Admission of a partner after unrecorded liabilities surface
Anil and Bina are partners in a trading firm sharing profits 3:2. On 1 April 2023 they admit Chetan for a 1/4 share; the new ratio is Anil 9/20, Bina 6/20, Chetan 5/20. Chetan brings ₹2,00,000 as capital but no cash for goodwill. Goodwill of the firm is valued at ₹2,00,000. On 31 March 2023 the books showed stock ₹4,00,000, debtors ₹3,00,000, building ₹5,00,000 and capitals of Anil ₹4,00,000 and Bina ₹2,00,000.
Before admission the following are found:
- Stock includes obsolete items costing ₹30,000 that will fetch only ₹10,000.
- A debtor of ₹40,000 has been declared insolvent; nothing is expected.
- A customer's claim for damages of ₹50,000 for a defective consignment was received in February 2023; legal advice says payment is probable and the amount is reliably measurable, but nothing is recorded.
- The building is revalued at ₹5,40,000.
All adjustments are to be routed through the revaluation account and the partners' capital accounts.
1. Compute the sacrificing ratio and pass the entries for goodwill, given that Chetan brings no cash for goodwill.
Read the worked answer
Sacrificing ratio = old share − new share:
- Anil: 3/5 − 9/20 = 12/20 − 9/20 = 3/20
- Bina: 2/5 − 6/20 = 8/20 − 6/20 = 2/20
- Sacrificing ratio = 3:2, the same as the old ratio, because the new ratio was chosen so that both old partners give up share proportionately.
Chetan's share of goodwill = 1/4 × 2,00,000 = ₹50,000, borne by the sacrificing partners in 3:2:
- Anil: 50,000 × 3/5 = ₹30,000
- Bina: 50,000 × 2/5 = ₹20,000
Entry (no cash brought):
Dr Chetan's Capital A/c 50,000 Cr Anil's Capital A/c 30,000 Cr Bina's Capital A/c 20,000
Goodwill is not raised as an asset. Raising it and then writing it off would inflate total assets and would be inconsistent with the treatment of internally generated goodwill. The entry simply compensates the sacrificing partners out of the incoming partner's capital, which is why the amount is debited to Chetan rather than shown as a receivable.
2. Prepare the revaluation account and show the partners' capital accounts after admission, then check whether Chetan's capital is proportionate to his share.
Read the worked answer
Revaluation Account
| Dr | ₹ | Cr | ₹ |
|---|---|---|---|
| Stock (30,000 − 10,000) | 20,000 | Building | 40,000 |
| Debtors (bad) | 40,000 | ||
| Provision for damages claim | 50,000 | ||
| Loss transferred | |||
| Anil 3/5 | 42,000 | ||
| Bina 2/5 | 28,000 | ||
| 1,80,000 | 1,80,000 |
(Revaluation loss = 20,000 + 40,000 + 50,000 − 40,000 = ₹70,000.)
Capital Accounts
| Anil | Bina | Chetan | |
|---|---|---|---|
| Opening | 4,00,000 | 2,00,000 | - |
| Less revaluation loss | (42,000) | (28,000) | - |
| Add goodwill | 30,000 | 20,000 | (50,000) |
| Add cash brought | - | - | 2,00,000 |
| Closing | 3,88,000 | 1,92,000 | 1,50,000 |
Total capital after admission = ₹7,30,000; Chetan's 1/4 share on a proportionate basis would be ₹1,82,500, but his capital is only ₹1,50,000. This shortfall is because goodwill of ₹50,000 has been charged to him without cash being brought in; if the partners want proportionate capitals, Chetan must bring a further ₹32,500 or the capitals must be reworked.
3. Anil argues (a) that the damages claim should merely be disclosed as a contingent liability in the notes, and (b) that the revaluation loss should be shared by all three partners because Chetan joins on the same date. Evaluate both arguments.
Read the worked answer
(a) Claim: provision, not a note. The three conditions are satisfied: the sale of the defective consignment is a past event, legal advice says payment is probable, and ₹50,000 is reliably measurable. That makes it a present obligation to be recognised as a provision and charged in the revaluation account. A contingent liability is disclosed only where the outflow is possible rather than probable, or the amount cannot be measured. Getting this wrong would overstate profit and the incoming partner's capital base, and would overstate the old partners' capitals.
(b) Loss allocation: old partners only, in 3:2. Chetan joins with effect from 1 April 2023. The obsolete stock, the bad debt and the claim all arose from events before that date, so they belong to the period when only Anil and Bina were partners, and they bear it in the old ratio. Charging Chetan would make him pay for losses he did not cause and would give him a share of the pre-admission losses in exchange for nothing; it would also contradict the treatment of goodwill, which compensates the old partners precisely for the share they give up. The mechanics - revaluation before admission, then goodwill adjustment through capital accounts - keep the two issues separate and fair.