Partnership
Dissolution
1
Introduction



A partnership may dissolve due to disagreement
among the partners, poor performance of the
firm or being taken over by another business.
The assets of the partnership will be realized to
pay off the liabilities.
The sales proceeds should be applied in the
following order, as required by the Hong Kong
Ordinance:
 Pay off creditors first,
 then the partners’ advances,
 Finally the partners’ capital
and
2
Realization Account

In the partnership dissolution, an account
named as ‘Realization Account’ will be
opened to compute the profit or loss from
realization which should be shared among
the partners according to the profit or loss
sharing ratio
3
Nature of partnership dissolution
Dissolution where the assets are sold
separately
 Dissolution where partnership is sold as a
whole

4
Dissolution where
Assets are sold
separately
5
Procedures of Dissolution
1.
2.
3.
4.
All assets will be sold to other persons or
taken over by partners
Settle the liabilities of the partnership to
outsider or partners
Transfer any ‘profit or loss on realization’
to each partner’s capital accounts in
profit/loss sharing ratio
Merge the balances in the partners’
current accounts to their capital accounts
6
5.
Any credit balance in each partner’s
capital account represents the amount
which can be withdrawn from the
partnership to each partner; any debit
balance in a partner’s capital account
represents additional cash to be injected
by that partners
7
Transactions
Accounting entries
Close all asset accounts with
net book value to the
realization account (except
cash and bank because
these assets need not be
disposed of)
Cost of dissolution or any
losses or expenses incurred
on realization
Proceeds from the disposal
of assets
Dr Realization
Cr Assets
Assets taken over by a
partner without payment
Dr Capital
Cr Realization
Dr Realization
Cr Bank
Dr Bank
Cr Realization
8
Transactions
Accounting entries
Asset taken over by partners No entries required
as a gift
Creditors taken over by a
partner
Dr Creditors
Cr Capitals
Payment to creditors with
discounts received
Dr Creditors
Cr Realization – discount
Cr Bank
Dr Realization – profit
Cr Capitals
or
Dr Capital
Cr Realization - loss
Profit or loss on realization
to be shared among the
partners according to the
profit-sharing ratio
9
Transactions
Repayment of loan to an
partner
Accounting entries
Dr Loan from partner
Cr Bank
Repayment of loan to an
outsider ( creditors)
Dr Loan from outsider
Cr Bank
Transfer any balances in
partners’ current accounts
Dr Current (for credit balance)
Cr Capitals
Or
Dr Capital
Cr Current (for debit balance)
Repayment of remaining
capital to partners
Dr Capital
Cr Bank
10
Example 1
11
John, Peter and Tom were partners sharing profits and losses in the
ratio 1:1:3.
The balance sheet as at 31 December 1996 was as follows:
Balance Sheet as at 31 December 1996
Fixed Assets
Cost
Dep
NBV
Premises
180000 10000 170000
Motor Vehicles
27500
5500
22000
207500 15500 192000
Current assets
Stock
68250
Debtors
172500
Less: provision for bad debt
1265
171235
Bank
26065
265550
Less: Current Liabilities
Creditors
60000
Working Capital
205550
397550
12
Capital: John
Peter
Tom
Current: John
Peter
Tom
Long – term liabilities
Loan from Tom
100000
40000
160000 300000
30000
(10000)
70000 90000
7550
397550
Assets and liabilities were disposed of as follows:
1. The premises were sold at $ 200000 and legal charges from the
sale amount to $10000
2. Tom took over the stock and motor vehicles at book value
3. Except for $2500, all debts were collected
4. The creditors were discharged for $56000
5. Realization expenses of $10000 were paid
Required:
Prepare the realization, Bank, Capital and Current account for the dissolution
13
of partnership
Premises
Bal b/f
Realization
170000
Premises
180000 Prov. for depreciation
Realization
180000
10000
170000
180000
Provision for depreciation
Premises
10000
Bal b/f
10000
14
Premises
Motor Vehicles
Bal b/f
Realization
170000
22000
Motor Vehicles
Prov. for depreciation
27500
Realization
27500
5500
22000
27500
Provision for depreciation
Motor Vehicles
5500
Bal b/f
5500
15
Premises
Motor Vehicles
Debtors
Bal b/f
Realization
170000
22000
171235
Debtors
172500 Prov. for bad debts
Realization
172500
1265
171235
172500
Provision for Bad Debts
Motor Vehicles
1265
Bal b/f
1265
16
Premises
Motor Vehicles
Debtors
Stock
Bal b/f
Realization
170000
22000
171235
68250
Stock
68250
Realization
68250
17
Premises
Motor Vehicles
Debtors
Stock
Bank- realization expenses
Realization
170000 Bank – premises (200000-10000) 190000
- Debtors (172500-2500)
170000
22000
171235 Creditors – discount received
4000
68250
10000
Loan from Tom
Bank
Bal b/f
Realization – premises
- debtors
7550
Bal b/f
Bank
26065 Realization - expenses
190000 Creditors
170000 Loan from Tom
7550
10000
56000
7550
Creditors
Bank
56000 Bal b/f
Realization – discount received 4000
60000
60000
18
60000
Premises
Motor Vehicles
Debtors
Stock
Bank- realization expenses
Gain on realization:
John 1/5
2553
Peter 1/5
2553
Tom 3/5
7659
John
Realization:
Stock
MV
Realization
170000 Bank – premises (200000-10000)
- Debtors (172500-2500)
22000
171235 Creditors – discount received
68250
Tom – stock
10000
- MV
12765
454250
190000
170000
4000
68250
22000
454250
Capital
Peter Tom
John Peter Tom
Bal b/f
100000 40000 160000
68250 Gain on realizaiton 2553 2553 7659
22000
19
Realization:
Stock
MV
Current
Bank
Capital
John Peter Tom
John Peter Tom
Bal b/f
100000 40000 160000
68250 Gain on realizaiton 2553 2553 7659
30000
70000
22000 Current
10000
132553 32553 147409
132553 32553 147409
132553 32553 147409
John
Bal b/f
Capital
Peter
10000
30000
Current
Tom
Bal b/f
70000 Capital
John
30000
Peter
Tom
70000
10000
30000 10000 70000
30000 10000 70000
Bank
Bal b/f
26065 Realization - expenses
10000
Realization – premises
190000 Creditors
56000
- debtors
170000 Loan from Tom
7550
Capital: John
132553
Peter
32553
Tom
147409
20
386065
386065
Dissolution where
partnership is sold
as a whole
21
Purchase consideration
The purchase consideration is to be
discharged by the limited company (buyer)
to partners(seller) to take over the business
 Goodwill = Purchase consideration –
( assets at take-over value –
liabilities at take-over value)

22
Transactions
Accounting entries
For dissolution of Old partnership (seller)
Close all asset accounts with Dr Realization
net book value to the
Cr Assets
realization account (Bank
and cash may be taken over)
Cost of dissolution or any
losses or expenses incurred
on realization
Proceeds from sale of the
business (purchase
consideration)
Dr Realization
Cr Bank
Dr Vendee (buyer)
Cr Realization
23
Transactions
Accounting entries
Liabilities taken over by the
buyer
Dr Liabilities
Cr Realization
The purchase consideration
settled by cheque, shares
and debentures
Dr Bank/ Shares/
debentures in purchaser’s
company
Cr Bank
Repayment of remaining
capital to partners
Dr capital
Cr Bank/ shares/ debentures
in purchaser’s company
24
Transactions
Accounting entries
For opening entries of New Company (buyer)
Assets taken over
Dr Assets
Cr Business Purchase
Liabilities taken over
Dr Business Purchase
Cr Liabilities
The purchase consideration
offered
Dr Business Purchase
Cr Vendor (seller)
The purchase consideration
settled by cheques, shares
and debentures
Dr Vendor (seller)
Cr Bank/Shares/Debentures
25
Example 2
26
John, Peter and Tom were partners sharing profits and losses in the
ratio 1:1:3.
The balance sheet as at 31 December 1996 was as follows:
Balance Sheet as at 31 December 1996
Fixed Assets
Cost
Dep
NBV
Premises
180000 10000 170000
Motor Vehicles
27500
5500
22000
207500 15500 192000
Current assets
Stock
68250
Debtors
172500
Less: provision for bad debt
1265
171235
Bank
26065
265550
Less: Current Liabilities
Creditors
60000
Working Capital
205550
397550
27
Capital: John
Peter
Tom
Current: John
Peter
Tom
Long – term liabilities
Loan from Tom
100000
40000
160000 300000
30000
(10000)
70000 90000
7550
397550
On 31 December 1996, they incorporated a limited company, Fortune limited,
to take over the partnership business. Fortune Limited had an authorized
capital of $500000 ordinary shares of $1 each.
28
Assets and liabilities were disposed of as follows:
1. John took over the stock at book value. Tom collected all the debts except
$2500
2. The company took over the premises at a valuation of $200000, motor
vehicles at $25000, cash at bank and all the liabilities. Goodwill was
valued at $70000 for the purpose of the takeover
3. The purchase consideration was to be discharged by the issue to the
partners of 150000 ordinary shares at $1.2 each, according to the
profit-sharing ratio, and the balance was to be in cash
4. The company also issued 50000 ordinary shares at $1.2 for cash to
outsiders
Required:
Prepare the realization, Capital and the opening balance sheet for the new
company
29
Realization
Premises
170000
MV
22000
Stock
Bank be taken over 68250
Debtors
171235
Bank
26065
Capital:
John
20353
Peter
20353
Tom
61059
101765
559315
Liabilities taken over by Ltd. Co.
Creditors
Loan from Tom
Tom: debtors (172500-2500)
John: stock
60000
7550
170000
68250
Fortune Ltd – purchase consideration
[(200000+25000+26065-7550-60000)
+70000]
253515
559315
Purchase consideration=Asset-liabilities +goodwill
30
John
Peter
10000
Capital
Tom
John Peter
Tom
Bal b/f
100000 40000 160000
Current
30000
70000
Current
Realization
Stock
68250
Debtors
170000
Shares in
Fortune Ltd 36000 36000 108000
Bank
46103 14353 13059
(Bal. fig.)
150353 60353 291059
Realization
-profit
20353 20353
61059
150353 60353 291059
Shares in Fortune Ltd.
150000*1.2
= 180000
John 1/5
36000
Peter 1/5
36000
Tom 3/5
108000
180000
31
Fortune Limited
Balance sheet as at 1 Jan 1996
Fixed Assets
Goodwill
Premises
MV
Current Assets
Bank [26065 + (50000*1.2) –(46103+14353+13059)]
Less: Current liabilities
Creditors
Working Capital
Share Capital
Ordinary Shares (150000*$1+50000*$1)
Share Premium (150000*$0.2+150000*$0.2)
Long-term liabilities
Loan from Tom
70000
200000
25000
295000
12550
60000
(47450)
247550
200000
40000
240000
7550
247550
32
Cash distribution
among partners
33
Cash Distribution Among Partners
With the application of the Garner vs.
Murray rule
 When cash is to be distributed as soon as
possible ( Piecemeal realization)

34
With the application of
Garner vs. Murray
rule
35
With the application of Garner vs.
Murray rule


Any CREDIT balance in each partner’s capital
account represents the amount which can be
withdrawn from the partnership to each partner
Any DEBIT balance in a partner’s capital
account represents additional cash to be
injected by that partner. If he is insolvency to
repay the amount, the solvency partners will be
shared the amount in:
 Profit
& loss sharing ratio
 Any agreed ratio given in the examination question
 GARNER vs. MURRAY rule may be applied
36
What is Garner vs.
Murray rule?
37
Garner vs. Murray rule
Under the rule, a partner is required to
contribute cash to eliminate the debit
balance in his capital account
 In the court case of Garner vs. Murray
(1904), it was held that subject to any
agreement to the contrary, such a debit
balance deficiency was to be shared by
the other partner not in their profit and loss
sharing ratio but “ the ratio of their last
agreed capitals”

38

If one partner is insolvent, his capital
deficiency will be shared by other partners
according to the ‘last agreed capital ratio’
(the ratio of the balances in the capital
accounts before the dissolution, in the
absence of any agreement to the contrary
39
Piecemeal
Realization
40
Piecemeal realization



Cash is distributed as it becomes available,
instead of waiting for all the assets to be realized
first
Assets are sold piecemeal, and then outstanding
debts are paid and the remaining cash is finally
distributed to the partners as soon as possible
This situation occurs because some assets can
be sold quickly, and some assets take longer
time to be sold (i.e. less liquid)
41
Assumed Loss/Notional Loss
Method
This is possible loss by assuming that the
remaining assets do not have any scrap
value
 Any unsold assets will be assumed loss in
each distribution

42
Steps on Piecemeal Dissolution
1. Find out the maximum possible loss
 Maximum possible loss
= NBV of assets to be realized - Total
proceeds form disposal
OR
 Maximum possible loss
= Total capital balances - Total cash to be
distributed to partners( i.e. cash available)
43
2. The maximum possible loss is shared by
the partners according to the profitsharing ratio
3. Apply the Garner vs. Murray rule if there
is any capital deficiency
4. Distribute any available cash to the
partners according to their remaining
capital balances
5. Repeat the process until all assets have
been realized
44
Example 3
45
Au, Chow and Lee were partners sharing profits and losses in the ratio 2:2:1.
The balance sheet as at 31 December 1996 was as follows:
Balance Sheet as at 31 December 1996
Fixed Assets
Cost
Dep
NBV
Goodwill
100000
100000
Land
150000
150000
Plant & Machinery
133000 55800 77200
Fixture & Fittings
30000 13000 17000
Motor Vehicles
32000 24000
8000
445000 92800 352200
Current assets
Stock
64000
Debtors
65000
Less: provision for bad debt
6000
59000
Cash
160
123160
Less: Current Liabilities
Creditors
57000
Bank Overdraft
128360
Working Capital
62200
46
290000
Capital: Au
Chow
Lee
Current: Au
Chow
Long – term liabilities
Bank loan
120000
80000
30000
20000
20000
230000
40000
20000
290000
On 31 December 1996 the partners agreed to dissolve the partnership
due to a disagreement between the partners. Assets were to be realized,
outstanding debts to be paid and the remainder to be shared by the
partners in an equitable manner.
Distributions of cash were to be made as soon as possible.
January
• Provision was made for dissolution expenses of $2400
• Land was sold for $200000
• The cash available was utilized to settle in full the bank overdraft, the
bank overdraft, the bank loan and all creditors after receiving discounts
47
March
• Stock which had originally costed $40000 was sold for $32000
• $15000 was received form debtors
April
• Plant & Machinery were sold for $51000 after paying carriage of $2000
• Fixtures and fittings were sold for $12000
May
• All the outstanding debtors, with the exception of a customer who owed
$4000 settled their accounts
• Motor vehicles were sold for $25000
• The remaining stock was sold for $22000
• Dissolution expenses amounted to $2100
Prepare distribution statement of cash at each stage
48
Distribution Statement
Total
$
Capital accounts
Current accounts
Au
$
Chow
$
Lee
$
230000 120000 80000 30000
40000
20000 20000
270000 140000 100000 30000
1st Distribution:
Cash available (w1)
Maximum possible loss (2:2:1)
( 47000)
223000
89200
89200 44600
50800 10800 (14600)
Lee’s capital deficiency shared by Au
And Chow in the last agreed capital ratio
(120000:80000)
Cash distributed
2nd Distribution:
Capital balance
Cash available (51000+12000)
Maximum possible loss (2:2:1)
(8760) (5840) 14600
42040 4960
0
223000
(63000)
160000
140000-42040
Lee’s capital deficiency shared by Au
And Chow in the last agreed capital ratio
(120000:80000)
Cash distributed
97960 95040 30000
64000
64000 32000
33960 31040
(2000)
(1200) (800) 2000
49
32760 30240
0
3rd Distribution:
Capital balance
Cash available (W2)
Maximum possible loss (2:2:1)
Cash distributed
160000 65200 64800 30000
(93300)
66700 26680 26680 13340
38520 38120 16660
97960-32760
50
W1 Cash available for 1st distribution:
January
Opening balance
Receipt from land
Less: Payment
Assumed dissolution expenses
(i.e. not actual expenses)
‘Settle in full’ means
no more payment will be
Bank overdraft
paid. => the difference
Bank loan
between 57000 and 49400
Creditors (Bal. Fig.)
is discount received
160
200000
200160
2400
128360
20000
49400 200160
0
=> no cash distribution to partners on January
March
Receipts:
Stock
Debtors
First cash distributed to partners
32000
15000
47000
Back
51
Notes:
•Very often no cash is distributed to partners at first or second month
since outstanding debts must be repaid first and then the remaining
cash can then be distributed to partners.
•Even though the questions have not mentioned to repay outstanding
debts, you should make sure to keep some cash to prepare to repay debts
and could not be distributed it to partners
52
W3 Cash available for 3rd distribution:
May
Receipts
Surplus in dissolution expenses(2400-2100)
Collection remaining debtors balance
(65000-15000-400)
Receipts from MV
Receipts from remaining stock
300
46000
25000
22000
93300
Back
53
Realization
Goodwill
100000 Cash:
Land
200000
Land
150000
Stock (32000+22000)
54000
Plant & Machinery
77200
Debtors (15000+46000)
61000
Fixtures & fittings
17000
Plant & machinery
51000
Motor Vehicles
8000
Fixture & fittings
12000
Stock
64000
Motor vehicles
25000
Debtors
59000
Creditors – discount rececived
Cash - dissolution expenses 2100
(57000-49400)
7600
Capital:
Au (2/5)
26680
Chow (2/5)
26680
Lee (1/5)
13340
66700
477300
477300
54
Au
Chow
Capital
Lee
Au
Chow
Bal b/f
120000 80000
Current 20000
Cash
in March 40240 4960
In April
32760 30240
in May
38520 38120 16660
Realization
-loss
26680 26680
Lee
30000
20000
26680
140000 100000 30000
140000 100000
30000
55