Chapter-5
Dissolution of Partnership Firm
Prepared by,
BINOY GEORGE,HSST,MKNM HSSS,Kumaramangalam,Thodupuzha,Idukki Dt.
Dissolution of Partnership Firm
Dissolution of Firm is entirely different from Dissolution of
Partnership. Dissolution of Firm leads to complete closure of a
partnership business. In case of dissolution of partnership,
the business may continue with a new agreement, but in
dissolution of firm, business will not continue.
Liabilities
Paid
Off
Dissolution of Partnership
Any change in the relation between partners leads to
dissolution of partnership. At the time of change in profit
sharing ratio between partners, admission, retirement, death
etc. of partners cause change in the relationship between
partners. In all these cases dissolution of partnership takes
place. At the time of dissolution of partnership, the business
can continue with a new agreement.
Situations (reasons) for Dissolution of Partnership
[Link] of a new partner
[Link]/death of an existing partner
[Link] in profit sharing ratio among partners
[Link] of firms
In all the above cases the firm can continue its business with
a new agreement, there is no need to close (Dissolution of
Firm) the firm.
Dissolution of a Firm
Dissolution of Firm means complete closure of the
business. Dissolution of a firm also known as winding up
of a firm, results in termination of relationship between all
partners and stoppage of business. At the time of
dissolution of firms, all assets of the firm are sold,cash
realized and with that cash liabilities are to be paid off. If
there is any cash, balance left, it will be distributed among
the partners as per their ratio.
Decided to Close the Business Assets Sold
With that cash Liabilities Paid Off If
any cash balance left,it should be distributed
among partners
Note:Some asset/Liability or realisation expense may take over by
partner's
Distinguish between Dissolution of Partnership
and Dissolution of Firm
Basis Dissolution of Dissolution of
Partnership Firm
Meaning Change in relation Partnership
of partnership between all the
among different partners of a firm
partners comes to an end
Termination of Business is not On dissolution of
Business terminated,it can firm,business will
continue with a not continue
new agreement
Settlement of All assets and Assets are realised
assets and liabilities are and liabilities are
Liabilities revalued paid off
Distinguish between Dissolution of Partnership
and Dissolution of Firm
Basis Dissolution of Dissolution of
Partnership Firm
Economic Economic relationship Economic
relationship often changes relationship comes
among partners to an end
Preparation of Assets and liabilitiesThere is no scope
Balance Sheet are revalued and new for balance sheet
balance sheet is as the accounts of
prepared assets and liabilities
are are closed
Preparation of Revaluation Realisation
Books of account,capital Account,capital
Accounts account,cash account account and cash
and New Balance sheet account
Modes of Dissolution of a Firm
Dissolution of a firm takes place in the following ways:
[Link] by Agreement
[Link] Dissolution
[Link] the happening of certain contingencies
[Link] by notice
[Link] by court
Modes of Dissolution of a Firm
I. Dissolution by agreement
A firm is dissolved
a) With the consent of all the partners
b) As per the terms of the partnership agreement
Modes of Dissolution of a Firm
II. Compulsory Dissolution
A firm is dissolved compulsorily in the following
cases:
a) When the business of the firm becomes illegal
b) When all the partners or all except one become
insolvent
c) When all the partners or all except one decide to retire
from the firm
d) When all the partners or all except one die
All or all
Except
one
Died
Modes of Dissolution of a Firm
III. On the happening of certain contingencies
In the absence of an agreement to the contrary, a firm
will be dissolved in the
following cases:
a) If the constituted for a fixed period, by the
expiry of that term
b) If constituted to carry out one or more ventures,
by the completion thereof;
c) By the death of a partner
d) By the declaration of a partner as an insolvent
Modes of Dissolution of a Firm
IV. Dissolution by notice
In case of a partnership at will, the firm may be dissolved if
any one of the partners gives a notice in writing to the other
partners, signifying his intention to dissolve the firm.
Modes of Dissolution of a Firm
V. Dissolution by court
At the suit of a partner, the court may order a partnership firm
to be dissolved on
any of the following ground:
a) When a partner becomes of unsound mind
b) When a partner becomes permanently incapable of
performing his duties as a
partner
c) When the partner transfers whole of his interest in the
firm to a third party
d) When the business of the firm is can’t be carried on at a
loss.
e) When the partner commits breach of agreement relating
to the management
of the firm
f) When, on any ground, the court regards dissolution to
be just and equitable.
Settlement of Accounts
Dissolution of Firm means complete closure of the business.
So, on dissolution, the firm disposes off all its assets for set off
all its liabilities. The mode settling accounts will be mentioned
in the partnership deed. But in the absence of an agreement
between the partners, the rules given in section 48,49 and 55
of the Indian Partnership Act,1932 will apply. These rules
are:These rules are:
A. Treatment of losses
Losses including deficiencies of capital shall be
paid first out of profit, next out of capital and lastly, if
needed, by the partners individually in their profit
sharing ratio.
Settlement of Accounts
B. Application of Assets
The assets of the firm including any amounts contributed by
the partners to compensate deficiencies of capital ,must be
applied in the following manner:
a) Paying the realization expenses
b) Paying the debts from third parties-creditors,
loans, bills payable, bank overdraft,loan from
partners’ relatives etc.
c) Repayment of loans from partners.
d) Repayment of capital contributed by partners.
e) Surplus, if any, is distributed by among the
partners in their profit sharing ratio.
Settlement of Private Debts and Firm’s Debt
Where private debts of the partner and firm’s debt co-exist, the
following rules, as stated in Section 49 of the Act, shall apply.
Meaning of Private Debts:
Private Debts are the debts which a partner owes in his
personal capacity. The respective partner is liable to discharge
these debts personally or from his own sources
Meaning of Firm's Debts:
Debts which the firm owes to outsiders are known as Firm’s
debts. In other words, these are the claims which the firm has
to pay to the outsiders or third party. The payment of these
debts is made out of the firm’s property first.
Settlement of private debts
The personal debts and liabilities of individual partners should
be paid first out of his private property and surplus if any can
be utilized for the payment of firm’s debts.
Settlement of firm's debts
Firm’s debts are first paid out of firm’s assets and the surplus if
any would be distributed to partners. The partners can use this
amount to pay off their private debts.
Accounting Treatment on Dissolution of Firm
On dissolution of a firm, the firm ceases (stop) to conduct
business and has to settle its accounts. So at the time of
dissolution of a firm, books of accounts are to be closed,
assets realized, liabilities are to be paid off and balance if any,
distributed among partners according to their ratio. In this
process the following accounts are prepared:
[Link] Account
[Link] Capital Account
[Link]/Cash Account
Accounting Treatment on Dissolution of Firm
On dissolution of a firm, the firm ceases (stop) to conduct
business and has to settle its accounts. So at the time of
dissolution of a firm, books of accounts are to be closed,
assets realized, liabilities are to be paid off and balance if any,
distributed among partners according to their ratio. In this
process the following accounts are prepared:
[Link] Account
[Link] Capital Account
[Link]/Cash Account
Realisation Account
Realisation account is a nominal account. It is prepared at the
time of dissolution of a firm. Realisation account is prepared to
close the accounts of assets and liabilities and to find out profit
or loss on realization of assets and repayment of liabilities.
All assets except cash, bank and fictitious assets are closed
by transfer it to the debit side of the realization account at its
book values and all external liabilities are closed by transfer it
to the credit side of the realization account at its book value.
Any provision relating to asset/liability must also be transferred
to the realization account. Amounts realized/assets taken over
are credited and liabilities settled/taken over are debited to
this account.
Realisation expense is debited to this account. At last this
account is closed by transferring the realization profit or loss to
partner’s capital accounts.
Journal Entries in connection with Realisation Account
[Link] close assets:
All assets except cash, bank and fictitious assets (P&l account
debit balance) are closed by transferring it to the debit side of
the realization account at their book value.
Note-1:Cash/bank account balance in the balance sheet
opened in Cash/Bank account.
Note-2:Sundry debtors should be transferred to realization
account at its full value(without deducting provision, if
any)
Realisation A/C Dr XXX
To Assets (Individually) XXX
(Being assets closed)
[Link] close external liabilities:
All external liabilities are closed by transferring it to the credit
side of the realization account at its book value
Example for external liabilities:
Creditors, bills payable, bank over draft,outstanding liabilities,
partners wife’s loan
External Liabilities A/C Dr XXX
To Realisation A/C XXX
(Being liabilities closed)
[Link] close provision against various assets
To close provision against various assets like provision for
doubtful debts, provision for depreciation etc.(Provision
against asset is a liability)
Provision for doubtful debts A/C Dr XXX
Provision for depreciation A/C Dr XXX
Joint life policy reserve A/C Dr XXX
Contingency Reserve A/C Dr XXX
Investment fluctuation fund A/C Dr XXX
To Realisation A/C XXX
(Being provision against to assets closed)
4. To close provision against various liabilities
To close provision against various liabilities like
provision for discount on creditors.(Provision against
liability is an asset)
Realisation A/C Dr xxx
To Provision for discount on creditors xxx
(Being provision for discount on creditors closed)
[Link] closed assets realized(Sold)
At the first stage we closed all assets in the books of
accounts by transferred it to realisation account. There
are two options-we can realise these assets by selling
it to outsiders or any partner can take over the asset
as part of settlement. If assets realised:-
Cash/Bank A/C Dr xxx
To Realisation A/C xxx
(Being assets sold)
Note:Here Asset A/C is already closed by transferred
it to realisation A/C,so realisation account is credited
instead of Asset
[Link] closed assets taken over by a partner
At the first stage we closed all assets in the books of
accounts by transferred it to realisation account. There
are two options-we can realise these assets by selling
it to outsiders or any partner can take over the asset
as part of settlement. If asset taken over by a partner:-
Particular Partner’s Capital A/C Dr xx
To Realisation A/C xx
(Being assets taken over by a partner)
Note:Here Asset A/C is already closed by transferred
it to realisation A/C,so realisation account is credited
instead of Asset
[Link] closed liabilities paid off
At the first stage we closed all external liabilities in the
books of accounts by transferred it to realisation
account. There are two options-we can paid off these
liabilities or any partner can take over the liability as
part of settlement. If liability paid off:-
Realisation A/C Dr xxx
To Cash xxx
(Being liabilities paid off)
Note:Here Liability A/C is already closed by
transferred it to realisation A/C,so realisation account
is debited instead of Liability
[Link] closed liabilities taken over by a partner
At the first stage we closed all external liabilities in the
books of accounts by transferred it to realisation
account. There are two options-we can paid off these
liabilities or any partner can take over the liability as
part of settlement. If liability is taken over by a partner:-
Realisation A/C Dr xxx
To Particular partner’s Capital A/C xxx
(Being liabilities taken over by a partner)
Note:Here Liability A/C is already closed by
transferred it to realisation A/C,so realisation account
is debited instead of Liability
[Link] realization expense paid
Realisation A/C Dr xxx
To Cash/Bank xxx
(Being realization expense paid)
[Link] realization expense taken over by a
partner
Realisation A/C Dr xxx
To Particular Partner’s Capital A/C xxx
(Being realization expense taken over by......)
[Link] the amount realized from unrecorded
assets
Cash/Bank A/C Dr xxx
To Realisation A/C xxx
(Being cash realized on unrecorded assets)
[Link] unrecorded assets taken over by a
partner
Particular partner’s capital A/C Dr xxx
To realization A/c xxx
(Being unrecorded assets taken over by a
partner)
[Link] payment of an unrecorded liability
Realisation A/C Dr xxx
To Cash/ Bank xxx
(Unrecorded liability paid off)
[Link] unrecorded liability taken over by
a partner
Realisation A/C Dr XXX
To Particular partner’s capital A/C XXX
(Being unrecorded liability taken over by.....)
[Link] with outside liabilities like
creditors through assets/unrecorded assets
No Entry is required
Note:
When a creditor (a liability) accepts an asset as his full
and final settlement,No Entry is required. The reason
is that,the liability(here creditors) has already been
closed by crediting it to realization account. The
particular asset account is also closed by transferring
it to the debit side of the realization account Some
times, the creditor may accept part of his payment in
cash and accept (take over) an asset as balance of his
payment. In this case, the entry will be made for the
cash payment only.
[Link] Closing Realisation Account:
(a)If Realisation Profit:-
Realisation A/C Dr xxx
To Partners’ Capital A/C xxx(Individually)
(Being Realisation profit distributed among
Partners)
16. For Closing Realisation Account:
(b)If Realisation Loss:-
Partners’ Capital A/C Dr xxx(Individually)
To Realisation A/C xxx
(Being Realisation loss distributed among
partners)
[Link] of partner’s loan (Liability)
Note: Partner’s loan directly paid off.(Never transferred to
Realisation A/C)
Partner’s Loan A/C Dr xxx
To Cash xxx
(Being partners loan paid off)
[Link] of partner’s loan (Liability)
Note: Partner’s loan directly paid off.(Never transferred to
Realisation A/C)
Partner’s Loan A/C Dr xxx
To Cash xxx
(Being partners loan paid off)
[Link] of partner’s loan(Asset)
Note: Sometimes, firm advances some amount to partner(It is
an asset to the firm .It is directly collected from partner’s,not
transferred to realization account
Cash/Bank A/C Dr xxx
To Partner’s Loan A/C xxx
(Cash received against patrtner’s loan)
[Link] closing of current account:
If it show credit balance:
Partner’s Current A/C Dr xxx
To Partner’s capital A/C xxx
(Being current account is closed by transfer
it to his capital account)
[Link] closing of current account:
If it show debit balance:
Partner’s Capital A/C Dr xxx
To Partner’s Current A/C xxx
(Being current account is closed by transfer
it to his capital account)
[Link] closing capital A/C
(If capital A/C shows credit balance, it means amount due to
the partner in final settlement)
Partner’s Capital A/C Dr xxx
To Cash/Bank xxx
(Being capital Account closed)
[Link] closing capital A/C
(If capital A/C shows debit balance ,it means amount due by
the partner to the firm in final settlement
Cash/Bank A/C Dr xxx
To Partner’s Capital A/C xxx
(Being capital Account closed)
Treatment of goodwill on Dissolution of Firm:-
On dissolution of Firm, goodwill is treated just like an
ordinary asset. No special treatment is required. If it
appears in the Balance Sheet, it is closed by
transferring it to the debit side of the realization
account at its book value. If any amount is realized for
goodwill, the amount is credited to realization Account
Treated like an ordinary Asset
Difference between Revaluation Account and
Realisation Account
Revaluation A/C Realisation A/C
Revaluation account is Realisation account is
prepared at the time of prepared at the time of
admission,retirement,death or Dissolution of Firm
change in profit sharing ratio
of a partner
It records only changes in Assets and liabilities are
values of assets and liabilities closed at the book values
Revaluation account is It is prepared to find out profit
prepared to find out profit or or loss on realization of
loss on revaluation of assets assets and payment of
and reassessment of liabilities liabilities.
It never record expenses It record realisation expenses
Dissolution of Firm in Nut- Shell
(1)First Phase- Realisation A/C
Decided/Forced to close the business.......Closing
assets by transferring it to debit side of the Realisation
A/C.......Closing external liabilities by transferring it to
the credit side of the realisation A/C......Then take
arrangements to realise(sale) assets to generate fund
to discharge firm's debts.....Some assets may take
over by some partner's.......Realisation expense
paid.....Some partner's may take over realisation
expense......Then liabilities paid off......Some liabilities
may take over by partner's......After all the above
mentioned adjustments,it is required to find out profit
or loss on realisation and it should be transferred to
partners capital account.
Dissolution of Firm in Nut- Shell
(2)Second Phase-Partners Loan A/C(if any) A/C.
Partner's loan Account (If any) is not closed by
transferring it to Realisation A/c,it is directly paid off.
(3)Third Phase-Settlement of Partners Capital A/C
and cash/Bank A/C.
Generally,after the completion of 1st and 2nd phase,all
accounts except capital accounts of partners and
cash/bank account will stand closed. Now the total
capital balances of all partners will be equal to
cash/bank balances. Cash will be paid out to partners
or brought in by them according to their capital
account balances.
Wish You all Success
Malankara Dam,Thodupuzha
Prepared by
BINOY GEORGE
HSST,MKNM HSS
Kumaramangalam
Thodupuzha,
Idukki Dt.