# Retirement of Partner

Retirement of Partner Accounts

A Partner may retire from the partnership firm (because of old age, illness, or any other reason) etc.

The Partnership Firm may not come to an end when one of the partners retires, and other partners may continue to run the business of the firm. In such case, readjustment takes place as in case of admission of a partner.

On retirement, Assets and Liabilities are revalued, value of goodwill is raised and surrender value of joint life policy, if any, is taken into account.

Revaluation Profit and Reserves are transferred to Capital Account and Current Accounts of Partners’ Accounts.

# Gaining Ratio

Gaining Ratio Computation on Retirement of Partner

On retirement of a partner, the continuing partners will gain in terms of Profit Sharing Ratio.

Gaining Ratio is the difference between New Profit Sharing Ratio and Old Profit Sharing Ratio.

Gaining Ratio = New Profit Sharing Ratio – Old Profit Sharing Ratio

Or New Profit Sharing Ratio = Old Profit Sharing Ratio + Gaining Ratio

Sometimes, the Old Profit Sharing Ratio acts as a Gaining Ratio between the existing partners if nothing is mentioned about New Profit Sharing Ratio.

Ex. : X, Y and Z were sharing Profits and Losses in the Ratio of 5:3:2 and Y retires, the new ratio X:Z is 3:2. Compute Gaining ratio of continuing partners.

Gaining Ratio = (New Ratio – Old Ratio) : X gains (3/5– 5/10)  = 1/10, Z gains (2/5– 2/10) = 2/10.

So, the Gaining Ratio X: Z is (1/10) : (2/10), i.e. 1:2.

Ex : P, Q and R are in partnership sharing ratio of 3:2:1. P  retires.  Q and R want to continue sharing ratio of 2:1. Find the Gaining Ratio.

Gaining Ratio = (New Ratio – Old Ratio) – Q: (2/3– 2/6) = 2/6, R : (1/3 – 1/6) = 1/6. So, Gaining ratio Q: R = 2/6:1/6= 2:1

# Accounting of Goodwill

Accounting of Goodwill on Retirement of Partner

Goodwill raised in full value but not shown in the books

Only retiring partners share is brought or raised

Ex: R, S and T are partners sharing ratio @ 4:3:2. S retires and goodwill is valued Rs. 27,000. No goodwill is shown in the books of the firm. R and T continue sharing @ 5:3. Show Journal Entries for Goodwill A/c

Old Ratio R: S:T  is 4:3:2, New ratio – R :T is 5:3. Gaining Ratio = New Ratio – Old Ratio

Gaining Ratio : R : (5/8 – 4/9) = 13/72, T:  (3/8 – 2/9) = 11/72, Gaining ratio of R: T=  13/72:11/72= 13:11

Journal Entries

Case 1 : When goodwill account is raised but written off

Goodwill credited to partners in old ratio : R:S:T 4:3:2. R- (27000×4/9)= 12,000, S – (27000×3/9)= 9,000, T- (27000×2/9)= 6,000

Goodwill transferred to continuing partners in new ratio : R:T -5:3. R- (27000×5/8)= 16,875, T – (27000×3/8)= 10,125

Case 2 : When only S’ s goodwill account is raised and written off.

S’s Share of Goodwill : 27000 x 3/9 = 9000

Goodwill transferred to continuing partners in gaining ratio: R:T – 13:11- R: 9,000 x (13/24) = 4875, T: 9,000 x (11/24) = 4125

# Revaluation on Retirement

Accounting entries  on Retirement of Partner

On retirement of a partner, revalued assets and liabilities are to be recorded and  resulting Gain / Loss to be distributed among the partners (including the retiring partner) at the old ratio.

When revaluation Account does not appear in Balance Sheet

Ex 1. A, B, C share profits and losses equally. A retires. Revaluation profit amounts to Rs.60,000. Show Journal Entries

Amount Due to A, =(60,000/3) = Rs.20,000. This amount is to be borne by B and C equally

B’s Capital A/c  Dr 10,000

C’s Capital A/c  Dr 10,000

To A’s Capital A/c       20,000

Ex 2. A, B and C are partner’s equally sharing Profit or Loss. A retires, on revaluation, there is an increase in fixed assets of Rs.15,000 and decrease of Rs.3,000 in sundry creditors: Show the journal entries.

Step 1 : Revaluation gain  on Old ratio : On revaluation, there is increase in asset – Rs 15000, and decrease in Liabilities – Rs 3000. So, total revaluation gain = 15000+3000 = 18,000, which is to be distributed to all Partners equally( old sharing ratio), i.e 18000/3= 6000 to each partner

Step 2 : Distribution of Revaluation gain  on New ratio : the Gain is to be distributed to continuing partners in old ration between them. B: 18000/ 2 =9000, C: 18000/ 2 =9000,

Journal Entries

# Reserve Fund

Reserve Fund Accounting entries on Retirement of Partner

On retirement of a partner, undistributed profit or reserve standing at the Balance Sheet is to be credited to the Partners’ Capital Accounts in the old profit sharing ratio.

Alternatively, only the retiring partner’s share may be transferred to his Capital account, if the other partner’s continue at the same profit sharing ratio.

Ex. 1: X, Y and Z were in partnership sharing profits and losses at the ratio 3:2:1. X retired and Y and Z agreed to continue at the ratio  2:1. Reserve balance was Rs.12,000. Show the journal entries

Distribution of Revaluation gain to all partners in old ratio 3:2:1- X: (12000x 3/6)=6000, Y: (12000x 2/6)=4000, Z: (12000x 1/6)=2000,

Journal Entries :

In this case, Y and Z continued at the same ratio 3:2 as they did before A’s retirement.

Ex 2: X, Y and Z were equal partners. Z decided to retire. X and Y decided to continue at the ratio of 3:2. Reserve standing at the date of retirement of Z was Rs.18,000. Show Journal Entries

Calculation of Gaining Ratio : X : 3/5 – 1/3= 4/15,  Y : 2/5 – 1/3= 1/15, Gaining Ratio = X: Y = (4/15) : (1/15) = 4 : 1.

Journal Entry

# Final Payment to Retiring Partner

Final Payment Accounting entries on Retirement of Partner

On Retirement of Partner,adjustments entries are made for Transfer of Reserve, Transfer of Goodwill &  Transfer of Gain/loss on revaluation. After making the adjustments, the Balance standing to the credit of the Capital A/c of retiring partner should be paid to him.

Ex. A and B are partners in a business, sharing profit and losses as A : 3/5th and B -:2/5th. Their Balance Sheet as on 1st January, 2010 reveals :

LIABILITIES : Capital – (A:25000, B: 15,000), Reserve – 15,000, Sundry Creditors – 2500 : Total 57500

ASSETS : Plant & machinery – 25000, Stock – 11000, Debtors 14000, Bank – 6000, Cash 1,500 : Total 57500

B retires from the business and A takes it over. The goodwill of the firm is valued at Rs.25,000. Depreciate Plant and Machinery by 10% and Stock by 15%, Make Bad debts provision for Debtors @ 5% and a discount reserve against creditors @ 2%

Show Opening Balance Sheet of A and the Journal Entries of the firm

Accounting Entries

Partners’ Capital Account

Balance Sheet of A as on 1st January, 2009

Note: As the Business has been sold to A, the goodwill has been raised and it will appear in the Balance Sheet of A.

# Partner’s Loan Repayment

Partners Loan repayment entries on Partners Retirement

Sometimes a partner’s loan carries Interest and the loan is to be paid off in installments, including Interest

Ex: A partner’s loan stands at Rs.60,000 and that it has to be paid in three annual equal installments carrying interest at 6% p. a.

Computation of Instalments payable

First Year : interest 6% on Rs.60,000 = 3600. So, total payment =20,000  (P)+ 3,600 (I) = 23600. Balance Payable 60000-20000=40000 (P).

2nd Year : Interest on 40000@6%=2400. So, total payment =20,000  (P)+ 2400 (I) = 22400. Balance Payable 40000-20000=20000 (P).

3rd Year : Interest on 20000@6%=1200. So, total payment =20,000  (P)+ 1200 (I) = 21200.

Retiring Partner’s Loan A/c

# Partner’s Loan Repayment – Problems

Partners Loan repayment Accounting entries on Partners Retirement

Ex : X, Y and Z are partners sharing profits and losses in the ratio of 5:3:2. On 1.1. 2009, Z retires. On that date, the Capital Account of the partners showed credit balance of X Rs.15,000, Y Rs.12,000 and Z Rs.10,000. Goodwill of the firm to be calculated at 2 year’s purchase of the average profits of the last 3 years.

Payment of the Capital and share of Goodwill to the retiring partner shall be made by annual installment of Rs.6,000 each, together with interest for the first years and the balance in the last year, Interest  @ 6% on the unpaid balances.

The Profit for the years 2006, 2007 and 2008 were Rs.6,000, Rs.4,000 and Rs.2,000 respectively. The first installment was paid on 31st December, 2009. Show Z’s Loan Account.

Computation of Goodwill : Average Profits for past 3 years (6,000 + 4,000 + 2,000) /3 = 4,000, Value of Goodwill  @ 2 years purchase of average profit = 4,000 x 2 =8,000, Z’s Share of Goodwill  = 8,000 x 2/10 = 1,600.

Z’s Capital Account

# Goodwill – Problems

Goodwill Accounts on Partner’s  Retirement

The Balance Sheet of A, B, and C who sharing profit and losses of their capitals i.e. 4:3:2 stood as follows as on 31.12.09.

Liabilities: Sundry Creditors- 13800, Capital (A:-40000, B: 30000, C: 20000), Total 103800

Assets : Land and Building – 50000, Plant & Machinery – 17000, Stock 16000, Debtors (10000- Prov for Bad Dbt 200) -9800, Bank 11000, Total 103800

On 31.12.2009, B retires. Assets and Liabilities are revalued to ascertain the amount payable to B.

1. Stock to be written off by 6%. 2. The provision for bad debts upto 5% on sundry debtors. 3. Land and Building be appreciated by 20%. 4. Provision for legal charges 1,540. 5. Goodwill at Rs.21,600.  B’s share of goodwill be adjusted in the accounts of A and C. The future profit sharing ratio A:C is 5:3. 6. The entire capital of the newly constituted firm is fixed as Rs.56,000 between A and C in the proportion of 5:3 after passing entries in the accounts for goodwill.

Show Journal entries and Balance sheet of the newly constituted firm transferring B’s share of capital and goodwill to a separate Loan Account on his name on 1st January.

Gaining ratio between A & C : Share of  goodwill of B (the retiring partner) will be adjusted in the account of A & C. So only B’s share in goodwill will be raised and  written off in the account of A & C in the gaining ratio.

Old Ratio A: B:C is 4:3:2, New ratio A: C is 5:3, Gaining ratio (New ratio – Old ratio) : A: (5/8 – 4/9) = 13/72, C:(3/8 – 2/9) =11/72

Gaining ratio of A : C is (13/72) : (11/72) = 13:11

Calculation of Adjusted capital of A & C : After retirement of B, Capital of the firm is fixed at 56,000, which will be shared between A & C in the new ratio, i.e, A: (56,000 x 5/8) = 35,000, C: (56,000 x 3/8) = 21,000, after passing entries in goodwill.

Partners’ Capital A/cs will be adjusted against their new capital balances after passing the entries for goodwill. Excess capital, if any, will be withdrawn, while deficiency, if any, will be brought by partners in cash, as the case may be.

Journal Entries

Partners’ Capital Account

Cash at Bank=  11000 (Opening) + C’s capital (2700) – A’s capital (4300) = 9400

Balance Sheet As on 1st January, 2010

# Joint Life Policy

Partners Joint Life Policy Accounts

A partnership firm may decide to take a Joint Insurance policy on the lives of all partners. The firm pays the premium and the amount of policy is payable to the firm on the death of any partner or on the maturity of policy, whichever is earlier.

If premium is treated as expense, Premium paid is debited to profit and loss account each year. Amount received from Insurance Company will be treated as firm’s profit and will be credited to capital accounts of all partners.