Cambrige Notes: Principles of Accounting: Partnership dissolution

• While it is true that a new partnership is created when partners leave and join the partnership
• The entries required to show this are actually different from the entries needed when a partnership does actual dissolve
• From an accounting point of view the partnership ceases to exist when all the partners go their separate ways
• The business’s assets are disposed of and not inherited by some of form of remnant of the partnership
• Reasons why a partnership may be dissolved include:
• The partnership is no longer profitable and the partners no longer wish to continue trading
• A fundamental break down of relations between the partners
• Ill-health, death or old-age with regards to the founding members of the partnership
• Regardless of the reasons when a partnership dissolves usually the following happens as part of the dissolution process:
• The assets of the partnership are disposed of (i.e. sold)
• The liabilities of the firm are paid to everyone other than those liabilities involving partners
• The partners are paid their advances (amounts injected by the partners into the business in excess of capital) and current account balances
• The partners are paid the final amounts due to them on their capital balances
• The steps are normally carried out as outlined above
• In the event that there is a profit/loss which has not yet been shared by the time of dissolution the profit/loss is shared according to the partner’s profit/loss sharing ratio
• A profit would increase the capital balances of each partner
• A loss would, conversely, decrease the capital balances of each partner
• In the event that a partner’s capital/current account is in deficit the said partner has to pay that amount into the partnership’s bank account
• If a partner takes a partnership asset without paying he/she is charged the agreed amount which might then charged to the partner’s capital account
• The main account in which dissolution entries are made is known as the Realisation Account
• It is in this account where we calculate whether our assets are being disposed of ( realization ) at a loss or profit
• Realisation  refers to the conversion of assets, goods, or services into cash or receivables through sale
• At this stage it since the assets have not yet been sold they are simply recorded in the books at the lower of net book value (carrying amount) and fair value
• In the event that the assets of a partnership are less than its liabilities the partners will be required to settle the outstanding liabilities in the ratio according to the last agreed capital balances and not according to their profit/loss sharing ratio

To access more topics go to the Cambridge IGCSE Accounting(0452)/O Level Principles of Accounts(7110) Notes.