Class XII Accounts Fundamental Concepts
Accounts - Retirement / Death of Partners
person becomes a partner at his own will, as a result of a voluntary agreement.
It does not happen due to inheritance or any other external factor on which one
has no control. Similarly a partner can retire from the firm at his will subject
to reasonable restrictions.
the accounting pint of view retirement or death of a partner have almost similar
effect. Retirement is a planned exit of a partner, while death is an unplanned
or death dissolves the partnership. This dissolution does not mean the winding
up of the business. It happens only in the legal aspect, not in its physical
aspect. The remaining partners will continue to run the firm in a reorganised
form with a new agreement. As retirement is a planned event, it is mostly done
at the end of a financial year. The partners prepare themselves to deal with the
problems associated with retirement. Death comes unexpectedly. It can happen any
time during a financial year. Exit of a partner can create a vacuum in
management and a financial emergency. Accounting treatment for retirement and
death are almost the same. Capital and current account balances, along with the
share of accumulated profits funds etc. are to be settled. Settlement of claim
from Life insurance policies also has to be done. In the event of death,
calculation of the deceased partner’s share of profit for the period
of his service during the year of death is an additional factor to be
following are the common accounting aspects to be considered at the time of
retirement or death of partners.
Change in profit sharing ratio
Treatment of goodwill
Revaluation of assets and liabilities
Accumulated profits; reserves; losses etc.
Adjustment of Joint Life Policy
Adjustment of capital
Change in profit sharing ratio
or death reduces the number of partners to share future profits or losses.
Naturally the share of profit for the continuing partners will increase by the
retirement or death of a partner. Recalculation of ratios is the first step in
for further accounting procedures. Revision in ratio may be indicated in any of
the following ways in a question:
Old ratio is given and nothing is mentioned about the new arrangement after
is practically the easiest way of presenting new profit sharing arrangement. The
new ratio under this method is found out simply by canceling the outgoing
partner’s share of profit assuming that the ratio between the continuing
partners does not change. When this method is followed the outgoing partner’s
share merges into the continuing partners share in their profit sharing ratio.
A, B and C have been sharing profits and losses in the ratio 3:2:1. B has
retired from the business. Find out new ratio between A & C.
B is retired and nothing is mentioned about the arrangement between A & C.
The new ratio is found out by simply canceling the B’s share of profit.
ratio = 3:1
B’s share of 2/3 of profit is merged in the shares of A and C in the ratio
The outgoing partner’s share is taken over by the continuing partners in a
& B have been sharing profits and losses in the ratio 3:2:1. B retired from
the firm. His share of profit is divided equally between A & C. Find out new
B’s share of 2/6 is shared between A & C equally. The new share of A is
his old share of 3/6 + 1/6 from B. Thus his new share is 4/6. C’s new share is
his old share of 1/6 + 1/6 from B. Thus his new share is 2/6. New profit sharing
ratio is 4:2 that is 2:1.
The new ratio is directly given.
the new ratio is directly given, the need for calculating it is taken away. But
it is important to remember that new ratio is only a first step for further
adjustments in accounts on retirement or death.
Accounting Treatment of goodwill
treatment of goodwill on retirement and death is very close to that in admission
Following are the different methods followed:
The outgoing partner’s share adjusted in the books
method is similar to the premium method adopted in admission of partners. Under
this method the outgoing partner’s share of goodwill is credited to his
capital account and the continuing partner’s capital accounts are debited for
the same in the “gaining ratio.”
ratio is the ratio of gain. This happens due to the retirement or death of a
partner. When a partner leaves the firm the ratio is revised and the continuing
partners will share the outgoing partner’s share in addition to their old
ratio. It is calculated by deducting the old ratio from the new.
of gaining ratio is important when the partners decide to adjust the outgoing
partner’s share of goodwill without raising the goodwill account in the firm.
that we use sacrificing ratio when the new partner brings in cash for the share
of goodwill on admission. Compare the two situations carefully learn thoroughly
the difference in accounting treatment.]
Goodwill raised in the books (Revaluation
Method, for information only).
is the revaluation method of treatment of goodwill. Goodwill is raised in the
books of the firm by debiting goodwill account and crediting “all partners’
capital accounts” in the old ratio.
this journal entry goodwill account is actually opened in the books and will
appear in the future balance sheets at its full value. The outgoing partner gets
his share of goodwill along with the continuing partners.
the continuing partners decide to reduce the value of goodwill or to write it
off completely they can do so by debiting their capital accounts in the new
ratio and crediting the goodwill account with the amount to be reduced. The
outgoing partners share or his position is in no way affected due to this step.
Revaluation of assets and liabilities
of assets and liabilities are done exactly the same way it is done on admission
of a partner. The reason behind revaluation in admission or retirement is to
make the balance sheet reflect a true and fair view of the assets and
liabilities of the firm, prior to making any other major changes in the
ownership structure of the business. Any loss or gain in this rearrangement
should go to those persons, only to those persons, who are responsible. In other
words the incoming new partner in admission or the outgoing partner in
retirement or death shall not lose or gain due to wrong valuation of assets and
is done in the books through a revaluation account. Profit or loss on
revaluation is transferred to the capital accounts of all
partners (including the
outgoing partner) in the old profit sharing ratio.
the rule we follow in admission; “old partners in old ratio”. Here also we
apply the same rule. We don’t call them old partners just because we don’t
have any “new partner in retirement”. Also notice that the expression “outgoing
partner” is used in this book as a convenient term to refer the “retiring
partner” as well as the “deceased partner”. Again deceased partner means
dead partner. The term deceased sounds less deadly.
Reserves and Accumulated profits losses etc.
profits, reserves, losses etc. are treated on retirement or death exactly the
way they were done in admission. The profits or reserves are transferred to the
credit of capital accounts of all partners in the old profit sharing ratio. As a
result these items will disappear from the books and from future balance sheets
as well. Accumulated losses that are appearing on the asset side of the balance
sheet are transferred to the debit side of all partners in the old profit
Adjustment of Joint Life Policy
life policy is a precautionary measure to protect the firm from financial
crisis, on account of death of a partner. This is a life insurance policy by
which more than one life is insured. In case of a partnership firm all partners
are covered usually by a single life insurance policy. The firm, not the
partner, pays the premium on this policy. In the event
of death of any one of the partners, the insurance company will pay the full
amount assured sum to the firm. This
amount will be regarded as a special income
to the firm and credited to
capital accounts of all partners in the profit sharing ratio.
this sound little unfair on the part of the continuing partners to share the
insurance amount in the profit sharing ratio? How can someone share the life
insurance money on the death of another man? This doubt is quite natural. A
person is allowed to take any number of policies on his own life and pay from
his private income. Nobody except the legal heirs shall get the insurance
amount. But the joint life policy discussed here is different. The main aim of
this policy is not supporting the family of the partner, but to save the firm
from landing into financial crisis due to death of a partner. However this
indirectly helps the family of the deceased by quick settlement of dues. Here
all the partners (including the deceased one) decided together to insure their
lives jointly and pay the premium from the firm’s funds. There is another
aspect also to this problem. Suppose the entire insurance claim is credited only
to the deceased partner. This will defeat the very purpose for which the policy
is taken, since the capital account or the amount payable to the executors will
directly increase to the extent of the insurance claim. Now firm has to find out
other sources of finance to settle original capital investment and related
amounts. Therefore it is perfectly logical and legally valid to consider the
insurance amount as a business income and share the amount in the normal profit
the partners insure their lives separately and pay the premium from the firm.
This will help the continuing partners to keep their life insurance policy valid
even after the death of a partner. When there are separate life insurance
policies, the full amount due on the policy of deceased partner and the
surrender values of the policies of the continuing partners will be credited to
all partners in their profit sharing ratio. The surrender values will appear in
the subsequent balance sheets.
following are the three methods of accounting treatment of joint life policies:
insurance premium treated as normal business expense
insurance premium is treated as normal business expense, the premium paid will
be initially debited to the premium account and later on transferred to the
profit and loss account just like any other business expense.
payment of premium:
life insurance premium account Dr.
For Transfer of expense to P & L account
& L account Dr.
To Joint Life Premium Account
the time of maturity
(claim due to death)
Claim Account Dr. (full amount of insurance policy)
To All Partner’s Capital Accounts (in the profit sharing ratio)
/ Bank account Dr.
To Insurance Claim
Adjustment of Capital Accounts
accounts of the continuing partners may be readjusted on the basis of new profit
sharing ratio. Generally partners bring in or take out cash to adjust the
capital balances. They can even do this adjustment by opening current accounts
and passing the surplus or deficiency there, without bringing in or taking out
What are the accounting problems arising from the retirement of a partner?
Discuss the accounting treatment of goodwill on retirement without raising
goodwill at all.
Explain the accounting treatment of reserves and surplus at the time of
retirement of a partner.
What is the purpose of Joint Life Policy on Partners?
What is Joint Life Policy Reserve?
What are the major differences in accounting steps between retirement and death
of a partner?
What is gaining ratio on retirement of a partner?
List the items which the retiring partner is entitled to claim from the firm.