ACADEMIC YEAR 2022-2023, SEMESTER – III

STUDY MATERIAL B.COM,

ADVANCED FINANCIAL ACCOUTING

STUDY MATERIAL

ADVANCED FINANCIAL ACCOUNTING

SEMESTER – III

ACADEMIC YEAR 2022-23

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UNIT CONTENT PAGE NO

I BRANCH ACCOUNTING 4-15
II PARTNERSHIP ACCOUNTS 16-26
III RETIREMENT OF A PARTNERSHIP 27-44
DISSOLUTION DUE TO
IV 45-63
INSOLVENCY OF A PARTNERSHIP
V AMALGAMATION 64-76

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ADVANCED FINANCIAL ACCOUTING

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UNIT – I

BRANCH ACCOUNTING
Meaning of Branch Accounting

Branch Accounting is a system in which separate accounts are maintained for each branch. These
branches are divided by geographical location, and each department has its profit and cost centers.
In this accounting system, separate Trial Balance, Profit & Loss Statements, and Balance Sheets are
prepared by each branch.

Types of Branches

Dependent Branch

Hanging branches do not maintain separate accounts. Ultimately, the Head Office collectively
manages its profit & loss statements and balance sheets. Only a few pieces of information have been
supported by separate branches like Cash Accounting, Debtors Accounting, and Inventory.

Independent Branch

Independent branches maintain separate books of accounts. Ultimately, the branches keep their
profit & loss statements and balance sheets separate from their Head Office. Therefore, the head
office and branches are treated as separate entities in this case. For example:- If the Head Office
sends material to its branch, the Head Office will record sales in the HO book and raise an invoice in
the name of the component, and the department will mark this as a purchase in-branch books of
accounts.

1. Kalyani Ltd opened a branch on 1.1.2013 at Bombay the figures are given below for the year
2013.

Goods sent to branch 25000

Sales cash 10000

Credit sales 18000

Cash received from debtors 16000

Discount allowed to them 300

Cash sent to branch for expenses 300

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Stock on 31.12.2013 4000

Prepare branch account

Branch account

Particulars Rs Rs Particulars Rs
To Goods Sent Ot Branch 25000 By Cash
To Bank 3000 By Cash Sales 10000
Received From Debtors 16000
To P/L 3700 By Balance C/D 26000
STOCK 4000
DEBTORS 1700 5700
31700 31700
Branch Debtors

Particulars Rs Particulars Rs
To Sales 18000 By Cash 16000
By Discount 300
By Balance
C/D 1700
18000 18000

Advantages of Branch Accounting

 It helps to ascertain the profit & loss of each branch.

 It helps to know each branch’s debtors inventory and cash position.
 It helps to determine each branch’s wages, rent, salary, and expenses separately.
 Separate accounting of each chapter helps to make decisions according to branch requirements.
 By separate branch accounting, it is easy to track the progress and performance of each unit.
 It helps to control the overall branch operation.

Disadvantages of Branch Accounting

 Due to a separate account for each branch, it requires more work force.
 It requires an individual branch manager for each branch.
 It requires other infrastructure at each location or unit.
 It increases the company’s expenses because of a different setup at each location.
 There is a chance of delay in decision-making in this accounting system because of multiple
authorities.
 There is a chance of mismanagement in this accounting system because of decentralized operation
and minimum control of the head office.

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DEPARTMENTAL ACCOUNTS

A departmental business is one which has a number of departments under one roof and
under the control of one management. Accounts are prepared for each department. Departmental
accounts are accounts relating to the several departments or sections of a business, drawn up in order
to ascertain the individual performance. That is, accounts which are prepared to find out the profit
or loss of each department are known as departmental accounts.

Department means the section of a large business. Generally, departmental accounts

are employed in large business like insurance companies. To compare the trading activities of each
department, Trading profit and loss account of each department are prepared.

Purposes:

Following are the purposes of preparing departmental accounts.

I) To find out the profit loss of each department.

ii) To find out the efficiency of each department

iii) To formulate new policies in the departments.

iv) To discontinue the unprofitable department.

v) To maximise the over all profitability of the business as a whole. Vi) To measure the profitability of
each department.

vii) To compare the results of a particular department with previous year.

viii) To compare the results of a particular department with the other departments of the same
concern.

ix) To allow departmental manager commission on the basis of the profits of their departments.

Differences between Branch and Departmental accounts:

1) Location: Branches are located in different places whereas Departments are Located under
one roof in a particular place.
2) Control: Branches are controlled by its Head office whereas departments are not so.
3) Opening in foreign countries: Branches may be opened in foreign countries. But there is no
foreign department.
4) Types: Branches may be classified into different types but there is no such classification in
departments.
5) Purpose: Branch account is to be prepared to know the profit or loss of each branch. But
departmental accounts are prepared in order to find out the profit or loss as well as to know
the efficiency of the business.
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6) Transfer: Some times, Branches may receive goods from its head office but in departments it
is not so.
Advantages of Departmental Accounting:

i) Preparation of Departmental accounting helps to find out the profit or loss of each
department on a reliable basis.
ii) With the help of profit of each department, efficiency of each department may be
calculated.
iii) On the basis of efficiency of the departments, incentive systems may be introduced to its
employees.
iv) Departments which have more efficiency may be expanded and departments which have
lesser efficiency may be discontinued. So departmental accounts help to take remedial
measures.
Accounting procedure:

There are two methods of keeping departmental accounts.

1) Independent Basis:

Under this method, each department prepares its accounts separately. The profit or loss of
each department is transferred to general profit and loss account of the concern. It is an expensive
one.

2) Columnar Basis:

Under this method, accounts of all departments are maintained together in a columnar
form. Various subsidiary books are also prepared in a columnar form for each department.

Departmental Trading and Profit and Loss accounts:

When a concern maintains its books and records on columnar basis, Trading, profit and loss
account can be prepared on columnar basis. The problem arises with regard to allocation of expenses.
Direct expenses are debited to trading account. But in case of indirect expenses, they are to be
apportioned on some suitable basis. After the allocation, net profit of each department is to be
calculated.

Types of expenses:

Departmental expenses are divided into two types.

1) Direct expenses

2) Indirect expenses

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1) Direct expenses:

Direct expenses are those expenses which can be identified to a particular department or
departments. Example: Wages, carriage inwards etc. These expenses are charged directly to the
respective departments.

2) Indirect expenses:

Indirect expenses are those expenses which can not be identified to particular departments. These
expenses are incurred for their common benefit. Indirect expenses are again sub divided into two
groups.

i) Examples which can be apportioned:

These expenses are apportioned on some suitable basis among the departments.
Basis Expenses
1. Purchase ratio Carriage, Freight, Duty, Octroi
2. Sales ratio Selling Commission, Bad debts, Discount
allowed, Advertisement, Carriage outwards
3. Floor area occupied Rent, Rates, Lighting expenses
4. Value of machines Depreciation, repairs, etc
5. H.P of machines Power expenses, Electricity
6. Value of stock Insurance on stock
7. No. of employees Welfare expenses, canteen expenses
8. Time Ratio Rent, salary

ii) Expenses which can not be apportioned:

There are some expenses which can not be apportioned to different departments on some suitable
basis. So these must be shown in the general profit and loss account of the concern.

Following expenses are to be debited to General profit and loss account. These expenses cannot be
apportioned on suitable basis.

 Debenture interest
 General manager’s salary
 Director’s fees
 Income tax
 Dividend paid
 Legal expenses

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1. From the following information prepare departmental trading and profit and loss account for the
year ending 31.12.2016

Particulars Department X Department Y

Opening stock 9000 8400
Sales 42000 36000
Purchases 27000 21600
Direct expenses 5490 8520
Indirect expenses 2100 1800
Postage 360 360
Closing stock 10800 4800

SOLUTION

Departmental trading and p/l account for the year ended 31.12.2016

Particulars X Y Particulars X Y
To opening stock 9000 8400 By sales 42000 36000
By closing
To purchases 27000 21600 stock 10800 4800
To direct
expenses 5490 8520
To gross profit 11310 2280
52800 40800 52800 40800
By gross
To postage 360 360 profit 11310 2280
To indirect
expenses 2100 1800
To net profit 8850 120
11310 2280 11310 2280

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2.From the following figures, prepare accounts to disclose total profit and the profit of the two
departments, A and B:

Particulars ` Particulars `
Opening Stock: Sales:
A 15,200 A 1,00,000
B 10,800 B 80,000
Purchases: Purchase Returns:
A 75,100 A 1,100
B 69,800 B 800
Carriage inward 2,860
Discount Received 1,430
Salaries:
A 9,000
B 8,500
General 11,600
Rent and rates 6,000
Advertising 8,100
Insurance 1,000
General expenses 5,400
Discount allowed 1,800
Accountancy charges 500

The following further information is supplied:

(a) Goods transferred from department A to B were ` 5,000. This has not yet recorded.
(b) General salaries are to be allocated equally.
(c) The area occupied is in the ratio of 3 : 2.
(d) Insurance premium is for comprehensive policy, allocation being inconvenient.
(e) The closing stock of the two departments were: A, ` 17,800 and B, ` 15,600.

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Solution

Departmental trading and p/l account

Dept. Dept.
Dept. A Dept. A
B B
` ` ` ` `
To
Opening

Stock 15,200 10,800 By Sales 1,00,000 80,000

To By
74,000 69,000 5,000
Purchase Transfer to B

(less
return)

To
By Closing
Carriage 1,480 1,380 17,800 15,600
Stock
inwards

To Gross
32,120 14,420
profit

122800 95,600 122800 95,600

By
To Salaries:
Gross

Departmental 9,000 8,500 Profit b/d 32,120 14,420

General 5,800 5,800 11,600

To rent and By Discount

3,600 2,400 740 690
rates received

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To Advertising 4,500 3,600 By Net loss

To General 3,000 2,400 — 8,390

expenses

To Discount

allowed 1,000 800

To Net Profit 5,960

32,860 23,500 32,860 23,500

General p/l account

Particulars Rs Particulars Rs
To net loss 8390 By net profit 5960
To accountancy 500 By net loss 2930
charges
8890 8890

3. From following are extracted from the books of Confusion Ltd. for the year ended 31st
December, 2005.

Particulars P (`) Q (`) R (`)

Purchases 4,40,000 5,20,000 1,10,000

Sales 6,10,000 9,25,000 3,20,000

Return inwards 10,000 25,000 20,000

Return outwards 40,000 20,000 10,000

Wages 8,000 5,000 7,000

Stock on 1-1-2005 45,000 35,000 40,000

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Stock on 31-12-2005 65,000 20,000 10,000

Other information:

(a) Goods transferred from P to Q ` 10,000 and to R ` 80,000

(b) Goods transferred from R to P ` 5,000 and to Q ` 6,000

(c) Goods transferred from Q to P ` 6,500 and to R ` 5,600

(d) Telephone charges ` 15,800 to be appointed in the ratio of 3:1:1 among P, Q and R

departments.

(e) Rent ` 24,000 to be divided as 1 4 , 2 4 and 1 4 among departments P, Q and R

respectively.

Other Expenses:

Discount allowed ` 18,000 Legal expenses ` 24,000

Bad debts ` 15,000 Insurance of goods ` 8,600

Income tax ` 58,000

You should allocate aforesaid expenses as you deem best indicating the basis of allocation.

All working should form a part of your answer.

Prepare Departmental Trading and Profit and Loss A/c in columnar form and general profit
loss account for the year ended 31st December, 2005.

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Solution

Departmental Trading and P & L A/c for the year ended 31.12.2005

Particulars p q r Particulars p q r

By Sales
To Stock 45,000 35,000 40,000 6,00,000 9,00,000 3,00,000
(net)

To
By Closing
Purchases

(net) 4,00,000 5,00,000 1,00,000 stock 65,000 20,000 10,000

By Dep.
To Wages 8,000 5,000 7,000 8,000 12,100 11,000
Transfer

To Dep. By Dep.
— 10,000 8,000
Transfer P Transfer

To Dep. By Dep.
5,000 6,000 —
Transfer R Transfer

To Dep.
6,500 5,600
Transfer Q

To Gross
Profit c/d 2,18,500 3,76,100 1,60,400
6,83,000 9,32,100 3,21,000 6,83,000 9,32,100 3,21,000

To
By Gross
Telephone

(charges)
9,480 3,160 3,160 Profit b/d 2,18,500 3,76,100 1,60,400
(3:1:1)
To Rent
6,000 12,000 6,000
(1:2:1)
To
Discount 6,000 9,000 3,000
(2:3:1)
To Bad
debts
(2:3:1) 5,000 7,500 2,500
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To Net
Profit
(Tr to
General

P&L A/c ) 1,92,020 3,44,440 1,45,740

2,18,500 3,76,100 1,60,400 2,18,500 3,76,100 1,60,400

General P & L A/c for the year ended 31.12.2005

Particulars ` Particulars `
To Legal expenses 24,000 By Net Profit b/d
To Insurance of goods 8,600 P 1,92,020
To Income tax 58,000 Q 3,44,440
To Net Profit c/d 5,91,600 R 1,45,740
6,82,200 6,82,200

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UNIT II
PARTNERSHIP ACCOUNTS
A partnership is a form of business which enables two or more persons to co-own an organization,
and they agree to share the profits and losses of the company. Each member of such a business is
called a Partner, and collectively they are known as a partnership firm.

In a partnership, every owner contributes something to the welfare of the firm. These can be in the
form of ideas, property, money and sometimes a combination of all these. Owners of a Partnership
share profits and losses in proportion to their respective investments.

Partnership businesses in India are regulated by Section 4 of the Indian Parliament Act of 1932.

Characteristic of a Partnership Firm

A few distinct characteristics of partnerships are mentioned below:

Agreement- Partners, who decide to start this business, have to make a formal mutual contract
between them. This agreement is usually written following the norms of government act.

Number of Partners- According to section 11 of Indian Parliament Act 1932, the maximum number
would be 10 for a banking Partnership business. Furthermore, this number rises to 20 for other
Partnership businesses.

Share of Profit- One of the primary features of Partnership is to make and share the profit among
the partners as per agreed ratios. However, the income will be distributed equally if there’s no
clause mentioned in the agreement about the same.

Liabilities- In general partnerships, all the partners are subjected to liabilities. It means all of them
are collectively responsible for recovering all debts of the firm, even if they have to liquidate their
personal assets.

Non-Transferability of Interest- By any means, a partner cannot shift his/her interest from existing
firm to others. There is a strict restriction upon inclusion and retirement of the partners. Even a
minor change in the ownership of a business has to make with the consent of the other members
involved in Partnership.

Types of Partnership

General Partnership- In this Partnership, the partners equally participate in the day-to-day activities
and decision-making prospects of a firm. At the same time, they are equally responsible for all

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profits, liabilities and debts of the company. If one partner is found guilty for any discrepancy in
business, the others will be held accountable for the same.

Limited Partnership- A Limited Partnership includes one or more than one partners whose liabilities
are limited. A limited partner usually takes his/her share of profit without involving in daily
managerial activities and decision making. Because of the limited liabilities, they don’t have to bear
the loss incurred upon business.

Limited Liability Partnership- In LLP, liabilities on partners are limited. They are not responsible for
any legal and financial crisis of a firm. An LLP partner is somewhat similar to a Limited partner
although they are not the same.

Partnership at Will- Such Partnership solely depends on the will of a partner. He/she can break the
bond anytime they wish. This type of Partnership is usually created for lawful business which usually
lasts for an indefinite time.

You can research more on this topic to gain knowledge about the other kinds of Partnership
prevalent in India.

Advantages of Partnership Firm

Easy to Start- A simple agreement, verbal or written, is enough to initiate a Partnership firm.

Flexible Operations- There is a considerable scope for making changes in the business operations
and strategies if the partners think these are needed for overall growth of the firm.

Greater Resources- Since partnership comprises financial contribution from all partners, it infuses
large capital to business. As a result, it increases a firm’s borrowing capacity.

Reduced Risk Factor- As all the incomes and losses are divided among the partners, the risk for the
losing money or defaulting can be narrowed down substantially.

Combined Skills- Another great advantage of partnership has to be the conglomeration of unique
ideas, knowledge and skills from different partners with expertise in their respective fields.

Different Kinds of Partners

Active Partner- A working or active partner takes part in daily operations and activities that take
place within the business. Sometimes they draw remuneration as salary for their hard work.

Dormant Partners- Dormant partners only contribute capital to the firm and enjoy his/her share of
profit without participating in business affairs. However, like other partners, they have liabilities to
business.

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Partner in Profit Only - This kind of partners venture into Partnership on the condition that they
shall only get a portion of the profit of the firm but they will not be entitled to compensate for any
loss of it. Mostly, these partners contribute their goodwill and reputation to the company.

Limited Partner-Unlike an Active partner, this partner’s endowment is limited to the sum of his/her
investment.

Secret Partner- As the name suggests, this partner does not want to reveal himself/herself.
However, the rights of these partners are equal to any other partner of Partnership.

The possibilities and opportunities are, therefore, immense for partnership firms to expand its
horizon with the best bunch of professional partners associated.

What do you think plays the most crucial factor in establishing a Partnership Business?

For more insights about the partnership which will be beneficial for commerce students, visit
Vedantu’s website.

Partnership and Sole Proprietorship

The two terms do have a close business relationship. In partnership, one agrees to contribute in
terms of money, ideas and share the profit in a business. While sole proprietorship does have a
difference from a partnership. Since all of the tasks and handling of business are done by a single
person. And there will be no second person involved enough to be responsible for his/her business.
And many times people prefer to go for the sole proprietorship as partners can go in disagreement
in the long term business works leading to a deterioration of the business flow.

Starting A Partnership Firm

By the year 2020, people have been taking initiation towards their business ideas. Since most of the
businesses have taken online platforms for attention, it got good monetary support for marketing
decreasing the investment we need to an affordable one.

Below are the seven steps that we must follow:

Partnership firm’s name choosing.

Drafting the deeds of partnership.

Deeds formatted to finalization.

Registration of partnership deeds with relevant documents.

Initiating and completing the registration.

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Get authenticated registration with the registrar.

Getting certificate issued from the registrar.

The firm name that we choose must be unique. It should not be looking the same as any other
firm’s names. And accordingly with the law adding words like an empire, crown, empress, and so on
are not allowed. Drafting the deeds of partners are a good way to communicate further. Dividing
the tasks will be easier this way for smooth functioning. For drafting, it needs to be done within the
proper format for sending it to legalizing. Generally, PAN card and address proof are needed of the
partners to submit for register legally. And the same is needed of the firm too.

However, for the firm, there are requirements for additional documents such as GST registration
and details of a current bank account. And the registration is completed that way for getting the
certificate from the registrar. It is not mandatory to get a certificate for starting a business. Even
though the certificate will be delivered to you within two weeks after registration.

Disadvantages Of Partnership

Just like the coin has a flip side, there are also demerits for partnership. A few of them are
mentioned below:

Disagreement from partners on the ideas and discussions can cause losing growth opportunities.

The vision of the firm may be entitled just to the founder. However, a partner will not be following
the same.

Having no co-operation.Exiting the firm environment work culture after taking away the profit
obtained so far.

Goodwill

Goodwill is a term widely used in accounting. When a buyer acquires an already existing business,
goodwill tends to arise. It is an intangible asset that cannot be self-created and can only be acquired
through accession. It tends to represent assets that are not identified separately.

Goodwill is computed on the basis of the profits that are expected in excess of normal profits. In
other words, it indicates the firm’s capacity to earn a higher profit in the future on the basis of its
track record.

Methods of Treating Goodwill

In a situation or case of admission of a new partner, the accounting treatment of goodwill is as

follows:

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Premium method:

According to this method, when the new partner brings their share of goodwill (in cash), the already
existing members or partners tend to share it in the sacrificing ratio. But, if the new partner
privately pays the amount of goodwill (in cash) to the old partner, then no kind of entry is passed in
the books of the firm or organisation. In this case, the share of goodwill that the new partner brings
in can be credited to their capital account and then adjust the capital accounts of the existing
partners in their sacrificing ratio.

And when good will already exists in the books of the firm, then:

(a). Either it does not appear in the books of the organization in the future.

(b). Or it continues to show up in the books of the firm in the future. In this case, the new partner is
supposed to bring in his share of goodwill, but only with respect to the difference between the book
value and the new value.

Revaluation method:

If the new partner makes a decision not to bring in his/her share of the goodwill, then the
revaluation method is utilized. In such a situation, the goodwill account in the books of the firm or
organization is raised. This is done by debiting the goodwill account and crediting the capital
accounts of the old partners or members in the old profit sharing ratio.

Factors that Affect the Value of Goodwill

The factors that affect goodwill are as follows:

1. Location of the business: While ascertaining goodwill, this factor should always be taken into
account. This is mainly because if the firm is located somewhere centrally, then it would be able to
attract more and more customers, thereby leading to an increase in turnover.

2. Nature of the business: This tends to include various aspects like the nature of goods, the risk
involved, the benefits of trademarks and patents, raw material that is easily accessed, and the
monopolistic nature of the business.

3. Time: The amount of time since a firm has catered to its customers also tends to make a
difference and influences the value of goodwill. Between an old firm and a new one, the former
would be better known by its customers, as a result of which, it may earn a relatively more
commercial reputation.

4. Efficiency of management: If the management is efficient and effective, then it can be of great
help to increase the value of goodwill.

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5. The trend of profit: the basis of the rate of return or fluctuations in the amount of profit also
affect the value of goodwill; if the trend of profit rises, then the value of goodwill is likely to
increase and vice versa.

6. Other factors like capital required, the government policies, the condition of the money market,
the possibility of competition, etc., also tend to influence the value of goodwill.

CALCULATION OF Goodwill

Based on the Accounting Standards, the following are the purposes based on which goodwill of a
firm is to be computed:

If a new partner joins.

If an existing partner dies or retires.

If the partners wish to dissolve the firm.

If any changes are made in the profit-sharing ratio by the partners.

In each case, goodwill is first calculated by the partners, the existing goodwill is distributed, and
then further steps are taken.

When a new partner is admitted in a running business due to the requirement of more capital or
may be to take advantage of the experience and competence the newly admitted partner or any
other reason, it is called admission of a part in partnership firm.

According to section 31(1) of Indian partnership Act, 1932, “A new partner be admitted only with
the consent of all the existing partners”

At the time of admission of new partner, following adjustments are requires

1. Calculation of new profit sharing ratio and sacrificing ratio.

2. Accounting treatment of Goodwill.
3. Accounting treatment of accumulated profit, reserves and accumulated loss.
4. Accounting treatment of revaluation of assets and reassessment of liabilities.
5. Adjustment of capital in new profit sharing ratio.

1. Calculation of new profit sharing ratio

Following types of problems may arise for the calculation of new profit share ratio.
Case (i) When old ratio is given and share of new partner is given.

Note : Unless agreed otherwise, it is presumed that the new partner acquires his share in profits
from the old partners in their old profit sharing ratio.

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Alternative Method :
Old Ratio = A : B

1:2

Left the profit of the firm = 1

C’s share (New Partner) = 1/3
Remaining Profit = 1-1/3 = 2/3
Now this profit 2/3 will be divided between the old partners in their future profit sharing ratio (old
ratio) i.c., 1:2

A’s new Profit = 1/3 of 2/3 = = 2/9

B’s new Profit = 2/3 of 2/3 = = 4/9

C’s profit = 1/3 or = 3/9

Hence the new ratio = 2:4:3
Note : In this case only New Partners share is given then Sacrificing ratio = Old
Ratio = 1 : 2 there is not need to calculate it

Case (ii) When new partner acquires his/her share from old partners in agreed share.

2. Accounting Treatment of Goodwill

At the time of admission of a partner, treatment of Goodwill is necessary to compensate the old
partners for their sacrifice. The incoming partner must compensate the existing partners because he
is going to acquire the right to share future profits and his share is sacrificed by old partners. If
goodwill (Premium) is paid to old partners privately or outside the business by the new partner then
on entry is required in the books of the firm.

There may be different situations about the treatment of goodwill at the time of the admission of
the new partner.

(i) Goodwill (premium) brought in by the new partner in cash and retained in the business

Note : Sacrificing = Old ratio – New ratio

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A = 3/5 – 3/8 =

B = 2/5 – 3/8 =
This sacrificing ratio between A and B i.e., 9 : 1.

3. Accounting treatment of Accumulated Profits

Accumulated profits and reserves are distributed to partners in their old profit sharing ratio. If old
partners are not interested to distribute, these accumulated profits are adjusted in the same
manner as goodwill and the following adjusting entry will be passed.

New Partner’s capital A/c Dr. (New share)

To old partner’s capital A/c (Sacrificing ratio)

4. Accounting treatment for revaluation of assets and re-assessment of liabilities

The assets and liabilities are generally revalued at the time of admission of a new partner.
Revaluation Account is prepared for this purpose in the same way was in case of change in profit
sharing ratio. This account is debited with all losses and credited with all gains. Balance of
Revaluation Account is transferred to old partner in their old ratio.

5. Adjustment of Capital in New Profit Sharing Ratio

Working Notes :

Gauri’s share of goodwill = Rs.

Total adjusted capital of old partner for 2/3 share = Rs. 1,42,433 + Rs. 91,217 = Rs. 2,33,650

Proportionate capital of Gauri 1/3 share = Rs. = Rs. 1,16,855

1.A and B sharing profit in the ratio of 3: 1 their balance sheet as on 31.12.2020 is as under

Liabilities Rs Assets Rs
Creditors 37,500 Cash 22,500
General reserve 4,000 Bills receivable 3,000
Capital A 30,000 Stock 20,000
B 16,000 Debtors 16,000
Furniture 1,000
Buildings 25,000
87,500 87,500

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On 1.1.2020 they admit C as a new partners and the following arrangement

C to bring Rs. 10,000 as capital for 1/5 share of profit

The new firm to have goodwill Rs. 10,000

Stock and furniture to be reduced by 10% , a reserve of 15% an debtors for doubtful debts to be
created

Buildings to be appreciated at 20% give necessary ledger accounts and balancesheet

Answer Revaluation account

Particulars Rs Particulars Rs
To Stock 20000x10% 2,000 By Buildings 25000x20/100 5,000
To Furniture 1000x10% 100
To Provision for doubtful debts 2,400
16000x15%
To profit
A 375
B 125 500

5,000 5,000

Partners’ capital account

Particulars A B C Particulars A B C
By bal c/d 40875 19625 10000 By balance b/d 30,000 16,000
By bank 10,000
By revaluation profit 375 125
By general reserve 3,000 1,000
By goodwill 7,500 2,500
40,875 19,625 10,000

Balance sheet after c admission

Liabilities Rs Assets Rs
Creditors 37,500 Cash 22500
+ bank 10000
Capital A 40,875 ------ 32,500
B 19,625 Bills receivable 3,000
C 10,000 Stock 20000
+ reduced 2000
------ 18,000
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Debtors 16000
+ created 2400
------ 13,600
Furniture 1000
Reduced 100 900
-----
Buildings 25000
+ appreciation 5000 30,000
-------
Goodwill 10,000
1,08,000 1,08,000

2. A and B are partners in a firm. They share profits and losses in the ratio of 3:1. Their balance
sheet is as under

Liabilities Rs Assets Rs
Capital A 80,000 Buildings 1,00,000
B 40,000 Plant 25,000
Reserve 40,000 Stock 40,000
Creditors 60,000 Debtors 70,000
Bills payable 20,000 Cash 5,000
2,40,000 2,40,000
C is admitted into partnership for 1/5th share of the business on the following terms

Building is revalued at Rs. 120000

Plant is depreciated to 80%

Provision for bad debts is made at 5%

Stock revalued at Rs.30,000

C should introduced 50% of the adjusted capitals of both A and B.

ANSWER

Revaluation account

Particulars Rs Particulars Rs
To Stock 10,000 By Buildings 20,000
To Provision for doubtful debts
70000x5/100 3500
To plant 80%x 25000= 20000 5000
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To profit
A 1125
B 375
1500
20,000 20,000
Partners’ capital account

Particulars A B C Particulars A B C
By bal c/d 1,11,125 50,375 80,750 By balance b/d 80,000 40,000
By bank 80,750
By revaluation profit 1125 375
By general reserve 30000 10000

1,11,125 50,375 80,750 1,11,125 50,375 80,750

111125+50375=161500 / 50% = 80750

Balance sheet after c admission

Liabilities Rs Assets Rs
Creditors 60,000 Cash 5000
Bills payable 20,000 + bank 80750
------ 85750
Capital A 111125
B 50375 Stock 40000
C 80750 - reduced 10000
------ 30,000
Debtors 70000
+ created 3500
------ 66,500
Plant 25000
Reduced 5000
----- 20000
Buildings 100000
+appreciation 20000 120000
-------

3,22,250 3,22,250

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UNIT III
RETIREMENT OF A PARTNERSHIP
Meaning

Withdrawal of a partner from the partnership with the consent of other partners or as per the
provisions of the partnership deed or by giving notice of retirement is termed as retirement of a
partner. A partner who cut his connection with the firm is called a retiring partner or outgoing
partner. Retirement of a partner leads to reconstitution of a partnership firm as the original
agreement between the partners comes to an end. The business may continue with a new
agreement with the remaining partners. When a partner retires, his share in the firm is to be
correctly ascertained and settled.

Rights of a Retiring Partner

A retiring partner is entitled to get his share of capital, Interest on capital, revaluation profit, share
of profit etc. up to the date of his retirement. Similarly he is liable for his share in all the losses like
accumulated loss, revaluation loss, Drawings, interest on drawings, share of current year’s loss up
to the date of retirement, drawings, interest on drawings etc. till the date of his retirement. He is
not liable for any loss incurred by the firm after his retirement.

Adjustments/Accounting treatment required at the time of retirement of a partner

1. Calculation of new profit sharing ratio and gaining ratio

2. Treatment of goodwill

3. Treatment of accumulated profit and losses 4.Revaluation

of assets and liabilities

5.Ascertainment of profit and loss upto the date of retirement

6. Calculation of total amount due to the retiring partner

7. Settlement of total amount due to the retiring partner

8.Adjustment of capitals of the continuing partners

Accounting treatment required at the time of retirement of a partner

1. Calculation of New profit sharing ratio and gaining ratio

At the time of retirement of a partner, the business continues with the remaining partners.

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New Ratio
The ratio, in which the continuing partners decide to share the future profits and losses, is known as
new profit sharing ratio.

Gaining Ratio

The ratio in which the continuing partners acquire the outgoing partner’s share is called gaining
ratio.It is called gaining ratio because the continuing partners stand to gain by acquiring the retiring
partner’s share in profits.

Gaining Ratio = New Share – Old Share

Difference between sacrificing and Gaining Ratio

Bases of Sacrificing Ratio Gaining Ratio

Difference

Meaning The ratio in which the The ratio in which the

old partners sacrifice continuing partners
their share of profit in acquire the outgoing
favour of the new partner’s share is called
partner gaining ratio.

When to It is calculated at the It is calculated at the

calculate time of admission of a time of retirement/death
partner and change in of a partner and change
profit sharing ratio in profit sharing ratio

Purpose It is calculated to know It is calculated to know

how much each how much more each
partner needs to partner will gain when a
sacrifice for the new partner retires or die
partner

Objective It is used to share Gaining ratio is used

the goodwill to determine the
brought in cash by compensation
new partner payable to the
between old retiring by the
partners continuing partners

Calculation Old Share– New Share New Share-Old Share

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Effect on Old Partners Capital Remaining partners

Capital Accounts are capital accounts are
credited in the debited in gaining
sacrificing ratio ratio
Calculating Gaining Ratio – Different Cases

Case-1 Relative Ratio between remaining partners unchanged

Case-2 When the profit sharing ratio between continuing partners is changed/the new ratio
between remaining partners is given

Case-3 When the continuing partners acquire (Purchase) the retiring partner’s share of profit in an
agreed ratio.

Case-4 When entire share of the retiring partner is taken by only one continuing partner

Case-1

Relative Ratio between remaining partners unchanged

If the continuing partners maintain their relative ratio, the gaining ratio and the new ratio will be
the same. In this case there is no need to calculate gaining ratio, new ratio and gaining ratio will be
the same

Illustration 1:

X,Y and Z are partners sharing profits in the ratio of 1/2,3/10,1/5 or (5/10:3/10:2/10).Calculate the
new ratio and sacrificing ratio if X retires.

Solution

Old ratio of X,Y and Z = 5:3:2 New ratio of Y and Z = 3:2

Gaining Ratio = New share – Old share

Y’s Gain = 3/5 – 3/10 or 6/10 – 3/10 =3/10

Z’s Gain = 2/5 – 2/10 or 4/10 – 2/10 = 2/10

Gaining ratio of Y and Z = 3:2

In this type problem (Case-1) Gaining Ratio = New Ratio So in this type problem there is no need to
calculate gaining ratio

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Case-2

When the profit sharing ratio between continuing partners is changed/The new ratio between
remaining partners is given if the continuing partners decide to share future profits in some other
ratio, the gaining ratio will also change. In this case it is necessary to calculate gaining ratio.

Gaining Ratio = New Share – Old Share

In this case old share and new share of continuing partners is given

Illustration 2:

A,B and C were sharing profits in the ratio of 3:2:1.C retires from the firm. A and B decided to share
future profits In the ratio of 7:5.Calculate gaining ratio.

Solution

Old ratio of A,B and C = 3:2:1 New ratio of A and B = 7:5

Gaining Ratio = New Share – Old Share

A’s Gain = 7/12 – 3/6 or 7/12 -6/12 =1/12

B’s Gain = 5/12 – 2/6 or 5/12 – 4/12 =1/12

Gaining ratio = 1:1

Treatment Of Goodwill.

Steps to be followed

1.When old goodwill appears in the books then first of all this is written off in the old ratio.
Remember Old Goodwill in Old Ratio.

All Partner’s capital A/c. Dr.

To Goodwill A/c

2.After written off old goodwill, adjustment of retiring partner’s share of goodwill will be made
through the following journal entry

Gaining Partner’s Capital A/c Dr. (in gaining ratio)

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To Retiring / Deceased Partner’s Current A/c (if any)

To Retiring/Deceased Partners’ Capital A/c

OR

1.Alternative entry with raising of goodwill of its value and written off:-

Journal entries passed are : -

Goodwill A/c. Dr. (Current value of goodwill)

To all partners capital A/c

(Being the goodwill raised is current value) (In old profit sharing ratio)

Counting partners capitals A/c Dr. (In new profit sharing ratio)

To goodwill A/c

(Being the goodwill written of)

Revaluation of Assets and Reassessment of Liabilities

Revaluation A/c is prepared in the same way as in the case of admission of a new partner. Profit and
loss on revaluation is transferred among all the partners In old ratio.

Adjustment of Reserves and Surplus (Profits)

(Appearing in the Balance Sheet – Liability Side)

General Reserve A/c Dr.

Reserve Fund A/c Dr.

Profit & Loss A/c (Credit Balance) Dr.

To all partners’ Capital/Current A/c (in old ratio)

Specific Funds – if the specific funds such as workmen’s compensation

Fund or investment fluctuation fund are in excess of actual requirement, he excess will be
transferred to the Capital A/c in old ratio.

Workmen Compensation Fund A/c Dr.

Investment Fluctuation Funds A/c Dr.

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To All Partner’s Cap A/c’s (in old Ratio)

For distributing accumulated losses (P & A/c Dr. Balance)

All partner’s Capital/Current A/c Dr. (in old ratio)

To P & L A/c

Adjustment of Capitals

At the time of retirement /death, the remaining partners may decide to adjust their capitals
in their new profit sharing Ratio. Then following situation may arise

Case 1 . When the total capital of the new firm is not given in the question

• Then the sum of their adjusted capitals of remaining partners’ will be treated as the total capital
of the new firm which will be divided in their New Profit Sharing Ratio.

• Excess or Deficiency of capital in the individual capital A/c is calculated.

• Such excess or shortage is adjusted by withdrawal or contribution in cash or Transferring to

Partner’s current A/cs.

Journal Entries

For excess Capital withdrawn by the partners

Partner’s Capital A/c Dr.

To Cash/Bank A/c / Partner’s Current A/c

For deficiency, cash will be brought in by the partner

Cash/Bank A/c /Partner’s Current A/c. Dr.

To Partner’s Capital A/c

Case 2. When the capital of the new firm as decided by the partners is specified, divide the capital in
new profit sharing ratio and make adjustments accordingly.

Case 3. When the amount payable to retiring partner will be contributed by continuing partners in
such a way that their capitals are adjusted proportionate to their new profit sharing ratio then
calculations will be as under

Total capital of the new firm = balance in capital accounts of remaining partners + amount payable
to retiring/deceased partner

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DEATH OF A PARTNER

Accounting treatment in the case of death is same as in the case of retirement except the following:

The deceased partners claim is transferred to his executer’s account.

Normally the retirement takes place at the end of the Accounting Period but the death may occur at
any time. Hence the claim of deceased partner shall also include his share of profit or loss, interest
on capital and drawings if any from the date of the last balance sheet to the date of his death.

• Calculation of Profits/ Loss for the intervening Period

It is calculated by any one of the two methods given below:

On Time Basis: In this method proportionally profit for the time period is calculated either on the
basis of last year’s profit or on the basis of average profits of last few years and then deceased
partner’s share is calculated based on his share of profits.

On Turnover or Sales Basis: in this method the profits up to the date of death for the current year
are calculated on the basis of current year’s sales up to the date of death by using the formula.

Profits for the current year up to the date of death = Sales of the current year up to the date of
death/total sales of last year x Profit for the last year.

Then from this profit the deceased partner’s share of profit is calculated. If the remaining partners
decides to change their profit sharing ratio in new firm, then the adjustment entry for deceased
partners’ share in current year’s profit will be passed.

Payment for retiring deceased partner :-

When payment is made in full

Retiring deceased partners capitals A/c to bank Dr.

When Payment is made in instalments. When payment is made in instalments interest is paid on
instalments at agreed price or @ 6% per annum. Journal entries are

When interest is allowed

Interest A/c Dr.

To Deceased Partner’s Executor or retiring partner loan A/c

When instalment is paid

Retiring partners loan A/c or Deseasepartners executor A/c Dr

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To Bank A/c (interest & instalment amount)

Illustration 3: A, B and C are partners sharing profit and loss in the ratio of 3:2:1 then on retirement
of a partner; the gaining ratio/new ratio will be

On A’s Retirement ratio between B and C will be 2: 1

On B’s Retirement ratio between A and C will be 3: 1

On C’s Retirement ratio between A and B will be 3: 2

Illustration 4: A, B & C share profit and losses in the ratio 3:2:1. On C’s death his share is taken by A
and B in the ratio of 2:1 Calculate new ratio.

Solution:

In this case gaining ratio = 2:1 (given)

A’s old share = 3/6, B’s old share = 2/6 & C’s share = 1/6

A’s gain = 2/3 of C’s share 2/3* 1/6 = 2/18

B’s gain = 1/3 of C’s share = 1/3* 1/6 = 1/18

A’s new share = A’s old + A’s gain = 3/6 + 2/18 = 11/18

B’s new share = B’s old share + B’s gain = 2/6 + 1/18 = 7/18

New ratio = 11:7

Illustration 5: A, B and C are partners in the ratio of 3:2:1. C retires and A & B decide to share future
profit in the ratio of 5:3. Calculate Gaining ratio of A and B.

Solution:

A’s Gain = 5/8- 3/6=3/24

B’s Gain = 3/8-2/6 = 1/24

Gaining ratio = 3:1

Illustration 6: A, B and C were partners sharing profits in the ratio of 6:4:5. On 1st April, 2016, B
retired from the firm and the new profit sharing ratio between A and C was decided as 11:4. On B’s
retirement, the goodwill of the firm valued at Rs. 1,80,000. Pass journal entry for treatment of
goodwill on B’s retirement.

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Solution:

JOURNAL

Date Particulars L.F. Dr. (Rs) Cr. (Rs

2016 April,1 A’s Capital A/c Dr. 60000

To B’s Capital A/c 48,000.

To C’s Capital A/c 12,000

(Being adjustment of goodwill made on B’s retirement)

Working Notes:

Gaining Ratio = A’s gain = 11/15- 6/11=5/15

C’s gain = 4/15 - 5/15=1/15(sacrificed)

B’s share is goodwill = 1,80,000 ×4/15= Rs. 48,000

A will compensate C to the extent of sacrifice made by C i.e. 1,80,000 × 1/15 = Rs. 12,000

Illustration 7: (Death of a partner) M, N and O were partners in a firm sharing profits and losses
equally.

Their Balance Sheet on 31-12.2014 was as follows:

Liabilities (Rs) Assets (Rs)

Capitals: Plant and machinery 60,000
M 70,000 Stock 30,000
N 70,000 Sundry Debtors 95,000
O 70,000 2,10,000 Cash at Bank 40,000
General Reserve 30,000 Cash in Hand 35,000
Creditors 20,000

2,60,000 2,60,000
N died on 14th March, 2015. According to the Partnership Deed, executers of the deceased partner
are entitling to:

(i) Balance of partner’s capital A/c

(ii) Interest on capital @ 5% p.at

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(iii) Share of goodwill calculated on the basis of twice the average of past three years’ profits.

(iv) Share of profits from the closure of the last accounting year till the date of death on the basis of
twice the average of three completed year’s profits before death. Profits for 2012, 2013 and 2014
were Rs. 80,000, Rs. 90,000, Rs. 1,00,000 respectively. Show the working for deceased partner’s
share of goodwill and profits till the date of his death. Pass the necessary journal entries and
prepare N’s Capital A/c to be rendered to his executers.

Solution

Journal

Date Particulars L.F. Debit Credit

2015 General Reserve A/c Dr. 10,000
March, To N's Capital A/c 10,000
14th (Being transfer of N’s share
of general reserve of his
Capital A/c)

Interest on Capital A/c Dr. 700

To N’s Capital A/c 700
(Being interest 5% p.a.
credited to N’s Capital
A/c upto 14.03.2010)

M’s Capital A/c Dr. 30,000

O’s Capital A/c Dr. 30,000
To N’s Capital A/c 60,000
(Being goodwill adjusted
in gaining ratio i.e. 1:1)

Profit & Loss Suspense A/c Dr. 12,000

To N’s Capital A/c 12,000
(Being the transfer of N’s
share profit to his capital A/c)

N’s Capital A/c Dr. 1,52,700

To N’s Executor A/c 1,52,700
(Being the transfer of amount
due to N’s executor A/c)

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N’s Capital A/c

Dr. Cr.
Particulars Rs Particulars Rs
To N’s Executors A/c 1,52,700 By Balance b/d 70,000
By General Reserve A/c 10,000
By Interest on Capital A/c 700
(70,000*5/100*73/365)
By M’s Capital A/c 30,000
By O’s Capital A/c 30,000
By Profit & Loss
Suspense A/c 12,000
(90,000*2*73/365*1/3)

1,52,700 1,52,700

Working Note:

1. Calculation of Goodwill

Average profit for 3 years

( 80,000 + 90,000 + 1,00,000)/3 = 90,000

Goodwill of the firm=Average Profit × No. of years of Purchase

= 90,000 × 2 = 1,80,000

N’s Share in Goodwill = 1,80,000 × 1/3 = 60,000

2. Time from the date of last balance Sheet (31st December, 2014) to the date of death (14th
March, 2015) = 31 days of January + 28 days of Feb (2015 is not a leap year) + 14 days of March = 73
days

Joint Life Policy

When a partner dies, a large sum of money will have to be paid to his legal representatives.
Sometimes, the firm may not be able to pay it immediately as it disturb the working capital position
of the firm. So, in order to guard against this eventuality, generally the partners take out a joint life
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policy on the life of all the partners or individual policies on the lives of all the partners. Annually, a
sum of money, known as premium, is paid to the Life Insurance companies. The company will pay
the amount of the policy on the death of any one of the partners. The payment of premium also
ceases. One can see that in that case, the amount received against the policy on the death of a
partner can be used to pay off the amount due to the Executor of the deceased partner. It should
be noted that the amount realised on maturity is a partnership asset and profit or loss out of this
policy is to be shared among the partners in the profit sharing ratio, including the deceased partner.
In case of individual policies, the deceased partner has a right to share not only the amount
received from Life Insurance company, but also the surrender values of others partners’ policies at
the time of his death. Surrender value is the value which is payable immediately to the insured on
surrendering all rights of the policy to the company. Accounting treatment of the policy premium
and amount received on death is more or less the same in both the cases.

Accounting treatment

There are three methods of dealing with the joint life policy:

1.When premium paid is treated as an expense [without maintaining a joint life policy account]

Under this method, the premium paid is treated as an ordinary business expense and debited to
profit and loss account. In the event of death of one of the partners, the policy money is received
and is credited to the capital accounts of partners (including deceased partner) in the profit sharing
ratio.

Journal Entries

When the policy premium is paid:

Joint life policy premium A/c Dr.

To Bank A/c

(ii) At the end of the year

When premium is transferred to Profit & Loss Account.

Profit & Loss A/c Dr.

To Joint Life Policy premium A/c

These two entries are repeated year after year.

(iii) When the policy amount is received on the death of a partner:

Bank A/c Dr.

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To Joint life policy A/c

(iv) When the amount received is distributed among the partners in their profit sharing ratio.

Joint life policy A/c Dr.

To Partners’ capital A/c

2.The premium paid is treated as an asset. [maintaining a joint policy account at its surrender
value.]

Under this method, joint life policy is treated as an asset. This is because after payment of
premium for two years, a policy has a surrender value. The insurance company will be willing to pay
a certain sum of money depending on the number of premiums paid, if the policy is surrendered to
the insurance company. The premiums paid are debited to a joint life policy account. But the book
value of the Joint life policy is adjusted at the end of each year to its surrender value by transferring
the difference (between its book value and its surrender value) to profit & loss Account. The Joint
life policy Account will be shown in the Balance sheet as an asset at its surrender (or current
realisable) value. When a partner dies, the amount receivable from the insurer is debited to bank
account and credited to Joint life policy account which is then transferred to the capital accounts of
the partners in their profit sharing ratio.

Journal Entries

(i) On payment of premium

Joint life policy A/c. Dr.

(ii) To Bank A/c

At the end of the year

Profit & loss A/c. Dr.

To Joint life policy A/c

(difference between the book value and surrender value)

(iii) On the death of a partner

Bank A/c. Dr.

To Joint life policy A/c

(with the amount received from Insurer)

(iv) On transfer of balance in joint life policy A/c to partners

Joint life policy A/c. Dr.

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To Partners’ capital A/c

(with the amount of joint life policy

3.When premium paid is treated as an asset and reserve is maintained

Under this method, the premium paid is debited to life policy account and credited to bank
account. At the end of each financial year, profit & loss appropriation account is debited and joint
life policy reserve account is credited with the amount of premium. In order to bring down the
policy to its surrender value, joint life policy reserve account is debited and the joint life policy
account is credited with the amount in excess of the surrender value. When death of a partner
occurs, the amount received is credited to the joint life policy account. The amount standing to the
credit of the Joint life policy reserve account is also transferred to it and then, it is closed by transfer
to the capital accounts of all partners (including the deceased partner) in the profit sharing ratio.

Journal Entries

On the payment of premium

Joint life policy A/c Dr.

To Bank A/c

At the end of the year

Profit & loss Appropriation A/c. Dr.

To Joint life policy Reserve A/c

[with amount of premium]

Joint life policy Reserve A/c. Dr.

To Joint life policy A/c

[difference between book value and surrender value of policy]

On the death of a partner:

Bank A/c. Dr.

To joint life policy A/c

[with the amount of policy]

Joint life policy Reserve A/c. Dr.

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To Joint life policy A/c

[with the amount standing to the credit of joint life policy Reserve A/c]

For distribution of policy amount :

Joint life policy A/c. Dr.

To partners’ capital A/c

[with the balance of life policy A/c]

Illustration 8:

A, B and C are partners sharing profits and losses in the ratio of 2:2:1. On 1st January 2008, they
took out a joint life policy of Rs. 2,00,000. Annual premium of Rs. 10,000 was payable on 1st January
each year. Last premium was paid on 1st January 2011. B died on 1st March 2011, and policy money
was received on 31st March 2011. The surrender value of policy as on 31st December each year
were as follows:

2008-Nil; 2009-Rs. 2,000; 2010-Rs. 5,000 Show necessary accounts as on 31st December each year
assuming that :

(i) The premium is charged to profit & 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.

(iii) The premium is debited to Joint life policy account and a sum equal premium is debited to profit
& loss appropriation account and credited to Joint life policy reserve.

Solution

Case(I)

In this case, premium paid is charged to Profit & Loss Account every year. So nothing will appear in
the Joint life policy Account of 2008, 2009 and 2010. However in 2011, the Joint life policy Account
will appear as follows:

Joint Life Policy A/c

Dr. Cr.
Date Particulars Rs. Date Particulars Rs.
31.3.201 To Partners’ Capital A/c 31.3.201 By Bank
1 2,00,000 1

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(Policy money
received) 2,00,000
(A-Rs. 80,000, B-Rs,80,000; C-
Rs. 40,000)

2,00,000 2,00,000

Case (ii)

Joint Life Policy A/c

Date Particulars Rs Date Particulars Rs

1.1.2008 To Bank A/c- 10,000 31.12.2008 By Profit & 10,000
Premium Loss A/c
10,000 10,000

1.1.2009 To Bank A/c- 10000 31.12.2009 By Profit &

Premium Loss A/c 8000
By Balance c/d 2000

10,000 10,000

1.1.2010 To Balance b/d 2000 31.12.2010 By Profit &

1.1.2010 To Bank A/c 10000 31.12.2010 Loss A/c 7000
Premium By Balance c/d 5000

12000 12000

1.1.2011 To Balance b/d 5000 31.3.2011 By BankA/c 200000

1.1.2011 To Bank A/c- 10000 (policy
Premium money received)
31.3.2011 To Partner's 185000
Capital A/cs
(A-74,000;
B-74,000;
C-37,000)
200000 200000

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Case (iii)

Joint Life Policy A/c

Date Particulars Rs Date Particulars Rs

1.1.2008 To Bank A/c- 10,000 31.12.2008 By Joint life 10,000
Premium policy reserve a/c
10,000 10,000

1.1.2009 To Bank A/c- 10000 31.12.2009 By Joint life

Premium policy reserve a/c 8000
By Balance c/d 2000

10,000 10,000

1.1.2010 To Balance b/d 2000 31.12.2010 By Joint life

1.1.2010 To Bank A/c 10000 31.12.2010 policy reserve a/c 7000
Premium By Balance c/d 5000

12000 12000

1.1.2011 To Balance b/d 5000 31.3.2011 By BankA/c 200000

1.1.2011 To Bank A/c- 10000 (policy
Premium money received)
31.3.2011 To Partner's 190000 By Joint life
Capital A/cs policy reserve a/c 5000
(A-76,000; (transfer)
B-76,000;
C-38,000)
205000 205000

Joint Life Policy Reserve A/c

Date Particulars Rs Date Particulars Rs

31.12.2008 To Joint life 10,000 31.12.2008 By P&L Appn. A/c 10,000
policy A/c

10,000 10,000

31.12.2009 To Joint life 8,000 31.12.2009 By P&L Appn. A/c 10,000

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policy A/c
31.12.2009 To Balance c/d 2,000

10,000 10,000

31.12.2010 To Joint life 7,000 1.1.2010 By Balance b/d 2,000

policy A/c 31.12.2010 By P&L Appn. A/c 10,000
31.12.2010 To Balance c/d 5,000

12,000 12,000

31.12.2011 To Joint life 1.1.2011 By Balance b/d 5,000

policy A/c 5,000
(transfer)

5,000 5,000

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UNIT IV
DISSOLUTION DUE TO INSOLVENCY OF A PARTNER
Dissolution of a firm means closing down the partnership business. That is, the partnership firm
ceases to exist. At the time of retirement, death or insolvency of a partner, the partnership
relationship comes to an end. But, if the remaining partners decide to continue the business, the
firm becomes a reconstituted one. Suppose the remaining partners decide
the partnership firm comes to an end and it is dissolved. not to continue the business, not only the
partnership relationship but also the partnership firm comes to an end and it is dissolved.

Circumstances of dissolution of firm:

1. Expiry of the term of business all of Commerce
2. Mutual agreement for dissolution
3. Finishing of joint venture business
4. Insolvency of all partners or except one
5. Business becomes illegal
6. Death a partner
7. Court orders for dissolution

SETTLEMENT OF ACCOUNTS:

In settling the accounts of the firm after dissolution, the following steps are necessary:

1. 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 proportion of their share of profit.

2. Regarding Assets:

The assets of the firm (including any sum contributed by the

partners to make up deficiencies of capital) shall be used in the following manner and order
(i). in paying debts of the firm to third parties
(11). in paying to each partner ratably what is due to him for advances as distinguished from capital
(iii). in paying to each partner ratably what is due to him on account of capital
(iv). the residue, if any, shall be divided among the partners in
the proportion of their profit sharing ratio

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3. Firm debts and Private Debts:

When both the firm debts and private debts are existing for a
partner it is dealt with as follows:
(a).Debts of the firm paid first out of firms property. Surplus if any, utilized for paying off partner's
private debts.
(b). Private debts of the partner paid first out of private estate of the partner. Surplus if any, utilized
to pay firm's debts if its liability exceeds assets.

ACCOUNTING PROCEDURE ON DISSOLUTION:

On dissolution of the firm three accounts (i) Realisation Account (ii) Partner's Capital Accounts and
(iii) Cash / Bank Account are
usually opened.
Realisation Account:
This account is opened to arrive the result (profit or loss) of the firm while dissolving it. All the
assets and liabilities are transferred to this account. The stages involved here and accounting
entries are as follows
1. Transfer of Assets –
Realisation a/c Or
To Individual Asset a/c

2. Transfer of Liabilities-
Individual liabilities a/c Or
To Realisation a/c

3. Realisation of Assets -

(a) By sale:
Cash a/c Or
To Realisation a/c

(b) Taken over by Partners:

Partner's Capital a/ c Or
To Realisation alc

(c) Taken over by creditors for claim:

Liability a/c Or
To Realisation alc

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4. Paying off of Liabilities.

(a) Paid off by firm:
Realisation a/c Dr
To Cash a/c

(b) Taken over by Partner:

Realisation a/c Dr
To Partner's Capital a/c

5. Expenses on Realisation:
Realisation a/c Dr
To Cash a/c

Now, prepare the realisation account, and the profit or loss on realisation is transferred to partners
capital accounts in their profit sharing ratio and the realisation account is closed.

Paying off Partners Loan

After this, pay off advances (loans) from partners with cash available
The Journal being-

Partners Loan a/c Dr

To Cash a/e

Transfer of Reserves, P&Laleetc

Any reserves, profit and loss account (Cr) profit and loss account (Dr) is now transferred to
partners capital accounts in Profit sharing ratio.

Partners Capital Accounts & Cash Account

Now the capital accounts of partners are closed by paying them if there is balance (credit) in the
capital account. The Journal being

Partners Capital Account Dr

To Cash a/c
If there is debit balance in the partners capital accounts, the partners are asked to bring cash equal
to their debit balance. The Journal
being
Cash a/c Or
To Partners Capital a/c

Now, the capital accounts and cash account are automatically closed.

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Points to be noted;
▸ Assets like cash and bank are not transferred to realisation account
▸Provisions against any assets like provision for doubtful debts, provision for depreciation etc are
separately transferred to realisation account - debit, provisions a/c and credit, realisation a/c. This
means assets connected with this are transferred at their gross figures:
▸ Accumulated Reserves, Profit and Loss, etc are not transferred to realisation account but straight
to partners capital accounts. Partners loan is also not transferred to realisation account but settled
separately.

▸When any asset is used for part settlement of any liability the balance amount of liability only be
transferred to realisation account.

Illustration: 1

The following was the Balance sheet of Anbu, Arivu and Araşu as on 31.12.1998

Liabilities Amount Assets Amount

Creditors 12000 Machinery 25000
General Reserve 3000 Stock 11000
Capitals: Debtors 9500
Anbu 20000 Cash 1500
Arivu 15000 Goodwill 13000
Arasu 10000

60000 60000

On the above date the firm was dissolved. The assets realised 50000; the creditors were settled at
11,500. Dissolution expenses amounted to 1000. The partners had 3:2:1 as their profit sharing ratio.
Give necessary ledger accounts to close the books of the firm
(M.S. University Ap 2006)

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Date Particulars Debit Credit

1. Realisation a/c 58500
To Machinery a/c 25000
" Stock a/c 11000
" Goodwill a/c 9500
“ Debtors a/c 13000

(Being transfer of assets)

2. 12000
Creditors a/c 12000
To Realisation a/c
(Being transfer of liabilities)

3. Cash a/c 50000

To Realisation a/c 50000
(Being assets realised)

4. Realisation a/c Dr 11500

To Cash a/c 11500
(Being creditors paid off)

5. Realisation a/c Dr 1000

To Cash a/c 1000
(Being realisation expenses)

6. Anbu Capital a/c Dr 4500

Arivu Capital a/c Dr 3000
Arsu Capital a/c Dr 1500
To Realisation a/c 9000

7. General reserve a/c Dr 3000

To Anbu Capital a/c 1500
Arivu Capital a/c 1000
Arsu Capital a/c 500
(Being General Reserve transferred to capital
accounts)

8. Anbu Capital a/c Dr

Arivu Capital a/c Dr 17000
Arsu Capital a/c Dr 13000
To Cash a/c 9000
(Being final payment to partners) 39000

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Ledger Accounts:

Realisation Account

Particulars Amount Particulars Amount

To Machinery a/c 25000 By Creditors a/c 12000
“ Stock a/c 11000 “ Cash assets- realised 50000
“ Debtors a/c 9500 “ Loss on realisation
“ Goodwill a/c 13000 “ Anbu Capital 4500
“ Cash-Creditors 11500 “ Arivu Capital 3000
“ Cash- Expenses 1000 “ Arasu Capital 1500 9000

71000 71000

Capital Account

Particulars Anbu Arivu Arasu Particulars Anbu Arivu Arasu

To 4500 3000 1500 By Bal b/d 20000 15000 10000
Realisation
“ Cash 17000 13000 9000 “ General 1500 1000 500
(Bal .fig) reserve

21500 16000 10500 21500 16000 10500

Cash Account

Particulars Amount Particulars Amount

To Balance (op) 1500 By Anbu capital a/c 17000
“ Realisation 50000 “ Arivu capital a/c 13000
(asset realised) “ Arasu capital a/c 9000
“ Realisation-Creditors 11500
“ realisation- exp 1000

51500 51500

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2. Raja ,Rajini and Robert were partners sharing profits in the ratio 3:2:1

Their Balance Sheet as on 31.12.02 was as follows:

Liabilities Amount Assets Amount

Creditors 15400 Cash at bank 3500
Bills payable 3600 Stock 19800
Loan by raja 10000 Debtors 15000
Capitals: (-) Reserve 1000 14000
Raja 20000 Land 4000
Rajini 16000 Machinery 43700
Robert 8000 44000
Reserve fund 12000

85000 85000

The firm was dissolved on 1.1.2003

Raja took over land of Rs. 5000, Stock and Debtors were sold for Rs. 18000 and Rs. 14500
Respectively and Machinery for Rs. 36000. All liabilities are settled Rs 700 a bill discounted was
dishonoured and therefor amount has to be paid to bank towards the same. Dishonoured expenses
were Rs.300. Prepare necessary ledger a/c and close the firms account.

Date Particulars Debit Credit

1. Realisation a/c Dr 82500
To Stock a/c 19800
“ Debtors a/c 15000
“ Land a/c 4000
“ Machinery a/c 43700
( Being transfer of assets)

2. Creditors a/c Dr 15400

Bills payable a/c Dr 3600
Provision for reserve a/c Dr 1000
To Realisation a/c 20000
(Being transfer of liabilities)

3. Cash a/c Dr 68500

To Realisation a/c 68500
(Being assets realised)

4. Raja capital a/c Dr 5000

To Realistion a/c 5000
(Being raja took over land)

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5. Realisation a/c Dr 20000

To cash a/c 20000
(Being liabilities paid off)

6. Realisation a/c Dr 700

To Cash a/c 700
(Being un recorded liability dishonour of bill paid off)

Realisation a/c Dr 300

7. To cash a/c 300
(Being realisation expenses)

Raja capital a/c Dr 5000

8. Rajini capital Dr 3333
Robert Capital Dr 1667
To Realisation a/c 10000

Raja loan a/c Dr 10000

9. To Cash a/c 10000
(Being raja loan settled)

12000
Reserve fund a/c Dr 6000
10. To Raja capital a/c 4000
To Rajini capital a/c 2000
To Robert capital a/c
(Being general reserve transferred)

16000
16667
Raja Capital a/c Dr 8333
11. Rajini capital a/c Dr 41000
Robert capital a/c Dr
To Cash a/c

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Realisation Account

Particulars Amount Particulars Amount

To Stock a/c 19800 By Creditors 15400
To Debtors a/c 15000 “ Bills payable 3600
To Land a/c 4000 “Reserve for bad debts 1000
To Machinery a/c 43700 “ Cash- asset realised 68500
To Cash- liabilities paid off 20000 “ Raja capital- (take -over) 5000
To Cash- Unrecorded liability 700 “ Loss on realisation:
To cash- expenses 300 Raja capital 5000
Rajini capital 3333
Robert capital 1667 10000

103500 103500

Capital Account

Particulars Raja Rajini Robert Particulars Raja Rajini Robert

To Realisation 5000 3333 1667 By bal. b/d 20000 16000 8000
(Loss)
To Realisation 5000 - - “ Resv Fund 6000 4000 2000
(take over)
To Cash (Bal. fig) 16000 1667 8333

26000 20000 10000 26000 20000 10000

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Particulars Amount Particulars Amount

To. Op. Balance 3500 By Realisation – Pay off of 20000
“ Realisation - Assets 68500 liabilities
By Realisation 700
By Realisation – Exp 300
By Raja Loan 10000
By Raja capital 16000
By Rajini capital 16667
By Robert capital 8337

72000 72000

DISSOLUTION DUE TO INSOLVENCY OF A PARTNER

When a person is not able to meet his liabilities with his assets, he is said to be 'insolvent'. That is,
his liabilities are more than his assets. When a partner in a firm becomes insolvent, the partnership
firm is consequently dissolved. In this circumstances if the insolvent partner owes any money to the
firm, as he is not able to pay, it becomes a loss
the firm caused by the insolvent partner. to the firm. In such an event the solvent partners have to
bear this loss of But in what ratio, the solvent partners should bear the loss is a question? Because,
if the loss is treated as an ordinary loss, it is usually divided between the solvent partners in their
profit sharing ratio. If the loss is treated as capital loss of the insolvent partner it is shared by the
solvent partners in their capital ratio. Before Garner Vs Murray case this loss was treated as an
ordinary loss and the solvent partners shared it in their profit sharing ratio.

DECISION IN GARNER Vs MURRAY

In Garner Vs Murray, a famous case on distinguishing the ordinary loss and capital loss, the judge
held that there must be distinction between the ordinary loss due to realisation of assets and
capital loss arising out of capital deficiency of an insolvent partner. It was decided in this case that -
a) the solvent partners should bring in cash toward their share of realisation loss.
b) the loss due to insolvency of a partner should be shared by the solvent partners in the capital
ratio.

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Capital Ratio:

With regard to capital ratio, the following must be noted.

i) If the partners maintain fixed capital accounts and adjustments in current accounts, the fixed
capital ratio is taken as capital ratio for the purpose of making up the loss.
ii) If the partners maintain fluctuating capital accounts, the loss is divided among the partners in the
ratio of capital balances after transferring the adjustments such as share of profit, interest on
capital, general reserve, drawings, interest on drawings, salaryetc, but before adjusting the profit or
loss on realisation.

Problem: 1
A, B and C were equal partners on 31.12.2003. Their position was as follows:

Liabilities Amount Assets Amount

Capital Cash 1500
A 2000 C’s Capital 200
B 600 Loss on realisation 900

2600 2600
‘C’ is insolvent and can pay nothing. Close the books of the firm.

Solution:

Capital Account

Particulars A B C Particulars A B C
To Balance b/d - - 200 By Balance b/d 2000 600 -
Loss on Realisation 300 300 300 By cash (Rea Loss) 300 300 -
(1:1:1) By A a/c - - 385
C a/c (10:3) 385 115 - By B a/c - - 115
Cash sales (bal fig) 1615 485 -

2300 900 500

2300 900 500

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Cash Account

Particulars Amount Particulars Amount

To Balance b/d 1500 By A capital 1615
To A capital 300 B capital 485
To B capital 300

2100 2100

Insolvency – when capitals are fluctuating

1.The position of ABC on June 30,2002 was as follows

Liabilities Rs Assets Rs
Creditors 63,000 Cash 25,000
A’s loan 40,000 Assets 1,70,000
A’s capital 64,000 C’s capital 78,000
B’s capital 36,000
P&l a/c 70,000
2,73,000 2,73,000
p/l are shared A 18/35 B 7/35 C 10/35. The firm is dissolved on the above date. Sundry assets
realize Rs 140000 sundry creditors are paid 60,000 in full settlement. Expenses amount to 8000.c is
insolvent .assume the capitals are fixed. Close the books of the firm.

Realization a/c

Particulars Rs Particulars Rs
To sundry expenses 1,70,000 By sundry creditors 63000
To cash sundry creditors 60,000 By cash assets 140000
To cash expenses 8,000 By loss
A 18000
B 7000
C 10000 35000
2,38,000 238000
Cash a/c

Particulars Rs Particulars Rs
To balance b/d 25,000 By realization creditors 60,000
To realization assets 1,40,000 By A loan 40,000
To A capital (loss) 18,000 By realization ex 8,000
To B capital (loss) 7,000 By A CAPITAL (settlement 54,670
By B capital 27,330
1,90,000 1,90,000
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Capital a/c

particulars A B C particulars A B C
To bal b/d 78,000 By bal c/d 64000 36000 -
To realization loss 18000 7000 10000 By p/l 36000 14000 20000
To C capital deficiency 45330 22670 By cash loss 18000 7000 -
To cash 54670 27330 By A
BY B - - 45330
- - 22670
118000 57000 88000 118000 57000 88000
IN THE RATIO 1,00,000+50,000 CAPITA L + PROFIT

2.shamu , vasu and charu are in partnership sharing profits and losses 3/6, 2/6 and 1/6
respectively. The state of affairs on the date of dissolution was as follows

Balancesheet

Liabilities Rs Assets Rs

Sundry Creditors 38500 Cash In Hand 9860

Shanu's Loan 2750 Sundry Debtors 30560

Capital Stock 18440

Shanu' 15200 Furniture 7200

Vasu 11200 26400 Charu's Capital 1590

67650 67650

The assets realished

Stock 13840 furniture 5150 debtors 29200

The creditors were paid less discount amounting to 250. Shamu and vasu are solvent and charu is
insolvent and he unable to bring in anything. The expenses of winding up were 520.

Prepare realization a/c, cash a/c, capital a/c of the firm

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Solution - Realization a/c

To Sundry Debtors 30560 By Sundry Creditors 38500

To Stsock 18440 By Bank Realisation 48190

To Furniture 7200 By Loss

To Bank Creditors 38250 Shanu 4140

To Bank Expenses 520 Vasu 2760

Charu 1380 8280

94970 94970

Capital a/c

Particulars Shanu Vasu Charu Particulars Shanu Vasu Charu

To Balance By Balance
B/D - - 1590 B/D 15200 11200 -

To
Realisation 4140 2760 1380 By Bank 4140 2760 -

To Charu
Capital 1710 1260 - NyShanu Capital - 1710

To Bank 13490 9940 - By Vasu Capital - 1260

19340 13960 2970 19340 13960 2970

Bank a/c

To Balance B/D 9860 By Realisation 38250

To Realisation 48190 By Realisation 520

To Shanu Capital 4140 By Sahnu Loan 2750

3to Vasu Capital 2760 By Vasu Capital 13490

By Charu Capital 9940

64950 64950

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Charu deficiency 2970

Shanu and vasu ratio 15200:11200

Shanu 2970x152/264 = 1710 vasu 2970x112/264 = 1260

Insolvency of more than one partner

3.Mani pandi and raj are partners sharing profits and losses as 5:3:2. The business is dissolved on
31.12.2006 when the balancesheet

Liabilites Rs Assets Rs

Capital Machinery 50000

Mani 10000 Motor Bike 10000

Pandi 40000 Stock 60000

Raj 20000 70000 Debtors 45000

Creditors 100000 Cash At Bank 5000

170000 170000

Machinery and stock are sold for 25000 and 18000. Motor bike is taken by pandi 12000.
Debtorsralise 20000.

According to partnership deed, the deficiency of partner in capital is to be met by other partners in
p/l sharing ratio

Mani is insolvent and Raj can bring in Rs. 5000 only

Prepare the accounts in the books of firm

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Solution.

Realization a/c

To Machinery 50000 By Bank Assets 63000

To Motor Bike 10000 25000+18000+20000

To Stock 60000 By Pandi Capital Bike 12000

To Debtors 45000 By Loss

Mani 45000

Pandi 27000

Raj 18000 90000

165000 165000

Bank a/c

To Balance C/D 5000 By Creditors 100000

To Realisation Assets 63000

To Pandi Capital 5000

To Raj Capital 27000

100000 100000

Creditors a/c

To bank 100000 By balance b/d 100000

100000 100000

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Capital a/c

Particulars Mani Pandi Raj Particulars Mani Pandi Raj

To Ralisation Bike 12000 By Balance B/D 10000 40000 20000

To Ralisation By Capital Of Pandi,

Loss 45000 27000 18000 Rajdefiniceny 35000 -

To Capital Of Mani
Deficency 3:2 21000 14000 By Bank 5000

To Capital Of Raj
Deficiency 7000 By Capial Of Pandi Deficiency 7000

By Bank 27000

45000 67000 32000 45000 67000 32000

Mani is an insolvent and nothing can be contributed. Thus p,s deficiency of 35000 has been debited
to pandi Raj in the ratio 3:2. Again Raj could give only 5000 and this results in deficiency of 7000
This amount has been again been debited to pandi account.

Insolvency of all the partners

The balance sheet of MGR on 31.12.2000

Liabilities Rs Assets Rs
Creditors 80000 Bank 2000
M’s Loan 20000 Stock 48000
M Capital 10000 Debtors 40000
G Capital 6000 Furniture 6000
R’s Capital 20000
116000 116000
The firm is dissolved . G and R cannot pay anything . M can contribute only 3000 from his private
estate. Stock realizes 30000 debtors 32000 and furniture is sold for 2000. Expenses amounted to
6000

Prepare accounts to close the books of the firm.

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Realisation

To Stock 48000 By Bank Stock 30000

To Debtors 40000 Debtors 32000

To Furniture 6000 Furniture 2000 64000

To Bank Expenses 6000 By Loss

M 12000

G 12000

R 12000 36000

100000 100000

Capital a/c

Particulars M G R Particulars M G R

By Balance
To Balance C/D 20000 B/D 10000 6000

To
Realisation
A/C 12000 12000 12000 By M's Loan 20000

To Deficiency 21000 By Bank 3000

By Deficiency (B.F) 6000 32000

33000 12000 32000 33000 12000 32000

Bank a/c

To Balance B/D 2000 By Realisation- Ex 6000

To Realisation Assets 64000 By Crditors B.F 63000

To M Capital 3000

69000 69000

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Creditors a/c

Particulars Rs Particulars Rs
To Bank 63000 By Balance B/D 80000
To Deficiency B.F 17000
80000 80000

Deficiency A/C

Particulars Rs Particulars Rs
To G capital 6000 By creditors 17000
To r capital 32000 By M capital 21000
38000 38000

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UNIT V
AMALGAMATION
Meaning of Amalgamation:

Amalgamation is a form of combination. Amalgamation is a blending of two or more existing

undertaking into one undertaking, the shareholders of each blending company becoming
substantially the shareholders in the company which is to carry on the blended undertakings. There
may be amalgamation either by transfer of two or more undertakings to a new company or by
transfer of one or more undertakings to an existing company.

This is a very comprehensive and clear description of amalgamation. As such, amalgamation implies
absorption also. Amalgamation may also be brought about by the transfer of one or more
undertakings to an existing undertaking so as to result in merger or fusion of the undertakings. This
form of combination is generally known as absorption.

However, the term amalgamation should be used only when two conditions are fulfilled:

1. At least two companies go into liquidation, and

2. A new company is formed to take over the businesses of companies going into liquidation.

For instance, there are two companies – A Company and B Company. One new company – AB
Company – is formed to take over the businesses of A Company and B Company. This is
amalgamation. Here, A Company and B Company are liquidated and a new Company, that is, AB
Company is formed.

Similarly, the term absorption has two basic features:

1. There is no formation of a new company to take over the business of existing company or
companies.

2. Only the absorbed company or companies lose their entities by going into liquidation, absorbing
company continues to exist.

When an existing company purchases the business of another company carrying on similar
business, it is called absorption i.e. one company absorbs another company. Absorption takes place
when an existing company purchases the business of one or more companies. In this case, no new
company is formed. The company, that is absorbed, goes into liquidation.

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Definition of Amalgamation:

The following terms are used with specified meanings in the Accounting Standard 14 (AS – 14):

(a) Amalgamation means an amalgamation pursuant to the provisions of the Companies Act 1956 or
any other statute which may be applicable to companies.

(b) Transferor company means the company which is amalgamated into another company.

(c) Transferee company means the company into which a transferor company is amalgamated.

(d) Reserve means the portion of earnings, receipts or other surplus of an enterprise (whether
capital or revenue) appropriated by the management for a general or a specific purpose other than
a provision for depreciation or diminution in the value of assets or for a known liability.

(e) Consideration for the amalgamation means the aggregate of the shares and other securities
issued and the payment made in the form of cash or other assets by the transferee company to the
share-holders of the transferor company.

(f) Fair value is the amount for which an asset could be exchanged by the mutual consent of both
the companies.

Amalgamation and Absorption:

As said above, absorption is brought about by the merger of one or more companies with an
existing company and result is one liquidation and no formation. However, from the accounting
point of view, the distinction between amalgamation and absorption is of no practical significance.

Account standard – 14 for amalgamation issued by the institute of Chartered Accountants of India
does not recognise distinction between amalgamation and absorption. Even from the academic
point of view, it is not necessary to distinguish between amalgamation and absorption.

Objectives of Amalgamation:

The main objectives of amalgamation are:

1. Establishment and management charges are reduced.

2. Competitions among the amalgamating companies are eliminated.

3. Purchase of materials, in bulk, can be made at reduced price.

4. Production can be carried on in large scale.

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5. Capital amount is increased by combination of companies.

6. Manufactured products can be easily marketed.

7. All the advantages of combination are available.

8. Avoiding duplication of expenditure and reduction in cost.

9. Research and development facilities are increased.

10. Price maintenance can be regulated.

Prior to 1st April 1995, the accounting procedures for amalgamation were under three different
treatment, that is, Amalgamation, Absorption and Reconstruction of companies. The Institute of
Chartered Accountants of India introduced a new Accounting Standard known as “Accounting
Standard – 14” (AS-14) from 1.4.1995 which over-ruled the old system of accounting. This change is
of mandatory nature.

Types of Amalgamation

Amalgamation in the nature of merger:

In this type of amalgamation, not only is the pooling of assets and liabilities is done but also of the
shareholders’ interests and the businesses of these companies. In other words, all assets and
liabilities of the transferor company become that of the transfer company. In this case, the business
of the transfer or company is intended to be carried on after the amalgamation. There are no
adjustments intended to be made to the book values. The other conditions that need to be fulfilled
include that the shareholders of the vendor company holding atleast 90% face value of equity
shares become the shareholders’ of the vendee company.

Amalgamation in the nature of purchase:

This method is considered when the conditions for the amalgamation in the nature of merger are
not satisfied. Through this method, one company is acquired by another, and thereby the
shareholders’ of the company which is acquired normally do not continue to have proportionate
share in the equity of the combined company or the business of the company which is acquired is
generally not intended to be continued.

If the purchase consideration exceeds the net assets value then the excess amount is recorded as
the goodwill, while if it is less than the net assets value it is recorded as the capital reserves.

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Reasons to Amalgamate

 To acquire cash resources

 Eliminate competition
 Tax savings
 Economies of large scale operations
 Increase shareholders value
 To reduce the degree of risk by diversification
 Managerial effectiveness
 To achieve growth and gain financially

Procedure for Amalgamation

The terms of amalgamation are finalized by the board of directors of the amalgamating
companies.A scheme of amalgamation is prepared and submitted for approval to the respective
High Court.Approval of the shareholders’ of the constituent companies is obtained followed by
approval of SEBI.A new company is formed and shares are issued to the shareholders’ of the
transferor company.The transferor company is then liquidated and all the assets and liabilities are
taken over by the transferee company.

Accounting of Amalgamation

Pooling of Interests Method:

Through this accounting method, the assets, liabilities and reserves of the transfer or company are
recorded by the transferee company at their existing carrying amounts.

Purchase Method:

In this method, the transfer company accounts for the amalgamation either by incorporating the
assets and liabilities at their existing carrying amounts or by allocating the consideration to
individual assets and liabilities of the transfer or company on the basis of their fair values at the
date of amalgamation.

Computation of purchase consideration: For computing purchase consideration, generally two

methods are used:

Purchase Consideration using net asset method: Total of assets taken over and this should be at fair
values minus liabilities that are taken over at the agreed amounts.

ParticularsAgreed value of assets taken overRs.XXX

Particulars Less: Agreed value of liabilities taken overRs.XXX

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ParticularsPurchase ConsiderationRs.XXX

Agreed value means the amount at which the transfer or company has agreed to sell and the
transferee company has agreed to take over a particular asset or liability.Purchase consideration
using payments method: Total of consideration paid to both equity and preference shareholders in
various forms.

Example: A. Ltd takes over B. Ltd and for that it agreed to pay Rs 5,00,000 in cash. 4,00,000 equity
shares of Rs 10 each fully paid up at an agreed value of Rs 15 per share. The Purchase consideration
will be calculated as follows:

ParticularsCashRs.5,00,000

Particulars4,00,000 equity shares of Rs10 fully paid up at Rs15 per shareRs.60,00,000

ParticularsPurchase ConsiderationRs.65,00,000

Advantages of Amalgamation

 Competition between the companies gets eliminated

 R&D facilities are increased
 Operating cost can be reduced
 Stability in the prices of the goods is maintained
 Disadvantages of Amalgamation
 Amalgamation may lead to elimination of healthy competition
 Reduction of employees may take place
 There could be additional debt to pay
 Business combination could lead to monopoly in the market, which is not always positive
 The goodwill and identity of the old company is lost

Recently announced Amalgamation

One of the recent amalgamations announced on the corporate front is of PVR Ltd. Multiplex
operator PVR Ltd has approved an amalgamation scheme between Bijli Holdings Pvt Ltd and itself to
simplify PVR’s shareholding structure. As per the management, the purpose of the amalgamation is
to simplify the shareholding structure of PVR and reduction of shareholding tiers. It also envisages
demonstrating Bijli Holdings’ direct engagement with PVR. After the amalgamation, individual
promoters will directly hold shares in PVR and there will be no change in the total promoters’
shareholding of PVR.

Other examples of Amalgamations

 Maruti Motors operating in India and Suzuki based in Japan amalgamated to form a new
company called Maruti Suzuki (India) Limited.
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 Gujarat Gas Ltd (GGL) is an amalgamation of Gujarat Gas Company Ltd (GGCL) and GSPC
Gas.
 Satyam Computers and Tech Mahindra Ltd
 Tata Sons and the AIA group of Hongkong amalgamated to form Tata AIG Life Insurance.
 Treatment of Reserves on Amalgamation

Amalgamation in the nature of Merger

In case of Amalgamation in the nature of Merger, the identity of the reserves is preserved upon
amalgamation. In other words, reserves are reflected in the financial statements of the transferee
company in the same form in which such reserves appeared in the financial statements of the
Transferor Company.

For instance, the General Reserve recorded in the financial statements of the Transferor Company is
recorded as General Reserve in financial statements of the Transferee Company upon
Amalgamation.

Thus, any difference arising between the share capital issued and the amount of the share capital of
the Transferor Company gets adjusted in the reserves of the financial statements of the Transferee
Company.

Amalgamation in the Nature of Purchase

In case of Amalgamation in the Nature of Purchase, the identity of the reserves is not preserved.
However, these reserves do not include Statutory Reserves.

Statutory Reserves are the reserves that are required to be maintained in order to comply with a
specific statute. Transferor Company may create certain reserves either to comply with or claim
benefits under Income Tax Act, 1961.The identity of such reserves need to be preserved for a
specific period as per the Act. Similarly, there may be other reserves created by the Transferor
Company in its financial statements to comply with the requirements of some other statutes.

Although, the identity of reserves is typically not preserved in case of Amalgamation in nature of
purchase, an exception is made with regards to statutory reserves.

Accordingly, contrary to this provision, Statutory Reserves maintain their identity in the financial
statements of the Transferee Company in the same manner in which such reserves appeared in the
financial statements of the Transferor Company.Furthermore, such reserves retain their identity for
a period it must be retained so as to comply with the specific statute.

It must be noted this exception of the Statutory Reserves is made in only those amalgamations
where the requisites of the specific statute for recording such statutory reserves in the books of the
Transferee Company are met.
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Accordingly, such Statutory Reserves are recorded in the financial statements of the Transferee
Company by a debit to a suitable account head such as Amalgamation Adjustment Account.
However, in the balance sheet, such an account appears as part of Miscellaneous Expenditure or
other similar category.

Furthermore, when the identity of such Statutory Reserves is no longer required to be preserved,
both the reserves as well as Amalgamation Adjustment Account are reversed.

Treatment of Goodwill Arising on Amalgamation

Goodwill arising on account of amalgamation depicts a payment that is made as a result of an

expectation of a future income. Thus, it is suitable to treat it as an asset that can be amortized to
income on a systematic basis over the useful life of the asset.

Owing to the nature of goodwill, it is difficult to determine the useful life of goodwill with
reasonable certainty. As a result, such a determination is made on a prudent basis.Consequently, it
is considered relevant to amortize goodwill over a period not exceeding five years till the time
reasons for amortizing goodwill for a longer period can be substantiated.

Balance of Profit and Loss Account

Amalgamation in the Nature of Merger

In case of Amalgamation in the nature of Merger, P&L balance reflected in the financial statements
of the Transferor Company is accumulated with a similar balance appearing in the financial
statements of the Transferee Company. Or else, such a balance is transferred to General Reserve, if
any.

Amalgamation in the Nature of Purchase

In this case, the debit or credit P&L balance appearing in the financial statements of the Transferor
Company loses its identity.

Treatment of Reserves Specified in a Scheme of Amalgamation

The Scheme of Amalgamation provided under Companies Act, 1956 or any other similar statute may
suggest treatment for the reserves of the Transferor Company after Amalgamation. Where such a
suggestion is specified, the same must be followed by the stakeholders.

However, in some cases, the scheme of amalgamation under a specific statute may suggest a
different treatment for reserves of Transferor Company after amalgamation vis-a-vis the
requirements of this accounting standard which could have been followed had there been no
suggestion made by the scheme.In these cases, the stakeholders need to make the following
disclosures after amalgamation in the first financial statements:
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Description regarding the accounting treatment given to the reserves and underlying reasons for
adopting such a treatment which is different from the one suggested in this accounting standard.

Deviations in the accounting treatment given to the reserves as suggested by the Amalgamation
Scheme under the Statute vis-a-vis the requirements of this accounting standard had there been no
suggestion made by the Amalgamation Scheme.

Financial effect arising as a result of such a deviation, if any.

Disclosure

Following are the disclosures that need to be made in the first financial statements after the
amalgamation:

 Name and general nature of business of the amalgamating companies;

 Effective date of amalgamation for accounting purposes;
 The method of accounting used to reflect the amalgamation; and
 Particulars of the scheme sanctioned under a statute

In case of amalgamations that are accounted via Pooling of Interest Method, following additional
disclosures must be made in the first financial statements after the amalgamation:

 Description and number of shares issued along with percentage of each companies equity
shares exchanged for amalgamation
 Amount of any difference between consideration and value of net identifiable assets acquired
and its treatment

In case of amalgamations that are accounted via Purchase Method, following additional disclosures
must be made in the first financial statements after the amalgamation:

 Consideration for Amalgamation and description in respect of consideration paid or payable

 Amount of difference between consideration and value of the net identifiable assets acquired
and its treatment. This includes period of amortization of any goodwill arising as a result of
amalgamation.

Amalgamation After the Balance Sheet Date

There can be cases when an Amalgamation is undertaken after the balance sheet date but before
the issuance of the financial statements of both the parties to amalgamation. In such cases,
disclosure is made as per Accounting Standard 4: Contingencies and Events OccuringAfter the
Balance Sheet Date, however, the amalgamation is not included in the financial statements.

Gradual Realisation of Assets and Piecemeal Distribution!

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It has been assumed in the working of all the illustrations so far in this chapter that all the assets are
realized on the date of the dissolution, and that all expenses and liabilities are paid on that date.
This assumption enables one to know immediately the profit or loss on realization which can then
be transferred to the capital accounts; this determines the final amounts due to the partners. In
actual practice, this assumption is far from valid.

Assets are realized and cash collected gradually. Final results are not known till quite some time. In
the meantime, the cash collected is distributed among the various parties. The student remembers
that in case of dissolution, first of all the outside creditors have to be paid, then if surplus remains,
any loans given by the partners over and above their capitals are paid (rateably if the amount
available is not sufficient) and the last of all, the partners’ capitals are paid off. It is clear, therefore,
that any cash in hand or cash collected should be distributed among creditors until all of them are
paid off.

One must remember to keep adequate funds for liabilities that may arise in future, for instance, for
bills discounted expected to be dishonoured. After this, the cash available should be applied in
returning partners’ loans—proportionately if two or more than two partners have advanced loans
to the firm.

1. Proportionate Capitals Method

The main question is how to distribute cash among partners for return of capital. One must
remember that the profit or loss on realisation of assets will not be known for some time and,
therefore, this profit or loss cannot be adjusted in the capital accounts immediately. And yet cash
must be distributed in such a way that the amounts finally left unpaid (i.e., the loss to be borne by
the partners) are in the ratio in which profits and losses are shared.

The available cash cannot be distributed according to the profit-sharing ratio (unless the capitals are
themselves in the profit-sharing ratio) because that will leave the balances unpaid out of
proportion. The cash available cannot also be distributed in the ratio of capitals because, and the
then the partners will be forced to bear the final loss in the ratio of capitals which may be different
from the profit-sharing ratio.

1. A,B and C carry on the business in partnership sharing profit an losses in the proportion of
½,3/8,and 1/8 respectively. On 31st march 2001 they agreed to sell their business to a limited
company .Their position on that date was as follows

Liabilities Rs Assets Rs
Capital A 40000 Free hold property 48000
B 30000 Machinery 42000
C 26000 Book debs 15000
Loan on mortgage 16000 Stock 23000

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Sundry creditors 18000 Cash 2000

130000 130000
The company took the following assets at the valuation shown below

Free hold property 61000

Book debts 14000

Goodwill 10000

Machinery 31800

Stock 22000

The company also agreed to pay the creditors, which was agreed at Rs. 17700 The company paid
67000 in fully paid share of 10 each and the balance in cash The expenses amounted to Rs.1500.
prepare ledger accounts in the books of the firm.

Solution

Realization a/c

Particulars Rs Particulars Rs

To Free Hold By Sundry

Property 48000 Creditors 18000

By Loan On
To Machinery 42000 Mortgage 16000

By Purchasing
To Book Debts 15000 Company 21100

To Stock 23000

To Cash Ex 1500

To Cash Mortgage
Loan 1600

To Profit

A 4800

B 3600

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C 1200

155100 155100

Capital accounts

Particulars A B C Particulars A B C

To Shares 28420 21320 17260 By Bal B/D 40000 30000 26000

By
To Cash 16380 12280 9940 Realisation 4800 3600 1200

44800 33600 27200 44800 33600 27200

Cash a/c

Particulars Rs Particulars Rs

To balance b/d 2000 By realisation 1500

To purchasing
company 54100 By realiation loan 16000

By A Capital 16380

By B Capital 12280

By C Capital 9940

56100 56100

Purchasing company a/c

Particulars Rs Particulars Rs
To realization 121100 By shares 67000
By cash 54100
121100 121100

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Shares

Particulars Rs Particulars Rs
To purchasing 67000 By A Capital 28420
company By B capital 21320
By C capital 17260
67000 By B Capital 67000

2. A,B,C are partners sharing the ratio of ½ 1/3 and 1/6. Their balance sheet was as follows

Liabilities Rs Assets Rs
Creditors 50000 Land 70000
A ‘ loan 10000 machinery 40000
Capital A 50000 Stock 25000
B 10000 Debtors 20000
C 40000 Cash 5000
160000 160000

The partnership was dissolved and the assets are realized as follows

First instalment 40000

Second instalment 30000

Third instalment 54000

Fourth instalment 7000

Show the gradual distribution of cash statement

Piece meal distribution

Particulars Creditors A loan A B C

Balance
due 50000 10000 50000 10000 40000

Less cash
in hand 5000

Balance
due 45000 10000 50000 10000 40000

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First 40000

5000 10000 50000 10000 40000

Second 5000 10000

Balance
sue 50000 10000 40000

Less 15000to c 15000

50000 10000 25000

Less 8333 paid to c 8333

50000 10000 16667

Balance 54000-8333 34250 11417

15750 10000 5250

Third 750 250

15000 10000 5000

Balance of cash 3000 2000 1000

Loss on realisation 12000 8000 4000

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