Competitive Exams: Financial Accounting (Part 3 of 4)

Accounting treatment at the time of Dissolution of Firm

You must know the definition of dissolution of firm before completing the accounting treatment at the time of dissolution.

Dissolution is the end of firm and its work. In other words, after dissolution, firm will not continue same business with same partners because there are so many causes of dissolution of firm. Dissolution may be with or without interfere of court. When faith among partners have completely ended or partners are continuing illegal business or all the partners became insolvent then court may order to dissolute the firm and distribute firms asset among the creditors of firm.

At this time for proper allocation of assets among liabilities, it is very necessary to treatment each and every accounting elements.

1st step

Making the account of Realisation.

  • In the debit side of this account we will transfer all current and fixed assets at book value except cash and bank account.

  • In the credit side of this account we will transfer all the liabilities except general reserve and capital accounts

  • In the debit side of this account we will show the all the amount of payment of creditors in cash or if any partner take over any liabilities.

  • In the credit side of this account we will show the amount received after sale of the assets or name of partner's capital account if he takes over any particular asset.

  • In the debit side of this account we will also show the expenses of realization of assets.

  • The difference of this account will profit or loss which will transfer to capital accounts of partners in their profit and loss sharing ratio.

2nd step

Making of capital accounts

After this capital accounts of partner will be made. This account will open with opening balance of their capital. In the credit side we will transfer general reserve share, profit share of realization account this account show the new amount that will be paid to each partner after dissolution.

3rd step

Making of cash or bank account

This will the last account which will make at the time of dissolution because at the time of dissolution, it is necessary to make this account. This account shows receipt and payment of cash or bank at the end of business. There must not a balance at the end of business in this account. If the debit side of this account is equal to the credit side of this account, you are made proper this account.

Accounting Treatment of Assets and liabilities taken by partner at the time of dissolution

When a partner agree to pay the liabilities or take over any asset then firm will make the realisation account and respective partner who take over the asset will credit in realisation account and if he agree to pay the liabilities then his account will debit in realisation account. For this we will pass the journal entry.

  1. For take over the assets Partner's capital account Dr. Who take over the assets To realisation account With accepted amount

  2. For paying any liability by any partner at the time of dissolution

Realisation account Dr. Accepted pay the amount

To Partner's capital AccountWho pays the amount of liability

Explanation the scheme of Gradual realisation of assets and Piecemeal distribution

Generally we see that a long time is spent on realisation of assets after dissolution of firm. But we can distribute it in installment basis. When any part of assets sells and we get the amount that amount is called gradual realisation and its piecemeal distribution is done with following method.

1 First of all we pay all realisation expenses out of series realisation of assets

2 After this we pay outside liabilities like trade creditors, B/P out of this realisation of assets.

3 After this we repay the loan of partner.

4 In end we repay the partner's capital out of this realisation of assets

Accounting procedure for Convertion of a partnership into Limited Company

These days, partnership firms are converting into limited companies for getting the benefit of limited liabilities.

At this time firms book is closed just like dissolution of firms.

In the books of firms, the following journal entries are passed:

1 For closing the accounts of assets

Realisation account Debit

Assets Account Credit At book value

2 For sale of assets and amount received

Cash/Bank Account Debit

Assets Account Credit

Realisation Account Credit

3 For closing the account of liabilities

Liabilities Account Debit

Realisation Account Credit

4 For Payment of liabilities

Realisation Account Debit Loss of payment

Liabilities Account Debit

Cash/Bank account credit

5 For Assets and liabilities are taken over by new company

New Company Account Debit Purchase price = Agreed value of assets-agreed value of liabilities

Realisation account Credit

6 For Payment of expenses of realisation

a If pay by partner

Realisation Account Debit

Cash/Bank Account Credit

b If pay by new company

New company Account Debit

Cash/Bank account Credit

7 Closing of Realisation account

If profit

Realisation account Debit

partner's capital Account Credit

8 Receipt of purchase price

Cash/Bank/Shares/Debentures Account Debit

Purchasing company Account Credit

9 On distribution of shares/debenture and cash from purchasing company

Partner's capital account Debit dividing in adjusted capital ratio

Cash/Bank/Shares/Debenture Account

After journal entry, you can transfer into ledger for making realisation account, company account, partner's capital account