dissolution of firm
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Dissolution of firm
Meaning
Dissolution of relationships between partners along with termination of business.
At the time of dissolution, all assets will be realized and liabilities should be repaid.
For dissolution following accounts will be prepared.
1 realization account
2 partners capital account
3 cash/bank account
1 realization account :
All assets and liabilities will be transferred at book value.
Provisions and reserves should be shown separately in realization account. Don’t net off.
Debtors will be debited and provision for debtors will be credited.
Firm’s debt vs. personal debt
Any partner becomes insolvent only after realizing all assets as well as firm’s share of asset.
From private property, partner first pay private debt, then only balance will bring in firm’s business as well as from firm’s assets first pay firm’s debt and then only from excess private debt can be paid.
If Any partner is unable to pay any debt, he will become insolvent.
All partners become insolvent, firm will be insolvent.
Deficiency in case of insolvency:
When insolvent partner is unable to pay firm’s debt, outstanding balance of such partner is called deficiency which will be borne by solvent partner in agreed capital ratio.
Insolvency of firm
While making the payment pay in following sequence:
Outside secured debt
Outside unsecured debt
Partner’s loan
Partner’s capital
If any secured asset realized less than its liability, remaining portion of liability will be unsecured.
Q.7 Realization account
| Particulars | Rs | Particulars | Rs |
| To stock | 60,000 | By bank | |
| To other asset | 1,09,000 | stock | 52,000 |
| To goodwill | 30,000 | Other assets | 90,000 |
| To bank –exp. | 3,000 | By capital a/c | |
| A 24,000 | |||
| B 24,000 | |||
| C 12,000 | 60,000 | ||
| 2,02000 | 202000 |
Partner’s capital account
| particulars | A | B | C | particulars | A | B | C |
| To bal. | 20000 | By bal. | 30000 | 20000 | |||
| To realization loss | 24000 | 24000 | 12000 | By deficiency | 4000 | 32000 | |
| 24000 | 24000 | 32000 | 30000 | 24000 | 32000 |
Bank loan account
| Particulars | Rs | Particulars | Rs |
| TO Bank | 50,000 | By balance | 50,000 |
| 50,000 | 50,000 |
Creditors’ account
| Particulars | Rs | Particulars | Rs |
| TO Bank | 90,000 | By balance | 1,20,000 |
| To deficiency | 30,000 | ||
| 1,20,000 | 1,20,000 |
Deficiency account
| Particulars | Rs | Particulars | Rs |
| To B | 4,000 | By creditors | 30,000 |
| To C | 32,000 | By A | 6,000 |
| 36,000 | 36,000 |
Piecemeal distribution:
In dissolution of firm, assets will be sold and liabilities will be paid off. But in practice, it happens gradually. After the sale of the assets liability will be paid off in the following sequence
Realization expenses
Secured creditors
unsecured creditors
partner’s loan ( not add in capital but pay proportionately )
contingent liability (amount set aside)
balance paid to partner’s capital
methods for distribution of cash among partners :
- Maximum loss method
Under this method, at every stage it is assumed that no further realization of the assets.
Steps under maximum loss method
1 Calculate maximum loss at each stage
Maximum loss = total capital – asset realised
2 Deduct maximum loss from capital in profit and loss ratio
3 If any of the figures of step 2 is negative distribute it to other partners in the ratio of opening capital (after reserve and surplus)
This process will be continue until all figures becomes positive
4 Deduct positive value of step 3 from balance of capital
Above process will be carried at each stage.
CONTINGENT LIABILITY:
It may arise in future as a liability like worker’s claim, bills discounted etc.
Provision should be raised before making payment to partner’s capital.
Although there is no column for contingent liability. It should be set aside and balance will be paid to partner’s capital.
Realization expenses:
It will be paid in priority so from first installment or available cash, first pay or set aside the realization expenses. But if actual expenses are less than provision, then excess will be added in last installment or installment in which it is finalized.
Any negative balance of partner distributed to other partners in capital ratio.
If fixed capital is given in balance sheet, balance will be distributed in fixed capital ratio
But if there is fluctuating capital opening capital + reserve –miscellaneous expenses.
Follow this ratio for distribution of loss.
Relative / proportionate capital method:
Under this method following steps will be followed.
A B C
A Balance of Capital
B Profit and loss ratio
C Base of capital= a/b
D bal of capital on the
Basis of minimum base
E = A – D
F repeat above steps for
Remaing two partners
Conversion of firm into company
There are certain similarities with amalgamation
Following accounts will be prepared
1 realization account
- cash/bank account(if not taken by new company)
- partner’s capital account
- New company account
In amalgamation equity, preference and cash received as consideration can be directly distributed. But in sale of firm first PC will be brought in the firm and then it will be distributed to partners.
If base of distribution is not given distribute all consideration in the ratio of final claim of capital.
Purchase consideration
Equity shares, preference shares and cash given by new company to firm will be known as purchase consideration
Journal entry :
New company account Dr.
To realization account
Equity shares in new company DR.
Preference shares in new co. DR.
Cash account Dr.
To new company account
Partner’s capital account Dr.
To Equity shares in new company .
To Preference shares in new co.
To Cash account
(In final claim of capital ratio – i.e after current account and realization loss)
Amalgamation of firm:
Following accounts will be prepared
Revaluation account
Partner’s capital account
New firm’s account
In amalgamation of the company or conversion of firm in to company, we are preparing realization account, because all assets and liabilities account will be closed at book value as well as purchase consideration is given.
In amalgamation of firm asset and liabilities are revalued, hence revaluation account will be prepared.
Journal entries
Asset account dr.
To liabilities account
To revaluation account
(increase in assets and increase in liablilites)
Liabilities account dr.
To assets account
To revaluation account
(decrease in assets or liabilities)
Revaluation account transfer to capital:
Profit:
Revaluation account dr.
To partner’s capital
Loss:
Partner’s capital account dr.
To revaluation account
Transfer of asset and liabilities to new firm:
New firm account dr.
Liabilities account dr.
To assets account
Partner’s capital transfer to new firm account:
Partner’s capital account dr.
To new firm account
New firm account will be tallied
