,150
R – 5,250	10,500
	20,000		20,000
To Reversal of Items b/d		By Reversal of Items b/d
Building	20,000	Machinery	3,000
		Stock	5,000
		Provision for D/Debts	1,500
		By P/Capital A/c (Share of Rev. Profit)
		Q – 3,500
		R – 5,250
		X – 1,750	10,500
	20,000		20,000

Partners Capital Accounts

Dr.									Cr.
	P ₹	Q ₹	R ₹	X ₹		P ₹	Q ₹	R ₹	X ₹
To Mem. Rev A/c - Sh. of loss	-	35,000	5,250	1,750	By Balance b/d	10,000	15,000	20,000	-
To Goodwill written off	-	10,000	15,000	5,000	By General Reserve	8,000	12,000	20,000	-
To P’s loss A/c (transfer)	26,100				By Memorandum Revaluation A/c (Sh. of profit)	2,100	3,150	5,250	-
To Balance c/d	-	25,650	40,000	13,130	By Goodwill raised	6,000	9,000	15,000	-
					By Loan from X A/c (Transfer)	-	-	-	19,880
	26,100	39,150	60,250	19,880		26,100	39,150	60,250	19,880

Capital Balance of X = 1/5 of (25,650 + 40,000) = 1/5 × 65,650 = 13,130

Therefore from X’s loan A/c : Loan from X A/c	Dr.	19,880
To X’s Capital A/c			19,880

Q, R & X

Balance sheet as at 31.3.X3

Liabilities	Amount ₹	Assets	Amount ₹
S/Creditors	50,000	Building	10,000
Loan for X	30,120	Machinery	30,000
Loan from P	26,100	Stock	20,000
Capitals		Debtors	30,000
Q : 25,650		Cash in hand	2,000
R : 40,000		Cash at Bank	93,000
X : 13,130	78,780
	1,85,000		1,85,000

 Illustration 17

A, B and C are in partnership sharing Profits and Losses in the ratio 3:2:1 respectively. The Balance Sheet of the partnership firm as on 31st March, 2022 is as under: 

Capital & Liabilities	(₹)	(₹)	Assets	(₹)	(₹)
Capital Accounts			Premises		1 80,000
A	1,70,000		Plant		74,000
B	1,30,000		Vehicles		30,000
C	70,000	3,70,000	Fixtures		4,000
Current Accounts			Current Account B		5,018
A	7,428		Stock		1,24,758
C	9,356	16,784	Debtors		69,960
Loan-C		56,000	Cash in hand		1,520
Creditors		38,072
Bank Overdraft		8,400
		4,89,256			4,89,256

C decides to retire from the business as on the above date and D is admitted as a partner on that date. The following matters agreed:

(i) Assets revalued as : Premises - ₹ 2,40,000, Plant- ₹ 70,000 Stock - ₹ 1,08,358.

(ii) A provision of ₹ 6,000 is created against debtors.

(iii) Goodwill is to be recorded in the books on the day C retires at ₹ 84,000. The partners in the new firm do not wish to maintain a Goodwill Account so that amount is to be written-off against the New Partners’ Capital Accounts.

(iv) A and B are to share profit in the same ratio as before, and D is to have the same share of profits as B.

(v) C is to take a car at its book value of ₹ 7,800 in part payment, and the balance of all he is owed by the firm in cash except ₹ 40,000 which he is willing to leave as a Loan Account.

(vi) The partners in the new firm are to start on an equal footing so far as Capital and Current Account are concerned. D is to contribute cash to bring his Capital and Current Account to the same amount as the original partner from the old firm who has the lower investment in the business. The original partner in the old firm who has the higher investment will draw out cash so that his capital and current account balances equal those of his new partners.

(vii) Revaluation profit or loss is to be adjusted in the Partners’ Current Account.

You are required to prepare Revaluation Account, Partners’ Capital Accounts, Partners’ Current Accounts, C’s

Loan Account, Bank Account and Balance Sheet of the newly constituted firm as at April 1, 2022.

Solution:

 In the books of the firm

Revaluation Account

Particulars		(₹)	Particulars	(₹)
To, Plant A/c		4,000	By, Premises A/c	60,000
To, Stock A/c		16,400
To, Provision for doubtful debts A/c		6,000
To, Partner’s Current A/c s
A	16,800
B	11,200
C	5,600	33,600
		60,000		60,000

Partners’ Capital Account

Particulars	A (₹)	B (₹)	C (₹)	D (₹)	Particulars	A (₹)	B (₹)	C (₹)	D (₹)
To, Goodwill A/c (3:2:2)	36,000	24,000	-	24,000	By, Balance b/d	1,70,000	1,30,000	70,000	-
To, Loan A/c	-	-	84,000	-	By, Goodwill A/c (3:2:2)	42,000	28,000	14,000	-
To, Bank A/c	42,000	-	-	1,34,000	By, Bank A/c	-	-	-	1,58,000
To, Balance c/d	1,34,000	1,34,000	-	-
	2,12,000	1,58,000	84,000	1,58,000		2,12,000	1,58,000	84,000	1,58,000

Partners’ Current Account 

Particulars	A (₹)	B (₹)	C (₹)	D (₹)	Particulars	A (₹)	B (₹)	C (₹)	D (₹)
To, Balance b/d	-	5,018	-	-	By, Balance b/d	7,428	-	9,356	-
To, C’s Loan A/c	-	-	14,956	-	By, Revaluation A/c	16,800	11,200	5,600	-
To, Bank A/c	18,046	-	-	-	By, Bank A/c	-	-	-	6,182
To, Balance c/d	6,182	6,182	-	6,182
	24,228	11,200	14,956	6,182		24,228	11,200	14,956	6,182

C’s Loan Account 

Date	Particulars	(₹)	Date	Particulars	(₹)
31.03.22	To, Vehicles A/c	7,800	31.03.22	By, Balance b/d	56,000
	To, Bank A/c (Bal. fig.)	1,07,156		By, C’s Capital A/c	84,000
	To, Balance c/d	40,000		By, C’s Current A/c	14,956
		1,54,956			1,54,956

Bank Account

Date	Particulars	(₹)	Date	Particulars	(₹)
31.03.16	To, D Capital A/c	1,58,000	31.03.16	By, Balance b/d	8,400
	To, D Current A/c	6,182		By, C’s Loan A/c	1,07,156
	To, Balance c/d	11,420		By, A’s Capital A/c	42,000
				By, C’s Current A/c	18,046
		1,75,602			1,75,602

Balance Sheet of as on 01 .04.2022

Liabilities	(₹)	(₹)	Assets	(₹)	(₹)
Capital Accounts:			Premises		2,40,000
A	1,34,000		Plant		70,000
B	1,34,000		Vehicles		22,200
D	1,34,000	4,02,000	Fixtures		4,000
Current Accounts:			Stock		1,08,358
A	6,182		Debtors	69,960
B	6,182		Less: Provision for bad debts	6.000	63,960
D	6,182	18,546	Cash		1,520
C’s Loan Account:		40,000
Creditors		38,072
Bank Overdraft		11,420
		5,10,038			5,10,038

Working Notes:

Calculation of New P.S.R.

D’s share = B’s share =  2/6

A’s share = 3/6

B’s share = 2/6

⸫ A:B:D = 3:2:2

 

Death of Partner

If a continuing partner dies, then it leads to reconstitution of partnership firm.

In the event of death of a partner, the other partners may decide to continue the business which requires certain adjustments to be made in the books of accounts of the existing partnership firm which are as follows:

• Calculation of new profit sharing ratio and gaining ratio,
• Distribution of reserves and accumulated profits and losses,
• Revaluation of assets and liabilities,
• Adjustment for goodwill,
• Adjustment for Joint Life Policy (JLP),
• Adjustment for interim period’s profit/loss,
• Settlement of final balance of the deceased partner to his Executor.

Calculation of new profit sharing ratio and Gaining Ratio:

As a consequence of death, the share of profit of the deceased partner gets distributed to the continuing partners which results in again in the share of the continuing partners. The ratio in which the continuing partners will share future profits and losses is known as the New Profit Sharing Ratio. The ratio in which the continuing partners acquire the share of profit forgone by the deceased partner is referred to as Gaining Ratio. It is calculated by taking the difference between the old profit sharing ratio and the new profit sharing ratio.

Distribution of Reserves and Accumulated Profits and Losses:

The balance of reserves or undistributed profit (as represented by balance of Profit & Loss Account) are distributed among all the partners (including the Executor of deceased partner) in their old profit sharing ratio in the event of death of a partner.

Revaluation of assets and liabilities:

The logic for revaluation of Assets and liabilities at the time of death of a partner is same as that at the time of admission of a new partner. In case of death, the revaluation profit or loss is distributed among all the partners (including the Executor of the deceased partner) in the Old Profit Sharing Ratio.

Adjustment for Goodwill:

The goodwill of the existing partnership firm had been created and developed by all the existing partners (including the deceased partner). So, the continuing partners are required to compensate the deceased partner in their Gaining Ratio and the necessary adjustment for Goodwill is required to be made...

Adjustment for Joint Life Policy (JLP):

The mode of accounting for Joint life policy depends upon the accounting policy of the firm. Either JLP is treated as an asset or as an expense in the books of the firm. Unlike Admission and Retirement, the Surrender Value has no role to play, only the maturity value of the Joint Life Policy is to be taken into consideration in the case of death of a partner.

Adjustment    for    interim    period’s    profit/loss: 

Unlike Admission and Retirement, the date of which are generally pre-planned, the death of a partner can take place anytime during the Accounting Period. In such case, the amount of profit or loss, starting from the opening date of the accounting period ending up to the date of death, is to be determined (which is called as the interim period’s profit or loss) and the share of the deceased partner in such Profit/Loss is to be duly accounted for. For this purpose, generally a temporary account is opened in the books of the firm called P/L Suspense A/c.

Normally two approaches are there to estimate the profit or loss for the interim period:

(i) On Time Basis: Here the average profit of last periods is considered, which is apportioned between the pre-death period and the post-death period.

(ii) On Sales Basis: Under this approach, the rate of profit on sales earned in the last year is computed and is applied to the interim period’s sales.

Settlement of final balance of the deceased partner to his Executor:

The amount payable to the representative of the deceased partner (commonly known as Executor) can be made either immediately or as deferred settlement. The accounting procedure involved is similar to that followed in case of retirement of a partner. The mode of payment depends on the agreement between the partners. It may be:

(i) Lump Sum Payment: If the firm has sufficient funds, the total amount payable on account of the deceased partner is transferred to his Representative’s Account (or Executor). Such Representative’s Account is debited and Bank Account is credited on payment of the dues.

(ii)  Instalment Payment/Loan Payment: The firm may not have enough funds to make prompt payment. In such a case, the total amount payable is transferred to a loan account in the name of the legal representative or executor. The loan is paid off gradually by installments after considering interest on unpaid balance. The word “Loan” may or may not be appended with the Account. But its gradual payment will definitely resemble the payment of loan.

 Illustration 18

A, B and C have been in business partnership for some years, Sharing Profit in the proportions of 4:3:3. The balances in the books of the firm as on 31st March, 2022 subject to final Adjustment, were as under:

	Dr. (₹)	Cr. (₹)
Capital Account - A		3,00000
Capital Account - B		1,50,000
Capital Account - C		1,80,000
Profit for the year before charging interest		3,12,000
Land and Buildings	2,40,000
Furniture and Fixtures	45,000
Stock	3,75,000
Debtors	60,000
Bank	1,20,000
Creditors		90,000
Partner’s Drawings - A	48,000
Partner’s Drawings - B	72,000
Partner’s Drawings - C	72,000
Total	10,32,000	10,32,000

C died on 30.09.2021. The Partnership deed provided that:

(1) Interest was to be credited on Capital accounts of partners at 10% P.A. on the balance at the beginning of the year.

(2) On the death of a Partner:

(i) Goodwill was to be valued at three years’ purchase of average Annual Profits of three years up to the date of death, after deducting interest on Capital Employed at 8% P;A. and a fair remuneration for each of the partners;

(ii) Fixed Assets were to be valued by an independent valuer and all other assets and liabilities to be taken at Book Value.

(3) Wherever necessary, profit or loss should be apportioned on a time basis.

(4) The amount due to the deceased partner’s Sole Heir was to receive interest @ 12% P.A. from the date of death until paid. 

It was ascertained that:

(a) Profits for three years, before charging partners’ interest were: 2018-19; ₹3,36,000, 2019-20 : ₹3,78,000 and 2020-21: ₹3,60,000 respectively.

(b) The independent valuation at the date of death revealed: Land and Buildings ₹3,00,000 and Furniture and Fixtures ₹30,000.

(c) A fair remuneration for each of the Partners would be ₹75,000 P.A. and that the Capital employed in business to be taken as ₹7,80,000 throughout. 

It was agreed among the Partners that:

(i) Goodwill was not to be shown as an asset of the firm as on 31.03.2022. Therefore, adjustment for goodwill was to be made in Capital Accounts.

(ii) A and B would share equally from the date of death of C.

(iii) Depreciation on revised value of assets would be ignored.

You are required to prepare:

(i) Revaluation Account

(ii) Partners’ Capital Accounts

(iii) Partners’ Current Accounts

(iv) C’s Heir Account

(v) Balance Sheet as on 31.03.2022.

Solution:

In the Books of firm

Revaluation Account 

Particulars	(₹)	Particulars	(₹)
To, Furniture and Fixture A/c	15,000	By, Land and Building A/c	60,000
To, Partners’ Capital A/c s   (A- ₹18,00O, B - ₹13,500, C -  ₹13,500)	45,000
	60,000		60,000

Partners’ Capital Account

Particulars	A (₹)	B (₹)	C (₹)	Particulars	A (₹)	B (₹)	C (₹)
To, C’s Capital A/c  — Goodwill	19,980	39,960	-	By, Balance b/d	3,00,000	1,50,000	1,80,000
To, C’s Current A/c. —Transfer	-	-	25,650	By, Revaluation a/c	18,000	13,500	13,500
To, C’s Heir A/c	-	-	2,27,790	By, A’s Capital A/c  Goodwill	-	-	19,980
To, Balance c/d	2,98,020	1,23,540	-	By, A’s Capital N/c  Goodwill	-	-	39,960
	3,18,000	1,63,500	2,53,440		3,18,000	1,63,500	2,53,440

Partners’ Current Account 

Particulars	A (₹)	B (₹)	C (₹)	Particulars	A (₹)	B (₹)	C (₹)
To, Balance b/d	48,000	72,000	72,000	By, P/L Appropriation A/c (Interest on Capital A/c)	3,00,000	15,000	9,000
				By, P/L Appropriation A/c	1,09,716	97,266	37,350
				By, Capital A/c —  (Transfer)	-	-	26,650
To, Balance c/d	91,716	40,266
	1,39,716	1,12,266	72,000		1,39,716	1,12,266	72,000

C’s Heir Account 

Particulars	(₹)	Particulars	(₹)
To Balance c/d	2,41,458	By C’s Capital A/c	2,27,790
		By Profit & Loss Appropriation	13,668
	2,41,458		2,41,458

Balance Sheet as on 31st March, 2022

Liabilities	(₹)	Assets	(₹)
Capital Account - A	2,98,020	Land and Buildings	3,00,000
Capital Account - B	1,23,540	Furniture and Fixtures	30,000
Current Account - A	91,716	Stock	3,75,000
Current Account - B	40,266	Debtors	60,000
C’s Heir Account	2,41,458	Bank	1,20,000
Creditors	90,000
	8,85,000		8,85,000

Working Note:

(1) Adjustment in Regard to Goodwill

Particulars		(₹)
Aggregate profits for three years upto date of death (30.09.2021) are as follows:
Profit for the year ended 30.9.19: (½ of ₹ 3,36,000 + ½ of ₹ 3,78,000)		3,57,000
Profit for the year ended 30.9.20: (½ of ₹ 3,78,000 + ½ of ₹ 3,60,000)		3,69,000
Profit for the year ended 30.9.21: (½ of ₹ 3,60,000 + ½ of ₹ 3,12,000)		3,36,000
Total profits for three years		10,62,000
Average profits (₹ 10,62,000 ÷ 3)		3,54,000
Less: interest on capital employed (8% on ₹7,80,000)	₹62,400
Fair remuneration to partners	₹2,25,000	2,87,400
Adjusted average profit for goodwill		66,600
Goodwill is the purchase of 3 year’s profit = 3 × ₹66,600		1,99,800

 

Partners	A (₹)	B (₹)	C (₹)
Right of goodwill before death (4:3:3)	79,920	59,940	59,940
Right of goodwill after death (1:1)	99,900	99,900	-
Gain (+) / Sacrifice(-)	(+) 19,980	(+) 39,960	(-)    59,940

Profit & Loss Appropriation Account

Particulars	01.04.21 to 30.09.21	01.10.21 to 31.03.22	Particulars	01.04.21 to 30.09.21	01.10.21 to 31.03.22
To Partners’ Current A/c			By Profit & Loss A/c	1,56,000	1,56,000
Interest on Capital A/c - A	15,000	15,000	(Apportioned on Time Basis)
Interest on Capital A/c - B	7,500	7,500
Interest on Capital A/c- C	9,000
To Interest on hire C’s A/c  (-12%)	-	-
Partners’ Current A/cs - A	49,800	13,668
Partners’ Current A/cs - B	37,350	59,916
Partners’ Current A/cs - C	37,350	59,916
	1,56,000	1,56,000		1,56,000	1,56,000

Illustration 19

A, B and C are partners in a firm sharing profits and losses as 3:2:1. Their Balance Sheet as on 31st March, 2021 was as follows:

(₹ in Lakh) 

Liabilities	(₹)	Assets	(₹)
Partners’ Capital A/c		Land and Building	210
A	145	Plant and Machinery	255
B	110	Stock	125
C	75	Debtors	95
General Reserve	165	Bills Receivable	25
Partners’ Loan:		Cash in Hand	3
A	30	Cash at Bank	37
B	20
Sundry Creditors	205
	750		750

B died on 1 August, 2021. His account is to be-settled under the following terms:

(i) Goodwill will be valued at 3 years purchase of last four accounting years average profit. Profits were :2017-2018 ₹135 Lakh, 2018-2019 ₹145 Lakh, 2019-2020 ₹131 Lakh and 2020-2021 ₹165 Lakh.

(ii) Land and Building will be valued at ₹ 250 Lakh and Plant and Machinery will be valued at ₹ 240 Lakh.

(iii) For the purpose of calculating B’s share in the profits of 01.04.2021 to 31.07.2021, the profits for the year 2020-2021 will be taken as base.

(iv) Interest on Partners’ Loan will be calculated @ 6% per annum.

(v) A sum of ₹50 Lakh to be paid immediately to B’s Executor and the balance to be paid on 1 December, 2021 together with interest @ 10% per annum.

You are required to pass necessary journal entries to record the above transactions and amount payable to B’s Executor’s Account. 

Solution:

Books of the firm    
Journal

(₹ in Lakh) 

Date	Particulars		L.F.	Dr. (₹)	Cr. (₹)
01.08.21	Land & Building A/c	Dr.		40
	To, Revaluation A/c				40
	(For increase in the value of land and building)
‘’	Revaluation A/c	Dr.		15
	To, Plant & Machinery A/c				15
	(For degrease in the value of Plant & Machinery)
‘’	Revaluation A/c	Dr.		25
	To, A’s Capital A/c				12.5
	To, B’s Capital A/c				8.333
	To, C’s Capital A/c				4.167
	(For profit on revaluation)
‘’	General Reserve A/c	Dr.		165
	To, A’s Capital A/c				82.5
	To, B’s Capital A/c				55
	To, C’s Capital A/c				27.5
	(For transfer of general reserve)
‘’	A’s Capital A/c	Dr.		108
	C’s Capital A/c	Dr.		36
	To, B’s Capital A/c				144
	(For the adjustment of goodwill)
‘’	Profit & Loss Suspense A/c	Dr.		18.333
	To, B’s Capital A/c				18.333
	(For the adjustment of profit from 1.4.18 to 1.8.18)
‘’	B’s Loan A/c	Dr.		20
	To, B’s Capital A/c				20
	(Balance transferred)
‘’	Interest on B’s Loan A/c	Dr.		0.40
	To, B’s Capital A/c				0.40
	(Interest on B’s Loan from 1.04.18 to 1.08.18 credited to B’s Capital A/c)
‘’	B’s Capital A/c	Dr.		356.066
	To, B’s Executor’s A/c				356.066
	(Being balance of B’s Capital A/c transferred to his Executor’s A/c = 110 + 8.333 + 55 + 144 + 18.333 + 20 + 0.40)
‘’	B’s Executor’s A/c	Dr.		50
	To, Bank A/c				50
	(Amount paid)
‘’	Interest A/c	Dr.		10.202
	To, B’s Executor’s A/c				10.202
	(For interest due)
01.12.21	Bs Executor’s A/c	Dr.		316.268
	To, Bank A/c				316.268
	(Amount due to Bs Executor including interest, paid)

(₹ in lakh) 

B’s Executor’s Account

Date	Particulars	(₹)	Date	Particulars	(₹)
1.08.21	To Bank A/c	50	1.08.21	By Capital A/c	356.066
1.12.21	To Bank A/c	316.268	1.12.21	By Interest A/c	10.202
		366.268			366.268

Working Notes: 

(1) Calculation of Share of B in Goodwill:

 Average of past four years profits = ₹ (135 Lakh + 145 Lakh + 131 Lakh + 165 Lakh)/4 = ₹ 144 Lakh

 Value of Firm’s Goodwill = ₹ 144 Lakh × 3 = ₹ 432 Lakh

 B’s Share in Goodwill = ₹ 432 Lakh × 2/6 = ₹ 144 Lakh, which will be credited to B’s Capital A/c and debited to A’s Capital A/c & C’s Capital A/c in the ratio of 3:1 

(2) B’s Share in profit from 01 .04.2021 to 1.8.2021 = (₹ 165 × 4/12) × 2/6 = ₹ 18.333 Lakh

(3) Interest on B’s Loan from 01.04.2021 to 1.8.2021 = ₹ 20 Lakh × 6% × 4/12 = ₹ 40,000

(4) Interest to B’s Executor’s from 01.08.2021 - 01.12.2021 = ₹ 356.066 Lakh – ₹ 50 Lakh

= ₹ 306.066 × 10% × 4/12 = ₹ 10.2022 Lakh

 Illustration 20

The following was the Balance Sheet of A, B and C who shared profits in the ratio of 1 : 2 : 2 as on 31st December, 20X5.

Sundry Creditors	10,000	Goodwill	15,000
Capital A/c :		Debtors	10,000
A:  10,000		Machinery	20,000
B :  20,000		Buildings	30,000
C : 20,000	50,000	Stock	10,000
General Reserve	5,000	Cash at Bank	5,000
Investment Fluctuation Fund	3,000	Investments	10,000
Bad Debts Reserve	2,000
Bank Loan	30,000
	1,00,000		1,00,000

C died on 31st March, 20X6. His account is to be settled under the following terms :

Goodwill is to be calculated at the rate of 2 years purchase on the basis of the average of 5 years profit or loss. Profit for January to March’ X6 is to be calculated proportionately on the average profit of 3 years. The profits were : 20X1 ₹ 3,000, 20X2 ₹ 7,000, 20X3 ₹ 10,000, 20X4 ₹ 14,000, 20X5 loss ₹ 12,000. During 20X5 a Moped costing ₹ 4,000 was purchased and debited to Travelling Expenses Account on which depreciation is to be calculated @ 25%. Other values agreed on assets are : Stock ₹ 12,000, Building ₹ 35,000, Machinery ₹ 25,000 and Investments ₹ 8,000. Debtors are considered good.

Prepare new Balance Sheet of the firm, necessary Journal entries and Ledger Accounts of the Partners.

Solution:

Working Notes :

1. Adjusted profit for 20X5

Loss	(12,000)
Add : Cost of Moped Wrongly treated as Travelling Expense	4,000
Less : Depreciation not charged on Moped @25%, on ₹ 4,000	(1,000)
Adjusted Loss	(9,000)

2. Valuation of Goodwill

Total Profit/Loss for the last 5 years = 3,000 + 7,000 + 10,000 + 14,000 – 9,000 = ₹ 25,000

Average Profit = ₹ 25,000/5 = ₹ 5,000; Goodwill = 2 × ₹ 5,000 = ₹ 10,000

But Goodwill is appearing at Balance Sheet at ₹ 15,000. Over valuation of Goodwill ₹ 5,000 should be written off among A, B & C as 1 : 2 : 2.

The balance of Goodwill between A & B in the ratio 1:2.

3. Share of Profit of Deceased Partner till his date of death

Average Profit of the last 3 years [ 20X3, 20X4 & 20X5] = (10,000 + 14,000 – 9,000)/3 = ₹ 5,000

Estimated Profit for 3 months [Jan to March, ‘X6] = ₹ 5,000 × 3/12 = ₹ 1,250

C’s share of profit = ₹ 1,250 × 2/5 = ₹ 500

Books of A, B & C

Journal Entries

				Dr.	Cr.
Date	Particulars		L. F.	Amount ₹	Amount ₹
	Stock A/c	Dr.		2,000
	Buildings A/c	Dr.		5,000
	Machinery A/c	Dr.		5,000
	Moped A/c [4,000 – Depr. 1,000]	Dr.		3,000
	To Revaluation A/c				15,000
	[Values of assets increased on revaluation]
	General Reserve A/c	Dr.		5,000
	Investment Fluctuation Fund A/c	Dr.		3,000
	Bad Debts Reserve A/c	Dr.		2,000
	To A’s Capital A/c				2,000
	To B’s Capital A/c				4,000
	To C’s Capital A/c				4,000
	[Transfer of Reserves etc. to Partners Capitals in 1 : 2 : 2]
	Revaluation A/c	Dr.		2,000
	To Investment A/c				2,000
	[Value of investments reduced]
	Revaluation A/c	Dr.		13,000
	To A’s Capital A/c				2,600
	To B’s Capital A/c				5,200
	To C’s Capital A/c				5,200
	(Being profit on revaluation shared in 1 : 2 : 2)
	A’s Capital A/c	Dr.		1,000
	B’s Capital A/c	Dr.		2,000
	C’s Capital A/c	Dr.		2,000
	To Goodwill A/c				5,000
	[Value of Goodwill reduced]
	Profit & Loss Suspense A/c	Dr.		500
	To C’s Capital A/c				500
	[Estimated share of Profit till his date of death transferred to the decreased partner’s Capital]
	C’s Capital A/c	Dr.		27,700
	To C’s Executors A/c				27,700
	[Total dues to the deceased partner transferred to his Executor’s A/c]

Capital Accounts

Date 20X4	Particulars	A	B	C	Date 20X4	Particulars	A	B	C
		₹	₹	₹			₹	₹	₹
31.3	To Goodwill A/c	1,000	2,000	2,000	31.3	By Balance b/d	10,000	20,000	20,000
	To Goodwill A/c	3,333	6,667	-		By Revaluation A/c	2,600	5,200	5,200
	To C’s Executors A/c (Balance transferred)			27,700		By Sundry Reserves A/c	2,000	4,000	4,000
	To Balance c/d	10,267	20533	-		By P & L Suspense A/c	-	-	500
		14,600	29,200	29,700			14,600	29,200	29,700

A and B

Balance Sheet as at 31.3.20X6

Liabilities	Amount ₹	Amount ₹	Assets	Amount ₹	Amount ₹
Capital A/cs :			Buildings		35,000
A	10,267		Machinery		25,000
B	20,533	30,800	Moped (cost less depreciation)		3,000
C’s Executor’s A/c		27,700	Investments		8,000
Bank Loan		30,000	Stock		12,000
Sundry Creditors		10,000	Debtors		10,000
			Bank		5,000
			Profit & Loss Suspense A/c (Dr.)		500
		98,500			98,500

 

Treatment of Joint Life Policy

In case of death of a partner of an existing partnership business, any amount due towards the deceased partner is required to be paid by the firm to his/ her legal representatives. This payment happens to be a burden for a firm because it has to be paid all of a sudden, and thus it may adversely affect the financial position of the firm. In order to overcome such a situation, a firm usually takes an insurance policy to cover the lives of the partners.

Such insurance policy can be taken either on the name of the partners - individually or jointly. The premium on such insurance is paid by the firm. This policy happens to be an asset of the firm on which all the partners have their proportionate stake. So, it should be adequately accounted for in case of change in constitution of a firm (i.e. Admission, Retirement, Change in profit sharing ratio etc.) and also in the event of death of a partner. The insurance policy matures on the death/ expiry of a partner, or on the expiry of the policy period, whichever occurs earlier. On the basis of the number of persons that have been covered under an insurance policy agreement, the life insurance policy taken by a firm may be classified into two types – Individual Life Insurance Policy and Joint Life Insurance Policy.

The life insurance policy that is taken by a partnership firm covering the lives of all its partners is referred to as Joint Life Policy. It is a single policy that covers the lives of all the partners of the firm. Such a policy matures in the event of the death of any one of the partners of the firm or on the date of maturity, whichever is earlier.

The accounting of joint life policy involves accounting on payment of the premium of such policy, accounting in the event of reconstitution of the firm (using the surrender value), and accounting in the event of death of a partner (using the maturity value). The maturity value and surrender value of joint life policy have a significant role in partnership accounting.

Maturity value (also known as Sum Assured) refers to the amount receivable by the firm from the insurance company in the event of the death of a partner or on the expiry of the policy period.

A firm may decide to terminate i.e. surrender an insurance policy before its date of maturity. In that case, the insurance company pays an amount to the insured and this amount is referred to as ‘Surrender Value’. This surrender value does not remain constant over the years. It gradually increases with time. It is considered to be its ‘fair value’ for the purpose of accounting.

There are two broad methods of JLP accounting:

Method A: JLP is not treated as an asset in the books of the firm
Method B: JLP is treated as an asset in the books of the firm

Method A: JLP is not treated as an asset in the books of the firm

Under this method, the insurance premium paid on the joint life policy is treated as an ‘expense’ of the firm and not as an asset. The insurance premium is debited to the Profit & Loss A/c and JLP A/c does not appear in the Balance Sheet. The surrender value of the JLP does not get reflected in the books.

On payment of insurance premium on joint life policy the following entries are passed as under

Joint Life Policy Premium A/c

To, Bank A/c

P/L A/c

To, Joint Life Policy Premium A/c

On change in  constitution of firm(i.e. Admission, Retirement, Change in profit sharing ratio etc.)

 The surrender value of the JLP is accounted for in any one of the following two ways:

• By raising and writing-off JLP Account; or
• By adjusting the capital accounts of the partners

Raising and writing-off JLP Account	Raising of JLP A/c
	JLP A/c
	To, Existing Partners’ Capital A/c (in old p.s.r.)
	Writing-off    JLP    A/c
	Continuing Partners’ Capital A/c
	To, JLP A/c (in new p.s.r.)
Adjusting the capital accounts of the partners	Gaining Partners’ Capital A/c
	To, Sacrificing Partners’ Capital A/c

On the event of death of a partner

The JLP taken by the firm matures, and the policy value is received by the firm and it gets distributed among all the existing partners in their old profit sharing ratio. It is accounted for as under:

On maturity of the JLP	JLP Receivable A/c
	To, Existing Partners’ Capital A/c (in old p.s.r.)
On receipt of maturity value	Bank A/c
	To, JLP Receivable A/c

Method B: JLP is treated as an  asset in the books of the firm

Under this method, the insurance premium paid on the joint life policy is treated as ‘investment in an asset’ of the firm. It is reflected in the Balance Sheet at its surrender value.

The surrender value of the JLP on any date happens to be lower than the amount of the total amount of insurance premium paid on the JLP over the years. So, to maintain the JLP A/c at its surrender value, the difference between the amount of premium paid and the surrender value as on the date of preparation of the Balance Sheet is writtenoff.  For the purpose of ensuring that the JLP A/c is reflected at its surrender value, there are two recognised methods of accounting. They are discussed as under: 

Approach 1: Surrender Value Method

In this case one ledger account – Joint Life Policy Account (JLP A/c) is maintained. The insurance premium paid on the joint life policy is recorded in the JLP A/c as under:

JLP A/c

To, Bank A/c

Thereafter for ensuring that this JLP A/c is maintained at its ‘surrender value’, the excess of premium paid over the increase in surrender value is debited to the Profit & Loss A/c by passing the following entry:

P/L A/c

To, JLP A/c

 This ensures that JLP A/c appears in the Balance Sheet of the firm at its ‘Surrender value’.

Approach 2: Joint Life Policy Reserve Method

Under this method, two ledger accounts are maintained – Joint Life Policy Account (JLP A/c) and Joint Life Policy Reserve Account (JLP Reserve A/c).

In this case, the insurance premium paid on the joint life policy is treated as an investment in joint life policy. It is debited to the JLP A/c as under:

JLP A/c

To, Bank A/c

Moreover, the insurance premium paid on the joint life policy is considered as an ‘appropriation of profit’ and so it is provided through JLP Reserve A/c. In this case, an amount equal to the insurance premium is debited to the Profit & Loss appropriation A/c, as follows:

P/L Appropriation A/c

To,  JLP Reserve A/c

Both the JLP A/c and JLP Reserve A/c appear in the Balance Sheet of the firm in the Asset-side and Liabilities side respectively.

Further, for ensuring that JLP A/c and JLP Reserve A/c are maintained at its ‘surrender value’, the excess of premium paid over the increase in surrender value is adjusted between JLP A/c and JLP Reserve A/c by passing the following entry:

P/L Reserve A/c

To, JLP A/c

 The above entry ensures that both JLP A/c and JLP Reserve A/c appear in the Balance Sheet of the firm at the ‘Surrender value’.

On change in constitution of firm (i.e. Admission, Retirement, Change in profit sharing ratio)

Under the ‘Surrender Value Method’: JLP is considered as an asset and it already appears in the books of the firm at the surrender value. As such no further accounting treatment is required.

Under the ‘JLP Reserve Method’: both the JLP A/c and JLP Reserve A/c appear in the books of the firm at surrender value. 

Cases	Treatment
If the partners decide not to maintain the JLP Reserve A/c	JLP Reserve A/c is written-back and distributed among the existing partners’ in old P.S.R.: JLP Reserve A/c     To, Existing Partners’ Capital A/c (in old P.S.R.)
If the partners decide to keep on maintain	Adjustment is required to be made through Partners’ Capital A/c Gaining Partners’ Capital A/c     To, Sacrificing Partners’ Capital A/c

On the event of death of a partner

The JLP matures, and the maturity value of the policy is received by the firm. Thereafter it gets distributed among all the existing partners in their old p.s.r.

Transaction	Surrender Value Method	JLP Reserve Method
On death of partner i.e. maturity of the JLP	JLP Receivable A/c	JLP Receivable A/c
	To, JLP A/c (with Maturity Value)	To, JLP A/c (with Maturity Value)
On receipt of maturity value	Bank A/c	Bank A/c
	To, JLP Receivable A/c	To, JLP Receivable A/c
Closing of JLP Reserve A/c by transfer to JLP A/c	N.A	JLP Reserve A/c
		To, JLP A/c (with ‘last recorded Surrender Value’)
Closing of JLP A/c	JLP A/c	JLP A/c
	To, All Partners’ Capital A/c (with the difference between ‘last recorded surrender value’ and ‘maturity value’ in old P.S.R.)	To, All Partners’ Capital A/c (with the difference between ‘current year premium paid, if any’ and ‘maturity value’ in old P.S.R.)

 Illustration 21

Naresh, Rohit and Krishna are partners sharing profits and losses in the ratio of 2:2:1. On 1st January, 2019, they took out a joint life policy of ₹ 2,00,000. Annual premium of ₹ 10,000 was payable on 1st January each year. Last premium was paid on 15th January, 2022. Rohit died on 1st March, 2022, and policy money was received on 31st March, 2022. The surrender value of policy as on 31st March each year were as follows:

2019        :         Nil
2020        :         ₹ 2,000
2021        :         ₹ 5,000

Show Joint Life Policy accounts as on 3lst March each year assuming that:

(i) The premium is charged to profit and loss account every year.

(ii) The premium is debited to joint life policy account and the balance of the joint life policy account is adjusted every year to its surrender value. 

Solution:

(i) 

Joint Life Policy Account

Date	Particulars		(₹)	Date	Particulars	(₹)
31.03.22	To Partner’s Capital A/c			31.03.22	By, Bank (Policy Money Received)	2,00,000
	Naresh	₹80,000
	Rohit	₹80,000
	Krishna	₹40,000	2,00,000
			2,00,000			2,00,000

(ii) 

Joint Life Policy Account 

Date	Particulars		(₹)	Date	Particulars	(₹)
01.01.19	To, Bank A/c (Premium)		10,000	31.03.19	By, P & L A/c	10,000
			10,000			10,000
01.11. 20	To, Bank A/c (Premium)		10,000	31.03. 20	By, P & L A/c	8,000
				31.03. 20	By, Balance C/d	2,000
			10,000			10,000
01.04.20	To, Balance B/d		2,000	31.03.20	By, P & L A/c	7,000
01.01.21	To, Bank A/c (Premium)		10,000	31.03.21	By, Balance C/d	5,000
			12,000			12,000
01.04.21	To, Balance B/d		5,000
01.01.22	To, Bank A/c (Premium)		10,000	31.03.22	By, Bank A/c (Police Money Received)	2,00,000
31.03.22	To, Partner’s Capital A/c
	Naresh	₹74,000
	Rohit	₹74,000
	Krishna	₹37,000	1,85,000
			2,00,000			2,00,000

Exercise

Theoretical Questions:

Multiple Choice Questions

1. Sacrificing ratio is:
   a. New Profit sharing ratio - old profit sharing ratio. 
   b. Equal to old profit sharing ratio 
   c. Equal 
   d. Old profit sharing ratio - new profit sharing ratio.
   
   
2.  Which of the following is not an essential feature of a partnership firm? 
   a. Mutual agency.
   b.  Existence of business
   c. Association of two or more people.
   d.  Compulsory registration
   
   
3. Generally sacrifice ratio is concerned with the situation of:
   a. Admission of a new partner 
   b. Retirement of a partner 
   c. Dissolution of firm
   d. Conversion of firm into company
   
   
4. Which of the following account is mainly prepared at the time of dissolution of the firm?
   a. Revaluation A/c
   b. Goodwill A/c
   c. Realization A/c 
   d.Memorandum Revaluation A/c 

Answer:

1

d

2

d

3

d

4

d

Numerical Questions

Multple Choice Questions

1. X and Y are partners with the capital of  ₹ 50,000 and  ₹ 30,000 respectively. Interest Payable on Capital is 10% p.a. If the profits earned by the firm is  ₹  4,800, what will be the Interest on Capital for X and Y?
   a. ₹ 5,000 and  ₹  3,000
   b. ₹  3,000 and  ₹  1,800 
   c. No interest will be paid to the partners
   d. None of the above
   
   
2.  X and Y were partners sharing profit/losses as 3:2. They admit Z as a new partner, giving him 1/5th share of future profits. What should be the new profit sharing ratio?
   a. 12:8:5
   b. 3:2:1
   c. 8:12:5
   d. 5:8:12
   
   
3. B and D are partners, sharing profit or loss in the ratio 3 : 2. They admit K for 1/6th share of profits in the firms of which she takes 2/3rd from B and 1/3rd from D. What will be the new profit sharing ratio?
   a. 44: 31: 15
   b. 31: 44: 15
   c. 32: 41: 14
   d. 15: 31: 44
   
   
4. G and C are partners. They are entitled for 9% interest on their capital contributions. The firm allowed ₹ 54,000 towards interest on capital to partners. What will be the capital contribution of each partner if interest on Gunnu’s capital is ₹13,500 more than the interest on Chinu’s capital?
   a. ₹ 2,25,000
   b. ₹ 2,55,000
   c. ₹ 2,50,000
   d. ₹ 2,15,000
   
   

Answer: 

1

b

2

a

3

a

4

a