Retirement and Death of a Partner — Notes

A partner may retire (by notice, by agreement or under the deed) or die. The old partnership ends but the firm continues with the remaining partners. Because the outgoing partner was entitled to a share of profits, goodwill, revaluation results and reserves, the accounts must settle his claim.

Adjustments, in order:

1. New profit-sharing ratio and gaining ratio.
2. Goodwill (AS 26).
3. Revaluation of assets and reassessment of liabilities.
4. Reserves and accumulated profits or losses.
5. Amount due, and its payment (cash, loan, instalments).
6. Balance sheet of the reconstituted firm; capital adjustment if agreed.

On death, add the share of profit till the date of death and pay the amount to the executor.

Gain of a continuing partner = new share − old share. The gains add up to the outgoing partner’s share.

• Nothing agreed: continuing partners keep their old ratio between themselves; gaining ratio = their old ratio.
• New ratio agreed: compute each gain separately; it may differ from the old ratio, and one partner may even sacrifice.
• Outgoing share acquired in a stated proportion: new share = old share + portion acquired; gaining ratio = the proportion of acquisition.

The gaining ratio is used for goodwill only. Revaluation and reserves always use the old ratio.

Accounting Standard 26 allows only purchased goodwill to be recorded, so no Goodwill Account is raised at its full value. Instead:

• Outgoing partner’s share of goodwill = value of the firm’s goodwill × his old share.
• Gaining partners’ Capital A/cs Dr (in the gaining ratio), To Outgoing Partner’s Capital A/c.
• A continuing partner whose share falls is also credited for his sacrifice.
• Existing goodwill in the books is first written off among all partners in the old ratio: All Partners’ Capital A/cs Dr, To Goodwill A/c.

The goodwill may itself have to be valued first (average profit, super profit or capitalisation method, from Chapter 1).

Revaluation Account: debit decreases in assets, increases in liabilities, unrecorded liabilities and new provisions; credit increases in assets, decreases in liabilities and unrecorded assets. The balance is a profit (or loss) transferred to all partners in the old ratio.

Reserves and accumulated profits (General Reserve, credit balance of Profit and Loss, Contingency Reserve) are credited to all partners in the old ratio; an accumulated loss is debited the same way.

• Workmen Compensation Reserve: the claim is met first; the surplus goes to partners; an excess claim is debited to the Revaluation Account.
• Investment Fluctuation Reserve: the fall in the market value of investments is met first; the balance goes to partners.

Amount due = balance of his capital account after all adjustments (capital, goodwill, revaluation, reserves, interest or salary due, profit till death; less drawings and losses).

Settlement:

• Paid at once: Capital A/c Dr, To Bank A/c.
• Kept in the firm: Capital A/c Dr, To Loan A/c (a liability).
• Interest each year: Interest A/c Dr, To Loan A/c.
• Each instalment: Loan A/c Dr, To Bank A/c.

Without an agreement, Section 37 of the Indian Partnership Act 1932 lets him choose interest at 6% per annum or the share of profit earned with his money.

Balance sheet of the reconstituted firm: assets and liabilities at revalued figures; unrecorded items brought in; reserves removed (distributed); the outgoing partner’s loan (if any) on the liabilities side; the continuing partners’ adjusted capitals.

Capital adjustment (if agreed):

1. Required capital = total capital of the new firm × new share.
2. Compare with the adjusted capital.
3. Deficit: Bank A/c Dr, To Partner’s Capital A/c. Surplus: Partner’s Capital A/c Dr, To Bank A/c (or to his Current A/c).

The total capital may be stated, or taken as the combined adjusted capitals of the continuing partners.

Share of profit till the date of death

• Time basis: last year’s profit (or the average of some years) × months from the start of the year to death ÷ 12 × his share.
• Turnover (sales) basis: rate of profit = last year’s profit ÷ last year’s sales; profit till death = rate × sales up to death; × his share.

Entry: Profit and Loss Suspense A/c Dr, To Deceased Partner’s Capital A/c. (If a balance sheet is prepared on the date of death, the suspense balance is shown on the assets side.)

Executor’s Account: Deceased Partner’s Capital A/c Dr, To Executor’s A/c (amount due). The executor is paid at once or the balance is transferred to the Executor’s Loan A/c and paid with interest.