Revision: Accounting for Not-for-profit Organisations and Partnership Firms >> Reconstitution of Partnership CUET (UG) Reconstitution of Partnership

• ''The term goodwill is generally used to denote the benefit arising from connections and reputation.'' - Lord Lindley
• ''Goodwill is nothing more than the probability that the old customers will resort to the old place.'' - Lord Eldon
• ''Goodwill may be said to be that element arising from the reputation, connections or other advantages possessed by a business which enables it to earn greater profits than the return normally to be expected on the capital represented by the net tangible assets employed in the business.'' - Spicer and Pegler 
• "When a man pays for goodwill, he pays for something which places him in the position of being able to earn more than he would be able to do by his own unaided efforts." - Dicksee

Net Effect = Accumulated Profits + Reserves - Accumulated Losses.

(i) Old Partners’ New Shares = Remaining Share × Old Ratio

(ii) Remaining Share = 1 – New Partner’s Share

(i) New Partner's Share = Sum of Profit Shares Given by Old Partners

(ii) New Share of Old Partner = Old Share – Share Given to New Partner

(i) Old Partner’s New Share = Old Share – Sacrificed Share

(ii) New Partner’s Share = Sum of Sacrificed Shares (as per agreed ratio)

\[\text{Total Capital of the New Firm}=\frac{\text{Capital of the New Partner}}{\text{Share of Profit of New Partner}}\]

\[\text{Total Capital of the New Firm}=\frac{\text{Total adjusted Capital of Old Partners}}{\text{Total Profit Share of Old Partners}}\]

New Profit-sharing Ratio = Old Profit - sharing Ratio

New Profit Share of remaining Partner = Old Profit Share + Profit Share Gained

New Profit Share = Existing (Old) Profit Share + Gained Profit Share (Share of Retired / Deceased Partner Taken)

Retiring/Deceased Partner's Share of Goodwill = Value of Firm’s Goodwill × Share of Profit of Retiring/Deceased Partner

A. Distribution of Reserves and Accumulated Profits (in Old Ratio):

When distributing accumulated profits (e.g., General Reserve, Reserve Fund, P&L Credit Balance):

General Reserve A/c                          ...Dr.

Reserve Fund A/c                              ...Dr.

Profit & Loss A/c (Credit balance)   ...Dr.

      To Old Partner's Capital A/cs or Current A/cs

B. Distribution of Specific Reserves (Only Surplus):

If only the surplus amount is to be distributed (e.g., Workmen's Compensation Reserve, IFR):

Workmen's Compensation Reserve A/c      ...Dr.

Investment Fluctuation Reserve A/c           ....Dr.

           To All Partners' Capital A/c or Current A/c

C. Distribution of Accumulated Losses (in Old Ratio):

When accumulated losses (e.g., P&L Debit Balance, Advertisement Suspense A/c) are transferred:

All Partners' Capital A/c or Current A/c       ...Dr.

        To Profit & Loss A/c (Debit Balance)

        To Advertisement Suspense/Expenditure A/c

D. Adjustment of Reserves/Profits Through Gaining and Sacrificing Partners:

1. In Case of Net gain (Profit):

Gaining Partners' Capital/Current A/cs     ...Dr.

      To Sacrificing Partner's Capital/Current A/cs

2. In Case of Net Loss:

Sacrificing Partners; Capital/Current A/c     ...Dr.

     To Gaining Partners' Capital/Current A/cs

               Calculation of Gain/(Sacrifice) of each Partner

• Meaning: Goodwill is the reputation of a business that helps it earn more than normal profits.
• Nature: It's an intangible but valuable asset, sold only with the full business. Only purchased goodwill is recorded.
• Features: Attracts customers, earns extra profits, value keeps changing, can't be sold alone, and hard to measure.
• When Valued: On partner admission, retirement, change in profit-sharing, sale, or merger.
• Factors Affecting: Management, location, age, profit trend, quality, licenses, and market conditions.

• Need for Admission: A new partner may be admitted to bring additional capital, skilled management, improve goodwill, or reward a capable employee.
• Legal Requirement: As per Section 31(1) of the Indian Partnership Act, a new partner can be admitted only with the consent of all existing partners.
• New Partner's Rights: Share in profits, assets, and liable for future debts.
• Goodwill & Capital: A new partner brings capital and goodwill to gain a share in profits and assets; existing partners sacrifice a share of profits in return.
• Adjustments at Admission: New profit-sharing ratio, Valuation of goodwill, Revaluation of assets and liabilities, and Adjustment of reserves, profits, and capital.

A. Premium for Goodwill is paid privately:

No Entry is passed

B. Premium for Goodwill is brought in cash by the New Partner:

1. When the Premium for Goodwill brought in by the New Partner is Retained in the Business:

(i) Cash/Bank A/c     ...Dr.

     To Premium for Goodwill A/c

(Amount of goodwill/premium brought in cash by new partner) 

(ii) Premium for Goodwill A/c    ...Dr.

       To Old Partners' Capital A/cs

(Amount of goodwill/premium transferred to old partners' capital accounts in sacrificing ratio)

2. When Goodwill/Premium brought in by the New Partner is Withdrawn by the Old Partners:

Old Partner's Capital A/cs    ...Dr.

     To Cash/Bank A/c

(Amount of goodwill/premium withdrawn by the old partners)

C. Premium for Goodwill is brought in kind

1. For assets brought by the incoming partner:

Assets A/c      ...Dr.

     To Incoming Partner's capital A/c

     To Premium for Goodwill A/c

2. For giving credit for goodwill to sacrificing partners in their sacrificing ratio:

Premium for Goodwill A/c     ....Dr.

       To Sacrificing Partners' Capital/Current A/c

D. Premium for Goodwill is brought by New Partner and is withdrawn by the Sacrificing Partners either fully or partly:

1. For premium for goodwill brought in cash by the new partner:

Cash/Bank A/c     ...Dr.

      To Premium for Goodwill A/c

2. For sharing of premium for goodwill:

Premium for Goodwill A/c    ...Dr.

      To Sacrificing Partners' Capital/Current A/c

3. For withdrawal of premium for goodwill amount fully/partly

Sacrificing Partners' Capital/Current A/cs    ...Dr.

       To Cash/Bank A/c

E. New Partner cannot bring his share of Premium for Goodwill; adjustment is made through the Current account of the New Partner:

New Partners' Current A/c    ...Dr.

      To Sacrificing Partners' Capital/Current A/cs

F. New Partner brings a part of Premium for Goodwill in cash or by Cheque or in Kind:

1.Cash/Bank/Assets A/c     ...Dr.

     To Premium for Goodwill A/c

2. New Partners' Current A/c    ...Dr.

Premium for goodwill A/c        ...Dr.

       To Sacrificing Partners' Capital/Current A/cs

G. Goodwill appears (exists) in the Balance Sheet and Incoming Partner brings Premium for Goodwill in full or in part:

1. Write-off of Existing Goodwill

Old Partners' Capital/Current A/cs     ...Dr.

        To Goodwill A/c

2. Entry for Premium for Goodwill Brought by New Partner

Cash/Bank A/c      ...Dr.

      To Premium for Goodwill A/c

3. Distribution of Premium for Goodwill to Sacrificing Partners

Premium for Goodwill A/c       ...Dr.

        To Sacrificing Partners' Capital A/cs

4. Adjustment Entry for Premium Not Brought by New Partner

New Partner's Current A/c     ...Dr.

      To Sacrificing Partners' Capital/Current A/cs

H. Goodwill exists in the Balance Sheet and incoming partner is unable to bring his or her share of Premium for Goodwill in Cash or by Cheque:

1. Write-off of Existing Goodwill

Old Partners' Capital/Current A/cs     ...Dr.

       To Goodwill A/c

2. Adjustment for Incoming Partner’s Share of Goodwill Not Brought in Cash

Incoming Partner's Current A/c    ...Dr.

       To Sacrificing Partners' Capital/Current A/cs

                                                     Revaluation Account

Dr.                                                                                                                               Cr.

1. For a decrease in the value of assets : 

Revaluation A/c or Profit & Loss Adjustment A/c     ...Dr. 

           To Assets A/c

(Decrease in the value of assets) 

2. For an increase in the value of assets :

Assets A/c      ...Dr.

       To Revaluation A/c or Profit & Loss Adjustment A/c

(Increase in the value of assets) 

3. For an increase in the value of liabilities:

Revaluation A/c or Profit & Loss Adjustment A/c     ...Dr.

         To Liabilities A/c

(Increase in the value of liabilities) 

4. For a decrease in the value of liabilities : 

Liabilities A/c     ...Dr.

      To Revaluation A/c or Profit & Loss Adjustment A/c

(Decrease in the value of liabilities)

5. For accounting unrecorded assets

Unrecorded Assets A/c     ...Dr.

       To Revaluation A/c

(accounting of unrecorded assets)

6. For accounting unrecorded liabilities

Revaluation A/c      ...Dr.

      To Unrecorded Liabilities A/c

(Accounting of unrecorded liabilities)

7. For transferring Gain (Profit):

Revaluation A/c     ...Dr.

     To Old Partner's Capital A/cs

(Gain on revaluation credited to Old Partner's Capital A/cs) 

8. For transferring loss: 

Old Partner's Capital A/cs    ...Dr.

      To Revaluation A/c

(Loss on revaluation debited to Old Partner's Capital A/cs)

A. Accounting Entry to Adjust Deficit Capital:

1. If amount is brought in cash or cheque:

Cash/Bank A/c      ...Dr.

     To Concerned Partner's Capital Account

2. If amount is transferred to Current Account of the partner:

Concerned Partner's Current A/c    ...Dr.

     To Concerned Partners Capital A/c

B. Accounting Entry to Adjust Surplus Capital:

1. If amount is paid:

Concerned Partner's Capital A/c     ....Dr.

     To Cash/Bank A/c

2. If amount is transferred to Current Account of the partner:

Concerned Partner's Capital A/c    ...Dr.

      To New Partner's Current A/c 

C. When a new partner brings certain assets towards his capital:

Assets A/c        ...Dr.

       To New Partner's Capital A/c

• Retirement Right: A partner can retire by agreement or notice; the firm continues with the remaining partners.
• Entitlements: Retiring partner gets a share in goodwill, reserves, revaluations, and the joint life policy.
• Adjustments: Include new profit ratio, goodwill, asset revaluation, reserves, and capital.
• Payment: Amount due is credited to the Capital A/c and paid immediately or later.
• Effect: Retirement causes reconstitution, not dissolution, of the firm.

A. When Goodwill is Raised and Retained in the Business:

Goodwill A/c        ...Dr.

      To All Partners' Capital A/c        (Old Profit Sharing Ratio)

B. When Goodwill is Raised and Then Written Off:

1. Raise Goodwill:

Goodwill A/c        ...Dr.

      To All Partners' Capital A/c        (Old Profit Sharing Ratio)

2. Write Off Goodwill:

Continuing Partners' Capital A/c          ...Dr.

          To Goodwill A/c    (New Profit Sharing Ratio)

C. When Goodwill is Raised Only for Retiring/Deceased Partner’s Share (and Retained)

Goodwill A/c            ...Dr.

     To Retiring/Deceased Partner’s Capital A/c

D. When Goodwill is Raised Only for Retiring/Deceased Partner and Then Written Off:

1. Raise Goodwill

Goodwill A/c       ...Dr.

       To Retiring/Deceased Partner's Capital A/c

2. Write Off Goodwill:

Gaining Partners’ Capital A/c        ...Dr.

       To Goodwill A/c       (Gaining Ratio)

E. When Goodwill Already Exists in the Books (Written Off at Retirement/Death)

All Partners’ Capital/Current A/cs     ...Dr.

     To Goodwill A/c

(Being goodwill existing in the books written off)

F. Direct Adjustment of Goodwill (No Goodwill A/c Raised as per AS-26)

1. Gaining Partners Compensate Retiring/Deceased Partner:

Gaining Partners’ Capital/Current A/cs       ...Dr.

      To Retiring/Deceased Partner’s Capital/Current A/c

(Being the retiring partner’s share of goodwill adjusted)

2. If Sacrificing Partner is also Compensated:

Gaining Partners’ Capital (or Current) A/cs       ...Dr.

     To Retiring Partner’s Capital A/c

     To Sacrificing Partner’s Capital (or Current) A/c

3. General Adjustment Entry (No Goodwill A/c raised):

Continuing Partners’ Capital A/cs      ...Dr.

   To Retiring/Deceased Partner’s Capital A/c  

(Being the retiring/deceased partner's share of goodwill adjusted to the continuing partners)

• On a partner’s death, the firm may continue with the remaining partners.
• The amount due is paid to the legal heirs or executor of the deceased partner.
• The deceased partner’s account is credited with capital, goodwill, reserves, revaluation profit, life policy, etc.
• It is debited with drawings, interest on drawings, revaluation loss, and accumulated losses.
• Profit up to the date of death is calculated on a time basis or turnover basis.

1. For a decrease in the value of assets : 

Revaluation A/c or Profit & Loss Adjustment A/c     ...Dr. 

           To Assets A/c

(Decrease in the value of assets) 

2. For an increase in the value of assets :

Assets A/c      ...Dr.

       To Revaluation A/c or Profit & Loss Adjustment A/c

(Increase in the value of assets) 

3. For an increase in the value of liabilities:

Revaluation A/c or Profit & Loss Adjustment A/c     ...Dr.

         To Liabilities A/c

(Increase in the value of liabilities) 

4. For a decrease in the value of liabilities : 

Liabilities A/c                          ...Dr.

      To Revaluation A/c or Profit & Loss Adjustment A/c

(Decrease in the value of liabilities)

5. For accounting unrecorded assets

Unrecorded Assets A/c          ...Dr.

       To Revaluation A/c

(accounting of unrecorded assets)

6. For accounting unrecorded liabilities

Revaluation A/c               ...Dr.

      To Unrecorded Liabilities A/c

(Accounting of unrecorded liabilities)

7. For transferring Gain (Profit):

Revaluation A/c              ...Dr.

     To Old Partner's Capital A/cs

(Gain on revaluation credited to Old Partner's Capital A/cs) 

8. For transferring loss: 

Old Partner's Capital A/cs       ...Dr.

      To Revaluation A/c

(Loss on revaluation debited to Old Partner's Capital A/cs)