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Notes

19
ADMISSION OF A PARTNER

Kapil and Krish are running a partnership firm dealing in toys. They are one of the most successful businessmen in the locality. They now decide to start manufacturing toys that are electronically operated to diversify their busmess. For this they need more capital and also technical expertise. Mohit; their friend is an electronic engineer and has capital also. They have persuaded him to join their firm. In case, he joins the partnership firm, this will be a case of admission of a partner. As a result, he may need to bring in capital and share of goodwill. In this lesson, you will learn about goodwill and other ajustments at the time of admission of a partner. Mohit will bring in capital and share of goodwill. Some changes in the value of some assets and liabilities of the existing firm are need to bring them at their realistic value, on his admission. There may be other issues involing finance on his admission. All this need accounting treatment. In this lesson you will learn accounting treatment and adjustments to be made on the admission of a partner.

OBJECTIVES After studying this lesson, you will be able to : state the meaning of admission of a partner; calculate new profit sharing ratio and sacrificing ratio; state the meaning and factors affecting goodwill; explain the methods of valuation of goodwill; describe accounting treatment of goodwill; explain the need for revaluation of assets and reassessment of liabilities;

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Admission of a Partner illustrate the accounting treatment of changes arising from revaluation of assets and reassessment of liabilities; describe accounting treatment of undistributed profits and reserves; explain the treatment of various adjustments in partners capitals ; prepare Revaluation Account, Partners Capital Accounts and balance sheet of the reconstituted firm. 19.1 ADMISSION OF A PARTNER Meaning, New Profit Sharing Ratio and Sacrificing Ratio Meaning An existing partnership firm may take up expansion/diversification of the business. In that case it may need managerial help or additional capital. An option before the partnership firm is to admit partner/partners, when a partner is admitted to the existing partnership firm, it is called admission of a partner. According to the Partnership Act 1932, a person can be admitted into partnership only with the consent of all the existing partners unless otherwise agreed upon. On admission of a new partner, the partnership firm is reconstituted with a new agreement. For example, Rekha and Nitesh are partners sharing profit in the ratio of 5:3. On April 1, 2006 they admitted Nitu as a new partner with 1/4th share in the profit of the firm. In this case, with the admission of Nitu as partner, the firm stands reconstituted. On the admission of a new partner, the following adjustments become necessary: (i) Adjustment in profit sharing ratio; (ii) Adjustment of Goodwill; (iii) Adjustment for revaluation of assets and reassessment of liabilities; (iv) Distribution of accumulated profits and reserves; and (v) Adjustment of partners capitals. Adjustment in Profit sharing Ratio When a new partner is admitted he/she acquires his/her share in profit from the existing partners. As a result, the profit sharing ratio in the new firm is decided mutually between the existing partners and the new partner. The

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Admission of a Partner incoming partner acquires his/her share of future profits either incoming from one or more existing partner. The existing partners sacrifice a share of their profit in the favour of new partner, hence the calculation of new profit sharing ratio becomes necessary.

Notes

Sacrificing Ratio At the time of admission of a partner, existing partners have to surrender some of their share in favour of the new partner. The ratio in which they agree to sacrifice their share of profits in favour of incoming partner is called sacrificing ratio. Some amount is paid to the existing partners for their sacrifice. The amount of compensation is paid by the new partner to the existing partner for acquiring the share of profit which they have surrendered in the favour of the new partner. Sacrificing Ratio is calculated as follows: Sacrificing Ratio = Existing Ratio New Ratio Following cases may arise for the calculation of new profit sharing ratio and sacrificing ratio: (i) Only the new partners share is given In this case, it is presumed that the existing partners continue to share the remaining profit in the same ratio in which they were sharing before the admission of the new partner. Then, existing partners new ratio is calculated by dividing remaining share of the profit in their existing ratio. Sacrificing ratio is calculated by deducting new ratio from the existing ratio. Illustration 1 Deepak and Vivek are partners sharing profit in the ratio of 3 : 2. They admit Ashu as a new partner for 1/5 share in profit. Calculate the new profit sharing ratio and sacrificing ratio. Solution: Calculation of new profit sharing ratio: Let total Profit = 1 New partners share = 1/5 Remaining share = 1 1/5 = 4/5 Deepaks new share = 3/5 of 4/5 i.e. 12/25

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Admission of a Partner Viveks new share = 2/5 of 4/5 i.e. 8/25 Ashus Share = 1/5 The new profit sharing ratio of Deepak, Vivek and Ashu is : = 12/25 : 8/25 : 1/5 = 12 : 8 : 5/25 = 12 : 8 : 5 So Deepak Sacrificed = 3/5 12/25 = 15 12/25 = 3/25 Vivek Sacrificed Sacrificing Ratio = 2/5 8/25 = 10 8/25 = 2/25 = 3:2

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Sacrificing ratio of the existing partners is same as their existing ratio. (ii) The new partner purchases his/her share of the profit from the Existing partner in a particular ratio. In this case : the new profit sharing ratio of the existing partners is to be ascertained after deducting the sacrifice agreed from his share. It means the incoming partner has purchased some share of profit in a particular ratio from the existing partners. Illustration 2 Neha and Parteek are partners, sharing profit in the ratio of 5 : 3. They admit Nisha as a new partner for 1/6 share in profit. She acquires this share as 1/8 from Neha and 1/24 share from Parteek. Calculate the new profit sharing ratio and sacrificing ratio. Solution Nehas and Parteek existing ratio is 5 : 3 Nehas new share Parteeks new share Nishas share = 5/8-1/8 = 4/8 or 12/24 = 3/8-1/24 = 8/24 = 1/8+1/24 =4/24 12/24 : 8/24 : 4/24 (ii) Sacrifice ratio = 12 : 8 : 4 = 3 : 2 : 1 = 1/8 : 1/24 or 3 : 1

The new profit sharing ratio of Neha, Parteek and Nisha is

(iii) Existing partners surrender a particular portion of their share in favour of a new partner. In this case, sacrificied share of the each partner is to be ascertained. This ascertained by multiplying the existing partner share in the ratio of their 143

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Admission of a Partner sacrifice. The share sacrificed by the existing partners should be deducted from his existing share. Therefore, the new share of the existing partners is determined. The share of the incoming partner is the sum of sacrifice by the existing partners.

Notes

Illustration 3 Him and Raj shared profits in the ratio of 5:3. Jolly was admitted as a partner. Him surrendered 1/5 of his share and Raj 1/3 of his share in favour of Jolly. Calculate the new profit sharing ratio. Solution : Him surrenders 1/5 of his share, i.e., = 1/5 of 5/8 = 1/8 Raj surrenders 1/3 of his share, i.e., = 1/3 of 3/8 = 1/8 So, sacrificing ratio of Him and Raj is 1/8 : 1/8 or equal. Hims new share = 5/8 1/8 = 4/8

and Rajs new share = 3/8 1/8 = 2/8 Jollys New share = 1/8 + 1/8 = 2/8

New profit sharing ratio of Hims, Rajs and Jollys is = 4/8 : 2/8 : 2/8 or 4 : 2 : 2 or 2 : 1 : 1.

INTEXT QUESTIONS 19.1 I. Fill in the blanks with appropriate word/words : (i) Sacrificing ratio is calculated by deducting .................. share of profit from .................. share of profit of the existing partners. (ii) On admission of a new partner, the partnership firm is .................. (iii) The ratio in which partners surrender their profits is known as .................. (iv) The new ratio of existing partners is calculated by dividing remaining share of the profit in their .................. II. If Tarun and Nisha are partners sharing profits in the ratio of 5:3. What will be their sacrificing ratio if Rahul is admitted for 1/8 share of profit in the firm? 144

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Admission of a Partner 19.2 GOODWILL : MEANING, FACTORS AFFECTING GOODWILL AND VALUATION Meaning of Goodwill Over a period of time, a business firm develops a good name and reputation among the customers. This help the business earn some extra profits as compared to a newly set up business. In accounting capitalised value of this extra profit is known as goodwill. For example, your firm earns say Rs 1200 and the normal profit was expected from your firm Rs 700. The rate of return is @ 10%. In this case goodwill is ascertained as under : Step 1 : Excess profit = Actual profit Desired normal profit 1200 700 = 500 Goodwill = 500

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Notes

100 = Rs 5000 10 In other words, goodwill is the value of the reputation of a firm in respect of the profit earned in future over and above the normal profit. It may also be defined as the present value of the capacity to earn future profits. This means that a firm can be said to have goodwill only if it has capacity to earn profit in future. A firm earning only normal profits like similar firms cannot claim to have any goodwill.

Step 2 :

Factors affecting the Goodwill The factors affecting goodwill are as follows: 1. Location : If the firm is located at a central place, resulting in good sale, the goodwill tends to be high. 2. Nature of Business : A firm that produces high value products or having a stable demand is able to earn more profits and therefore has more goodwill. 3. Efficient management : A well managed firm earns higher profit and so the value of goodwill will also be high. 4. Quality : If a firm is known for the quality of its products the value of goodwill will be high. 5. Market Situation : The monopoly condition to earn high profits which leads to higher value of goodwill. 6. Special Advantages : The firm has special advantages like importing licenses, long term contracts for supply of material, patents, trademarks, etc. enjoy higher value of goodwill.

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Admission of a Partner Methods of valuation of Goodwill The methods of valuation of goodwill are generally decided by the partners among themselves while preparing partnership deed. The following are the important methods of valuing the goodwill of a firm :

Notes

(i) Average Profit Method (ii) Super Profit Method (iii) Capitalisation Method Let us learn about these methods. 1. Simple Average Profit Method : Under this method, average of the profits of certain given years is calculated. The value of the goodwill is calculated at an agreed number of years purchase of the average profit. Thus the goodwill is calculated as follows : Value of goodwill = Average Profit Number of year of purchase For example, the average profits of a firm of say 3 years and the goodwill is to be calculated at 2 years purchase of the average profits works out at Rs.25,000 and it is assumed that the same profits will be the value of the goodwill will be Rs.50,000[Rs.25,000 2]. Thus the goodwill is calculated as goodwill = average profits Number of years purchase. Illustration : 4 The profit for the last five years of a firm were as follows Year 2001 Rs. 1,20,000: Year 2002 Rs.1,50,000: Year 2003 Rs.1,70,000: Year 2004 Rs.1,90,000: Year 2005 Rs.2,00,000. Calculate goodwill of the firm on the basis of 3 years purchases of 5 years average profits. Solution : Year 2001 2002 2003 2004 2005 Total Profit (Rs.) 1,20,000 1,50,000 1,70,000 1,90,000 2,00,000 8,30,000

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Admission of a Partner Average Profit = Total Profit/No. of Years = Rs.8,30,000/5 = Rs.1,66,000 Goodwill = Average Profits No. of years purchased = Rs.1,66,000 3 = Rs.4,98,000 2. Super Profit Method : Super profits is the excess of actual profit over the normal profits. If a new business earns certain percentage of the capital employed, it is called normal profit. The value of the goodwill is calculated at an agreed number of years purchase is multiplied by the Super profit. Normal profit is that profit which is, earned by other business unit of the same business. Normal profit will be calculated as follows: Normal profit = Capital employed normal rate of return/100 Actual Profit Super Profit : These are the profit earned during the year or it is also taken as the average of the last few years profit. = Actual Profit Normal Profit

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For example, A firm earns profit of Rs.65,000 on a capital of Rs.4,80,000 and the normal rate of return in similar business is 10%. Then the normal profit is Rs.48,000[10% of the Rs.4,80,000]. The actual profit is Rs.65,000. Thus, Super profit = Actual profit Normal profit = Rs.65,000 Rs.48,000 = Rs.17,000 If value of Goodwill is calculated by 3 years purchase of super profit then goodwill is equal to Rs.51,000[ Rs.17,000 3]. (b) Weighted average method : This method is a modified version of average profit method. In this method each year profit is assigned a weight i.e. 1, 2, 3, 4 etc. Thereafter each year profit is multiplied by the weight and find product. The total of products is divided by the total of weight. As a result we find the weighted average profit. After this the value of goodwill is calculated to multiplied the weight average profit into the agreed number of years purchase. Thus the goodwills calculated as follows Total product of profit Weighted average profit = Total of weights

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Admission of a Partner Value of goodwill = Weighted average profit number of year of purchase (Note : This method is used when we observe that there is a tendency to increase the annual profits. Latest year profit is assigned the highest weight.

Notes

Illustration : 5 The profit of firm for past years were as follow : Profit Rs. 2002 2003 2004 2005 2006 80,000 85,000 90,000 1,00,000 1,10,000

The weight to be used are 1, 2, 3, 4, and 5 for the years from 2002- 2006. Calculate the value of goodwill on the basis of two years purchase of weighted average profit. Solution Year 2002 2003 2004 2005 2006 Profit 80,000 85,000 90,000 1,00,000 1,10,000 Weight 1 2 3 4 5 15 Weighted Average Profit = Products 80,000 170000 270000 400000 550000 1470000

14,70,000 = Rs 98,000 15

Goodwill = Rs 98000 2 = Rs 1,96,000 Illustration : 6 A firm earned the following net profits during the last 4 years

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Admission of a Partner Rs. 2003 2004 2005 2006 90,000 1,20,000 1,60,000 1,80,000

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Capital employed in the firm is Rs.10,00,000. The normal rate of profit is 10%. Calculate the value of the goodwill on the basis of 4 year purchase. Solution: Total profit of 4 years = Rs. 90,000 + Rs. 1,20,000 + Rs. 1,60,000 + Rs. 1,80,000 = Rs.5,50,000 Average annual profit = Rs.5,50,000/4 = Rs.1,37,500 Normal Profit = Rs.10% of Rs.10,00,000 = Rs.10,00,000 10/ 100 = Rs.1,00,000 Super profit = Rs. 1,37,500 Rs. 1,00,000 = Rs.37,500 Value of goodwill at 4 years of purchase 3. Capitalisation Method : In this method, goodwill is the amount of capital saved. Normally businessmen invest capital to operate business activities, and earn profit with the efficient utilisation of capital. If the business earns more profit by investing lesser amount of capital as compared to other business, who earned same amount of profit with more amount of capital, the saved amount is assumed to be goodwill. Under this method, the Goodwill is calculated in two ways: 1. Capitalisation of Average profit 2. Capitalisation of Super profit 149 = Rs. 37,500 4 = Rs. 1,50,000

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Admission of a Partner 1. Capitalisation of Average profit In this method, the value of goodwill is assumed to be excess of the capital value of average profit over the actual capital employed. Following formula is applied for Calculation of capital employed: Capital employed = Total assets outsider liabilities Following formula is applied for calculation of capitalised value of profit: Capitalised value of profit = Average Profit 100/ Normal rate of profit Goodwill = Capitalised value of profits Capital cimployed Illustration : 7 A firm earned average profit during the last few years is Rs.40,000 and the normal rate of return in similar business is 10%. The total assets is Rs.3,60,000 and outside liabilities is Rs.50,000. Calculate the value of goodwill with the help of Capitalisation of Average profit method. Solution: Capital employed = Total assets - Outside liabilities = Rs.3,60,000 - Rs.50,000 = Rs.3,10,000 Capitalised value of average profit = Average Profit 100/ Normal rate of profit = Rs. 40,000 100/10 = Rs. 4,00,000 Goodwill = Capitalised value Capital employed = Rs. 4,00,000 Rs. 3,10,000 = Rs. 90,000 Illustration : 8 The capital invested in a firm is Rs.4,60,000 and the rate of return in the similar business is 12%. The firm earns the following profit in the last 4 years: 2003 2004 Rs. 60,000 Rs. 70,000 2005 2006 Rs. 80,000 Rs. 90,000

Notes

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Admission of a Partner Solution Total Profit Average Profit = Rs.60,000 + Rs.70,000 + Rs.80,000 + Rs.90,000/4 = Rs.3,00,000/4 = Rs.75,000 Capitalised Value = Average profit 100/12 = Rs.75,000x100/12 = Rs.6,25,000 Goodwill = Capitalised value Capital employed = Rs.6,25,000 Rs.4,60,000

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Notes

= Rs.1,65,000 2. Capitalisation of Super profit In this method, the value of goodwill is calculated on the basis of super profit method. Following formula is applied for Calculation of capital employed: Goodwill = Super profit 100/normal rate of profit Illustration : 9 A firm earns a profit of Rs.26,000 and has invested capital amounting to Rs.2,20,000. In the same business normal rate of earning profit is 10%. Calculate the value of goodwill with the help of Capitalisation of super profit method. Solution Actual profit Super Profit = Rs. 26,000 = Actual Profit Normal Profit = Rs. 26,000 Rs.22,000 = Rs. 4,000 Goodwill = Super profit 100/normal rate of profit = Rs. 4,000 100/10 = Rs. 40,000 151 Normal profit = Rs. 2,20,000 x 10/ 100 = Rs.22,000

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Admission of a Partner

INTEXT QUESTIONS 19.2 I. Fill in the blanks with appropriate word/words : Notes (i) Goodwill is an .................. asset. (ii) The amount of goodwill is generally brought in by .................. Partner. (iii) Super Profit = Actual Profit .................. (iv) The methods of calculating goodwill are .................. and .................. (v) Capital employed = Total assets minus .................. II. (a) From the following information, Calculate average profit : year Year 2001 2002 2003 2004 Profit (Rs) 80,000 90,000 1,10,000 30,000 Loss (Rs)

Average Profit = Rs. (b) Calculate value of goodwill at two years purchase of average profit, ascertained in 2(a) above. 19.5 TREATMENT OF GOODWILL The new partner acquires his/her share profit from the existing partners. This will result in the reduction of the share of existing partners. Therefore, he/she compensates the existing partners for the sacrifices. He/she compensates them by making payment in cash or in kind. The payment is equal to his/her share in the goodwill. As per Accounting Standard 10(AS-10) that goodwill should be recorded in the books only when some consideration in money has been paid for it. Thus, if a new partner does not bring necessary cash for goodwill, no goodwill account can be raised in the books. He/she should pay for goodwill in addition to his/her contribution for capital. If, he/she does not pay for goodwill, then amount equal to his/her share of goodwill will be deducted from the capital. The amount brought in by him/ her as goodwill or amount of goodwill deducted from his/her capital and 152
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Admission of a Partner divided between the existing partners in their sacrificing ratio. At the time of admission of a new partner any goodwill appearing in the books, will be written off in existing ratio among the existing partners. There are different situations relating to treatment of goodwill at the time of admission of a new partner. These are discussed as under: 1. When the amount of goodwill is paid privately by the new partner. 2. When the new partner brings his/her share of goodwill in cash. 3. When the new partner does not bring his/her share of goodwill in cash. 1. The amount of goodwill is paid privately by the new partner If the amount of goodwill is paid by the new partner to the existing partner privately, no journal entries are made in the books of the firm. 2. The new partner brings his/her share of goodwill in cash and the amount of goodwill is retained in the Business: When, the new partner brings his/her share of goodwill in cash. The amount brought in by the new partner is transferred to the existing partner in the sacrificing ratio. If there is any goodwill account in the balance sheet of existing partner, it will be written off immediately in existing ratio among the partners. The journal entries are as follows: (i) The existing goodwill in the books of the firm will be written off in existing profit ratio as; Existing Partners Capital A/c To Goodwill A/c (Existing goodwill written off) (ii) For bringing cash for Capital and goodwill Cash/Bank A/c Dr. To Goodwill A/c To New partners Capital A/c (Cash brought in for capital and goodwill) (iii) For amount of goodwill transferred to existing partner capital account: Goodwill A/c Dr. To Existing Partners Capital/current A/c [individually] (The amount of goodwill credited to existing partners capitals in sacrificing ratio) Dr. [individually]

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Admission of a Partner Illustration : 10 Tanaya and Sumit are partners in a firm sharing profit in the ratio 5 : 3. They admitted Gauri as a new partner for 1/4th share in the profit. Gauri brings Rs. 30,000 for her share of goodwill and Rs.1,20,000 for capital. Make journal entries in the books of the firm after the admission of Gauri. The new profit sharing ratio will be 2 : 1 : 1. Solution : Books of Tanaya, Sumit and Gauri
Date Particulars LF Debit Amount (Rs) 1,50,000 30,000 1,20,000 Credit Amount (Rs)

Notes

1.

Bank A/c To Goodwill A/c To Gauris Capital A/c (cash brought by Gauri for her share of goodwill and capital) Goodwill A/c To Tanayas Capital A/c To Sumits Capital A/c

Dr.

Dr. 30,000 15,000 15,000

(Goodwill transferred to existing partners capital account in their profit sharing ratio)

Working Note: Calculation of sacrificing ratio [existing ratio new ratio]

Partners Tanaya Sumit Existing ratio 5/8 3/8 New ratio 2/4 1/4 Sacrifice 5/8 2/4 = 1/8 3/8 1/4 = 1/8 Sacrificing ratio Tanaya : Sumit 1:1

The amount of goodwill is withdrawn by the existing partners: (iv) Existing Partners Capital/current A/c To Cash/Bank A/c (The amount of goodwill withdrawn by the existing partners) It is to be noted that sometimes partners withdraw only 50% or 25% amount of goodwill. In such a case, entry will be made for the withdrawn amount only. 154
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Dr. [individually]

Admission of a Partner I1lustration : l1 In previous illustration, it is assumed that the full amount of goodwill is withdrawn by the Tanaya and Sumit . Make journal entry in the books of the firm. Solution: Books of Tanaya, Sumit and Gauri
Date Particulars LF Debit amount Rs 15,000 15,000 30,000 Credit amount Rs

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Notes

Tanayas Capital A/c Sumits Capital A/c To Bank A/c

Dr. Dr.

(Amount of Goodwill is withdrawn by them)

3. New partner does not bring his/her share of goodwill in cash: When the goodwill of the firm is calculated and the new partner is not able to bring his/her share of goodwill in cash, goodwill will be adjusted through new partners capital accounts. In this case new partners capital account is debited for his/her share of goodwill and the existing partners capital accounts are credited in their sacrificing ratio. The journal entry is as under:
New Partners Capital A/c To Existing Partners Capital A/c Dr. [individually in sacrificing ratio]

(New partners share in goodwill credited to exisitng partners in sacrificing ratio)

Goodwill appears in the books of the firm and new partner does not bring his/her share of goodwill in cash: If the goodwill account appears in the books of the firm, and the new partner is not able to bring goodwill in cash. In this case, the amount of goodwill existing in the books is written off by debiting the capital account of existing partners in their existing profit sharing ratio. Illustration 12 Ashmita and Sahil are partners sharing profit in the ratio of 3 : 2. They agree to admit Charu for 1/5 share in future profit. Charu brings Rs. 2,50,000 as capital and enable to bring her share of goodwill in cash, the goodwill of
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Admission of a Partner the firm to be valued at Rs. 1,80,000. At the time of admission goodwill existed in the books of the firm at Rs.80,000. Make necessary journal entries in the books of the firm. Solution:

Notes
Date Particulars

Books of Ashmita, Sahil and Charu

LF Debit amount Rs 2,50,000 2,50,000 Credit amoun Rs

Bank A/c To Charus Capital A/c

Dr.

[Cash brought by Charu for her capital] Ashmitas Capital A/c Sahils Capital A/c To Goodwill A/c [Goodwill written off before Charus admission] Charus Capital A/c To Ashmitas Capital A/c To Sahils Capital A/c [Existing partners capital a/c credited for goodwill on Charus admission in sacrificing ratio] Dr. 36,000 21,600 14,400 Dr. Dr. 48,000 32,000 80,000

Working Note : Ashmita and Sahil sacrifice their profit in favour of Charu in their existing profit sharing ratio i.e. 3 : 2. Therefore, the sacrificing ratio is 3 : 2. Value of Goodwill = Rs.1,80,000 Charus share in Profit = 1/5 Charus share of Goodwill = Rs. 1,80,000 1/5 = Rs. 36,000 New partner brings in only a part of his share of goodwill When new partner is not able to bring the full amount of his/her share of goodwill in cash and brings only a part of cash. In this case, the amount

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Admission of a Partner of goodwill brought by him is credited to goodwill account. At the time of goodwill transferred to capital account of existing partners, new partners capital account is debited with his unpaid share of goodwill besides debiting goodwill account with the amount of goodwill is paid by him. The journal entries is as
Bank A/c To Goodwill A/c [Part Amount of goodwill brought by new partnerI Goodwill A/c New Partners Capital A/c To Existing Partners Capital A/c Dr. Dr. [individually in sacrificing ratio] Dr.

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Notes

[Credit given to sacrificing partner by new partners in full share of goodwill]

Illustration 13 Tanu and Puneet are partners sharing profit in the ratio of 5 : 3. They admit Tarun into the firm for 1/6 share in profit which he takes 1/ 18 from Tanu and 2/ 18 from Puneet. Traun brings Rs.9,000 as goodwill out of his share of Rs. 12,000. No goodwill account appears in the books of the firm. Make necessary journal entries in the books of the firm. Solution: JOURNAL
Date Particulars LF Debit Amount Rs 9,000 9,000 Credit Amount Rs

Bank A/c To Goodwill A/c [A part of his share of goodwill brought in by Tarun] Goodwill A/c Tarun Capital A/c To Tanus Capital A/c To Puneets Capital A/c

Dr

Dr. Dr.

9,000 3,000 4,000 8,000

[Goodwill credited to Tanu and Puneet in their sacrificing ratio i.e 1 : 2]

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Admission of a Partner

INTEXT QUESTIONS 19.3 1. Fill in the blanks with appropriate word/words Notes (a) When Goodwill is paid privately, .................... will be made. (b) If the new partner brings amount of goodwill, the amount of goodwill brought by him is .................... to goodwill account. (c) The amount brought in by the new partner is transferred to the existing partner in the .................... ratio (d) Goodwill appearing in the books of the firm is .................... at the time of admission of a new partner. (e) If the new partner is not able to bring his share of goodwill, The new partners capital account is .................... for his share of goodwill 2. Match the appropriate entry of Column B with that of Column A. by writing the correct numbers of the column B in the space provided.
Column A 1. 2. 3. Goodwill is paid privately New partner is not able to bring cash for Goodwill. At the time of admission the goodwill appearing in the books is written off. 4. At the time of admission the amount of goodwill brought by the new partner is transferred to Capital A/c existing partners capital Column B I. Existing Partners Capital A/c To Goodwill A/c II Goodwill A/c Dr. To Existing partners Capital A/c III New Partners Capital A/c Dr To Existing Partners Capital A/c To Existing Partners Capital A/c IV No Entry

19.6 REVALUATION OF ASSETS AND LIABILITIES On admission of a new partner, the firm stands reconstituted and consequently the assets are revalued and liabilities are reassessed. It is necessary to show the true position of the firm at the time of admission of a new partner. If the values of the assets are raised, gain will increase the capital of the existing partners. Similarly, any decrease in the value of assets, i.e. loss will decrease the capital of the existing partners. For this purpose aRevaluation Account is prepared. This account is credited with all increases in the value 158
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Admission of a Partner of assets and decrease in the value of liabilities. It is debited with decrease on account of value of assets and increase in the value of liabilities. The balance of this account shows a gain or loss on revaluation which is transferred to the existing partners capital account in existing profit sharing ratio The following journal entries made for this purpose are: (i) For increase in the value of assets: Asset A/c To Revaluation A/c (ii) For decrease in the value of Asset Revaluation A/c To Asset A/c [Decrease in the value of assets] (iii) For increase in the value of Liabilities: Revaluation A/c To Liabilities A/c [Increase in the value of Liabilities] (iv) For decrease in the value of Liabilities: Liabilities A/c To Revaluation A/c [Decrease in the value of Liabilities] (v) For unrecorded Assets Asset A/c [unrecorded] To Revaluation A/c [Unrecorded asset recorded at actual value] (vi) For unrecorded Liability : Revaluation A/c To Liability A/c [unrecorded] [Unrecorded Liability recorded at actual value] (vii) For transfer of gain on revaluation: Revaluation A/c Dr. To Existing Partners Capital/Current A/c [Profit on revaluation transferred to capital account in existing ratio] Dr. Dr. Dr. Dr. (individually) Dr. (individually) Dr. (individually)

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Admission of a Partner (viii)For transfer of loss on revaluation: Existing Partners Capital/Current A/c Dr. To Revaluation A/c

Notes

[Loss on revaluation transferred to capital account in existing ratio] Proforma of Revaluation account is given as under: Revaluation account
Dr. Particulars Amount (Rs.) Particulars Cr. Amount (Rs.)

Assets [decrease in value] Liabilities [increase in value] Liabilities[unrecordcd] Profit transferred to Capital A/c [Individually in existing ratio]

Assets [Increase in value] Liabilities [Decrease in value] Assets [unrecorded] Loss transferred to Capital A/c [Individually in existing ratio]

Illustration 14 Karan and Tarun are partners sharing profit and losses in the ratio of 2 : 1. Their Balance Sheet was as follows: Balance Sheet of Karan and Tarun as on December 31,2006
Liabilities Creditors Bills payable Building Capitals: Karan Tarun 40,000 30,000 70,000 87,000 87,000 20,000 Investment Machinery Stock 15,000 13,000 6,000 Amount (Rs.) 10,000 7,000 Assets Cash in hand Debtors Amount (Rs.) 7,000 26,000

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Admission of a Partner Nikhil is admitted as a partner and assets are revalued and liabilities reassessed as follows: (i) Create a Provision for doubtful debt on debtors at Rs.800. (ii) Building and investment are appreciated by 10%. (iii) Machinery is deprecated at 5% (iv) Creditors were overestimated by Rs.500. Make journal entries and Prepare revaluation account before the admission of Nikhil. Solution Journal
Date Particulars LF Debit Amount (Rs.) 800 800 Credit Amount (Rs.)

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Notes

Revaluation A/c

Dr.

To Provision for Doubtful Debts [Provision made for doubtful debts] Building A/c Investment A/c To Revaluation A/c [Increase in the value of Building & Investment] Revaluation A/c To Machinery A/c [Decrease in the value of machinery] Creditor A/c To Revaluation A/c [Value of creditors reduced by Rs.500] Dr. 500 Dr. 650 Dr. Dr. 2,000 1,500

3,500

650

500

Revaluation account
Dr. Particulars Provision for Doubtful Debts Machinery Profit transferred to Karans Capital 1,700 Taruns Capital 850 Amount (Rs.) 800 650 Particulars Building Investment Creditors Cr. Amount (Rs.) 2,000 1,500 500

2,550 4,000 4,000

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Admission of a Partner 19.7 ADJUSTMENTS OF RESERVES AND ACCUMULATED PROFIT OR LOSSES Any accumulated profit or reserve appearing in the balance sheet at the time of admission of a new partner, is credited in the existing partners capital account in existing profit sharing ratio. If there is any loss, the same will be debited to the existing partner in the existing ratio. For this purpose the following journal entries are made as: (i) For distribution of undistributed profit and reserve.
Reserves A/c Profit & Loss A/c(Profit) To Partners Capital A/c [Reserves and Profit & Loss (Profit) transferred to all partners capitals A/c in existing profit sharing ratio] (ii) For distribution of loss Partners Capital A/c ToProfit and Loss A/c [Loss] [Profit & Loss (loss) transferred to all partners capitals A/c in existing profit sharing ratio] Dr. [individually] Dr Dr. [individually]

Notes

Illustration 15 Rohit and Soniya are partners sharing profit in the ratio of 4:3. On lst April 2006 they admit Meena as as new partner for 1/4 shares in profits. On that date the balance sheet of the firm shows a balance of Rs.70,000 in general reserve and debit balance of Profit and Loss A/c of Rs.21,000. make the necessary journal entries. Solution Journal
Date Particulars LF Debit Amount (Rs.) 70,000 40,000 30,000 Credit Amount (Rs.)

General Reserve Dr To Rohits Capital A/c To Soniyas Capital A/c [Transfer of general reserve to the existing partners capital accounts] Rohits Capital A/c Dr. Soniyas Capital A/c Dr. To Profit & Loss A/c [transfer of accumulated Loss to existing partners capital A/c]

12,000 9,000 21000

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Admission of a Partner Illustration : l6 Bhanu and Etika are partners sharing profit and losses in the ratio of 3:2 respectively. Their Balance Sheet as on March 31, 2006 was as under: Balance Sheet of Bhanu and Etika as on December 31,2006
Particulars Creditors Capitals: Bhanu Etika 70,000 70,000 1,40,000 Amount (Rs.) 28,000 Particulars Cash in hand Cash at Bank Debtors Buildings Furniture Machinery Stock 1,68,000 Amount (Rs.) 3,000 23,000 19,000 65,000 15,000 13,000 30,000 1,68,000

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Notes

On that date, they admit Deepak into partnership for 1/3 share in future profit on the following terms: (i) Furniture and stock are to be depreciated by 10%. (ii) Building is appreciated by Rs.20,000. (iii) 5% provision is to be created on Debtors for doubtful debts. (iv) Deepak is to bring in Rs.50,000 as his capital and Rs.30,000 as goodwill. Make necessary ledger account and balance sheet of the new firm. Solution : Revaluation account
Dr. Particulars Provision for Doubtful Debts Furniture Stock Profit transferred to Bhanus Capital A/c 8,730 Etikas Capital A/c 5,820 14,550 20,000 20,000 1,500 3,000 Amount (Rs.) 950 Particulars Building Cr. Amount (Rs.) 20,000

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Admission of a Partner Capital account

Dr. Particulars Balance c/d (closing) Bhanu (Rs) 96,730 Etika Deepak Particulars (Rs) (Rs) 87,820 50,000 Balance b/d (closing) Revaluation Bhanu (Rs) 70,000 8,730 Cr. Etika Deepak (Rs) (Rs) 70,000 5,820 12,000 87,820 50,000 50,000

Notes

(Profit) Bank A/c Goodwill A/c 18,000 96,730 87,820 50,000 96,730

Balance Sheet of Bhanu , Etika and Deepak as on December 31, 2006

Liabilities Creditors Capitals: Bhanu Etika Deepak Amount (Rs.) 28,000 96,730 87,820 50,000 Assets Cash in hand Cash at Bank Debtors Less Provision Stock Furniture Machinery Building Amount (Rs.) 3,000 1,03,000 19,000 950 18,050 27,000 13,500 13,000 85,000 2,62,550

2,34,550

2,62,550

Illustration: 17 Ashu and Pankaj are partners sharing profit in the ratio of 3 : 2, their Balance sheet on March 31, 2007 was as follows: Balance Sheet of Ashu and Pankaj as on March 31,2007
Liabilities Creditors Bills Payable Salaries outstanding Profit & Loss Capitals: Ashu 1,50,000 Pankaj 1,30,000 Amount (Rs.) 38,000 40,000 5,000 40,000 Assets Cash in hand Cash at Bank Debtors Stock Machinery Goodwill Amount (Rs.) 15,000 62,000 58,000 85,000 1,45,000 38,000 4,03,000

2,80,000 4,03,000

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Admission of a Partner They admitted Gurdeep into partnership on the following terms on March 31, 2007. (a) New profit sharing ratio is agreed as 3 : 2 : l. (b) He will bring in Rs.1,00,000 as his shared capital and Rs.30,000 as his share of goodwill. (c) Machinery is appreciated by 10% (d) Stock is valued at Rs. 87,000. (e) Creditors are unrecorded to the extent of Rs.6,000. (f) A provision for doubtful debts is to be created by 4% on debtors. Prepare Revaluation account, Capital Accounts, Bank account and Balance Sheet of the new firm after admission of Gurdeep. Solution Revaluation account
Dr. Particulars Provision for Doubtful Debts Creditors Profit transferred to Ashus Capital A/c 4,908 8,180 16,500 16,500 6,000 Amount (Rs.) 2,320 Particulars Machinery Stock Cr. Amount (Rs.) 14,500 2,000

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Partnership Accounts

Notes

Pankajs Capital A/c 3,272

Capital account
Dr. Particulars Goodwill A/c Balance c/d Ashu (Rs) 22,800 Pankaj (Rs) 15,200 GurdeepParticulars (Rs) Ashu (Rs) Pankaj (Rs) Cr. Gurdeep (Rs)

Balance b/d 1,50,000 1,30,000 24,000 4,908 18,000 16,000 3,272

1,74,108 1,46,072 1,00,000 Profit & Loss A/c Revaluation A/c (Profit) Bank A/c Goodwill A/c 1,96,908 1,61,272 50,000

1,00,000 12,000

1,96,908 1,61,272 1,00,000

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Admission of a Partner Balance Sheet of Ashu Pankaj and Gurdeep as on March 31,2007
Liabilities Amount (Rs.) 44,000 40,000 5,000 Assets Amount (Rs.) 15,000 1,92,000 58,000 (2,320) 55,680 87,000 1,59,500 5,09,180

Notes
Creditors Bills Payable Salaries outstanding Capitals: Ashu Pankaj Gurdeep 1,74,108 1,46,072 1,00,000 4,20,180 5,09,180 Cash in hand Cash at Bank Debtors Less Provision of doubtful debts Stock Machinery

Bank account
Dr Particulars Cr

18 15 3 = Amount 30 Particulars 30
(Rs}

Amount (Rs)

Balance b/d Gurdeeps Capital A/c Goodwill A/c

62,000 1,00,000 30,000 1,92,000

Balance c/d

1,92,000

1,92,000

Working Note: Sacrificing Ratio = Existing Ratio New Ratio

Partners Existing ratio New ratio sacrifice Sacrificing ratio

Ashu

3/5

3/6

Ashu:Pankaj

Pankaj

2/5

2/6

12 10 2 = 30 30

3:2

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Admission of a Partner Illustration: 18 Himani and Harsha are partners in a firm. Their Balance Sheet on March 31, 2006 was as follows: Balance Sheet of Himani and Harsha as on March 31,2006
Liabilities Amount (Rs.) 3,000 Assets Amount (Rs.) 20,000 90,000 45,000 41,000 1,10,000 40,000

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Notes

Provision for Doubtful Debts Creditors Bills Payable Outstanding Expenses Capitals: Himani Harsha 1,70,000 1,20,000

Cash Sundry Debtors

36,000 15,000 2,000

Stock Machinery Building Goodwill

2,90,000 3,46,000 3,46,000

On April 1, 2006 they admitted Charu as a Partner on the following terms: (i) Charu brings Rs.90,000 as her share of capital and she is unable to bring any amount for goodwill. (ii) Goodwill is valued at 2 Years purchase of the average profit of last 4 years. The Profit of last 4 years amounted to Rs.20,000: Rs.30,000: Rs.30,000: Rs.40,000 Respectively. (iii) New Profit sharing ratio between Himanis, Harshas and Charu are 3 : 2 : 1. (iv) Outstanding Expenses to be brought down to Rs.500. (v) The provision for doubtful debts is to be increased upto 5% on Debtors. (vi) Machinery is depreciated by 10% and Stock is valued at Rs.47,000. Prepare Revaluation Account, Partners Capital account and opening Balance sheet of the New firm.

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Admission of a Partner Solution: Revaluation account

Dr. Particulars Cr. Amount (Rs.) 1,500 4,100 Particulars Outstanding Expenses Stock Loss on revaluation transferred to Himanis Capital A/c 1,050 Harshas Capital A/c 1,050 Amount (Rs.) 1,500 2,000

Notes
Provision for Doubtful Debts Machinery

5,600

2,100 5,600

Capital account
Dr. Particulars Goodwill A/c Revaluation A/c (loss) Harsha,s Capital Balance c/d 1,48,950 1,70,000 1,08,950 1,30,000 10,000 80,000 90,000 1,70,000 1,30,000 90,000 Himani (Rs) 20,000 1,050 Harsha (Rs) 20,000 1,050 Charu Particulars (Rs) Balance b/d Charus Capital A/c Bank A/c Himani (Rs) Harsha (Rs) Cr. Charu (Rs) 90,000

1,70,000 1,20,000 10,000

Balance Sheet of Himani,Harsha and Charu as on March 31,2007

Liabilities Provision for Doubtful Debts Creditors Bills Payable Outstanding Expenses Capitals: Himani 1,48,950 Harsha 1,08,950 Charu 80,000 Amount (Rs.) 4,500 Assets Cash Bank Sundry Debtors Stock Machinery Building Amount (Rs.) 70,000 90,000 90,000 47,000 36,900 1,10,000

36,000 15,000 500

2,90,000 3,93,900 3,93,900

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Admission of a Partner Working Note: (i) Valuation of Goodwill: Total Profit = Rs.20,000 + Rs.30,000 + Rs.30,000 + Rs.40,000 Average Profit = Rs.1,20,000/4 = Rs.30,000 Goodwill = Rs.30,000 2 = Rs.60,000

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Notes

Charus Share of Goodwill = Rs.60,000 1/6 = Rs.10,000 (ii) Sacrificing Ratio = Existing Ratio New Ratio Himanis =
33 =0 6

Harshas = Only Harsha sacrificed his share of profit.

3 2 1 = 6 6

INTEXT QUESTIONS 19.4 Fill in the blanks with suitable word/words :

(i) Revaluation account is debited for an increase in the value of ....................... (ii) Revaluation account is credited for an increase in the value of ....................... (iii) Revaluation account is credited for an decrease in the value of ....................... (iv) Revaluation account is debited for an decrease in the value of ....................... (v) Profit on revaluation is transferred to the ....................... of the partners capital account. (vi) Reserve should be distributed amongst the existing partners in ....................... (vii) Accumulated Losses are ....................... in the existing partners capital account in existing profit sharing ratio.

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Admission of a Partner 19.8 ADJUSTMENT OF PARTNERS CAPITAL Sometime, at the time of admission, the partners agree that their capitals be adjusted in proportion to their profit sharing ratio. For this purpose, the capital accounts of the existing partners are prepared, making all adjustments, on account of goodwill, general-reserve, revaluation of assets and resettlement of liabilities. The actual capital so adjust will be compared with the amount of capital that should be kept in the business after the admission of the new partner. The excess if any, of adjusted actual capital over the proportionate capital will either be withdrawn or transferred to current account and vice versa. The partners may decide to calculate the capitals which are to be maintained in the new firm either on the basis of new Partners Capital and his profit sharing ratio or on the basis of the existing partners capital account balances. 1. Adjustment of existing partners capital on the basis of the capital of the new partner: If the capital of the new partner is given, the entire capital of the new firm will be determined on the basis of the new partners capital and his profit sharing ratio. Therefore the capital of other partners is ascertained by dividing the total capital as per his profit sharing ratio. If the existing capital of the partner after adjustment is in excess of his new capital, the excess amount is withdrawn by partner or transferred to the credit of his current account. If the existing capital of the partner is less than his new capital, the partner brings the short amount or makes transfer to the debit of his current account. The journal entries are made as under: (i) when excess amount is withdrawn by the partner or transferred to current account. Existing Partners Capital A/c Dr. To Bank A/c or Partner Current A/c (Excess amount is withdrawn by the partner or transferred to current account]

Notes

(ii) For bringing in the Deficit amount or Balance transferred to current account. Bank A/c or Partner Current A/c Dr. To Existing Partners Capital A/c (Bringing the Deficit amount or Balance transferred to current account)

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Admission of a Partner Illustration 19 Asha and Boby are partners sharing profit in the ratio of 5:3 with capital of Rs.80,000 and Rs.70,000 respectively. They admit a new partner Nitin. The new profit sharing ratio of Asha, Boby and Nitin is 5:3:2 respectively. Ntin brings Rs.40,000 as capital. The profit on revaluation of assets and reassessment of liabilities is Rs.6,400. it is agreed that capitals of the partners should be in the new profit sharing ratio. Calculate new capital of each partner. Solution: Actual Capital of Asha and Boby Asha (Rs.) Balance in Capital A/c Add Profit on Revaluation (5 : 3) Capital after Adjustment 80,000 4,000 84,000 Boby (Rs.) 70,000 2,400 72,400

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Notes

Calculation of new capital of the firm and existing partners capital Nitins Share in the firm = 2/10 Nitins brings 40,000 for 2/10 Share Total capital of the new firm in terms of Nitins capital = 40,000 10/2 = Rs.2,00,000 Ashas share in New Capital = 2,00,000 5/10 = Rs.1,00,000 Bobys share in New Capital = 2,00,000 3/10 = Rs.60,000 On comparing Ashas adjusted capital with the new capital we find that the Asha brings Rs.16,000 [Rs.1,00,000 - Rs.84,000] or the amount may be debited to her current account. On comparing the Bobys adjusted capital with the new capital, we find that the Boby is to withdraw Rs. 12,400 [Rs.72,400 - Rs.60,000] or the amount may be credited to his current account. 2. When the capital of the new partner is calculated in proportion to the total capital of the new firm. Sometimes the capital of the new partner is not given. He/she is required to bring an amount proportionate to his/her share of profit. In such a case,

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Admission of a Partner new partners capital will be calculated on the basis of adjusted capital of the existing partners. For example, the capital account of Sumit and Anu show the balance after all adjustments and revaluation are Rs.90,000 and Rs.60,000 respectively. They admit Rohit as a new partner for 1/4 share in the profits. Rohits capital is calculated as follows: Total share = 1 Rohits share in the profit = 1/4 Remaining share = 1 1/4 = 3/4

Notes

3/4 share of profit combined capital of Sumit and Anu = Rs.90,000+Rs.60,000 = Rs.1,50,000 Total Capital of the firm = Rs.1,50,000 4/3 = Rs.2,00,000 Rohits capital for 1/4 share of profits = Rs.2,00,000 1/4 = Rs.50,000 Rohit brings in Rs.50,000 as his Capital Illustration : 20 Manoj and Hema are partner sharing profit and losses in the ratio of 7 : 3. On March 31,2006, their Balance Sheet was as follows: Balance Sheet of Manoj and Hema as on March 31,2006
Liabilities Capital : Manoj Hema Sundry creditors Bills Payable Reserve 88,00 64,00 1,52,000 32,000 38,000 18,000 Amount (Rs.) Assets Bank Sundry Debtors Bills Receivable Stock Investment Machinery Building Goodwill 2,40,000 Amount (Rs.) 12,000 45,000 30,000 35,000 13,000 40,000 45,000 20,000 2,40,000

They admit Tarun into partnership on the following terms: (i) Stock is revalued at Rs.40,000.

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Admission of a Partner (ii) Building, Machinery and Investment are depreciated by 12%. (iii) Prepaid Insurance is Rs. 1,000. (iv) Tarun brings Rs.40,000 as his capital and Rs. 12,000 for goodwill for 1/6 share of profit of the firm. (v) Capital of the partners shall be proportionate to their profit sharing ratio. Adjustment of Capitals to be made by Cash. Prepare Revaluation Account, Partners Capital Account , Cash Account and Balance Sheet of the new firm. Solution: Revaluation account
Dr. Particulars Amount (Rs.) 5,400 4,800 1,560 Particulars Cr. Amount (Rs.) 5,000 1,000

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Partnership Accounts

Notes

Building Machinery Investment

Stock Prepaid Insurance Loss transferred to Manojs Capital Hemas Capital 4,032 1,728

5,760 11,760

11,760

Capital account
Dr. Particulars Manoj (Rs) 14,000 4,032 Hema (Rs) 6,000 1,728 Tarun (Rs) Particulars Manoj (Rs) 88,000 12,600 Hema (Rs) 64,000 5,400 Cr. Tarun (Rs)

Goodwill Revaluation A/c (loss) (loss) Bank A/c Balance c/d

Balance b/d General Reserve Goodwill A/c

8,400 49,032

3,600 40,000

1,40,000

5,272 60,000

40,000

Bank A/c Bank A/c (Profit)

1,58,032

73,000

90,000

1,58,032

73,000

90,000

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Admission of a Partner Balance Sheet of Manoj, Hema and Tarun as on March 31, 2006
Liabilities Amount (Rs.) 38,000 32,000 Bank Bills Receivable Sundry Debtors 1,40,000 60,000 40,000 2,40,000 Stock Investment Prepaid Insurance Machinery Building 3,10,000 Assets Amount (Rs.) 1,07,760 30,000 45,000 40,000 11,440 1,000 35,200 39,600 3,10,000

Notes

Bills Payable Sundry creditors Capitals A/c: Manoj Hema Tarun

Bank account
Dr Particulars Balance b/d Manojs Capital A/c Goodwill A/c Taruns Capital A/c Amount Particulars (Rs) 12,000 49,032 12,000 40,000 1,13,032 1,13,032 Hemas Capital A/c Balance c/d Cr Amount (Rs) 5,272 1,07,760

Working Note: (a) Calculation of New profit Sharing Ratio: Total Profit = 1 Tarun gets = 1/6 Remaining Profit = 1 1/6 = 5/6 share by Manoj and Hema in their existing profit sharing ratio. Manojs new share = 5/6 7/10 = 7/12 Hemas new shares = 5/6 3/10 = 3/12 New profit sharing ratio of Manoj, Hema and Tarun = 7/12 : 3/12 : 1/6 or 7 : 3 : 2.

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Admission of a Partner (b) Adjustment of Capital: Tarun brought capital for 1/6 share = Rs.40,000 Total Capital of the firm = Rs. 40,000 6/1 = Rs.2,40,000 Manojs Capital = Rs. 2,40,000 7/12 = Rs. 1,40,000 Hemas Capital = Rs. 2,40,000 3/12 = Rs.60,000 Taruns Capital = Rs. 2,40,000 2/12 = Rs.40,000

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Notes

INTEXT QUESTIONS 19.5 Tanu and Anu are partners sharing profit in the ratio 3:2. They admit Sumit as a new partner of 1/5 share in the profit and brings Rs.50,000 for his capital. The Capital of Tanu and Anu after all the adjustments are Rs.95,000 and 90,000 respectively. Calculate the total capital of the new firm and capital of the each partner on the basis of the new partners capital.

WHAT YOU HAVE LEARNT Admission of a partner Meaning When a partner so admitted to the existing partnership firm, it is called admission of a partner. On the admission of a new partner, the following adjustments become necessary: (i) Adjustment in profit sharing ratio; (ii) Adjustment of Goodwill; (iii) Adjustment for revaluation of assets and reassessment of liabilities; (iv) Distribution of accumulated profits and reserves; and (v) Adjustment of partners capitals. Adjustment in Profit sharing Ratio When new partner is admitted he/she acquires his/her share in profit from the existing partners. As a result, the profit sharing ratio in the new firm is decided mutually between the existing partners and the new partner. Sacrificing Ratio At the time of admission of an incoming partner, existing partners have to surrender some of their share in favour of the new partner. The ratio in which they surrender their profits is known as sacrifice ratio. 175

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Admission of a Partner Meaning of Goodwill: A established firm develops wide business connections. This helps the firm to earn more profits as compared to a new firm. The monetary value of such advantage is known as Goodwill.

Notes

Methods of valuation of Goodwill (i) Average Profit Method (ii) Super Profit Method (iii) Capitalisation Method Revaluation of assets and liabilities On admission of a new partner, the firm is reconstituted and the assets are revalued and liabilities are reassessed. It is necessary to show the true position of the firm at the time of admission of a new partner. Adjustments of reserves and accumulated profit or losses Any accumulated profit or reserve appearing in the balance sheet at the time of admission of a new partner, are credited in the existing partners capital account in existing profit sharing ratio. If there is any loss, the same will be debited to the existing partner in the existing ratio. Adjustment of partners capital Sometime, at the time of admission, the partners agreed that their capitals are adjusted to the proportionate to their profit sharing ratio. The partners may decide to calculate the capitals which are to be maintained in the new firm either on the basis of new Partners Capital and his profit sharing ratio or on the basis of the existing partners capital accounts.

TERMINAL QUESTIONS 1. State the meaning of Sacrificing Ratio. 2. State the meaning of Goodwill. 3. Explain the methods of valuation of goodwill. 4. Explain Revaluation Account. Why assets are liabilities are revalued at the time of admission of a new partner?

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Admission of a Partner 5. Explain the treatment of accumulated profit or losses and Reserves at the time of admission of a new partner. 6. Explain the calculation of the proportionate capital of the new partner in case of admission of a partner.

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Notes 7. A and B are partners sharing profit in the ratio of 5 : 3 is admitted to the partnership for 1/4 share of future profit . Calculate the new profit sharing ratio and sacrificing ratio. 8. Rohit and Meena are partners sharing and losses in the ratio of 7 : 3. Rohit surrenders 1/7 of his share and Meena surrenders 1/3 of his share in favour of Teena,a new partner. Calculate the new profit sharing ratio. 9. A firm has earned Rs.3,00,000 as average profit for the last few year. Normal rate of return in the class of business is 15%. Find out goodwill according to Capitalisation of Super profit, if the value of net assets amounted to Rs. 16,00,000. 10. The following is the Balance Sheet of Tarun and Ashima sharing profit and losses in the ratio of 2 : 1.
Liabilities Capitals: Tarun Ashima Sundry creditors 50,000 40,000 20,000 1,10,000 90,000 Amount (Rs.) Cash Sundry Debtors Stock Furniture Building Assets Amount (Rs.) 12,000 60,000 12,000 6,000 20,000 1,10,000

They agreed to admit Sunita into partnership on the following terms: (i) Sunita tp pay Rs.9,000 as Goodwill. (ii) Sunita bring Rs. 11,000 as her Capital for 1/4 share of profit in the business. (iii) Building and furniture to be depreciated at 5%. Stock is reduced by Rs. 1,600 and Bad Debt Reserve Rs.1,300 to be provided for. Prepare necessary ledge account and balance sheet after admission. 11. A and B are partner in a firm sharing profit in the ratio 2 : 1. C is admitted into the firm with 1/4 share in profits. He will bring in Rs.60,000 as capital and capital of A and B are to be adjusted in the profit sharing ratio. The Balance sheet of A and B as on March 31, 2006 was as under:

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Admission of a Partner Balance Sheet of A and B as on March 31,2006

Liabilities Sundry creditors Amount (Rs.) 16,000 8,000 12,000 1,00,000 64,000 1,64, 000 2,00,000 Assets Cash in Hand Cash at Bank Sundry Debtors Stock Furniture Machinery Building Amount (Rs.) 4,000 20,000 16,000 20,000 10,000 50,000 80,000 2,00,000

Notes

Bills Payable General Reserve Capitals: A B

Other terms of agreement are as under: l. C will bring in Rs.24,000 as his share of Goodwill. 2. Building was valued at Rs.90,000 and Machinery at Rs.46,000 3. A provision for bad debts is to be created @ 6% on Debtors. 4. The capital account of A and B are to be adjusted through cash. Prepare necessary account and Balance Sheet after Cs admission.

ANSWERS TO INTEXT QUESTIONS Intext Questions 19.1 (i) New, Existing (ii) reconstituted (iv) existing ratio II. Sacrificing ratio 5 : 3. Intext Questions 19.2 (i) (iv) (v) II. (a) I. intangible (ii) incoming (iii) Normal Profit Average profit, super profit and Capitalisation Outsider liabilities Rs. 62,500 (b) Rs.1,25,000 I. (iii) sacrifice ratio

Intext Questions 19.3 I. (i) no entry (iv) debited II. 1. IV (ii) credited (v) debited 3. I (iii) 4. II. sacrificing

2. III

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Admission of a Partner Intext Questions 19.4 (i) Liabilities, (ii) Assets, (v) Credit side. (iii) Liabilities, (vi) Existing ratio

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Partnership Accounts

(iv) Assets, (vi) debited Intext Questions 19.5

Notes

Total Capital of the new firm Rs.2,50,000 Capital of Tanus Rs.1,20,000, capital of Anus Rs.80,000 Answers to Practical Terminal Questions 7. New profit sharing ratio 15 : 9 : 8, Sacrificing ratio 5 : 3. 8. New profit sharing ratio 3 : 1 : 1 9. Goodwill Rs. 4,00,000 10. Loss on Revaluation Rs. 4,200, Total of Balance Sheet Rs. 1,25,800 11. Profit on Revaluation Rs. 5,040, Capital of A Rs. 1,20,000, B & C Rs.60,000 each, Balance sheet Total Rs. 2,64,000 Activity : Talk to the owners of five such business organisations which are doing good business and have built up good reputation in the market. Write against each firm the factor that have contributed to its goodwill
Name of the firm Nature of Business Factors contributing to the goodwill of the firm

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