Admission Retirement & Dissolution

This topic covers three critical events in the life of a partnership firm — the admission of a new partner, the retirement (or death) of an existing partner, and the dissolution of the firm. For the JAIIB exam, you must understand the accounting entries, treatment of goodwill, revaluation of assets and liabilities, and settlement of accounts in each scenario.

When a new partner is admitted, the following adjustments are required:

1. New Profit-Sharing Ratio

The existing partners sacrifice a portion of their share to accommodate the new partner.

Sacrificing Ratio = Old Ratio - New Ratio

Example: A and B share profits 3:2. C is admitted for 1/5 share, to be contributed equally by A and B.

• A's sacrifice = 1/10, B's sacrifice = 1/10
• New ratio: A = 3/5 - 1/10 = 5/10, B = 2/5 - 1/10 = 3/10, C = 2/10
• New ratio = 5:3:2

2. Goodwill Treatment

Goodwill is the premium paid by the new partner for the right to share future profits. Methods of goodwill valuation:

Super Profit = Actual Average Profit - Normal Profit

Normal Profit = Capital Employed x Normal Rate of Return

Accounting Entry when new partner brings goodwill in cash:

3. Revaluation of Assets and Liabilities

A Revaluation Account (or Profit and Loss Adjustment Account) is prepared:

The profit or loss on revaluation is transferred to old partners' capital accounts in their old profit-sharing ratio.

4. Capital Adjustment

The new partner brings in capital proportionate to their share. Existing partners' capitals may need adjustment.

When a partner retires, the following settlements must be made:

1. New Profit-Sharing Ratio

Gaining Ratio = New Ratio - Old Ratio

The gaining partners compensate the retiring partner for goodwill.

2. Amount Due to Retiring Partner

The retiring partner is entitled to:

• Balance in Capital Account
• Share of accumulated reserves and profits
• Share of goodwill
• Share of revaluation profit/loss
• Interest on capital (if applicable)
• Share of profit up to the date of retirement

Entry for goodwill:

3. Settlement

The amount due can be paid:

• In lump sum immediately
• In instalments with interest on the unpaid balance

Entry for payment:

Similar to retirement, with additional considerations:

• Share of profit from the last balance sheet date to the date of death
• Amount due is transferred to the Deceased Partner's Executor's A/c
• Life insurance policy proceeds (Joint Life Policy or individual policies) may be used for settlement

JLP (Joint Life Policy) Entry on death:

Dissolution means the complete winding up of the firm's business.

Distinction: Dissolution of Partnership vs Dissolution of Firm

Dissolution Process

1. Realisation Account is opened
2. All assets (except cash/bank) are transferred to Realisation A/c at book value
3. All liabilities (except partners' loans and capitals) are transferred to Realisation A/c
4. Assets are sold and proceeds credited to Realisation A/c
5. Liabilities are paid and amounts debited to Realisation A/c
6. Realisation expenses are debited to Realisation A/c
7. Profit/loss on realisation is transferred to Partners' Capital A/c in profit-sharing ratio
8. Partners' accounts are settled

Key Entries

Transfer of assets:

Sale of assets:

Payment of liabilities:

Profit on realisation:

Order of Payment (Section 49 of Indian Partnership Act)

1. Debts due to third parties (external liabilities)
2. Partners' loans
3. Partners' capital
4. Any surplus — distributed in profit-sharing ratio

Garner vs Murray Rule

When a partner is insolvent (capital account has a debit balance after dissolution):

• The deficiency is borne by solvent partners in the ratio of their capitals (not profit-sharing ratio)
• This is the Garner vs Murray rule applicable in the absence of any agreement

• Sacrificing Ratio = Old Ratio - New Ratio (used at admission)
• Gaining Ratio = New Ratio - Old Ratio (used at retirement)
• Revaluation profit/loss goes to old partners in old ratio
• Goodwill from new partner is credited to old partners in sacrificing ratio
• At retirement, goodwill is debited to gaining partners and credited to retiring partner
• Realisation Account is used during dissolution to record sale of assets and payment of liabilities
• Order of payment: External liabilities → Partners' loans → Partners' capital → Surplus
• Garner vs Murray Rule: Insolvent partner's deficiency borne by solvent partners in capital ratio
• Joint Life Policy proceeds are used to settle deceased partner's account
• Dissolution of partnership does NOT end the business; dissolution of the firm does