Question

How will you deal with a change in the profit sharing ratio among existing partners?

Take imaginary figures to illustrate your answer?

Answer 1

Usually due to the admission, retirement or death of a partner or sometimes due to the general agreement among the partners, they may decide to change the profit sharing ratio. Various adjustments that should be considered during the change in the profit sharing ratio are , goodwill, reserves and accumulated profits, profit or loss on the revaluation of assets and liabilities and adjustment of capitals, etc. The general reserves and accumulated profits (if any) and profit (or loss) on revaluation on assets and liabilities should be credited (debited) in the Partner's Capital Account in their old profit sharing ratio.

But if the existing partners decide to change the profit sharing ratio then some partners gain (gaining partners) at the cost of other partners (sacrificing partners). Thus, the former should compensate the latter. Therefore, the gaining Partners’ Capital Account s are debited to the extent of their gain and sacrificing Partners' Capital Accounts are credited to extent of their sacrifice. The following Journal entry is passed.

Gaining Partner's Capital A/c  Dr. 
        To Sacrificing Partner's Capital A/c
(Adjustment entry passed)

Example:

A, B, C are partners in a firm sharing profit and loss in 3:2:1 ratio. They decide to share profit and loss equally in future. On that date, the books of the firm shows Rs 1,20,000 as general reserve, profit due to revaluation of building Rs 30,000. The following adjustment entry is passed through the capital accounts without affecting the books of accounts.

Particulars	A	B	C
Share of profit as per 3:2:1	60,000	40,000	20,000
Profit on revaluation of building	15,000	10,000	5,000
	75,000	50,000	25,000
Share of profit as per 1:1:1	50,000	50,000	5,000
Difference (Gain or Loss)	25,000 (Loss)	-	25,000 (Gain)

Hence, in this example, C gains at the cost of A, so the partner A needs to be compensated by C with the amount of Rs 25,000. The following adjustment entry is passed.

Adjustment entry:

C's Capital A/c    Dr.      25000
   To A's Capital A/c                         25000
(Adjustment entry passed)