G1 6.2 Partnership - Reconstitution

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6. PARTNERSHIP ACCOUNTING

Question: What is Reconstitution of Firm?

Answer: Reconstitution of firm means any change in agreement between the partners that takes place during Change in Profit Sharing Ratio, Admission of new partner, Retirement and death of partner, Sale of firm and Amalgamation of firm

Question: What are adjustments required for reconstitution of firm? Answer:

1. Calculation of new profit and loss ratio 2. Distribution of accumulated profit and loss

3. Calculation of goodwill and accounting treatment of goodwill 4. Revaluation of assets and liabilities

5. Adjustment in capital balance

[CMA INTER D05, 3 Marks]

Question: Write short notes on Change in the profit sharing ratio Answer: Change in profit sharing ratio occurs in the following situations 1. On admission of new partner

2. On retirement of existing partner 3. On change of scope of partner Formula:

1. Old ratio: the ratio prior to the change of ratio 2. New ratio: the ratio calculated after the change 3. Sacrificing ratio: old ratio – new ratio

4. Gaining ratio: new ratio – old ratio

Calculations regarding new profit and loss ratio

Question 3: Type 1: A and B share profit and loss in 4:3. C is joined for 1/8th share. Calculate the new profit and loss ratio

Answer:

Particulars Formula Calculations Answer

Let the total share be 1

Balance after C’s share for A and B Total share – C’s share 1 - A’s share in the balance Balance after C’s share × A’s share B’s share in the balance Balance after C’s share × B’s share

New ratio of A, B and C : : 4:3:1

Question 4: Type 2: A and B share P/L in 4:3 C is joined for 1/8th share. After C‟s admission A and B share profit and loss in the ratio of 3:4. Calculate the new profit and loss ratio

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Particulars Formula Calculations Answer

Let the total share be 1

Balance after C’s share for A and B Total share – C’s share 1 - A’s share in the balance Balance after C’s share × A’s share B’s share in the balance Balance after C’s share × B’s share

New ratio of A, B and C : : 3:4:1

Question 5: Type 3: A and B share profit and loss in the ratio of 4:3. C is admitted as new partner. A sacrifices 1/2 of his share for C, and B sacrifices 1/3 of his share for C. Calculate new profit and loss ratio.

Answer: A‟s sacrificing ratio = 4/7 x 1/2 = 4/14 B‟s sacrificing ratio = 3/7 x 1/3 = 3/21

A‟s new ratio [old ratio – sacrificing ratio] = 4/7 – 4/14 = 8-4/14 = 4/14 B‟s new ratio [old ratio – sacrificing ratio] = 3/7 – 3/21 = 9-3/21 = 6/21

New ratio A, B and C = 4/14 : 6/21 : [4/14 + 3/21] = 4/14 : 6/21 : 12+6/42

= 4/14:6/21:18/42 = 4/14 × 3/3 : 6/21 × 2/2 : 18/42 =12/42: 12/42: 18/42 = 6 : 6 : 9 = 2 : 2 : 3

Question 6: Type 4: A and B share profit and loss in the ratio of 4:3. C is admitted for 3/7th share. C gets 2/3 of his share from A and 1/3 of his share from B. Calculate new profit and loss ratio

A sacrifices 2/3rd of C‟s share = 3/7 × 2/3 = 6/21 B sacrifices 1/3rd of C‟s share = 3/7 × 1/3 = 3/21

A‟s ratio after sacrificing = 4/7 – 6/21 = 12 – 6/21 = 6/21 B‟s ratio after sacrificing = 3/7 –3/21 = 9 – 3/21 =6/21 New ratio = 6/21 : 6/21 : 3/7 = 2 : 2 : 3

[CMA INTER J04, 6 Marks]

Question 7: R & S are in partnership sharing profit and losses at the ratio 3: 2. They take T as a new partner. Calculate the new profit sharing ratio if:

1. T purchases

th

share from R.

2. R & S agree to sacrifice th share to T in the ratio of 2: 3.

3. Simply gets th share of profit.

Answer: Calculation of new profit sharing ratio

(i) T Purchased 1/10th_{Share From R}

R S T Old ratio Less th from R Nil

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New Ratio

New Ratio of R, S & T

:

[ii] R & S agree to sacrifice 1/10th_{share to T in the ratio of 2:3} R’s sacrifice S’s Sacrifice R S T Old ratio -/(+) Sacrifice / (gets) New Ratio 28:17:5

[iii] Simply get 1/10th_{share of profit} Let total share =1

Remaining share 1 – (1/10) = 9/10 R’s Share = 9/10×3/5 = 27/50

= 9/10 × 2/5 = 18/50 New Ratio

[CMA RTP D11]

Question 8: W and X are equal partners. They admit Y and Z as partners with 1/5 and 1/6 share respectively. What is the profit sharing ratio of all the partners?

Answer: Let total profits or losses of the firm be 1 Shares of W and Z is 1/5 and 1/6 respectively.

Balance remaining: 1 – (1/5 + 1/6) = 1 – 11/30 = 19/30 19/30 to be shared equally by W and X as 9.5/30 : 9.5/30 New Profit sharing ratio will be W : X : Y : Z

[9.5/30 × 2/2] : [9.5/30 × 2/2] : [1/5 × 12/12] : [1/6 × 10/10]

Thus new profit sharing ratio of all the partners will be 19 : 19 : 12 : 10.

[CMA INTER D03, J04, J05 & J06, 4 Marks, 4 Marks, 3 Marks & 4 Marks] Question: Write short notes on Goodwill

Goodwill – is the value of reputation of firm in respect of profits expected in future over and above normal profits earned by firm belonging to same industry.

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Goodwill Nature – Goodwill is an Intangible Asset and not a Fictitious Asset. Need for valuation of Goodwill - In case of

1. Change in Profit Sharing Ratio,

2. Admission of new partner,

3. Retirement and/or death of partner,

4. Sale of firm and

5. Amalgamation of firm

Reason Valuation Treatment

1 Location 1 Simple Average Method [if profit does not show trend]

1 Non-cash method

2 Size Revaluation Method

3 Patent 2 Weight Average Method [if profit shows trend]

Memorandum Revaluation Method

4 Technical Know-how

Premium Method

5 Management 3 Super Profit Method 2 Cash Method: Premium Method 6 Market Situation 4 Capitalization Method 3 Cash and non-cash method 7 5 Annuity Method 4 Pay privately – no entry

[CMA INTER D09, 3 Marks]

Question: Write short notes on Memorandum revaluation account;

Question 9: Calculation of Goodwill: [Simple Average Method and Weighted Average Method]: Calculate goodwill under 2 years‟ purchase of 3 years‟ simple average profit method and weighted average profit method from the profits for 2009-10, 2008-09 and 2007-08 are ₹10,000, 8,000 and ₹6,000 respectively.

Answer:

i. Simple Average ii. Weighted Average Method

Year Profit Weight Weighted Profit

2009-10 10,000 3 30,000 2008-09 8,000 2 16,000 2007-08 6,000 1 6,000 Total 24,000 6 52,000 Average Profit 8,000 8,667 Years of Purchase 2 2 Goodwill 16,000 17,334

Question 10: Calculation of Goodwill: [Super Profit Method, Capitalisation Method and Annuity Method]: Calculate goodwill under three years‟ purchase of super profit method and

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capitalization method from the details given. Capital employed ₹10,000, Normal Rate of Return 10% and Actual Profit ₹1,500.

Annuity factor [AF] for ₹ 1 invested every year will fetch ₹2.486 – in the end of third year

Particulars Formula Calculation ₹

Purchase of Super Profit Method

Capital Employed [CE] ₹10,000

Normal Rate of Return [NRR] 10%

Normal Profit [NP] CE ×NRR 10,000×10% ₹1,000

Actual Profit [AP] ₹1,500

Super Profit [SP] AP – NP 1,500 – 1,000 ₹500 Goodwill = 3 × SP ₹ 1,500 Capitalisation Method Goodwill ₹5,000 OR Goodwill – CE - 10,000 ₹5,000

Annuity Method [Super Profit]

Goodwill SP × Annuity Factor ₹ 500 × 2.486 ₹ 1243

Question 11: Calculation of Goodwill: [Annuity Method]

Question: Calculate Goodwill under annuity method from the given information: Future maintainable profit [FMP] of ₹10000 p.a. is expected for the 3 years. The expected NRR is 10%. Annuity factor [AF] for ₹1 invested every year will fetch ₹2.486 in the end of third year

Answer: Year FMP 10% PVF PV 1 10,000 0.909 9090 2 10,000 0.826 8260 3 10,000 0.751 7510 Goodwill 2.486 24860 Or GW = FMP × AF 10000 x 2.486 24860

Note: Future maintainable profit [FMP]: is the profit calculated based on past years‟ adjusted profit and loss and subject to future applicability. FMP is always considered for calculating goodwill not just the book profit.

Treatment of Goodwill

I. Non Cash Method II. Cash Method

1. Revaluation 2. Mem.

Revaluation

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↑ t

he

G

W

GW A/c Dr. GW A/c Dr. Adjustment of GW of New Partner’s Share To Old Partners Capital A/c To Old Partners Capital A/c Gaining Partner‟s Capital A/c Dr. Cash A/c Dr.

[Full GW is Shared in Old Ratio] To Sacrificing Partner‟s Capital A/c To Sacrificing Partner Capital A/c ↓ t he G W

Not Applicable All Partners Capital A/c

Dr.

To GW A/c

[Full GW is Shared in New Ratio]

Calculation of Hidden Goodwill

A Incoming Partner‟s Capital / His share of profit ××× B Capitals of Old Partners + Incoming Partner‟s Capital ×××

C Hidden Goodwill (A-B) ×××

Question 12: Revaluation Method [no goodwill in B/S]: Show the journal entry to adjust the goodwill on admission of the new partner C. The existing partners A and B share profit and loss in the ratio of 3 : 2 and C is admitted for 1/5th share of profit. The balance sheet of the firm is given below

Balance Sheet

Liabilities ₹ Assets ₹

Capital A 70,000 Goodwill --

Capital B 60,000 Fixed Asset 100,000 Current Liabilities 20,000 Current Assets 50,000

150,000 150,000

Goodwill of the firm valued at ₹25,000. C is not able to bring cash for his share of goodwill but cash brought in for capital is ₹40, 000

Answer:

Premium for Goodwill = Goodwill × New Partner‟s share

1) Good Will A/c Dr 25,0000

To A‟s Capital A/c 15,000 To B‟s Capital A/c 10,000

2) Cash A/c Dr 40,000

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Balance Sheet

Liabilities ₹ Assets ₹

Capital A [70+15] 85,000 Goodwill 25,000 Capital B [60+10] 70,000 Fixed Asset 100,000 Capital C 40,000 Current Assets 90,000 Current Liabilities 20,000

215,000 215,000

Question 13: Memorandum revaluation [no goodwill in B/S]: Keep the above illustration as it is, except that the partners decided to write off goodwill from the books.

1) Good Will A/c Dr 25,000 To A‟s Capital A/c 15,000 To B‟s Capital A/c 10,000 (Goodwill raised in the books)

2) A‟s Capital A/c Dr 12,000 B‟s Capital A/c Dr 8,000 C‟s Capital A/c Dr 5,000

To Goodwill A/c 25,000 (Goodwill cancelled in the books)

3) Cash A/c Dr 40,000 To C‟s Capital 40,000 (Capital introduced by C‟s capital)

Balance Sheet

Capital A [70+15-12] 73,000 Goodwill [25-25] ---- Capital B [60+10-8] 62,000 Fixed Asset 100,000 Capital C [40-5] 35,000 Current Assets 90,000 Current Liabilities 20,000

190,000 190,000

Question 14: Non-cash premium method [no goodwill in B/S]: Keep the above illustration as it is except that the partners decided to adjust the goodwill without opening it.

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Answer:

1) C‟s Capital A/c Dr 5,000

To A‟s Capital A/c 3,000 To B‟s Capital A/c 2,000 (Goodwill adjusted without raising it)

2) Cash A/c Dr 40,000

To C‟s Capital 40,000 (Capital introduced by C‟s capital)

Balance Sheet

Capital A [70-3] 73,000 Goodwill [25-25] ---- Capital B [60-2] 62,000 Fixed Asset 100,000 Capital C [40-5] 35,000 Current Assets 90,000 Current Liabilities 20,000

190,000 190,000

Question 15: Cash premium method [no goodwill in B/S]: Keep the above illustration as it is except that the new partner C can bring his share of goodwill also in cash apart from his capital.

1) Cash A/c Dr 5,000

Or

C‟s Capital A/c Dr 5,000

To A‟s Capital A/c 3,000 To A‟s Capital A/c 3,000 To B‟s Capital A/c 2,000 To B‟s Capital A/c 2,000 (Goodwill adjusted without raising it)

2) Cash A/c Dr 40,000 Cash A/c Dr 45,000 To C‟s Capital 40,000 To C‟s Capital 45,000 (Capital introduced by C‟s capital)

Balance Sheet

Capital A 73,000 Goodwill ----

Capital B 62,000 Fixed Asset 100,000 Capital C 40,000 Current Assets 95,000 Current Liabilities 20,000

195,000 195,000

Note: If goodwill is given in the B/S, then it can be solved either the goodwill can be written off first and then proceed as usual or adjustment entry to be passed to the difference only

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Question 16: Treatment of Goodwill (non-cash) Revaluation Method, Memorandum Revaluation Method and Premium Method: A & B are partners in a firm sharing profits and losses in the ratio of 3:2. C joins the firm for 1/3rd share, and is to pay ₹20,000 as premium for goodwill but cannot pay anything. As between A and B, they decided to share profits & losses equally. Pass required journal entry.

Answer:

Question 17: A and B share profit and loss in the ratio of 4:3. They admitted C into the firm and the new profit and loss ratio is 1:2:1. The goodwill is valued at ₹10,000 and the new partner C failed to bring cash for his share of goodwill. The partners decided to adjust goodwill account without opening the goodwill account.

Answer:

Journal Entry Dr Cr Note

B‟s Capital A/c Dr 714 (10,000 × -2/28) C‟s Capital A/c Dr 2,500 (10,000 × -7/28) To A‟s Capital 3,214 (10,000 × 9/28) Goodwill account is adjusted without raising it under sacrificing ratio

Calculation of sacrificing ratio

Partners Old Ratio New Ratio Sacrificing Ratio

A + B C 0 Alternatively A B C

Raise GW using [old ratio] 5,714 4,286 ---- Cancelling GW [new ratio] 2,500 5000 2,500

3,214 (714) (2,500)

Journal Entries

1) Non-cash premium method 3) Memorandum revaluation method C Capital A/c Dr 20,000 Goodwill A/c Dr 60,000

To A Capital A/c 16,000 To A Capital A/c 36,000 To B Capital A/c 4,000 To B Capital A/c 24,000

2) Revaluation method A Capital A/c Dr 20,000

Goodwill A/c Dr 60,000 B Capital A/c Dr 20,000 To A Capital A/c 36,000 C Capital A/c Dr 20,000

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Question 18: Treatment of Goodwill (cash) – Premium Received: A & B are equal partners. C is coming as a new partner who pays ₹8,000 as premium for goodwill. The new profit sharing ratio among A, B & C is 4:3:2. Pass necessary journal entries showing the appropriation of premium money assuming that the premium for goodwill is immediately withdrawn by the old partners.

Answer:

Journal Entries

1) Cash A/c Dr 8,000 3) A Capital A/c Dr 2,000 To Premium for Goodwill A/c 8,000 B Capital A/c Dr 6,000

To Cash A/c 8,000

2) Premium for Goodwill A/c Dr 8,000

1

+

2

Cash A/c Dr 8,000

To A Capital A/c 2,000 To A‟s Capital A/c 2,000

To B Capital A/c 6,000 To B Capital A/c 6,000

Question 19: Treatment of Goodwill (cash and non-cash) – Premium Paid Partly: A and B are partners in a firm sharing profits & losses in the ratio of 3:2. C is coming for 1/3rd share, is to pay ₹30,000 as premium for goodwill but pays only ₹15,000. As between A and B, they decided to share profits & losses equally.

Answer:

Journal Entries – Under Premium Method

For cash portion of ₹15,000 For non cash portion of ₹15,000

1) Cash A/c Dr 15,000 3) C Capital A/c Dr 15,000

To Premium for Goodwill 15,000 To A Capital 12,000 To B Capital 3,000 2) Premium for Goodwill A/c Dr 15,000

To A Capital A/c 12,000

To B Capital A/c 3,000

Note1: Revaluation or memorandum revaluation method can also be used for adjusting non-cash portion of goodwill

Note2: Cash for premium can be withdrawn by partners fully or partly

Question 20: A and B share profit and loss in the ratio of 5:4. They admit C for 1/4th share. The goodwill is valued at ₹90,000. C is able to bring cash for his capital and ₹10,000 for his share of goodwill.

Working Note 1: Accounting Treatment

C‟s share of goodwill 90000 × 1/4 22,500

Less Cash portion of goodwill 10,000 Cash premium method

Non cash portion 12,500 Any one of the non-cash method

Working Note 2: Calculation of new ratio and sacrificing ratio Let total profit be 1

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Balance after C‟s Share Total share C‟s share Balance

1 ¼ ¾

Balance share (a) Partner‟s old share (b) Partner‟s new share (a) × (b)

A‟s new share ¾ 5/9 15/36

B‟s new share ¾ 4/9 12/36

C‟s share 9/36

New share of A,B and C 15:12:9

Sacrificing Ratio (SR) Old ratio (OR) New ratio (NR) SR = OR –NR

A 5/9 15/36 5

B 4/9 12/36 4

C -

I. Cash portion of goodwill ii. Memorandum revaluation method i. Cash Premium Method Good Will A/c Dr 50,000

Cash A/c Dr 10000 To A‟s Capital 27,778 To A‟s Capital 5556 To B‟s Capital 22,222 To B‟s Capital 4444

A‟s Capital Dr 20,833 II. Non-cash portion of goodwill B‟s Capital Dr 16,667

i. Revaluation method C‟s Capital Dr 12,500

Good Will A/c Dr 50,000 To Goodwill 50,000 To A‟s Capital 27,778

To B‟s Capital 22,222 iii. Non-cash premium method C‟s Capital Dr 12,500

To A‟s Capital 6,944 To B‟s Capital 5,556

Question 21: Treatment of goodwill when change in profit-sharing ratio: A and B share profit and loss in the ratio of 3:2. They decided to share their future profit and loss in the ratio of 4:5. Goodwill is valued at ₹45,000. Pass the journal entry/s to adjust the goodwill to show the impact of change in profit and loss ratio.

i. Revaluation method ii. Memorandum revaluation method Goodwill A/c Dr 45,000 Good Will A/c Dr 45,000 To A‟s Capital 27,000 To A‟s Capital 27,000 To B‟s Capital 18,000 To B‟s Capital 18,000

iii. Non-cash premium method A‟s Capital Dr 20,000 B‟s Capital Dr 7,000 B‟s Capital Dr 25,000

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To A‟s Capital 7,000 To Goodwill 45,000

Return of Premium to a partner on dissolution before expiry of term: Conditions:

1. A partner was admitted in the partnership firm for a fixed term period, 2. Such partner had paid a premium for goodwill at the time of admission. 3. The partnership firm has dissolved.

Exceptions: The partner will not be entitled to any claim under any of the following conditions: 1. the firm is dissolved due to death of a partner

2. the dissolution is due to the misconduct of the partner claiming refund

3. dissolution is in pursuance of an agreement containing no provision for the return of the premium. Amount of Refund: the amount to be repaid will be determined having regard to the terms upon which the admission was made and to the length of the period agreed upon and the period that has expired.

Liability of other partners: the amount of refund payable shall be borne by the other partners in their p/l ratio.

Admission of a Partner: A person can be admitted as new partner only with the consent of all existing partners and the a new partner acquires right to Share Assets of firm and right to Share Future Profits of firm

Revaluation Account: is a Nominal Account and prepared to ascertain Profit / Loss on Revaluation of Assets and Liabilities. Decrease in Value of Assets and Increase in Amount of Liabilities are debited and Increase in Value of Assets and Decrease in Amount of Liabilities are credited. The balance of this account transferred to old partners in old ratio.

Write a short note on reserves No Types of

Reserves

Examples Purpose

1 General Reserve P/L, General Reserve, Reserve Fund Multi 2 Specific Reserve Provision for DD, Investment Fluctuation Reserve, Workmen

Compensation,

Specific

3 Capital Reserve Share forfeiture, Capital Reserve, Profit Prior to Incorporation, CRR

Limited

4 Secret Reserve Asset/Liabilities shown less/more than its book value [Prohibited]

Investment Fluctuation Reserve: surplus if any, after adjusting p/l on revaluation of investments to reflect its market value, should be transferred to old partners in old ratio

Workmen Compensation Reserve: surplus if any, after adjusting any liability for workmen compensation, should be transferred to old partners in old ratio

Distribution of Accumulated Profits, Reserves and Losses: transferred to old partners in the old ratio

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Machinery Replacement Fund: is in the nature of Accumulated Depreciation and not Accumulated Profits and hence it is not transferred to partners.

Adjustment of Partners’ Capitals: either Adjusting the Capitals of Old Partners on the basis of Capital of Incoming Partner or Calculating new Capital on the basis of combined of old partners Retirement of a Partner: For firm‟s acts after his retirement a retiring partner is not liable to third party only if Public notice of his retirement is given by himself or by any other partner, [Sec.32(3)] or Third party deals with firm without knowing that retiring partner was partner [Sec.32(4)]

[CMA RTP D11]

Question 22: The Balance Sheet of G and S, who share profits and losses in the ratio of 3 : 2, as on 31.3.2011 appears as below

liabilities ₹ Assets ₹

Capital G 48,000 Other Assets 1,20,000 Capital S 32,000

Reserve 10,000 Cash 10,000 Creditors 40,000

1,30,000 1,30,000

They admit R as a partner on 1.4.2011. You are required to prepare Partners‟ Capital Accounts and the Balance Sheet of the new firm under each of the following cases. Assume partners withdrawn the premium for Goodwill paid by R.

a. R is to contribute to the firm ₹27,000 for 1/6th share in the partnership.

b. R is to purchase 1/6th share in the partnership from the existing partners G and S in the ratio of 3 : 2, for ₹27,000.

Answer: Case a: R is admitted by investing additional capital in the partnership. In effect, both the total assets and the total capital of the firm are increased by the amount of capital brought in by R.

Since R is given 1/6th share, G and S get 5/6th share in the partnership.

Following is the calculation of premium for goodwill brought in by R ₹ Total capital of G and S for 5/6th share (₹ 48,000 + 32,000 + 10,000) 90,000 Total capital after the admission of R will be (₹ 90,000 / 5 × 6) 1,08,000 R is to bring in 1/6th of ₹ 1,08,000 18,000 Total amount brought in by R for capital and premium for goodwill 27,000 Therefore, premium for goodwill brought in by him (₹ 27,000 – 18,000) 9,000

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Partners’ Capital Accounts

Dr Cr

Particulars G S R Date Particulars G S R

To - By Balance b/d 48,000 32,000 -

Cash A/c 5,400 3,600 Reserve A/c 6,000 4,000 (premium withdrawn) Premium for Goodwill 5,400 3,600 - To Balance c/d 54,000 36,000 18,000 Cash A/c - - 18,000

59,400 39,600 18,000 59,400 39,600 18,000

Balance Sheet (after R’s admission) as at 1st April, 2011

G‟s Capita 54,000 Other assets 1,20,000

‟s Capital 36,000 Cash 28,000

R‟s Capital 18,000 1,08,000 [10,000+27,000-9,000] Creditors 40,000

1,48,000 1,48,000

Case b: R is admitted by purchasing of an interest from the old partners G and S. Since the capital interest of the incoming partner R is obtained from the old partners G and S, neither the total assets nor the total capital of the partnership firm is affected

Following is the calculation of premium for goodwill brought in by R ₹ Total capital after R‟s admission is same as before (₹48,000 + 32,000 + 10,000) 90,000

R is to bring in 1/6th of ₹90,000 15,000

Total amount brought in by R for capital and premium for goodwill 27,000 Therefore, premium for goodwill brought in by him (₹ 27,000 – 15,000) 12,000

Partners’ Capital Accounts

Dr Cr

Particulars G S R Particulars G S R

To - By Balance b/d 48,000 32,000 -

Reserve A/c 6,000 4,000 Cash A/c (Bal.

figure)

16,200 10,800 Premium for Goodwill

7,200 4,800 -

To Balance c/d 45,000 30,000 15,000 Cash A/c - - 15,000

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Balance Sheet (after R’s admission) as at 1st April, 2011

G‟s Capita 45,000 Other assets 1,20,000 S‟s Capital 30,000 Cash 10,000 R‟s Capital 15,000 90,000

Creditors 40,000

1,30,000 1,30,000

Note: total capital of the firm is same as before. Out of ₹90,000, R gets ₹, 15,000. The balance of capital of ₹75,000 is shared by G and S in the ratio of 3:2

Admission of Partner

Question 23: Rain and Storm are partners in a firm sharing profits and losses as 3:2 respectively. Their Balance sheet on 31.12.2000 stands as under:

Balance Sheet

Liabilities ₹ ₹ Assets ₹ ₹

Creditors 35,000 Cash 4,000

Capital Accounts: Debtors 22,000

Rain 40,000 (-) Provision for doubtful debts 2000 20,000

Storm 20,000 60,000 Stock 18,000

Machinery 20,000

Land & Building 33,000

95,000 95,000

On 1.1.2001, they agreed to take Dust as a partner on the following conditions:

1. Goodwill of the firm shall be valued at ₹23,750 and Dust shall pay his share of goodwill in cash. 2. Dust shall contribute ₹15,000 as his share of capital.

3. Land and Building shall be valued at ₹42,000. Machinery shall be depreciated by ₹5,000. Provision for doubtful debts shall be raised to ₹3,000 and another provision shall be made for a probable liability for damages amounting to ₹1,300.

4. Profit & loss sharing ratio shall be so adjusted that, between Rain & Storm the former ratio is maintained, while between Storm & Dust there shall be the same ratio as between Rain & Storm. 5. The capital shall be adjusted (without disturbing the ultimate total capital) so as to correspond

with the new ratio, the excess or deficit being transferred to their respective current accounts. Show the journal entries to give effect to the above arrangement and prepare the opening B/S of the new firm

Answer:

Journal Entries Dr Cr

1 Land and Building A/c Dr 9,000

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Balance Sheet of the New firm as on 1st January, 2001

Capital Accounts: Land and Building [33+9] 42,000

Rain 38,700 Machinery [20-5] 15,000

Storm 25,800 Stock 18,000

Dust 17,200 81,700 Debtors 22,000

Current A/c (-): Prov. for doubtful debts

[2+1]

3,000 19,000

Rain 5,320 Cash (₹4,000 + 20,000) 24,000

Creditors 35,000 Current A/c

Liability for Damages 1,300 Storm 3,120

Dust 2,200 5,320

1,23,320 1,23,320

Working Notes:

(1) Calculation of new profit sharing ratio and sacrificing ratio (Being land and building appreciated)

2 Revaluation A/c Dr 7,300

To Machinery A/c 5,000

To Provision for Doubtful Debts A/c. 1,000

To Liability for Damages A/c 1,300

(Being machinery written down and provision for DD and damages created) 3 Revaluation A/c (₹9,000 – 7,300) Dr 1,700

To Rain Capital A/c 1,020

To Storm Capital A/c 680

(Being revaluation profit transferred to partners capital a/c)

4 Cash A/c Dr 20,000

To Premium for Goodwill A/c (WN2) 5,000

To Dust Capital A/c 15,000

(Being cash brought in for capital and premium by new partner) 5 Premium for Goodwill A/c (WN3) Dr 5,000

To Rain Capital A/c 3,000

To Storm Capital A/c 2,000

(Being premium for goodwill shared by old partners in sacrificing ratio) 6 Rain Capital A/c.(WN4 and 5) Dr 5,320

To Rain Current A/c 5,320

(Being excess capital of rain transferred to current a/c)

7 Strom Current A/c (WN4 and 5) Dr 3,120

Dust Current A/c Dr 2,200

To Storm Capital A/c 3,120

To Dust Capital A/c 2,200

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R S D

Old ratio 3 2

New ratio 3 2

Combined new ratio 9 6 4

(2) Premium for goodwill brought in by Dust = ₹ 23,750 / 19 × 4 = ₹5,000. (3) The partners‟ old profit sharing ratio (3:2) is their sacrificing ratio.

(4) Total capital of the new firm = Opening capital + Capital and premium brought in by Dust + Revaluation profit

=₹(60,000 + 15,000 +5,000 + 1,700) = ₹81,700 Rain‟s share = ₹81,700 × 9/19 = ₹38,700 Storm‟s share = ₹81,700 × 6/19 = ₹ 25,800 Dust‟s share = ₹81,700 × 4/19 = ₹ 17,200.

(5) Partners’ Capital A/c

Particulars Rain Storm Dust Particulars Rain Storm Dust

To Current a/c (bal) 5,320 ---- ---- By Bal. b/d 40,000 20,000 --- Bank A/c. ---- ---- 15,000 Balance (WN 4) 38,700 25,800 17,200 Premium for Goodwill 3,000 2,000 ---- Revaluation A/c 1,020 680 ---- Current a/c (Bal) ---- 3,120 2,200

44,020 25,800 17,200 44,020 25,800 17,200

Working Note 6: Revaluation A/c

Debit ₹ Credit ₹

To Decrease in plant and machinery 5,000 By Increase in land and building 9,000 Provision for bad debts A/c. 1,000

Liability for damages 1,300 Partners‟ Capital A/cs – Profit

(Rain – ₹1,020; Storm – ₹680

1,700

9,000 9,000

Question 24: Ranu & Mili are partners in a firm sharing profits & losses in the ratio of 2:1 Balance sheet of the firm on 31.12.2002 was as follows:

Creditors 7,000 Investments 25,000

Investment provision 2,000 Stock 15,000

General Reserve 10,500 Debtors 20,000

Workmen compensation Fund 6,000 Less: Provision for bad debts 2,500 17,500 Capital A/c: Ranu 30,000 Bills Receivable 12,500

Capital A/c: Mili 24,500 54,500 Bank 10,000

80,000 80,000

On the above date, Manisha is admitted for 2/5th share in the profits or losses of the firm. Following adjustments were made at the time of admission:

(18)

b. Her goodwill was calculated at ₹12,000.

c. Ranu and Mili purchased a Machinery on hire purchase system for ₹15,000 of which only ₹500 are to be paid. Both machinery and unpaid liability did not appear in the Balance sheet.

d. There was a joint life policy on the lives of Ranu and Mili for ₹75,000. Surrender value of the policy on the date of admission amounted to ₹12,000.

e. Accrued incomes not appearing in the books were ₹500. f. Market value of investments is ₹22,500.

g. Claim on account of compensation is estimated at ₹750.

h. S, an old customer, whose account was written-off as bad, has promised to pay ₹1,750 in settlement of the full claim.

i. Provision for bad debts is required at ₹3,000.

Prepare Revaluation A/c, Partners‟ Capital A/c & Opening Balance Sheet after the admission of Manisha in the books of the firm

Answer:

Revaluation A/c

Debit ₹ Credit ₹

To Investment Provision A/c (Nt 1) 500 By Accrued income A/c 500 Prov. For bad debts A/c. 500 Workmen Comp. Fund A/c (Note 2) 5,250 Creditors A/c (hire purchase) 500 Joint Life Policy A/c 12,000 Partners‟ Capital A/cs – Profit

(Ranu- ₹20,833; Mili – ₹10,417

31,250 Machinery A/c 15,000

32,750 32,750

Partners’ Capital A/c

Particulars Ranu Mili Manisha Particulars Ranu Mili Manisha To Goodwill 12,000 6,000 12,000 By Balance b/d 30,000 24,500 ---- Balance c/d 65,833 42,417 38,000 Revaluation A/c 20,833 10,417 ---- General Reserve 7,000 3,500 ---- Goodwill (Nt 3) 20,000 10,000 ---- Bank A/c ---- ---- 50,000

77,833 48,417 50,000 77,833 48,417 50,000

Balance Sheet of the Firm (after Manisha’s admission)

Liabilities ₹ Assets ₹ ₹

Capital A/c Machinery 15,000

Ranu 65,833 Investment 25,000 Mili 42,417 Stock 15,000 Manisha 38,000 Debtors 20,000 Creditors + HP installment (7,000+500) 7,500 (-) Provision for Doubtful Debt 3,000 17,000 Investment Provision (₹2,000 + 500) 2,500 Bills Receivable 12,500 Workmen Comp Fund

(6,000-5,250)

750 Joint Life Policy 12,000

Accrued Income 500 Bank (10+50) 60,000

(19)

Working Notes:

1. Since there is a fall in the market value of investments of ₹2,500, investment provision is increased form ₹2,000 to ₹2,500.

2. Workmen compensation fund is nothing but retained profit. Therefore, it is credited to Revaluation A/c. Alternatively, it could have been credited to partners‟ Capital A/c in the old profit sharing ratio.

3. Since Manisha is not paying the required amount of premium for goodwill. Therefore, ₹30,000 goodwill will be adjusted through the Capital Accounts of the partners.

4. There will be no entry for the promise made by S, Since it is an event and not a transaction.

Admission of Partner with Memorandum Revaluation Method

[CA INTER N07, 16 marks]

Question 25: Following was the B/S of A&B, “who were sharing profit & loss in the ratio of 2:1” on 31.12.2006:

Balance Sheet

Capital Accounts Plant and machinery 12,00,000

A 10,00,000 Building 9,00,000

B 5,00,000 Sundry debtors 3,00,000

Reserve fund 9,00,000 Stock 4,00,000

Sundry creditors 4,00,000 Cash 1,00,000

Bills payable 1,00,000

29,00,000 29,00,000

They agreed to admit „C‟ into the partnership on the following terms: 1. The goodwill of the firm was fixed at ₹105,000.

2. That the value of stock and plant and machinery were to be reduced by 10%. 3. That a provision of 5% was to be created for doubtful debts.

4. That the building account was to be appreciated by 20%. 5. There was an unrecorded liability of ₹10,000.

6. Investments worth ₹20,000 (Not mentioned in the B/S) were taken into account.

7. That the value of reserve fund, the values of liabilities & the values of assets other than cash are not to be altered.

8. C was to be given 1/4th share in the profit and was to bring capital equal to his share of profit after all adjustments.

Prepare Memorandum Revaluation Account, Capital account of the partners and the Balance Sheet of the newly reconstituted firm.

Answer:

Memorandum Revaluation A/c

Particulars ₹ Particulars ₹

(20)

Plant & machinery 1,20,000 Investments 20,000 Provision for doubtful debts 15,000

Unrecorded liability 10,000 Partners‟ Capital A/c (OR)

A 10,000

B 5,000 15,000

2,00,000 2,00,000

To Building 1,80,000 By Stock 40,000

Investments 20,000 Plant & machinery 1,20,000 Provision for doubtful debts 15,000 Unrecorded liability 10,000 Partners‟ Capital A/c (NR)

A 7,500 B 3,750

C 3,750 15,000

2,00,000 2,00,000

Particulars A B C Particulars A B C To Revaluation Loss 7,500 3,750 3,750 By Balance b/d 10,00,000 5,00,000 - Reserve Fund 4,50,000 2,25,000 2,25,000 Reserve Fund 6,00,000 3,00,000 - A (W.N.3) - - 17,500 C (W.N.3) 17,500 8,750 - B (W.N.3) - - 8,750 Revaluation Profit 10,000 5,000 Balance c/d W.N2 11,70,000 5,85,000 5,85,000 Cash (Bal) 8,40,000 16,27,500 8,13,750 8,40,000 16,27,500 8,13,750 8,40,000

Balance Sheet of newly reconstituted firm as on 31.12.2006

Capital Accounts Plant & Machinery 12,00,000

A 11,70,000 Building 9,00,000

B 5,85,000 Sundry Debtors 3,00,000

C 5,85,000 Stock 4,00,000

Reserve Fund 9,00,000 Cash (1,00,000 + 8,40,000) 9,40,000 Sundry Creditors 4,00,000

Bills Payable 1,00,000

37,40,000 37,40,000

Working Notes:

1. Calculation of new profit and loss sharing ratio C will get 1/4 th share in the new profit sharing ratio. Therefore, remaining share will be 1-1/4 =3/4, Share of A will be 3/4 x 2/3 = 2/4 i.e. 1/2 Share of B will be 3/4 x 1/3 = 1/4

(21)

2. Calculation of closing capital of C

Closing capitals of A & B after all adjustments are: A-₹1170,000, B-₹5,85,000 Since B‟s capital is less than A‟s capital, therefore B‟s capital is taken as base. Hence, C‟s closing capital should be ₹585,000 i.e. at par with B (new p&l ratio) 3. Adjustment entry for goodwill

Partners Goodwill as per old ratio

Goodwill as per new ratio

Effect A 70,000 52,500 + 17,500 - B 35,000 26,250 + 8,750 - C - 26,250 - - 26,250 1,05,000 1,05,000 26,250 26,250 Adjustment entry: C’s Capital A/c Dr. 26,250

To A‟s Capital A/c 17,500

To B’s Capital A/c 8,750

Profit / (loss) on revaluation, accumulated profits / reserves / losses on retirement of a partner is credited (debited) to all the partners in their old profit sharing ratio

Special point to be noted: Adjustment of the capitals of continuing partners

Payment to retiring partner: immediately paid on retirement or holding as loan to be repayable in the later period.

Retirement of Partner

Question 26: On 31-3-1995, the Balance Sheet of M/s A, B and C sharing profits and losses in proportion to their capitals, stood as follows:

On 31st March 1995, “A” desired to retire from the firm and the remaining partners decided to carry on. It was agreed to revalue the assets and liabilities on that date on the following basis:

1. Land and Buildings be appreciated by 30% 2. Machinery is to be depreciated by 20% 3. Stock is to be valued at ₹75,000.

Balance Sheet

Sundry Creditors. 1,00,000 Land and Buildings 2,00,000

Capital A/cs. Machinery 3,00,000

A 2,00,000 Stock 1,00,000

B 3,00,000 Sundry Debtors 1,00,000 C 2,00,000 7,00,000 Cash and Bank 1,00,000

(22)

4. Provision for bad debts is to be made at 5%.

5. Old credit balances of Sundry Creditors ₹20,000 is to be written-off. 6. Joint Life Policy of the partners surrendered and cash obtained ₹80,000.

7. Goodwill of the entire firm be valued at ₹1,40,000 & A‟s share of the Goodwill be adjusted in the accounts of B & C who share the future profits equally. No Goodwill A/c being raised.

8. The capital of the firm is to be the same as before retirement. Individual capital be in their profit sharing ratio.

9. Amount due to “A” is to be settled on the following basis: 50% on retirement and the balance 50% within one year.

Prepare Revaluation A/c, Capital A/c of partners, Cash & Bank A/c and Balance Sheet as on 1.4.1995 of M/s. B&C.

Answer: In the Books of M/s/ A, B and C

Revaluation A/c

To Machinery A/c 60,000 By Land and Buildings A/c 60,000 tock A/c 25,000 Sundry Creditors A/c 20,000 Provision for bad debts A/c 5,000 Partners‟ Capital 10,000

(Answer: 2,857; B: 4,286 and C: 2,857)

90,000 90,000

Particulars A B C Particulars A B C To Revaluation 2,857 4,286 2,857 By Balance b/d 2,00,000 3,00,000 2,00,000 A Capital(GW) ---- 10,000 30,000 J.L.P A/c 22,857 34,286 22,857 Bank (50% ) 1,30,000 ---- B Capital (GW) 10,000 ---- ----

A Loan A/c 1,30,000 ---- C Capital (GW) 30,000 ---- ---- Balance (required) ---- 3,50,000 3,50,000 Bank (Bal) ---- 30,000 1,60,000 2,62,857 3,64,286 3,82,857 2,62,857 3,64,286 3,82,857 Nt: JLP can otherwise be credited to revaluation a/c

Cash and Bank A/c

To Balance b/d 1,00,000 By A‟s Capital A/c 1,30,000 Joint Life Policy A/c 80,000 Balance c/d 2,40,000 B‟s Capital A/c 30,000

C‟s Capital A/c 1,60,000

(23)

Balance sheet of M/s. B and C as on 1st April, 1995

Partners capital A/cs Land and Buildings 2,60,000

B 3,50,000 Machinery 2,40,000

C 3,50,000 7,00,000 Closing Stock 75,000

A‟s Loan A/c 1,30,000 Sundry Debtors 1,00,000 Sundry Creditors 80,000 Less: Provision for Bad

Debts

5,000 95,000

Cash and Bank Balances 2,40,000

9,10,000 9,10,000

Calculation of Share of Goodwill

Right of Goodwill before retirement [Old Ratio] (2:3:2) 40,000 60,000 40,000 Right of Goodwill after retirement [New ratio] (1:1) ---- 70,000 70,000

Sacrifice (-)/Gain (+) (-)40,000 (+)10,000 (+)30,000

[CA INTER M94]

Question 27: Following is the B/S of A, B & C who were the partners as on 31.3.93.

Balance sheet as at 31.3.1993

A‟s Capital 33,600 Plant and Machinery 49,000 B‟s Capital 25,200 Furniture and fittings 4,800 C‟s Capital 12,000 Stock in Trade 22,800 Sundry creditors 12,000 Sundry debtors 21,600 15% Mortgage Loan 16,600 Cash on hand 1,000 Cash at bank 200

99,400 99,400

They share profits and losses in the ratio of 2:2:1 on 1st April, 1993, C retired from the firm and claimed his share of secret reserve/profits arising out of the following.

a. During the year ended 31.3.1993 purchase of Machinery at a cost of ₹10,000 was charged to purchase account, the erection charges of ₹600 being charged to machinery repairs account. (Depreciation is to be charged at 10% p.a.)

b. ₹600 received from Mr. X on 31.3.93 towards rent of the property sublet was credited to his personal accounts instead of to rent account so as to reduce his debit balance from ₹1,000 to ₹400 debit on 31.3.93.

c. Interest on mortgage loan was paid in advance up to 31.5.93 and the whole amount was charged to interest account during the year ended 31.3.93.

d. After rectifying the above errors, it was mutually decided as under:

1. The goodwill of the firm is valued at 5 times the average profits of the last 3 years. Such profits should be correct profits & not the book profits. The book profits for the last 3 financial year were: 1990-91 ₹18,380; 1991-92 ₹32,000; 1992-93 ₹,7,471.

(24)

2. Plant & Machinery to be depreciated by 10% and provision for bad doubtful debts to be made at 5% on sundry debtors.

3. The goodwill should not appear in the books.

4. There is a liability for ₹501 for bill discounted. This has to be accounted for.

5. C should be paid half of his dues in cash which shall be brought in by A and B in their profit sharing proportion and the other half shall be left in the business as C‟s loan fetching an interest of 18% p.a.

Prepare Profit & Loss A/c, Revaluation A/c, Capital A/c of the partners and the Balance Sheet of A & B after C‟s retirements

Answer:

Profit and Loss Adjustment A/c

To Partners‟ Capital A/c (2:2:1) By Plants and Machinery A/c 9,540 A 4,222 Interest on Mortgage Loan 415 B 4,222 Sundry Debtors A/c (Rent) 600

C 2,111

10,555 10,555

`

Revaluation A/c

To Provision for doubtful debts 1,110 By Partners‟ Capital A/c (Loss)

Depreciation (Plant & Machinery) 5,854 A 2,986 Liabilities for bills discounted 501 B 2,986

C 1,493 7,465 7,465 Capital A/c Particulars A B C Particulars A B C To Revaluation A/c (loss) 2,986 2,986 1,493 By Balance b/d 33,600 25,200 12,000 C‟s Capital A/c ( GW) 11,401 11,401 - P/L Adjustment A/c 4,222 4,222 2,111

Cash A/c - - 17,710 A‟s Capital A/c - - 11,401 C‟s Loan A/c - - 17,710 B‟s Capital A/c

(GW)

- - 11,401

Balance c/d 32,290 23,890 - Cash A/c 8,855 8,855 -

46,677 38,277 36,913 46,677 38,277 36,913

Cash paid ₹ 17,710 to C is out of the receipts from B and C [₹ 8,855 each] Balance Sheet of M/s A and B as on 1.4.1993

Capital A/c : Plant and Machinery 58,540

A 32,290 Less: Depreciation 5,854 52,686

B 23,890 Furniture and Fittings 4,800

C‟s Loan a/c 17,710 Stock in Trade 22,800

15% Mortgage Loan 16,600 Sundry Debtors 22,200 Liabilities for bills

discounted

(25)

Creditors 12,000 Interest on Loan prepaid 415 Cash in hand 1,000 Cash at Bank 200 1,02,991 1,02,991 Working Notes: Sundry Debtors 1 Opening Debtors as on 31.3.1993 21,600 Add Rent received from Mr. X 600

Adjusted Debtors 22,200 Calculation of Goodwill 2 Year Profit 1990-91 18,380 1991-92 32,000 1992-93 [7,471+10,555] 18,026 Total Profit [TP] 68,406

Average Profit [AP] = TP/3 22,802 Number of years of purchase 5

Goodwill = AP × 5 114,010

1/5 Retiring Partner‟s Share of GW 22,802

Calculation of balance of Plant and Machinery 3 Opening Plant and Machinery 49,000

Add Machinery Purchased 10,000 Add Installation charge 600

Total 10,600

Less Depreciation 1,060 9,540 Closing Plant and Machinery 58,540

Question 28: Admission cum Retirement: Ram, Rahim and Robert are partners, sharing Profits and Losses in the ratio of 5:3:2. It was decided that Robert would retire on 31.3.2005 and in his place Richard would be admitted as a partner with new profit sharing ratio between Ram, Rahim and Richard at 3 : 2 : 1.

Balance Sheet of Ram, Rahim and Robert as at 31.3.2005:

Capital Accounts: Cash in hand 20,000

Ram 1,00,000 Cash in Bank 1,00,000

(26)

Robert 2,00,000 Stock in Trade 2,00,000 General Reserve 2,00,000 Plant & Machinery 3,00,000 Sundry Creditors 8,00,000 Land & Building 5,30,000 Loan from Richard 2,00,000

16,50,000 16,50,000

Retirement of Robert and admission of Richard is on the following terms: a. Plant & Machinery to be depreciated by ₹30,000.

b. Land and Building to be valued at ₹6,00,000. c. Stock to be valued at 95% of book value.

d. Provision for doubtful debts @ 10% to be provided on debtors. e. General Reserve to be apportioned amongst Ram, Rahim and Robert.

f. The firm‟s goodwill to be valued at 2 years purchase of the average profits of the last 3 years. The relevant figures are:

1. Year ended 31.3.2002  Profit ₹50,000 2. Year ended 31.3.2003  Profit ₹60,000 3. Year ended 31.3.2004  Profit ₹55,000

g. Out of the amount due to Robert ₹2,00,000 would be retained as loan by the firm and the balance will be settled immediately.

h. Richard‟s capital should be equal to 50% of the combined capital of Ram and Rahim.

Prepare: (i) Capital accounts of the partners; and (ii) Balance Sheet of the reconstit uted firm. Answer:

Dr Partners’ Capital a/c Cr.

To Ram Rahim Robert Richard By Ram Rahim Robert Richard Revaluation A/c 10,000 6,000 4,000  Balance b/d 100,000 150,000 200,000  Robert‟s Loan1 200,000 General reserve 100,000 60,000 40,000  Bank 58,000 Goodwill2 55,000 33,000 22,000  Balance c/d 245,000 237,000   255,000 243,000 262,000  255,000 243,000 262,000  Goodwill 55,000 36,667  18,333 Balance b/d 245,000 237,000   Loan A/c transfer    200,000 Bal. c/d 190,000 200,333  195,167 Bank    13,500 245,000 237,000  213,500 245,000 237,000  213,500 Assumptions:

1. Richards loan is considered as part of his capital

2. Memorandum revaluation method is followed for goodwill treatment. Hence it is raised and cancelled.

Balance Sheet of Ram, Rahim and Robert as at 31.3.2005 after the admission of Richard

(27)

Ram 1,90,000 Plant and Machinery 2,70,000

Rahim 2,00,333 Stock 1,90,000

Richard 1,95,167 Debtors 4,50,000

Sundry Creditors 8,00,000 Cash at Bank (W.N. 3) 55,500

Loan from Robert 2,00,000 Cash in hand 20,000

15,85,500 15,85,500

Working Notes: 1:Revaluation A/c

To Plant and Machinery 30,000 By Land and Building 70,000 To Stock 10,000 By Partners Capital A/cs:

To Debtors 50,000 Ram 10,000

Rahim 6,000

Robert 4,000 20,000

90,000 90,000

WN2: Calculation of Goodwill:

Profit for the year ended 31.3.2002 50,000 Profit for the year ended 31.3.2003 60,000 Profit for the year ended 31.3.2004 55,000 165,000 Average Profit = 165,000/3 55,000 Number of years of purchase 2 Goodwill 55,000 × 2 110,000

WN3: Bank A/c

To Balance b/d 1,00,000 By Robert‟s Capital A/c 58,000 Richard‟s Capital A/c 13,500 Balance c/d 55,500

1,13,500 1,13,500

Joint Life Policy

Question 29: X, Y and Z are partners sharing profits and losses in the ratio of 2:2:1. On 1st January 2000, they took out a joint life policy of ₹100,000. Annual premium of ₹ 5,000 was payable on 1st

January each year. Last premium was paid on 1.1.2003. Y died on 1.3.2003, and policy money was received on 31st March, 2003.

The surrender values of policy as on 31st December of each year were as follows: 2000 – Nil; 2001-₹1,000; 2002-₹2,500.

Show necessary accounts and Balance sheet as on 31st Dec, each year, assuming that: 1. premium is charged to profit and loss Account every year.

2. premium is debited to Joint Life Policy A/c and the balance of the Joint Life Policy A/c is adjusted every year to its surrender Value.

(28)

Answer:

Year Premium Cumulative Surrender Value Current Value Loss of Premium 2000 5,000 - - 5,000 2001 5,000 *1,000 1,000 4,000 2002 5,000 2,500 1,500 3,500 2003 5,000

Note: Sum assured of ₹100,000 is received on 1.3.2003 the date of death of one of the partners. Case I. Joint Life Policy

JLP Premium is treated as expenses and debited to profit and loss a/c and receipt of the claim will be credited to partners capital account 01.01.2000 i. Joint Life Policy a/c Dr 5,000

To Cash 5,000

31.12.2000 ii. Profit and Loss a/c 5,000

To Joint Life Policy a/c 5,000

01.01.2001 i. Joint Life Policy a/c Dr 5,000

To cash a/c 5,000

To Cash 5,000

31.03.2003 ii. Cash a/c 100,000

To Joint Life Policy a/c 100,000 31.03.2003 iii. Joint Life Policy a/c Dr 95,000

To X‟s Capital a/c 38,000

To Y‟s Capital a/c 38,000

To Z‟s Capital a/c 19,000

Joint Life Policy A/c

Date Debit ₹ Date Credit ₹

01.01.00 To Cash 5,000 31.12.00 By Profit & Loss A/c 5,000

5,000 5,000

(29)

5,000 5,000

01.01.03 To Cash 5,000 31.03.03 By Cash 1,00,000 31.03.03 X, Y & Z‟s Capital a/c 95,000

95,000 1,00,000

Note: Nothing will appear in balance sheet

Case II. Joint Life Policy:

JLP Premium is treated as asset up to its surrender value

To Cash 5,000

To cash a/c 5,000

To Cash 5,000

31.12.03 ii. Cash a/c 100,000

31.12.03 iii. Joint Life Policy a/c Dr 92,500

To X‟s Capital a/c 37,000

To Y‟s Capital a/c 37,000

To Z‟s Capital a/c 18,500

5,000 5,000

Balance c/d 1,000

5,000 5,000

01.01.02 To Balance b/d 1,000 31.12.02 By Profit & Loss A/c 3,500

(30)

6,000 6,000 01.01.03 To Balance b/d 2,500 31.03.03 By Cash 1,00,000 01.01.03 Cash 5,000

31.03.03 X, Y & Z‟s Capital a/c 92,500

95,000 1,00,000

Balance Sheet 2000 – 01

Joint Life Policy a/c Nil 2001 – 02

Joint Life Policy a/c 1,000 2002 – 03

Joint Life Policy a/c 2,500

Case III. Joint Life Policy

JLP Premium is treated as asset up to its surrender value JLP Reserve a/c is created to adjust the loss on JLP Year: 2000

i. Joint Life Policy a/c Dr 5,000

To Cash 5,000

Profit and Loss a/c Dr 5,000

To JLP Reserve a/c 5,000

JLP Reserve a/c Dr 5,000

To Joint Life Policy a/c 5000

Year 2001 5,000

ii. Joint Life Policy a/c Dr 5,000

To Cash 5,000

Year 2002

iii. Joint Life Policy a/c Dr 5,000

To Cash 5,000

Year 2003

iv. Joint Life Policy a/c Dr 5,000

(31)

Cash a/c Dr 100,000

To JLP Reserve 92,500

To Partners‟ Capital a/c 95,000

01.01.00 To Cash 5,000 31.12.00 By JLP Reserve a/c 5,000

5,000 5,000

01.01.01 To Cash 5,000 31.12.01 By JLP Reserve a/c 4,000

Balance c/d 1,000

5,000 5,000

01.01.02 To Balance b/d 1,000 31.12.02 By JLP Reserve a/c 4,000 01.01.02 Cash 5,000 Balance c/d 2,500 6,000 6,000 01.01.03 To Balance b/d 2,500 31.03.03 By Cash 1,00,000 01.01.03 Cash 5,000 31.03.03 JLP Reserve a/c 92,500 1,00,000 1,00,000

Joint Life Policy Reserve A/c

01.01.00 To Joint Life Policy a/c 5,000 31.12.00 By Profit and Loss a/c 5,000

5,000 5,000

01.01.01 To Joint Life Policy a/c 4,000 31.12.01 By Profit and Loss a/c 5,000 Balance c/d 1,000

5,000 5,000

31.12.02 To Joint Life Policy a/c 3,500 01.01.02 By Balance b/d 1,000 31.12.02 Balance c/d 2,500 31.12.02 Profit and Loss a/c 5,000

6,000 6,000

31.03.03 To Partners‟ Capital a/c 95,000 01.01.02 By Balance b/d 2,500 31.12.02 Joint Life Policy a/c 92,500

(32)

Death of a Partner

Deceased partner’s share of profit: is calculated based on the previous year/s profit, proportionate up to the date of death to the extent of his share. Journal entry:

P/L Suspense A/c Dr ×××× To Deceased Partner‟s Capital a/c ××××

Some important provisions of the Indian Partnership Act, 1932

Right to Share Subsequent Profits: Every outgoing partner or Estate of deceased Partner has the right to claim either interest @ 6% p.a. or his share of profit attributable to the use of his share of firm‟s property at his option, if the remaining partners carry on the business without any final settlement (Sec.37)

[CMA RTP J11]

Discuss the applicability of Section 37 of the Partnership Act: In case of retirement, the retiring partner or in case of death, the executor of the deceased partner, if the dues are not settled, then such retired partner or the executor is entitled to the following:

Maximum of:

Interest @ 6% p.a. on the amount due to them [Or] The share of profit earned for the amount due to the partner

Conditions:

(a) The surviving partners/continuing partners continue to carry on the business of the firm.

(b) The business is carried on without any final settlement of accounts between the continuing partners and the outgoing partners or his estate.

(c) There is no contract to the contrary of the options contained in Section 37 i.e. share in the profits or interest @ 6% p.a. on the unsettled capital.

Example: Unsettled capital of C ₹52,000 (Date of retirement: 30.9.08, financial year 2008-09). Net Profit earned by the firm after C‟s retirement ₹25,000. Capitals of A: ₹57,000 and B ₹76,000)

C is entitled to the maximum of the following:

(i) interest on unsettled capital = ₹52,000 × 6% × 6 months = ₹1,560 [Or]

(ii) Profit earned out of unsettled capital = Profit x Retired or Deceased Partner‟s unsettled Dues /Total Capital of the firm (including the amount due to the retired or deceased partner) = ₹.(25,000 × 52,000 ) / (₹52,000 + 57,000 + 76,000) = ₹7,027.

Right to Carry on Competing Business: Unless otherwise agreed, every outgoing partner has a right to carry on competing business and to advertise such business but he cannot: Use the firm‟s name, Represent the firm and Solicit the firm‟s customer [Sec.36(1)]

(33)

Dissolution on Death: Unless otherwise agreed, a firm is dissolved on the death of a partner [Sec 42(c)]

No Liability of Estate of Deceased Partner to third parties for firm‟s act after his death (Sec. 35) No Public Notice is required on the death of partner

Special considerations for a retiring partner and the estate of a deceased partner in relation to debts contracted by the partnership firm:

1. debts due on the date of retirement/death: the retiring partner and the estate of the

deceased partner is liable for the whole of the debts due by the firm at the date of

retirement or death, to the extent of their share.

2. debts incurred after retirement: where the notice of retirement is not published in

accordance with law, the retiring partner is liable for debts contracted after retirement.

3. deceased/ insolvent partner: the estate of a deceased or bankrupt partner will not be

liable for debts contracted by the firm after the death or bankruptcy.

Question 30: A, B and C were partners of a firm sharing profits and losses in the ratio of 3:4:3.

Balance Sheet as at 31st March,1998

Capital Accounts: Fixed Assets 100,000 A 48,000 Current Assets

B 64,000 Stock 30,000

C 48,000 160,000 Debtors 60,000

Reserves 20,000 Cash in hand 30,000 120,000 Sundry Creditors 40,000

220,000 220,000

The firm had taken a joint life policy for ₹100,000; the premium periodically paid was charged to Profit and Loss Account. Partner C died on 30th September 1998. It was agreed between the surviving partners and the legal representatives of C that:

1. Goodwill of the firm will be taken at ₹60,000 2. Fixed Assets will be written down by ₹20,000

3. In lieu of profits, C should be paid at the rate of 25% p.a. on his capital as on 31-3-98,

Policy money was received and the legal heirs were paid off. The profits for the year ended 31-3-99, after charging depreciation of ₹10,000 (depreciation up to 30-Sep was agreed to be ₹6,000), were ₹48,000.

Partners’ Drawings Accounts showed balances as under: 1. A‟s drawings - ₹18,000 (drawn evenly over the year) 2. B‟s drawings - ₹24,000 (drawn evenly over the year) 3. C‟s drawings - (up-to-date of death) ₹20,000

(34)

On the basis of the above figures, please indicate the entitlement of the legal heirs of C, assuming that they had not been paid anything other than the share in the Joint Life Policy.

Answer: Determination of entitlement of legal heirs of C

Profits for the half year ended 31st March, 1999: ₹ Profits for the year ended 31st March, 1999 (after depreciation) 48,000

Add Depreciation 10,000

Profits before depreciation 58,000

Period 01.04.98-

30.09.98

01.10.98- 31.03.99 Profit split for two half years (assumed: evenly spread) 29,000 29,000 Less Depreciation [I half ₹6,000 and II half ₹4,000] 6,000 4,000

Profits 23,000 25,000

Capital Accounts of partners as on 30th September, 1998:

Particulars A B C Particulars A B C

To Fixed Assets 6,000 8,000 6,000 By Balance c/d 48,000 64,000 48,000 Drawings 9,000 12,000 20,000 Reserve* 6,000 8,000 6,000 Goodwill 18,000 24,000 18,000 C‟s Executor A/c - - 52,000 P/L Appropriation* - - 6,000 Balance c/d 57,000 76,000 - 72,000 96,000 78,000 72,000 96,000 78,000 * (Interest on ₹48,000 @ 25% for 6 m)

(3) Application of Section 37 of the partnership Act: Legal heir of C has not been paid anything other than the share in joint life policy. Amount due to the deceased partner carries interest at the mutually agreed rate. If there is no agreement the representatives of the deceased partner can receive at their option interest at the rate of 6% per annum or the share of profit earned for the amount due to the deceased partner.

Therefore, the representatives of C can Choose: - Either,

(i) Interest on ₹52,000 for 6 months @ 6% p.a. = ₹1,560 (Or)

(ii) Profit earned out of unsettled capital (in the second half year ended 3s1t march, 1999) ₹25,000 × 52,000/57,000 + 76,000 + 52,000 = ₹7,027 (approx)

In the above case, it would be clear that the legal heir of C would chose option of ₹7,027. Amount due to legal heirs of C:

Balance in C‟s Executor‟s account 52,000 Add Amount of profit earned out of unsettled capital [calculated in (3)] 7,027

Amount due 59,027

Settlement of Accounts on Dissolution:

(a) Regarding Losses: “Losses, including deficiencies of capital, shall be paid first out of profits, next out of capital and lastly if necessary, by the partners individually in the proportions in which they are entitled to share profits”.