Maharashtra Board Class 12 Book Keeping and Accountancy Chapter 3 Admission of Partner PDF Download

Reconstitution Of Partnership (Admission Of Partner)

Contents

3.1 Meaning of Reconstitution of Partnership

3.1.1 Different forms of reconstitution

3.2 Admission of a partner

3.2.1 Need

3.2.2 Capital brought by new partner

3.2.3 New Profit Sharing Ratio

3.2.4 Sacrifice Ratio

3.2.5 Meaning of Goodwill

3.2.5.1 Methods of Valuation of Goodwill

1) Average Profit Method

2) Super Profit Method

3.2.5 Treatment of Goodwill

3.2.6 Revaluation of Assets and Liabilities

3.2.7 Adjustment of accumulated Profits and Losses

3.2.8 Adjustment of Capitals

Competency Statement

The students will be able:

To understand the meaning and different ways of reconstitution.

To understand the meaning and need of admission of partner.

To learn the adjustments required on admission of a partner.

To calculate the new profit sharing ratio and sacrifice ratio.

To know the methods of valuation of goodwill and treatment of goodwill.

To learn the accounting treatment of accumulated profits and loss.

To make necessary adjustments for revaluation of assets and liabilities.

To learn to adjust the capitals according to new profit sharing ratio.

3.1 Meaning Of Reconstitution Of Partnership

The reconstitution of partnership primarily involves change in the form of partnership. There is change in agreement among the partners which leads to change in the relationship between the partners and change in share of the Profit or Losses of the partners in the firm. The change in the partnership may take the following forms:

3.1.1 Different Forms Of Reconstitution

1) Change in Profit - Sharing of existing Partner

The partners of a firm may decide to change their existing profit sharing ratio. If one partner purchases a share of profit from another partner, the old partnership agreement stands terminated and the new agreement comes into force stating the new profit sharing ratio.

Teacher's Note

Sometimes partners want to change how they share profits. For example, in a local Delhi garment business, two partners might decide one partner will get more profit share because they work more hours.

Exam Trick

Remember: When profit sharing ratio changes, calculate new ratio carefully by finding the remaining share after the new partner's share is deducted.

Points to Remember

Old partnership agreement ends when profit sharing ratio changes.
New agreement starts with new profit sharing ratio.
This happens only when all partners agree.
The change shows change in partnership relationship.
New ratio is used for all future profit sharing.

2) Admission of a Partner

When the new partner is admitted in the business he brings capital and his share of goodwill. Old partners have to sacrifice their share of profit for new partner. So the partnership agreement changes.

3) Retirement of a Partner

If the partner is retiring from partnership firm his share of profit, upto the date of retirement capital, his share in other reserves of the firm will be paid to him. Old partners will gain the profit and there will be change in the profit sharing ratio.

4) Death of a Partner

Partner is going out of business due to death his legal heir will get the partner's share in the business. Share of Profit of continuing partners will change and old partnership agreement comes to an end.

Teacher's Note

When a partner retires or dies, the remaining partners get more profit share. For example, if a partner in a Mumbai textile shop retires, the remaining two partners will share more profit.

Exam Trick

Remember: Retirement and death both end the old agreement. The continuing partners gain profit share. Calculate gain ratio to know how much extra each old partner gets.

Points to Remember

Retirement means partner leaves by choice.
Death is unplanned exit of a partner.
Old partners gain the retiring or dead partner's share.
New profit sharing ratio is calculated among remaining partners.
Payment is made from firm or firm funds.

3.2 Admission Of A Partner

According to section 31 (1) of the Partnership Act 1932, A person can be admitted as a new partner only with the consent of all existing partners unless otherwise agreed upon. New Partner will bring his share of goodwill and capital and enjoy the right to share the future profits.

This chapter covers the accounting treatment of admission of a partner in the existing partnership firm.

3.2.1 Need

Generally, the new Partner is admitted in the firm to expand the capital base as well as to use the skills of that person to improve the overall performance of the partnership firm.

3.2.2 Capital brought by new partner

The purpose of admitting new partner is to increase the capital of the partnership firm. The new partner can bring capital in Cash or kind. The new partner will bring the capital as per the terms in Partnership Deed. The accounting treatment for the capital brought in by the new partner is:

Teacher's Note

A new partner brings money or things like machines to join the business. In a Bangalore IT partnership, a new partner might bring computers and software as capital.

Exam Trick

Remember: When new partner brings cash, debit Cash account. When they bring assets, debit that asset account. Always credit the new partner's capital account.

Points to Remember

New partner must bring capital as agreed.
Capital can be in cash or any asset like machines, land.
Cash entry is most common in exams.
Amount must match the partnership deed terms.
New partner's capital account is always credited.

3.2.3 New Ratio

As the new partner is admitted in partnership firm the profit sharing ratio of existing partners changes and there is need to calculate new profit sharing ratio including new partner. This ratio is used for writing off goodwill and capital adjustments.

Formula for calculating new ratio

If total profit is 1

1(-) Share of new partner = Balance of 1

New Ratio = Old Ratio × Balance of 1

OR

If Sacrifice ratio of old partners is given along with old ratio the new ratio can be calculated as follows:

New Ratio = Old Ratio - Sacrifice Ratio

3.2.4 Sacrifice Ratio

When new partner is admitted old partners have to sacrifice their share of profit to give the share of profit to new partner. The ratio in which the old partners sacrifice their share of profit is called as sacrifice ratio. This ratio is used to retain the goodwill in premium method.

Sacrifice ratio = Old Ratio - New Ratio

Change In The Profit Sharing Ratio Due To Admission Of A Partner

Illustrations

1: (Calculation of New ratio)

Mohan and Ganpat are sharing profits and losses in the ratio of 2:3. They admitted Chandrakant for 1/4th share in future profit. The new profit sharing ratio of Mohan, Ganpat and Chandrakant will be as under

Formula = 1 share of New Partner

= 1 1/4

= 3/4 Remaining Profit

New Ratio = Old Ratio × balance of 1

Mohan's New Ratio = 2/5×3/4 = 6/20

Ganpat's New Ratio = 3/5× 3/4 = 9/20

Chandrakant's Ratio = 1/4 i.e. 5/20

New Profit Sharing Ratio will 6:9:5

2: (Calculation of Sacrifice Ratio)

A and B are Partners sharing profits in the ratio of 6:4. C is admitted as a partner. The new profit sharing ratio of A, B and C is 10 : 6: 4. Find out the sacrificing ratio.

Sacrifice ratio = Old Ratio New Ratio

A's sacrifice = 6/10 10/20 = 2/20

B's Sacrifice = 4/10 6/20 = 2/20

Sacrifice ratio of A and B = 2/20 : 2/20 or 2:2 = 1 :1

Teacher's Note

When a new partner joins, old partners must give up some profit share. In a Delhi restaurant, if two partners admit a third partner for 1/4 share, the first two partners sacrifice equally.

Exam Trick

Remember: Old Ratio - New Ratio = Sacrifice Ratio. Always subtract to find sacrifice. The sacrifice is divided among old partners as agreed.

Points to Remember

Sacrifice ratio shows how much profit each old partner gives up.
Only old partners can sacrifice.
New partner does not sacrifice anything.
Sacrifice ratio is used to distribute goodwill among old partners.
Sacrifice ratio is calculated as Old Ratio minus New Ratio.

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