Retirement of partner
Concept
A new partner
is admitted in the firm when such a need arises, the same way, a partner may
like to retire after giving due notice, in other words, a partner may wish to
withdraw from a firm for various reasons like old age, change in business
interest, on health grounds, mutual disputed, etc. such a situation, in a
partnership firm is called retirement of a partner means to leave the firm by a
partner due to certain reasons like old
age, ill health, etc. after the retirement of a partner existing partnership
comes to an end a new partnership comes into existence between the remaining
partners and it continues. A partner who leaves partnership firm is called a
retiring or outgoing partner.
A retiring
partner is entitle to claim his/her share of goodwill, share in the gain on
revaluation of assets and liabilities, share of undistributed profit, etc. the
total amount payable to a retiring partner is either paid out to him/her in
case or the same is transferred to a loan account in his/her name. it is also
possible that a part of the sum due to a retiring partner is paid in cash and
the balance is transferred to his/her loan account.
Adjustment at the time of retirement of Partner
Thus, on the
retirement of a partner various accounting adjustment became necessary to
calculate the current amount payable to retiring partners. These adjustments
are as under:
1. Calculation of new profit sharing ratio and gaining ratio
2. Revaluation of assets and liabilities
3. Adjustment regarding undistributed profit
4. Adjustment regarding goodwill after retirement
5. Adjustment regarding capital after retirement
6. Ascertainment of the due amount to the outgoing partner.
7. Mode of payment of retiring partner capital
8. Balance sheet of a new partnership firm
Calculation of new profit sharing ratio
When a partner
retires remaining partner continue the firm. In this situation, it is needed to
calculate new ratio of the remaining partners in the firm, which is called
"calculation of new profit sharing ratio". Generally, after the
retirement of a partner, the new profit sharing rations of remaining partners
exceed their old profit sharing ratios, and such increment in called
"Gaining ratio". In other words, gain in the new ratio as compared to
old ratio of remaining partners after the retirement of a partner is called
'gaining ratio'. The gaining ratio can be calculated by deducting old ratio of
remaining partners from the new one.
The following
situation can be found in the case of new profit sharing ratio:
- If new profit sharing ratio is not given
c. If new profit sharing ratio is given
a.
If new
profit sharing ration is not given: in this situation, it is assumed that
the remaining partners continue to share profit and losses in the old ratio
(i.e. no change is in the old ratio of remaining partners). In other words, the
new ratio of the remaining partners is called by striking out the share of the
retiring partners.
b.
If
gaining or benefit ratio is given: sometimes, remaining partners take over
the share of retiring partner in some specified proportions. In such case, the
share taken by the is added to their old share and the new ratio is calculated.
c.
If new
profit sharing ratio is given: in this situation, gaining ration is
calculated by deducting old ration from new rations.
Revaluation of assets and Liabilities
According to
the terms of the partnership deed, the value of all assets and liabilities are
revalued on the retirement of a partner. For this, a revaluation account or
profit and loss adjustment account is prepared in the same way as it is
prepared in case of admission of a new partner. The only difference is that in
case of retirement any profit or loss due to revaluation of assets and
liabilities is divided among all partners including the retiring one, while in
case of admission of new partner, such a new partner does not share profit or
loss on revalued assets and liabilities are shown in the new balance sheet of the
remaining partners. In this situation, the following entries are made:
Adjustment regarding undistributed profit
and loss
At the time of
retirement of a partner, if there is any undistributed profit such as any
reserve, credit balance of profit and loss account or any loss such as debit
balance of profit and loss account, then such undistributed profit or loss
should be distributed among all partner including retiring partner such
undistributed profit or loss should be distributed among all partners including
retiring partner on the basis of their new profit new sharing ratio. Generally,
two situations can be found regarding this:
a. By transferring total undistributed profits
or losses to all partner's capital account including retiring partners: in
this situation, such undistributed profit or losses are distributed among all
partners including retiring. Such undistributed profit or losses are
distributed among all partners including retiring one in their profit sharing
ratio and these are not shown again in the new balance sheet. The following
entries are made for this:
a. By transferring only he share of retiring
partner: in the situation, only the share of undistributed profit or losses
is transferred to retiring partner's capital account and the remaining balance
is continued in the new balance sheet. So far as the accounting treatment is
concerned, the following journal entries are passed in the books:
Adjustment regarding goodwill after
Retirement
When a partner
retires from the firm, he/she is entitled to his/her share of goodwill along
with share in the profit or losses. This necessitates the valuation of goodwill
at the time of retirement of a partner. Goodwill is valued in the same manner
as in the case of admission of a partner. As regards the accounting treatment
of goodwill, it shall depend upon whether goodwill account already exists in
the book or not. Thus, there may be two situations:
a. When goodwill does not appear in the books:
if the goodwill account does not exist in the books of account or balance
sheet of the firm at the time of retirement, then there will be following
possibilities.
- · Raising goodwill at its full value.
- · Raising goodwill and its immediate writing off.
- · Raising retiring partner's share of goodwill only.
- · Raising retiring partner's share of goodwill and its writing off.
- · Giving amount of goodwill to retiring partners without raising or recording in the books.
Raising goodwill at its full value: under
this possibility, the amount of goodwill is raised at its full value and
credited to all partners' capital accounts, including the retiring partner in
their old ratio. In the situation, the following entry is made:
Raising goodwill and its
immediate writing off: when goodwill is first raised to its full value and
then written off, then first of all, raised amount of goodwill is credited to
all partners' capital accounts including retiring partners in their old profit
sharing ratio. After that, raised value of goodwill is written off by debating
remaining partners' capital accounts and crediting goodwill account in their
account in their new profit sharing ratio. In this situation, the following two
entries are made:
Raising retiring partner's share
of goodwill only: when goodwill account is raised with the retiring
partners' share only. Then such amount of goodwill is credited to that retiring
partner's capital account only. In this situation, that amount of goodwill is
again shown on the assets side of the new balance sheet.
Raising retiring partner's share
of goodwill and its writing off: under this, the share of goodwill of
retiring partner is determined and then credited to his/her capital account.
After that, remains partners decide to write goodwill and debited to their
capital accounts on the basis of their gaining ratio. In such a case, the
following two entries are made:
Giving amount of goodwill to
retiring partners without raising or recording in the books: when amount of
goodwill is paid to retiring partner without raising or recording it in the
books, then the remaining partners' capital account is debited in their gaining
ratio and the capital account of retiring partner is credited by share of value
amount of goodwill of retiring partner. In this situation, the following entry
is made:
When goodwill is shown in the
last balance sheet: sometimes, amount of goodwill appears in the balances
sheet at the time retirement of a partner. In this situation, amount of
goodwill is revalued and one of the following three situations can be seen:
a.
Increase in the value of goodwill
b.
Decrease in the value of goodwill
c.
No change in the value of goodwill
a. Increase in the value of goodwill: if
the agreed value of goodwill is more than the book value or given value of
goodwill, then the difference amount will be credited to all partners' capital
accounts in their old profit sharing ratio by debiting goodwill account. In
this situation, agreed value of goodwill is shown on the assets side of the new
balance sheet. In such a case, the following journal entry is recorded:
b. Decrease in the value of goodwill: when
the value of decrease i.e. agreed value of goodwill is less than the book
value, the capital accounts of all partners including retiring one are debited
with the difference in their profit sharing ratio by crediting amount. In this
situation, the following journal entry is made:
No change in the value of goodwill: if
the book value of goodwill is equal to the agreed value, then any entry will be
required in this situation.
Adjustment regarding capital after
retirement
After
retirement of a partner, remaining partners may adjust their capital. In this
situation, total capital of the firm can be fixed adjusting capital of
remaining partners after retirement of a partner. Such fixed total capital
should be divided among the remaining partners with their new profit sharing
ratio. After this, capital should be added or withdrawn accordingly. In this
situation, the following entries are made to add or withdraw the amount of
capital.
Ascertainment of the due amount to the
outgoing partner
The following
point should be considered while ascertaining the amount due to the retiring
patterns:
a.
Opening balance of capital and current account
of outgoing partner
b.
Share of profit or loss revaluation of assets
and liabilities
c.
Share of undistributed profit and loss
d.
Share of goodwill of the firm
e.
Share of profit earned by the firm on related
accounting period till the date of retirement
f.
Salary and interest on capital due to the
retiring partner till the date of his retirement
g.
The drawing from firm and interest thereon, of
the retiring partner
Mode of payment to the outgoing partners
On retirement of the partner, his/her capital account should be
adjusted by adjusting his/her share of goodwill, share on revaluation of assets
and liabilities and share on undistributed profits or losses. After that, the
amount payable to retiring partner is determined and procedure of payment is
following. For this, two modes of payment can be used:
a.
Lump sum payment
b.
Payment in installment
a. Lump sum payment: if the amount payable
to retiring partner is small, them lump sum payment is made to him/her. For
lump sum payment, form may use its cash or bank balance or additional capital
or loan can be taken from remaining partners. In this situation, the following
entries are made:
Installments payment: in most of the
cases, if may not be possible to repay the amount payable to retiring partner
immediately form the firm's recourse and also it may not be possible for
remaining partners to bring in cash as additional capital or loan. In this
situation, the amount due to retiring partner is transferred to his/her loan
account and repayment will be made in installment over a period of time with
fixed rate of interest. For this, the following entries are made:
Balance sheet of a new partnership firm
After retirement of a partner, remaining partners continue the
partnership business. Therefore, a new balance sheet of the firm is prepared by
considering the following points:
a.
After, adjusting goodwill, profit or loan on
revaluation, undistributed profit or loss, additional capital and repayment of
capital of retiring partner, only the capital accounts of remaining partner are
shown on the liabilities side of the new balance sheet.
b.
If retiring partners' capital account is
transferred to loan account, then such loan account will be shown on the
liabilities side of the new balance sheet.
c.
In the new balance sheet, revalued assets and
liabilities are shown.
d.
If a new assets or liability is created, then
such assets or liability will also be included in new balance sheet.
e.
New or adjusted goodwill is also shown on the
assets side of the balance sheet.
f.
Adjusted cash or bank balance is also shown on
the assets side of the new balance sheet.
Review of
Theoretical concept
Different ways in which a partner can
retire from the partnership firm.
A new partner
is admitted in the firm when such a need arises, the same way, a partner may
like to retire after giving due notice. In other words, a partner may which
wish to withdraw from a firm for various reasons like old age, change in
business interest, on health grounds, mutual disputes, etc. such a situation,
in a partnership firm is called retirement of a partner. Retirement of a
partner means to leave the firm by a partner due to certain reasons like old
ag, ill health etc.
Explain the made of payment of retiring
partners' capital.
On retirement
of the partner, his/her capital account should be adjusted by adjusting his/her
share of goodwill, share on revaluation of assets and liabilities and share on
undistributed profit or losses. After that the amount payable to retiring
partner is determined and procedure of payment is followed. For this tow modes
of payment can be used:
Lump sum payment: if the amount payable
to retiring partner is small, them lump sum payment is made to him/her. For
lump sum payment, form may use its cash or bank balance or additional capital
or loan can be taken from remaining partners. In this situation, the following
entries are made:
Installments payment: in most of the
cases, if may not be possible to repay the amount payable to retiring partner
immediately form the firm's recourse and also it may not be possible for
remaining partners to bring in cash as additional capital or loan. In this
situation, the amount due to retiring partner is transferred to his/her loan
account and repayment will be made in installment over a period of time with
fixed rate of interest. For this, the following entries are made:
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