flowchart LR
A[New Partner<br/>Admitted] --> R[Revaluation<br/>A/c]
A --> G[Goodwill<br/>Treatment]
A --> P[Distribute<br/>Reserves &<br/>Accumulated<br/>Profits]
A --> N[New<br/>Ratio]
A --> C[Capital<br/>Adjustment]
classDef default fill:#003366,color:#ffffff,stroke:#ffcc00,stroke-width:3px,rx:10px,ry:10px;
11 Partnership Accounts: Admission, Retirement, Death, Dissolution and Insolvency of partnership firms
11.1 Concept and Definition
Section 4 of the Indian Partnership Act, 1932 defines a partnership as “the relation between persons who have agreed to share the profits of a business carried on by all or any of them acting for all”. The four ingredients are: (a) an agreement between two or more persons, (b) carrying on a business, (c) intent to share profits, and (d) mutual agency — each partner is both principal and agent of the others. Maximum partners under the Companies (Misc.) Rules 2014: 50 for a general partnership; no upper limit for a Limited Liability Partnership under the LLP Act 2008.
11.2 The Partnership Deed and Its Absence
The Partnership Deed is the written agreement governing relations among partners. In its absence, the default rules under Sections 12, 13 and 17 of the Partnership Act apply:
TipDefault Rules in the Absence of a Partnership Deed
| Issue | Statutory default |
|---|---|
| Profit-sharing ratio | Equal among all partners |
| Interest on capital | Not allowed |
| Interest on drawings | Not charged |
| Salary or commission to a partner | Not allowed |
| Interest on partner’s loan to firm | 6 % p.a. |
| Admission of a new partner | Only with consent of all existing partners |
11.3 Final Accounts of a Partnership Firm
A partnership firm prepares three financial statements at year-end:
11.3.1 Profit & Loss Appropriation Account
After the regular P&L gives net profit, the P&L Appropriation Account distributes the net profit among partners — covering interest on capital, salary/commission, transfer to reserve and final divisible profit.
TipP&L Appropriation Account — Skeleton
| Dr | ₹ | Cr | ₹ |
|---|---|---|---|
| Interest on Capital | xx | Net Profit b/d | xx |
| Salary/Commission to Partner | xx | Interest on Drawings | xx |
| Transfer to General Reserve | xx | ||
| Profit transferred to Capital A/cs | xx |
11.3.2 Capital Accounts — Fixed vs Fluctuating
TipFixed vs Fluctuating Capital Methods
| Aspect | Fixed Capital | Fluctuating Capital |
|---|---|---|
| Accounts maintained | Capital A/c + Current A/c | Only Capital A/c |
| Capital balance | Remains fixed unless additional capital introduced | Changes every year |
| Drawings, interest on capital, salary, share of profit | All go to Current A/c | All go to Capital A/c |
| Indian practice | More common in firms with detailed records | Common in small firms |
11.4 Goodwill — Concept and Valuation
Goodwill is the intangible value of a firm’s reputation, location, customer base and quality that enables it to earn above-normal profits. AS 26 (and Ind AS 38) permits recognition of purchased goodwill only.
11.4.1 Methods of Valuing Goodwill
TipGoodwill Valuation Methods
| Method | Formula | Notes |
|---|---|---|
| Average Profit | Goodwill = Average Profit × Number of Years’ Purchase | Simple; ignores capital employed |
| Super Profit | Super Profit = Actual Profit − Normal Profit (= Capital Employed × Normal Rate) ; Goodwill = Super Profit × Years’ Purchase | Reflects earning capacity above benchmark |
| Capitalisation of Average Profit | Goodwill = (Average Profit × 100 / NRR) − Capital Employed | Calculates total business value first |
| Capitalisation of Super Profit | Goodwill = Super Profit × 100 / NRR | Direct capitalisation of super profit |
11.5 Admission of a New Partner
When a new partner is admitted, the firm’s affairs change in five ways:
TipFive Adjustments on Admission
| # | Adjustment | Working |
|---|---|---|
| 1 | New profit-sharing ratio | Calculate sacrificing ratio of old partners = Old Ratio − New Ratio |
| 2 | Goodwill brought by new partner | Distribute among old partners in sacrificing ratio |
| 3 | Revaluation of assets and liabilities | Profit/loss on revaluation in old ratio |
| 4 | Accumulated profits/reserves | Distribute among old partners in old ratio |
| 5 | Adjustment of capital | New partner’s capital based on profit share; old partners adjust to new ratio |
11.6 Retirement of a Partner
On retirement, the firm settles the retiring partner’s account by:
TipAdjustments on Retirement
- New ratio of continuing partners; gaining ratio = New Ratio − Old Ratio.
- Goodwill — the retiring partner’s share of goodwill is paid by continuing partners in gaining ratio.
- Revaluation of assets and liabilities — profit/loss in old ratio.
- Accumulated profits and reserves — distributed among all partners (including retiring) in old ratio.
- Final amount due to retiring partner — paid in lump sum or by transfer to loan account with interest (6 % p.a. by default).
11.7 Death of a Partner
On death of a partner, the procedure is similar to retirement, with two specific concerns:
- Profit up to date of death — calculated either on time basis (proportionate to days) or sales basis (proportionate to sales).
- Joint Life Policy (JLP) — if maintained, claim received is shared among all partners in old ratio.
The amount due is transferred to the executor’s account and settled in cash or by instalments.
11.8 Dissolution of a Firm
Dissolution is the complete winding up of the firm — distinct from dissolution of partnership (which only changes the partner composition). Sections 39-44 of the Partnership Act govern dissolution.
TipModes of Dissolution
| Mode | Section | Trigger |
|---|---|---|
| By Agreement | §40 | All partners agree |
| Compulsory Dissolution | §41 | All partners insolvent; business illegal |
| On Happening of Certain Contingencies | §42 | Expiry of fixed term, completion of venture, death, insolvency |
| By Notice (Partnership at Will) | §43 | Any partner gives notice in writing |
| By Order of Court | §44 | Insanity, permanent incapacity, misconduct, etc. |
11.8.1 The Realisation Account
A Realisation Account is opened to record sale of assets and payment of liabilities:
TipRealisation Account — Skeleton
| Dr (Debits) | Cr (Credits) |
|---|---|
| All assets (except cash, bank, debit balances of partners) | All external liabilities |
| Liabilities paid in cash | Assets sold for cash |
| Realisation expenses | Assets taken over by partners |
| Profit on realisation (if any) → Partners’ Capital A/c | Loss on realisation (if any) → Partners’ Capital A/c |
11.8.2 Garner v. Murray Rule (1904)
When one or more partners become insolvent and unable to bring in their share of the deficit, the Garner v. Murray rule applies: the deficiency of the insolvent partner is borne by the solvent partners in the ratio of their last agreed capitals (just before dissolution) — not in their profit-sharing ratio.
NoteDistractor warning
A frequent PYQ: Garner v. Murray ratio = ratio of last-agreed capitals, not the profit-sharing ratio. The exception applies in fluctuating capital situations and where the deed does not say otherwise.
11.8.3 Order of Payment on Dissolution (Section 48)
Sequence of payments out of realisation proceeds:
TipSection 48 Order of Payment
- Pay third-party debts of the firm.
- Repay partner’s loans to the firm.
- Repay partner’s capital.
- Distribute the residue among partners in their profit-sharing ratio.
If realisation is insufficient, partners contribute the deficit in their profit-sharing ratio (subject to Garner v. Murray for insolvent partners).
11.9 Insolvency of Partners
A partner is insolvent when adjudged so by a court. Effects:
- The firm is compulsorily dissolved if all partners become insolvent (§41).
- Insolvent partner’s share of loss is borne by solvent partners in the Garner v. Murray ratio.
- Insolvent partner remains liable to creditors until estate is fully realised.
11.10 Limited Liability Partnership (LLP)
The LLP Act 2008 introduced a hybrid form combining the limited liability of a company with the flexibility of a partnership. Key features:
TipLLP — Key Features
- Separate legal entity with perpetual succession.
- Limited liability — partners liable only to the extent of their contribution.
- Minimum two designated partners; no upper limit.
- No minimum capital requirement.
- Annual filings: Form 8 (Statement of Account and Solvency) and Form 11 (Annual Return) with MCA.
- Conversion: Sole proprietorship, partnership firm, private company can convert into LLP.
11.11 Practice Questions
Q 01
Act
Easy
The Indian Partnership Act was enacted in:
View solution
Correct Option: C
Indian Partnership Act, **1932**. (The LLP Act is 2008.)
Q 02
Default
Easy
In the absence of a partnership deed, interest on a partner's loan to the firm is allowed at:
View solution
Correct Option: B
Section 13(d) of the Partnership Act: interest on partner's loan at **6 % p.a.** in the absence of a deed.
Q 03
Default
Easy
Without a deed, the profits of a partnership firm are shared:
View solution
Correct Option: C
By default, profits are **shared equally** under §13(b).
Q 04
Goodwill
Medium
Average profits ₹60,000; capital employed ₹4,00,000; normal rate of return 10 %. Goodwill on three years' purchase of super profit:
View solution
Correct Option: B
Normal profit = 4,00,000 × 10 % = ₹40,000; Super profit = 60,000 − 40,000 = ₹20,000; Goodwill = 20,000 × 3 = **₹60,000**.
Q 05
Admission
Medium
A and B share profits in 3 : 2. They admit C for 1/5 share. The new ratio is:
View solution
Correct Option: B
C's share = 1/5; balance 4/5 to A and B in 3:2 ⇒ A = 4/5 × 3/5 = 12/25; B = 4/5 × 2/5 = 8/25; C = 1/5 = 5/25 ⇒ **12 : 8 : 5**.
Q 06
Sacrificing
Medium
In partnership accounting, **sacrificing ratio** is calculated as:
View solution
Correct Option: B
Sacrifice = **Old − New** (positive); Gain = New − Old (on retirement).
Q 07
Revaluation
Medium
Profit or loss on revaluation of assets/liabilities at the time of admission of a new partner is shared among the old partners in:
View solution
Correct Option: B
Pre-admission gains/losses belong to old partners in the **old ratio**.
Q 08
Retirement
Medium
On retirement of a partner, the retiring partner's share of goodwill is paid by the continuing partners in:
View solution
Correct Option: D
Gaining ratio = New − Old; continuing partners gain and pay goodwill in **gaining ratio**.
Q 09
Dissolution
Medium
Realisation expenses paid by a partner on behalf of the firm are debited to:
View solution
Correct Option: B
Dr Realisation A/c, Cr Partner's Capital A/c.
Q 10
Garner v Murray
Hard
Under the rule in *Garner v. Murray (1904)*, the deficiency of an insolvent partner is borne by solvent partners in the ratio of their:
View solution
Correct Option: B
**Garner v. Murray** — deficiency borne in ratio of **last-agreed capitals**.
Q 11
Section 48
Medium
Arrange the following in the correct order of payment under Section 48 of the Partnership Act on dissolution:
(i) Repayment of partner's capital
(ii) Payment to third-party creditors
(iii) Distribution of surplus to partners
(iv) Repayment of partner's loan
View solution
Correct Option: A
Third-party debts → Partner's loan → Partner's capital → Distribute surplus.
Q 12
LLP
Medium
The Limited Liability Partnership Act was enacted in:
View solution
Correct Option: B
LLP Act 2008; rules 2009.
Q 13
Capital Method
Medium
Under the **fixed capital** method:
View solution
Correct Option: B
Fixed = Capital A/c (fixed) + Current A/c (all other transactions).
Q 14
Death
Medium
Joint Life Policy claim received on the death of a partner is distributed among:
View solution
Correct Option: B
JLP belongs to all partners in **old profit-sharing ratio**.
Q 15
Realisation
Hard
Which of the following is **not** transferred to the Realisation Account?
View solution
Correct Option: C
Cash/Bank A/c is not transferred — it is used to record actual receipts and payments.
Q 16
Capitalisation
Hard
Average profit ₹50,000; normal rate of return 10 %; capital employed ₹3,00,000. Goodwill by capitalisation of average profit method:
View solution
Correct Option: B
Capitalised value = 50,000 × 100 / 10 = ₹5,00,000; Goodwill = 5,00,000 − 3,00,000 = **₹2,00,000**.
Q 17
Dissolution Modes
Medium
A "partnership at will" can be dissolved by:
View solution
Correct Option: B
Section 43 — any partner of a *partnership at will* may dissolve it by **giving notice in writing**.
Q 18
Definition
Easy
Match each Section with its content:
| Section | Content | ||
| (i) | §4 | (a) | Compulsory dissolution |
| (ii) | §41 | (b) | Order of payment on dissolution |
| (iii) | §43 | (c) | Dissolution of partnership at will |
| (iv) | §48 | (d) | Definition of partnership |
View solution
Correct Option: A
§4 — definition; §41 — compulsory dissolution; §43 — partnership at will; §48 — order of payment.
Q 19
Pre-acquisition
Hard
Accumulated profits and reserves existing on the date of admission of a new partner are credited to:
View solution
Correct Option: B
Pre-admission accumulated profits/reserves belong to old partners — credited to their Capital A/cs in **old ratio**.
Q 20
Max Partners
Medium
The maximum number of partners in a general partnership under the Companies (Misc.) Rules 2014 is:
View solution
Correct Option: C
Rule 10 of Companies (Miscellaneous) Rules 2014 caps partnerships at **50** members; LLPs have no upper limit.
11.12 Quick Recall
ImportantQuick recall
- Partnership §4 of Indian Partnership Act 1932: agreement, business, share profits, mutual agency. Maximum 50 partners in general partnership; LLP Act 2008 — no upper limit.
- Default rules without deed: equal profit sharing; no interest on capital; no salary; 6 % p.a. interest on partner’s loan.
- Final accounts: Trading + P&L + P&L Appropriation A/c. Capital methods: Fixed (Capital + Current) or Fluctuating (single).
- Goodwill methods: average profit; super profit (= actual − capital × NRR) × years; capitalisation of avg / super profit.
- Admission: new ratio, sacrificing ratio = Old − New, goodwill in sacrificing ratio, revaluation in old ratio, reserves to old partners in old ratio.
- Retirement / Death: gaining ratio = New − Old, goodwill in gaining ratio, JLP in old ratio, executor’s account.
- Dissolution modes (§40-44): agreement, compulsory (§41), contingencies (§42), notice (§43), court (§44).
- Realisation A/c: all assets (except cash) debited; all liabilities credited; profit/loss in profit-sharing ratio.
- Garner v. Murray (1904): insolvent partner’s deficit borne by solvent partners in ratio of last-agreed capitals.
- §48 order: 1️⃣ third-party debts → 2️⃣ partner’s loan → 3️⃣ partner’s capital → 4️⃣ surplus in profit-sharing ratio.
- LLP — separate legal entity, limited liability, perpetual succession; Form 8 (Solvency) + Form 11 (Annual Return) with MCA.