Class 12 Accountancy I Notes

Chapter 4: Dissolution of a Partnership Firm (CBSE)

1. Meaning of Dissolution of Partnership Firm

Dissolution of Partnership

• Only the relationship among partners changes.
• Business may continue with remaining or new partners.
• Happens due to:
  • Admission
  • Retirement
  • Death
  • Change in profit-sharing ratio

Dissolution of Firm

• Partnership between all partners comes to an end.
• Business is permanently closed.
• Assets are realized.
• Liabilities are paid.
• Remaining cash is distributed among partners.

Remember

Every dissolution of a firm is a dissolution of partnership, but every dissolution of partnership is not dissolution of the firm.

2. Difference Between Dissolution of Partnership and Dissolution of Firm

3. Modes of Dissolution of Firm

(A) By Agreement

• Mutual consent
• According to partnership deed

(B) Compulsory Dissolution

Occurs when:

• Business becomes illegal
• All partners become insolvent
• All except one become insolvent

(C) On Certain Contingencies

• Expiry of fixed period
• Completion of venture
• Death of partner
• Insolvency of partner

(D) By Notice

Applicable only in Partnership at Will.

(E) By Court

Court may dissolve the firm if:

• Partner becomes insane
• Permanent incapacity
• Misconduct
• Breach of agreement
• Transfer of interest
• Continuous losses
• Any just and equitable reason

4. Settlement of Accounts (Section 48)

Step 1: Losses are adjusted

Losses are paid:

1. Out of Profits
2. Out of Capital
3. By Partners in Profit-sharing Ratio

Step 2: Assets are Applied

Assets are used in following order:

First

Outside Liabilities

Examples:

• Creditors
• Bills Payable
• Bank Loan
• Bank Overdraft

↓

Second

Partner’s Loan

↓

Third

Partner’s Capital

↓

Fourth

Surplus distributed among partners in Profit Sharing Ratio.

Exam Tip

Outside liabilities always get priority over partners.

5. Firm’s Debts vs Private Debts

Firm’s Property

Used first for:

• Firm’s creditors

Remaining balance goes to partners.

Partner’s Private Property

Used first for:

• Personal liabilities

Remaining amount may be used for firm’s liabilities.

6. Garner v. Murray Rule

Applicable when:

• A partner is insolvent.
• Cannot bring capital deficiency.

Then:

Remaining solvent partners bear deficiency in the ratio of their capitals.

(Not in profit-sharing ratio.)

7. Realisation Account

Purpose

Prepared to calculate:

• Profit on Realisation
  OR
• Loss on Realisation

Debit Side

Transfer of Assets

• Building
• Machinery
• Furniture
• Stock
• Debtors
• Investments

Payment of

• Liabilities
• Realisation Expenses
• Unrecorded Liabilities

Credit Side

Transfer of

• Creditors
• Bills Payable
• Bank Loan
• Outstanding Expenses

Sale of Assets

Assets taken by partners

Unrecorded Assets

8. Journal Entries at Dissolution

(1) Transfer of Assets

Realisation A/c Dr.
     To Assets A/c

(2) Transfer of Liabilities

Liabilities A/c Dr.
      To Realisation A/c

(3) Sale of Assets

Bank A/c Dr.
      To Realisation A/c

(4) Asset Taken by Partner

Partner's Capital A/c Dr.
      To Realisation A/c

(5) Payment of Liabilities

Realisation A/c Dr.
      To Bank A/c

(6) Liability Taken by Partner

Realisation A/c Dr.
      To Partner's Capital A/c

(7) Realisation Expenses Paid by Firm

Realisation A/c Dr.
      To Bank A/c

(8) Realisation Expenses Paid by Partner

Realisation A/c Dr.
      To Partner's Capital A/c

(9) Partner’s Remuneration

Realisation A/c Dr.
      To Partner's Capital A/c

(10) Unrecorded Asset Sold

Bank A/c Dr.
      To Realisation A/c

(11) Unrecorded Liability Paid

Realisation A/c Dr.
      To Bank A/c

(12) Profit on Realisation

Realisation A/c Dr.
      To Partners' Capital A/c

(13) Loss on Realisation

Partners' Capital A/c Dr.
      To Realisation A/c

(14) Transfer of General Reserve

General Reserve A/c Dr.
      To Partners' Capital A/c

(15) Transfer of Fictitious Assets

Partners' Capital A/c Dr.
      To Fictitious Assets A/c

(16) Payment of Partner’s Loan

Partner's Loan A/c Dr.
      To Bank A/c

(17) Final Settlement

If partner brings cash:

Bank A/c Dr.
      To Partner's Capital A/c

If firm pays partner:

Partner's Capital A/c Dr.
      To Bank A/c

9. Important Rules

Assets NOT transferred to Realisation Account

• Cash
• Bank Balance
• Fictitious Assets

Liabilities NOT transferred

• Partner’s Loan

Partner’s Loan

• Paid after outside liabilities
• Before capital

General Reserve

Transferred to partners in Profit Sharing Ratio.

Accumulated Losses

Transferred to partners’ Capital Accounts.

Creditors Taking Assets

If creditor accepts an asset in full settlement:

➡️ No journal entry required.

10. Order of Payments (Very Important)

Assets Realised
      ↓
Outside Creditors
      ↓
Partner's Loan
      ↓
Partner's Capital
      ↓
Remaining Profit

11. Quick Revision Table

12. CBSE Important Questions

Very Short Answer

• Define dissolution of partnership firm.
• What is a Realisation Account?
• State Garner vs Murray rule.
• What is Partnership at Will?

Short Answer

• Difference between dissolution of partnership and dissolution of firm.
• Explain settlement of accounts.
• Explain treatment of partner’s loan.

Long Answer

• Prepare Realisation Account.
• Prepare Partners’ Capital Accounts.
• Prepare Bank Account.
• Journal entries on dissolution.

Exam Tips

• Learn the order of settlement (Section 48)—it is frequently tested.
• Memorize all 17 standard journal entries for dissolution.
• Practice Realisation Account, Partners’ Capital Account, and Bank Account numericals thoroughly, as they form the core of CBSE board questions.
• Remember: Partner’s loan is not transferred to the Realisation Account; it is settled separately after outside liabilities.