ICAI Notes- Unit 6: Dissolution of Partnership Firms and LLPs | Principles and Practice of Accounting - CA Foundation PDF Download

 Page 1


  
ACCOUNTING
1.
200 
 
10.200 
 
LEARNING OUTCOMES 
  
UNIT - 6: DISSOLUTION OF PARTNERSHIP FIRMS 
AND LLP 
 
 
 
 
After studying this unit, you would be able to:  
? Go through the circumstances in which a partnership is dissolved. 
? Understand that on the dissolution of a partnership all assets are sold 
out and all liabilities are discharged. Learn the accounting technique 
relating to the disposal of assets and payment of liabilities. 
? Learn how to settle the partner's claims in case of surplus and how to 
raise money from partners in case of a deficit. 
? Deal with piecemeal distribution to partners of the amount realized 
from assets net of liabilities. 
? Winding up of a Limited Liability Partnership (LLP) 
  
© The Institute of Chartered Accountants of India
Page 2


  
ACCOUNTING
1.
200 
 
10.200 
 
LEARNING OUTCOMES 
  
UNIT - 6: DISSOLUTION OF PARTNERSHIP FIRMS 
AND LLP 
 
 
 
 
After studying this unit, you would be able to:  
? Go through the circumstances in which a partnership is dissolved. 
? Understand that on the dissolution of a partnership all assets are sold 
out and all liabilities are discharged. Learn the accounting technique 
relating to the disposal of assets and payment of liabilities. 
? Learn how to settle the partner's claims in case of surplus and how to 
raise money from partners in case of a deficit. 
? Deal with piecemeal distribution to partners of the amount realized 
from assets net of liabilities. 
? Winding up of a Limited Liability Partnership (LLP) 
  
© The Institute of Chartered Accountants of India
 
    
 10.201 
PARTNERSHIP AND LLP ACCOUNTS 
 
Circumstances leading to Dissolution of Partnership 
 
Methods of piecemeal distribution 
 
  
where the firm is constituted for a 
fixed term, on the expiry of that 
term
where the firm is constituted to 
carry out one or more adventures or 
undertaking, then by completion 
thereof
by the death of a partner, and
by the adjudication of a partner as 
an insolvent.
Piecemeal distribution 
involves either of two 
methods 
Maximum loss method 
Highest relative capital 
method
UNIT OVERVIEW 
© The Institute of Chartered Accountants of India
Page 3


  
ACCOUNTING
1.
200 
 
10.200 
 
LEARNING OUTCOMES 
  
UNIT - 6: DISSOLUTION OF PARTNERSHIP FIRMS 
AND LLP 
 
 
 
 
After studying this unit, you would be able to:  
? Go through the circumstances in which a partnership is dissolved. 
? Understand that on the dissolution of a partnership all assets are sold 
out and all liabilities are discharged. Learn the accounting technique 
relating to the disposal of assets and payment of liabilities. 
? Learn how to settle the partner's claims in case of surplus and how to 
raise money from partners in case of a deficit. 
? Deal with piecemeal distribution to partners of the amount realized 
from assets net of liabilities. 
? Winding up of a Limited Liability Partnership (LLP) 
  
© The Institute of Chartered Accountants of India
 
    
 10.201 
PARTNERSHIP AND LLP ACCOUNTS 
 
Circumstances leading to Dissolution of Partnership 
 
Methods of piecemeal distribution 
 
  
where the firm is constituted for a 
fixed term, on the expiry of that 
term
where the firm is constituted to 
carry out one or more adventures or 
undertaking, then by completion 
thereof
by the death of a partner, and
by the adjudication of a partner as 
an insolvent.
Piecemeal distribution 
involves either of two 
methods 
Maximum loss method 
Highest relative capital 
method
UNIT OVERVIEW 
© The Institute of Chartered Accountants of India
ACCOUNTING
1.
202
10.202 
6.1 INTRODUCTION 
Apart from the readjustment of rights of partners in the share of profit by way of change in the 
profit-sharing ratio and admission of a new partner or for retirement/death of a partner, another 
important aspect of partnership accounts is how to close books of accounts in case of dissolution. 
In this Unit, we will discuss the circumstances leading to the dissolution of a partnership firm and 
accounting treatment necessary to close its books of accounts. Also, we will discuss the special 
problems relating to the insolvency of partners and the settlement of the partnership's liabilities. 
6.2 CIRCUMSTANCES LEADING TO DISSOLUTION OF 
A partnership is dissolved or comes to an end on: 
However, the partners or remaining partners (in case of death or insolvency) may continue to 
do the business. In such a case there will be a new partnership but the firm will continue. 
When the business comes to an end then only it will be said that the firm has been dissolved. 
A firm stands dissolved in the following cases: 
(a) the expiry of the term for which it was formed;
(b) completion of the venture for which it was entered into;
(c) death of a partner;
(d) insolvency of a partner.
A firm stands dissolved in the following cases:
(i) The partners
agree that the
firm should be
dissolved;
(ii) All partners
except one
become
insolvent;
(iii) The
business
becomes
illegal;
(iv) In case of
partnership at
will, a partner
gives notice of
dissolution; 
and
(v) The court
orders
dissolution.
PARTNERSHIP 
© The Institute of Chartered Accountants of India
Page 4


  
ACCOUNTING
1.
200 
 
10.200 
 
LEARNING OUTCOMES 
  
UNIT - 6: DISSOLUTION OF PARTNERSHIP FIRMS 
AND LLP 
 
 
 
 
After studying this unit, you would be able to:  
? Go through the circumstances in which a partnership is dissolved. 
? Understand that on the dissolution of a partnership all assets are sold 
out and all liabilities are discharged. Learn the accounting technique 
relating to the disposal of assets and payment of liabilities. 
? Learn how to settle the partner's claims in case of surplus and how to 
raise money from partners in case of a deficit. 
? Deal with piecemeal distribution to partners of the amount realized 
from assets net of liabilities. 
? Winding up of a Limited Liability Partnership (LLP) 
  
© The Institute of Chartered Accountants of India
 
    
 10.201 
PARTNERSHIP AND LLP ACCOUNTS 
 
Circumstances leading to Dissolution of Partnership 
 
Methods of piecemeal distribution 
 
  
where the firm is constituted for a 
fixed term, on the expiry of that 
term
where the firm is constituted to 
carry out one or more adventures or 
undertaking, then by completion 
thereof
by the death of a partner, and
by the adjudication of a partner as 
an insolvent.
Piecemeal distribution 
involves either of two 
methods 
Maximum loss method 
Highest relative capital 
method
UNIT OVERVIEW 
© The Institute of Chartered Accountants of India
ACCOUNTING
1.
202
10.202 
6.1 INTRODUCTION 
Apart from the readjustment of rights of partners in the share of profit by way of change in the 
profit-sharing ratio and admission of a new partner or for retirement/death of a partner, another 
important aspect of partnership accounts is how to close books of accounts in case of dissolution. 
In this Unit, we will discuss the circumstances leading to the dissolution of a partnership firm and 
accounting treatment necessary to close its books of accounts. Also, we will discuss the special 
problems relating to the insolvency of partners and the settlement of the partnership's liabilities. 
6.2 CIRCUMSTANCES LEADING TO DISSOLUTION OF 
A partnership is dissolved or comes to an end on: 
However, the partners or remaining partners (in case of death or insolvency) may continue to 
do the business. In such a case there will be a new partnership but the firm will continue. 
When the business comes to an end then only it will be said that the firm has been dissolved. 
A firm stands dissolved in the following cases: 
(a) the expiry of the term for which it was formed;
(b) completion of the venture for which it was entered into;
(c) death of a partner;
(d) insolvency of a partner.
A firm stands dissolved in the following cases:
(i) The partners
agree that the
firm should be
dissolved;
(ii) All partners
except one
become
insolvent;
(iii) The
business
becomes
illegal;
(iv) In case of
partnership at
will, a partner
gives notice of
dissolution; 
and
(v) The court
orders
dissolution.
PARTNERSHIP 
© The Institute of Chartered Accountants of India
  
 10.203 
PARTNERSHIP AND LLP ACCOUNTS 
6.3 CONSEQUENCES OF DISSOLUTION 
On the dissolution of a partnership, firstly, the assets of the firm, including goodwill, are 
realized. Then the amount realized, is applied first towards repayment of liabilities to outsiders 
and loans taken from partners; afterwards, the capital contributed by partners is repaid and, 
if there is still a surplus, it is distributed among the partners in their profit-sharing ratio.  
Conversely, after payment of liabilities of the firm and repayment of loans from partners, if 
the assets of the firm leftover are insufficient to repay in full the capital contributed by each 
partner, the deficiency is borne by the partners in their profit-sharing ratio.  
According to the provisions contained in section 48 of the Partnership Act, upon dissolution 
of the partnership, the mutual rights of the partners, unless otherwise agreed upon, are settled 
in the following manner: 
(a) Losses including deficiencies of capital are paid, first out of profits, next out of capital,
and, lastly, if necessary, by the partners individually in the proportion in which they are
entitled to share profits.
(b) The assets of the firm, including any sums contributed by the partners to make up
deficiencies of capital have to be applied in the following manner and order:
(i) in paying the debts of the firm to third parties;
(ii) in paying to each partner rateably what is due to him from the firm in respect
of advances as distinguished from capital;
(iii) in paying to each partner what is due to him on account of capital; and
The court has the option
to order dissolution of a
firm in the following
circumstances :
(a) Where a partner has become of unsound mind;
(b) Where a partner suffers from permanent incapacity;
(c) Where a partner is guilty of misconduct of the business;
(d) Where a partner persistently disregards the partnership
agreement; agreement;
(e) Where a partner transfers his interest or share to a third
party; party;
(f) Where the business cannot be carried on except at a loss;
and and
(g) Where it appears to be just and equitable.
© The Institute of Chartered Accountants of India
Page 5


  
ACCOUNTING
1.
200 
 
10.200 
 
LEARNING OUTCOMES 
  
UNIT - 6: DISSOLUTION OF PARTNERSHIP FIRMS 
AND LLP 
 
 
 
 
After studying this unit, you would be able to:  
? Go through the circumstances in which a partnership is dissolved. 
? Understand that on the dissolution of a partnership all assets are sold 
out and all liabilities are discharged. Learn the accounting technique 
relating to the disposal of assets and payment of liabilities. 
? Learn how to settle the partner's claims in case of surplus and how to 
raise money from partners in case of a deficit. 
? Deal with piecemeal distribution to partners of the amount realized 
from assets net of liabilities. 
? Winding up of a Limited Liability Partnership (LLP) 
  
© The Institute of Chartered Accountants of India
 
    
 10.201 
PARTNERSHIP AND LLP ACCOUNTS 
 
Circumstances leading to Dissolution of Partnership 
 
Methods of piecemeal distribution 
 
  
where the firm is constituted for a 
fixed term, on the expiry of that 
term
where the firm is constituted to 
carry out one or more adventures or 
undertaking, then by completion 
thereof
by the death of a partner, and
by the adjudication of a partner as 
an insolvent.
Piecemeal distribution 
involves either of two 
methods 
Maximum loss method 
Highest relative capital 
method
UNIT OVERVIEW 
© The Institute of Chartered Accountants of India
ACCOUNTING
1.
202
10.202 
6.1 INTRODUCTION 
Apart from the readjustment of rights of partners in the share of profit by way of change in the 
profit-sharing ratio and admission of a new partner or for retirement/death of a partner, another 
important aspect of partnership accounts is how to close books of accounts in case of dissolution. 
In this Unit, we will discuss the circumstances leading to the dissolution of a partnership firm and 
accounting treatment necessary to close its books of accounts. Also, we will discuss the special 
problems relating to the insolvency of partners and the settlement of the partnership's liabilities. 
6.2 CIRCUMSTANCES LEADING TO DISSOLUTION OF 
A partnership is dissolved or comes to an end on: 
However, the partners or remaining partners (in case of death or insolvency) may continue to 
do the business. In such a case there will be a new partnership but the firm will continue. 
When the business comes to an end then only it will be said that the firm has been dissolved. 
A firm stands dissolved in the following cases: 
(a) the expiry of the term for which it was formed;
(b) completion of the venture for which it was entered into;
(c) death of a partner;
(d) insolvency of a partner.
A firm stands dissolved in the following cases:
(i) The partners
agree that the
firm should be
dissolved;
(ii) All partners
except one
become
insolvent;
(iii) The
business
becomes
illegal;
(iv) In case of
partnership at
will, a partner
gives notice of
dissolution; 
and
(v) The court
orders
dissolution.
PARTNERSHIP 
© The Institute of Chartered Accountants of India
  
 10.203 
PARTNERSHIP AND LLP ACCOUNTS 
6.3 CONSEQUENCES OF DISSOLUTION 
On the dissolution of a partnership, firstly, the assets of the firm, including goodwill, are 
realized. Then the amount realized, is applied first towards repayment of liabilities to outsiders 
and loans taken from partners; afterwards, the capital contributed by partners is repaid and, 
if there is still a surplus, it is distributed among the partners in their profit-sharing ratio.  
Conversely, after payment of liabilities of the firm and repayment of loans from partners, if 
the assets of the firm leftover are insufficient to repay in full the capital contributed by each 
partner, the deficiency is borne by the partners in their profit-sharing ratio.  
According to the provisions contained in section 48 of the Partnership Act, upon dissolution 
of the partnership, the mutual rights of the partners, unless otherwise agreed upon, are settled 
in the following manner: 
(a) Losses including deficiencies of capital are paid, first out of profits, next out of capital,
and, lastly, if necessary, by the partners individually in the proportion in which they are
entitled to share profits.
(b) The assets of the firm, including any sums contributed by the partners to make up
deficiencies of capital have to be applied in the following manner and order:
(i) in paying the debts of the firm to third parties;
(ii) in paying to each partner rateably what is due to him from the firm in respect
of advances as distinguished from capital;
(iii) in paying to each partner what is due to him on account of capital; and
The court has the option
to order dissolution of a
firm in the following
circumstances :
(a) Where a partner has become of unsound mind;
(b) Where a partner suffers from permanent incapacity;
(c) Where a partner is guilty of misconduct of the business;
(d) Where a partner persistently disregards the partnership
agreement; agreement;
(e) Where a partner transfers his interest or share to a third
party; party;
(f) Where the business cannot be carried on except at a loss;
and and
(g) Where it appears to be just and equitable.
© The Institute of Chartered Accountants of India
ACCOUNTING
1.
204
10.204 
(iv) the residue, if any, to be divided among the partners in the proportion in which
they are entitled to share profits.
Distinction between Dissolution of Partnership and Dissolution of Partnership Firm 
Dissolution of Partnership Dissolution of Partnership Firm 
Dissolution of a partnership refers to the 
discontinuance of the relation between the 
partners of the firm. 
Dissolution of the firm implies that the 
entire firm ceases to exist, including the 
relation among all the partners. 
There can be change in profit sharing ratio or 
admission/death/retirement of a partner. 
Dissolution of partnership firm occurs. 
In event of dissolution of the partnership, the 
business continues as usual, but the 
partnership is reconstituted. 
In event of the dissolution of the firm, the 
business ceases to end. 
There is no intervention by the court. Court has the inherent power to intervene. 
By its order, a firm can be dissolved. 
Economic relationships among partners may 
remain same or change.
Economic relationship among partners 
comes to an end.
Assets and liabilities are revalued. New 
balance sheet is prepared. 
Assets are sold and realized. Liabilities are 
paid off. 
Revaluation account is prepared. Realization account is prepared. 
Assets and liabilities are revalued after 
winding up of the existing partnership. 
Assets and liabilities are settled on 
winding up of a firm. 
Books of accounts are not closed. Books of accounts are closed. 
6.3.1  Dissolution before the expiry of a fixed term 
A partner who, on admission, pays a premium to the other partners with a stipulation that the 
firm will not be dissolved before the expiry of a certain term, will be entitled to a suitable 
refund of premium or of such part as may be reasonable, if the firm is dissolved before the 
term has expired. 
© The Institute of Chartered Accountants of India