RETIREMENT, DEATH

INTRODUCTION-

On the retirement or death of a partner, the existing partnership deed comes to an end, and in its place, a new partnership deed needs to be framed whereby, the remaining partners continue to do their business on changed terms and conditions. There is not much difference in the accounting treatment at the time of retirement or in the event of death.

Ascertaining the Amount Due to Retiring/ Deceased Partner The sum due to the retiring partner (in case of retirement) and to the legal representatives/ executors (in case of death) includes:

1. credit balance of his capital account;
2.  credit balance of his current account(if any);
3.  his share of goodwill ;
4.  his share of accumulated profits (reserves);
5. his share in the gain of revaluation of assets and liabilities;
6. his share of profits up to the date of retirement/death;
7.  interest on his capital, if involved, up to the date of retirement/death; and
8.  salary/commission, if any, due to him up to the date of retirement/death.

 

The following deductions, if any, may have to be made from his share:

1. debit balance of his current account(if any);
2.  his share of goodwill to be written off; if necessary;
3.  his share of accumulated losses;
4.  his share of loss on revaluation of assets and liabilities;
5. his share of loss up to the date of retirement/death;
6. his drawings up to the date of retirement/death;
7.  interest on drawings, if involved, up to the date of retirement/death.

 

Thus, as in the case of admission, the various accounting aspects involved retirement or death of a partner are as follows:

1. Ascertainment of new profit sharing ratio and gaining ratio;

2. Treatment of goodwill;

 3. Revaluation of assets and liabilities;

4. Adjustment in respect of unrecorded assets and liabilities;

5. Distribution of accumulated profits and losses;

 6. Ascertainment of share of profit or loss up to the date of retirement/death;

7. Adjustment of capital, if required;

 8. Settlement of the amounts due to retired/deceased partner;

New Profit Sharing Ratio

a)The continuing partners acquire the share of retiring or deceased partners in the old profit sharing ratio, and there is no need to compute the new profit sharing ratio among them, as it will be same as the old profit sharing ratio among them. In fact, in the absence of any information regarding profit sharing ratio in which the remaining partners acquire the share of retiring/deceased partner, it is assumed that they will acquire it in the old profit sharing ratio and so share the future profits in their old ratio.

b)The continuing partners may acquire the share in the profits of the retiring/deceased partner in a proportion other than their old ratio. In that case, there is need to compute the new profit sharing ratio among them and it will be equal to sum total of their respective old share and the share acquired from the retiring/deceased partner.

c) The contributing partners may agree on a specified new profit sharing ratio: In that case the ratio so specified will be the new profit sharing ratio.

 

Gaining Ratio-

The ratio in which the continuing partners have acquired the share from the retiring/deceased partner is called the gaining ratio. Normally, the continuing partners acquire the share of retiring/deceased partner in their old profit sharing ratio.

GAINING RATIO = NEW RATIO – OLD RATIO

Example-

X, Y and Z are partners sharing profits in the ratio of 5:3:2. Calculate new profit sharing ratio and gaining ratio if

 1. X retires

2. Y retires

3. Z retires.

Given old ratio among X : Y : Z as 5 : 3 : 2

1. If X retires, new profit sharing Ratio between Neha and Tina will be Neha : Tina = 3:2 and Gaining Ratio of Neha and Tina =3:2

2. If Neha retires New profit sharing Ratio between Madhu and Tina will be Madhu : Tina = 5:2 Gaining Ratio of Madhu and Tina = 5:2

3. If Tina retires, new profit sharing ratio between Madhu and Neha will be: Madhu : Neha = 5:3 Gaining ratio of Madhu and Neha = 5:3

 

Treatment of Goodwill

At the time of retirement/death of a partner, goodwill is valued as per agreement among the partners the retiring/ deceased partner compensated for his share of goodwill by the continuing partners (who have gained due to acquisition of share of profit from the retiring/ deceased partner) in their gaining ratio.

 

• When Goodwill does not Appear in the Books

1. If goodwill is raised at full value and retained in books

Goodwill A/c Dr.

 To A’s capital A/c

To B’s capital A/c 

To C’s capital A/c 

(Goodwill raised at full value and credited to all the partners in their old profit sharing ratio)

 

1.  If goodwill is raised at full value and written off immediately.

1. Goodwill A/c Dr.

 To A’s capital A/c

To B’s capital A/c 

To C’s capital A/c 

(Goodwill raised at full value and credited to all partners in old ratio)

1. A’s capital A/c Dr.

 C’s capital A/c Dr.

 To Goodwill A/c 

(Goodwill written off and debited to remaining partners in the new ratio)

 

1.  If goodwill is raised to the extent of retiring partner’s share and written off immediately.

1. Goodwill A/c Dr. 

To B’s capital A/c

(Goodwill raised to the extant of B’s share)

1.  A’s capital A/c Dr. 

C’s capital A/c Dr.

To goodwill A/c

 (Goodwill written off by debiting remaining partners’ in gaining ratio)

 

1. If goodwill is not to after in firm’s books at all

A’s capital A/c Dr.

 C’s capital A/c Dr.

To B’s capital A/c

 (B’s share of goodwill adjusted to remaining partners’ capital accounts in gaining ratio)

When Goodwill is already Appearing in the Books

In such a situation, there are two possibilities:

(a) the book value of goodwill is lower than its current value, and

(b) the book value is greater than its current value. These are discussed as follows.

1. If the book value of goodwill is lower than its present value :

In this case the goodwill is raised to its present value by debiting goodwill Account with the excess of its current value over the book value and crediting all partners’ capital accounts in their old profit sharing ratio.

Goodwill A/c Dr. 

To Old partners

            b)  If the book value of goodwill is greater than its current value:

In this case the difference between the book value of goodwill and its current value will be credited to Goodwill Account and debited to all Partners’ capital accounts in their old profit sharing ratio.

Old partners a/c Dr

To Goodwill A/c

(Decrease in the value of goodwill adjusted among all the partners’ capital accounts in their old profit sharing ratio)

It may be noted that in all the above situations, goodwill appears in the balance sheet at its full value. In case it is decided by the partners that it should be written-off, fully or partially, it can be done by debiting the remaining partner’s capital accounts in the new profit sharing ratio and crediting Goodwill Account with the respective value.

Hidden Goodwill

If the firm has agreed to settle the retiring or deceased partner’s account by paying him a lump sum amount, then the amount paid to him in excess of what is due to him, based on the balance in his capital account after making necessary adjustments in respect of accumulated profits and losses and revaluation of assets and liabilities, etc., shall be treated as his share of goodwill (known as hidden goodwill).

Adjustment for Revaluation of Assets and Liabilities

                                     Revaluation A/C

   DR                                                                                                                                                                Cr

To decrease in assets To  increase in liabilities To unrecorded liability To Profit on revaluation		By increase in assets By decrease in liabilities By unrecorded assets By Loss on revaluation

 

DEATH OF A PARTNER-

It may noted that the accounting treatment for disposal of amount due to retiring partner and deceased partner is similar with a difference that in case of death of a partner, the amount credited to him/her is transferred to his Executors’ Account and the payment has to be made to him/her.