Accounting Steps for Retirement or Death of a Partner in a Partnership Firm
Reconstitution of a partnership firm—especially in cases of retirement or death of a partner—is a crucial topic for Class 12 Accountancy, commerce exams, and real-world business application. This event involves major legal and accounting changes within a partnership and is tested frequently in board and competitive exams.
| Trigger for Reconstitution | Key Changes Involved | Effect on Partnership |
|---|---|---|
| Retirement of a Partner | Change in profit sharing, capital settlement, revaluation, updating the partnership deed | Firm continues with remaining partners |
| Death of a Partner | Deceased partner's share transfer, settlement with legal heirs, revaluation, new agreement | Firm may dissolve or continue if deed allows |
Reconstitution of a Partnership Firm Retirement Death of a Partner
The reconstitution of a partnership firm refers to the legal and accounting process when there is a change in the partnership’s structure—primarily due to the retirement or death of a partner. In such cases, the old partnership agreement ends, and a new one may be formed among the remaining or incoming partners. For students, understanding this concept helps solve numerical and theory questions in Board exams and competitive papers.
Key Steps in Reconstitution on Retirement or Death
The process for reconstituting a partnership firm, whether due to retirement or the death of a partner, generally follows a logical sequence. Each step has both accounting and legal implications.
- Review the partnership deed for related clauses.
- Determine the amount due to the outgoing or deceased partner.
- Revalue assets and liabilities using a Revaluation Account.
- Adjust goodwill according to partnership agreement.
- Distribute accumulated profits/reserves.
- Settle capital with the retiring partner or legal heirs of the deceased partner.
- Update the partnership deed and profit sharing ratios.
- Pass the relevant journal entries in the accounting records.
Accounting Treatment on Retirement of a Partner
During retirement, the outgoing partner is entitled to their share of capital, revaluation profits or losses, goodwill, and any accumulated reserves. Goodwill is adjusted via the gaining ratio among continuing partners. Settlement of capital may be immediate or deferred, depending on mutual agreement.
Example: Journal Entries for Retirement
Suppose A, B, and C are partners. B retires. Goodwill of the firm is valued at ₹30,000, and profit sharing ratio changes. The necessary entries include:
- Adjustment for Revaluation Account (for assets/liabilities changes)
- Goodwill adjustment among partners
- Entry for settlement of B’s capital account
For journal entry illustrations and numericals, see TS Grewal Solutions Class 12 Accountancy Chapter 6.
Reconstitution on Death of a Partner
If a partner dies, the partnership firm is reconstituted if the remaining partners choose to continue. The deceased partner’s claim includes their capital, share of profits until the date of death, accumulated reserves, and share of goodwill. Settlement is made to legal heirs as per agreement or the Indian Partnership Act.
- Valuation of deceased partner’s share (as on date of death)
- Goodwill and profit share calculated pro-rata
- Settlement paid to legal heirs; heirs do not automatically become partners
- Deed revised with new ratios if business continues
Example: Death Settlement Entry
X, Y, and Z are partners. Z dies during the year. Goodwill, capital, and revaluation are calculated, then Z’s share is transferred to his executor’s account. See DK Goel Solutions Class 12 Accountancy for stepwise solutions.
Adjustments Required on Reconstitution
Several adjustments are necessary to ensure fair settlement and accurate new ratios:
- Goodwill adjustment (see Goodwill)
- Revaluation Account preparation
- Distribution of reserves and accumulated profits
- Calculation and application of new profit sharing, sacrificing, and gaining ratios (Sacrificing Ratio, Gaining Ratio)
- Capital adjustment among remaining partners
Difference between Retirement and Death of a Partner
| Aspect | Retirement | Death |
|---|---|---|
| Occurrence | Planned, voluntary | Sudden, involuntary |
| Continuity | Firm generally continues | Firm may dissolve unless reconstituted |
| Settlement | Directly with retired partner | With deceased’s legal heirs |
| Profit Calculation | Up to retirement date | Up to date of death |
| Legal Effect | As per deed/agreement | As per deed/Partnership Act, 1932 |
Real-World Usage and Exam Relevance
Knowledge of reconstitution on retirement or death of a partner prepares students for Class 12 board questions, competitive exams (such as CA Foundation, UGC-NET), and real business scenarios. At Vedantu, we ensure conceptual clarity with detailed examples, solved problems, and practical application guidance.
For more on partnership firm topics, see Reconstitution of Partnership Firm, Admission of a Partner, and Partnership vs Company.
Summary
Reconstitution of a partnership firm on the retirement or death of a partner is a vital accounting and legal topic. It involves changes in agreement, profit sharing, accounting adjustments, and settlements. Mastering this helps students excel in exams and prepares them for real-world business challenges, making it essential for every commerce learner.
FAQs on Reconstitution of a Partnership Firm: Retirement & Death of a Partner
1. Does the retirement of a partner mean reconstitution of a partnership firm?
Yes, the retirement of a partner triggers a reconstitution of a partnership firm. This involves changes to the partnership agreement, profit-sharing ratios, and the firm's assets and liabilities. The remaining partners need to adjust their shares and settle accounts with the retiring partner.
2. What happens after the death of a partner in a partnership firm?
The death of a partner also leads to reconstitution. The firm doesn't automatically dissolve, but the remaining partners must settle the deceased partner's accounts with their legal heirs. This includes calculating the deceased partner's share of goodwill, assets, and profits. The partnership deed will need to be revised to reflect the changes in partnership structure.
3. What is the accounting treatment involved on the retirement or death of a partner?
Accounting treatment involves several steps. First, revaluation of assets and liabilities. Then, calculation of the retiring/deceased partner's share of goodwill. Next, settlement of the partner's capital account. Finally, necessary journal entries are recorded to reflect these changes in the firm's accounts. This often includes adjusting the profit-sharing ratio among the remaining partners.
4. Are retirement and death of a partner the same regarding partnership law?
No, while both lead to reconstitution, retirement is a voluntary exit, while death is involuntary. Legal procedures differ; retirement involves mutual agreement, while death involves settling accounts with the deceased partner's legal heirs. The accounting treatment shares similarities but has distinct steps based on the specific circumstances.
5. How is goodwill adjusted in case of retirement or death?
Goodwill is adjusted by calculating the retiring/deceased partner's share and distributing it among the remaining partners according to their new gaining ratio. The goodwill amount is either credited to the retiring/deceased partner's capital account or debited to the continuing partners' accounts, depending on the agreement.
6. What is the gaining ratio?
The gaining ratio represents the proportion by which the remaining partners increase their share of profits after a partner's retirement or death. It's calculated by comparing the old profit-sharing ratio to the new one after the change in partnership. Understanding this ratio is crucial for accurate goodwill and capital adjustments.
7. How do you calculate the gaining ratio among continuing partners?
The gaining ratio is calculated by subtracting the old profit-sharing ratio from the new profit-sharing ratio for each continuing partner. The difference shows how much their share has increased after the retirement or death of a partner. This is a vital step in correctly adjusting goodwill and capital accounts.
8. Can a deceased partner’s heir step into the firm automatically?
No, a deceased partner's heir does not automatically become a partner. The remaining partners must settle accounts with the legal heirs. The partnership deed usually outlines procedures for such situations. The heirs receive their share of the deceased partner's assets and profits but don't inherently inherit partnership rights unless explicitly stated in the agreement.
9. What entries are required if payment to the retiring partner is deferred?
If payment is deferred, the retiring partner's account is credited for the total amount due. A separate liability account, such as 'Retiring Partner's Loan Account,' is created and debited. Subsequent payments reduce this liability and credit the retiring partner's loan account. Interest calculations might be involved, depending on the partnership agreement.
10. How are reserves and accumulated profits distributed at retirement/death?
Reserves and accumulated profits are distributed among the partners according to their profit-sharing ratio at the time of reconstitution. The distribution is typically reflected in the partners' capital accounts, impacting the final settlement amount for the retiring or deceased partner.
11. If there is no partnership deed, which laws apply after a partner’s death or retirement?
If there's no partnership deed, the Indian Partnership Act, 1932 governs the dissolution or reconstitution. The act provides default rules regarding profit sharing, asset distribution, and liabilities in the absence of a specific agreement between partners.
