Reconstitution of a Partnership Firm — Retirement/Death of a Partner
1. Introduction
Reconstitution of a partnership firm also occurs when an existing partner retires or dies. This leads to changes in the partnership agreement, and necessitates several financial adjustments to reflect the new situation.
2. Retirement of a Partner
When a partner retires, their share of profit and capital in the firm needs to be settled. This includes adjustments for revaluation of assets and liabilities, goodwill, and accumulated reserves and profits.
3. Death of a Partner
The death of a partner also requires similar adjustments as retirement. The deceased partner’s legal representatives are entitled to the deceased’s share of the firm’s assets and profits.
4. Calculation of New Profit Sharing Ratio
The profit-sharing ratio among the remaining partners will change after the retirement or death of a partner. The new ratio is agreed upon by the remaining partners.
5. Gaining Ratio
The remaining partners gain the share of the retiring or deceased partner. The gaining ratio is calculated as:
[ \text{Gaining Ratio} = \text{New Ratio} – \text{Old Ratio} ]
6. Calculation of Goodwill
Goodwill is calculated to compensate the retiring or deceased partner for their share in the firm’s reputation and future profit potential. The methods to calculate goodwill include:
- Average Profit Method
- Super Profit Method
- Capitalization Method
7. Adjustment for Goodwill
Goodwill is adjusted by debiting the remaining partners’ capital accounts in their gaining ratio and crediting the retiring or deceased partner’s capital account.
8. Revaluation of Assets and Liabilities
Revaluation of assets and liabilities is done to reflect their current market values. This ensures that the retiring or deceased partner receives their fair share of the firm’s true worth.
8.1. Revaluation Account Format
Revaluation Account
Particulars Amount Particulars Amount
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Decrease in Value of Assets XXX Increase in Value of Assets XXX
Increase in Liabilities XXX Decrease in Liabilities XXX
Profit transferred to:
Retiring/Deceased Partner’s Capital A/c XXX
Remaining Partners’ Capital A/c XXX
(Loss transferred to respective Capital Accounts)9. Adjustment of Capitals
After retirement or death, the capitals of the remaining partners may need to be adjusted to reflect the new profit-sharing ratio. This can be done by:
- Bringing in additional capital by the remaining partners.
- Paying off the retiring or deceased partner’s capital.
10. Accumulated Reserves and Profits
Any reserves or accumulated profits are distributed among all partners, including the retiring or deceased partner, in their old profit-sharing ratio.
11. Settlement of Retiring/Deceased Partner’s Dues
The retiring or deceased partner’s dues are settled by paying their share of capital, goodwill, revaluation profits or losses, and accumulated reserves or profits.
11.1. Example of a Partner’s Capital Account Format
Partner's Capital Account
Particulars Partner A Partner B Partner C Total
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Balance b/d XXX XXX XXX XXX
Goodwill Adjustment XXX XXX XXX XXX
Revaluation Gain XXX XXX XXX XXX
Accumulated Profits XXX XXX XXX XXX
(Losses, if any, are debited to the accounts)
Cash/Bank XXX XXX XXX XXX
Balance c/d XXX XXX XXX XXX12. Preparation of Balance Sheet
After all adjustments, a new balance sheet is prepared to reflect the reconstituted partnership firm.
12.1. Example of a Balance Sheet Format
Balance Sheet of M/s ABC and Co. as on 31st March, 20XX
Liabilities Amount Assets Amount
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Creditors XXX Cash/Bank XXX
Bills Payable XXX Debtors XXX
Outstanding Expenses XXX Less: Provision for Doubtful Debts XXX
Partners’ Capital: Closing Stock XXX
Partner A XXX Fixed Assets XXX
Partner B XXX Furniture XXX
Partner C XXX Goodwill XXX
(Retiring/Deceased Partner’s Account Settled)Conclusion
The retirement or death of a partner in a partnership firm requires careful financial adjustments to ensure fair settlement of the outgoing partner’s dues and accurate reconstitution of the partnership. This includes recalculating profit-sharing ratios, valuing and compensating for goodwill, revaluing assets and liabilities, and adjusting capital accounts. Understanding these adjustments is crucial for maintaining accurate and fair financial records in a reconstituted partnership.
