How will you deal with a change in profit sharing ratio among existing partners? Take imaginary figures to ill

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Q. How will you deal with a change in profit sharing ratio among existing partners? Take imaginary figures to illustrate your answer.

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Concept understanding — Partnership Capital Accounting

Partnership Capital Accounting — A First Look

Think of a partnership like a group of friends pooling money to start a roadside food stall. Each friend brings in some cash — that’s their capital. But unlike a simple piggy bank, a partnership needs a clear record of who put in how much, because profits (and losses) are shared in a fixed ratio, and partners may withdraw money, lend extra funds, or take a salary.

That record is what Partnership Capital Accounting is about.

What It Really Means

In accounting, capital is the amount a partner contributes to the firm. But it’s not just a one-time number. Over time, a partner’s capital changes due to:

Additional capital introduced
Drawings (money or goods taken out)
Share of profit or loss
Interest on capital, interest on drawings, partner’s salary, commission

The Capital Account of each partner tracks all these changes. It answers: What does the firm owe to this partner at any point?

Why It Matters

Without proper capital accounting, you cannot:

Determine each partner’s claim on the firm’s assets
Calculate interest on capital correctly
Prepare the Profit and Loss Appropriation Account
Settle accounts when a partner retires or dies

The NCERT textbook emphasises that capital accounts are personal accounts of the partners — they show the firm’s liability towards each partner.

Two Methods of Maintaining Capital Accounts

The NCERT Class 12 Accountancy textbook (Part II, Chapter 2) describes two methods:

1. Fixed Capital Method

Under this method, the capital account remains constant (except when additional capital is introduced or capital is withdrawn permanently). All other transactions — share of profit, drawings, interest, salary — are recorded in a separate Current Account.

Note

In the Fixed Capital Method, the Capital Account shows only the permanent capital. The Current Account shows the fluctuating balance.

2. Fluctuating Capital Method

Here, all transactions are recorded directly in the Capital Account. The capital balance changes every year.

Accounting Treatment — Which Account is Debited/Credited

Let’s take the most common entries. I’ll show the journal entry first, then explain.

Entry 1: Capital Introduced

When a partner brings in cash or assets:

Date	Particulars	L.F.	Debit (Rs)	Credit (Rs)
	Cash/Bank A/c	Dr.	xxx
	To Partner’s Capital A/c			xxx

Why? Cash comes in (asset increases — debit), and the firm’s liability to the partner increases (capital is a liability — credit).

Entry 2: Drawings

When a partner withdraws cash or goods for personal use:

Date	Particulars	L.F.	Debit (Rs)	Credit (Rs)
	Partner’s Capital/Current A/c	Dr.	xxx
	To Cash/Bank/Purchases A/c			xxx

Why? The firm’s liability to the partner decreases (debit the capital/current account), and cash or goods go out (credit).

Entry 3: Interest on Capital

This is an appropriation of profit. The formula (as per NCERT) is:

Interest on Capital = Capital × Rate of Time × Time (in months)/12

Journal entry:

Date	Particulars	L.F.	Debit (Rs)	Credit (Rs)
	Interest on Capital A/c	Dr.	xxx
	To Partner’s Capital/Current A/c			xxx

Then, at the end of the year, Interest on Capital is transferred to the Profit and Loss Appropriation Account:

Date	Particulars	L.F.	Debit (Rs)	Credit (Rs)
	Profit and Loss Appropriation A/c	Dr.	xxx
	To Interest on Capital A/c			xxx

Entry 4: Partner’s Salary

If the partnership deed allows a salary:

Date	Particulars	L.F.	Debit (Rs)	Credit (Rs)
	Salary to Partner A/c	Dr.	xxx
	To Partner’s Capital/Current A/c			xxx

Again, this is transferred to the Profit and Loss Appropriation Account.

Entry 5: Share of Profit

At the end of the year, after all appropriations, the remaining profit is distributed:

Date	Particulars	L.F.	Debit (Rs)	Credit (Rs)
	Profit and Loss Appropriation A/c	Dr.	xxx
	To Partner’s Capital/Current A/c			xxx

Formats as per NCERT

Format of Capital Account (Fluctuating Method)

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When existing partners change their profit-sharing ratio, the adjustment is treated as if the gaining partner(s) compensate the sacrificing partner(s) for their share of goodwill. No actual payment is made; instead, the gaining partner’s capital account is debited and the sacrificing partner’s capital account is credited with the value of goodwill corresponding to the share sacrificed.

The steps are:

Calculate the sacrifice/gain of each partner: Sacrifice = Old share – New share (positive = sacrifice; negative = gain).
Value the firm’s goodwill (if not given, it must be agreed upon).
Pass the adjustment entry: Gaining partner’s capital A/c Dr. To Sacrificing partner’s capital A/c (Being adjustment for goodwill on change in profit-sharing ratio)

Illustration with imaginary figures:

A and B share profits in 3:2. They decide to share equally (1:1). Goodwill of the firm is valued at ₹1,00,000.

Partner	Old Share	New Share	Sacrifice / Gain
A	3/5	1/2	3/5 – 1/2 = 1/10 (sacrifice)
B	2/5	1/2	2/5 – 1/2 = –1/10 (gain)

A sacrifices 1/10th share → entitled to 1/10 of ₹1,00,000 = ₹10,000. …

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A change in profit-sharing ratio among existing partners is treated as a reconstitution of the partnership, requiring adjustments for accumulated reserves, goodwill, and revaluation of assets/liabilities. The key result is that partners' capital accounts are adjusted to reflect the new ratio, with any gain or loss compensated through a sacrifice/gain adjustment (often via a journal entry debiting gaining partners and crediting sacrificing partners).

Concept and Accounting Treatment

When existing partners decide to change their profit-sharing ratio, the partnership is reconstituted without admitting a new partner or retiring an old one. The fundamental accounting principle here is that all accumulated profits, reserves, and losses (including goodwill) belong to the partners in their old ratio. Changing the ratio means some partners sacrifice a portion of their future profits, while others gain. The accounting treatment ensures that no partner is unfairly enriched or impoverished by the change.

The key steps are:

Revalue assets and liabilities to their current fair values (if the change is effective from a date, revaluation is optional but prudent).
Adjust accumulated reserves, profits, and goodwill in the old ratio.
Compensate sacrificing partners by the gaining partners through a direct capital adjustment.

The journal entry for the sacrifice/gain adjustment is:

Debit the gaining partners' capital accounts (with their share of gain)
Credit the sacrificing partners' capital accounts (with their share of sacrifice)

This is based on the rule: "Gaining partner compensates the sacrificing partner." No cash changes hands; it's a book adjustment.

Illustration with Imaginary Figures

Let's take a simple example:

Partners: A and B

Old Ratio: 3:2

New Ratio: 1:1 (equal)

Capital Balances (before adjustment): A = ₹1,00,000; B = ₹80,000

General Reserve: ₹50,000

Goodwill (self-generated, not recorded): ₹60,000

Revaluation Loss: ₹10,000 (due to decrease in asset value)

Step 1: Calculate Sacrifice/Gain

Partner	Old Share	New Share	Difference	Nature
A	3/5 = 0.6	1/2 = 0.5	-0.1	Sacrifice
B	2/5 = 0.4	1/2 = 0.5	+0.1	Gain

A sacrifices 1/10th share; B gains 1/10th share.

Step 2: Adjust General Reserve

General Reserve of ₹50,000 must be distributed in old ratio (3:2).

Partner	Share	Amount (₹)
A	3/5	30,000
B	2/5	20,000

Journal Entry:

Particulars	Debit (₹)	Credit (₹)
General Reserve A/c Dr.	50,000
To A's Capital A/c		30,000
To B's Capital A/c		20,000
(Being reserve distributed in old ratio)

Step 3: Adjust Goodwill

Goodwill of ₹60,000 (not recorded) needs adjustment. The gaining partner (B) must compensate the sacrificing partner (A) for the goodwill.

Calculation:

A's sacrifice = 1/10 of ₹60,000 = ₹6,000
B's gain = 1/10 of ₹60,000 = ₹6,000

Journal Entry:

Particulars	Debit (₹)	Credit (₹)
B's Capital A/c Dr.	6,000
To A's Capital A/c		6,000
(Being goodwill adjusted for change in ratio)

Step 4: Revaluation of Assets/Liabilities

Assume a revaluation loss of ₹10,000 (e.g., machinery depreciated). This loss is shared in old ratio.

Partner	Share	Amount (₹)
A	3/5	6,000
B	2/5	4,000

Journal Entry:

Particulars	Debit (₹)	Credit (₹)
A's Capital A/c Dr.	6,000
B's Capital A/c Dr.	4,000
To Revaluation A/c		10,000
(Being revaluation loss transferred to partners in old ratio)

Step 5: Final Capital Accounts

Now, let's prepare the partners' capital accounts after all adjustments.

A's Capital Account …

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Same / Similar Concept — real previous-year questions on the same or a closely similar concept, not this exact question.

Showing the 12 most recent of 64 on this concept.

CBSE 2026Set 67/3/11 markMCQ
$Q. When capitals of the partners are fluctuating, then the adjustments for drawings, interest on drawings, interest on capital, partners' salary, etc. are shown in the ________. (A) Current Account of partners (B) Capital Account of partners (C) Drawings Account (D) Profit and Loss Appropriation Account$
›Reveal solutionSolution
When capitals are fluctuating, all adjustments for drawings, interest, salary, etc. are recorded directly in the Capital Account of partners (Option B).

Concept First: Why the Capital Account Gets Everything

In partnership accounting, the treatment of partners' capital depends on whether the capital is fixed or fluctuating.

Fixed Capital Method: The capital account remains unchanged (except for additional capital introduced or permanent withdrawal). All other transactions — drawings, interest on drawings, interest on capital, salary, commission, and share of profit — are recorded in a separate Current Account. The capital account shows only the fixed amount.

Fluctuating Capital Method: There is no separate current account. Every single transaction affecting the partner — drawings, interest, salary, profit share, etc. — is recorded directly in the Capital Account. This means the capital account balance changes (fluctuates) every year.

Watch out

A common mistake is to think that drawings and interest on drawings go into a Drawings Account permanently. In the fluctuating method, the Drawings Account is merely a temporary account that is closed by transfer to the Capital Account at the end of the year. The final resting place is the Capital Account.

The Rule of Debit and Credit

The rule is simple: anything that increases the partner's claim on the firm (interest on capital, salary, commission, share of profit) is credited to the Capital Account. Anything that decreases the partner's claim (drawings, interest on drawings, share of loss) is debited to the Capital Account.

Why the Other Options Are Wrong

(A) Current Account of partners — This is used only in the fixed capital method. The question specifically says "when capitals of the partners are fluctuating," so a current account does not exist.

(C) Drawings Account — This is a temporary account. Drawings are first recorded here, but at the end of the accounting period, the Drawings Account is closed by transferring its balance to the Capital Account. The final adjustment is in the Capital Account, not the Drawings Account. …
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CBSE 2026Set ANNUAL1 markMCQ
$Q. Which accounts are prepared by each partner in partnership under the fixed capital method of maintaining capital account ?$
(a) Partners Capital Account
(b) Partners Current Account
(c) Partners Capital Account and Partners Current Account
(d) Partners Capital Account or Partners Current Account
›Reveal solutionSolution

Under the fixed capital method, every partner maintains two accounts — a Capital Account (fixed) and a Current Account (fluctuating).

In a partnership firm, capital accounts can be maintained under two methods:

1. Fixed Capital Method — the capital account balance of each partner remains fixed from year to year, unless a partner introduces additional capital or withdraws part of the capital permanently. All other adjustments — interest on capital, interest on drawings, partner's salary/commission, share of profit or loss, and drawings — are routed through a separate Partners' Current Account, which fluctuates every year. This way the firm always knows, at a glance, exactly how much capital each partner has permanently invested.

…

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CBSE 2025Set 67/5/11 markMCQ
$Q. There are two statements Assertion (A) and Reason (R) : Assertion (A) : The partners’ fixed capital accounts always show a credit balance, which shall remain the same (fixed) year after year unless there is any addition or withdrawal of capital. Reason (R) : When captials are fixed, then various items like share of profit or loss, interest on capital, drawings, interest on drawings, etc. are recorded in partners’ capital accounts. Choose the correct option from the following : (A) Both Assertion (A) and Reason (R) are correct and Reason (R) is the correct explanation of Assertion (A). (B) Both Assertion (A) and Reason (R) are correct, but Reason (R) is not the correct explanation of Assertion (A). (C) Assertion (A) is correct, but Reason (R) is incorrect. (D) Assertion (A) is incorrect, but Reason (R) is correct.$
›Reveal solutionSolution
Assertion (A) is correct because under the fixed capital method, capital accounts maintain a constant credit balance unless capital is introduced or permanently withdrawn. Reason (R) is incorrect because items like profit share, interest on capital, and drawings are recorded in partners' current accounts, not their capital accounts, when capitals are fixed.

Let's understand the fundamental difference between the Fixed Capital Method and the Fluctuating Capital Method in partnership accounting. This distinction is crucial for correctly treating various transactions related to partners.

Concept of Capital Accounts in a Partnership

A partnership firm maintains capital accounts for each partner to record their investment in the business. There are two primary methods for maintaining these accounts:

Fixed Capital Method: Under this method, the partners' capital accounts generally show a fixed balance year after year. This is because only two types of transactions affect the capital account:

Introduction of additional capital by a partner.

Permanent withdrawal of capital by a partner. All other adjustments, such as share of profit or loss, interest on capital, interest on drawings, salary, and commission, are recorded in a separate account called the Partners' Current Account. The logic here is to keep the initial capital investment distinct and stable, reflecting the long-term commitment of capital.

Fluctuating Capital Method: Under this method, only one account, the Partners' Capital Account, is maintained for each partner. All transactions related to partners – initial capital, additional capital, permanent withdrawals, share of profit or loss, interest on capital, interest on drawings, salary, and commission – are recorded directly in this single capital account. As a result, the balance of the capital account fluctuates from year to year.

Now, let's evaluate the given Assertion and Reason based on this understanding.

Evaluation of Assertion (A):

Assertion (A) states: "The partners’ fixed capital accounts always show a credit balance, which shall remain the same (fixed) year after year unless there is any addition or withdrawal of capital."

"The partners’ fixed capital accounts always show a credit balance": Capital is a liability for the firm and represents the partners' claim on the firm's assets. Therefore, capital accounts inherently have a credit balance. It is highly improbable for a capital account to show a debit balance, especially under the fixed capital method, as drawings and losses are routed through the current account. …
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CBSE 2025Set MARCH1 markMCQ
$Q. How would you consider the interest on credit balance of partner's current account for firm?$
(a) An expense
(b) Liability
(c) Income
(d) Loss
›Reveal solutionSolution
Interest on a credit balance of a partner's current account is money the firm pays TO the partner, hence it is an expense for the firm. Correct option: (a) An expense.

This is a common GSEB Class-12 Commerce (Accountancy) question on partnership capital accounting.

A partner's current account with a credit balance shows that the firm owes money to the partner (undrawn profits, interest on capital, etc.).

When the firm allows interest on that credit balance, it is a sum flowing from the firm to the partner. …
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CBSE 2025Set ANNUAL1 markMCQ
$Q. When capital is fixed, the capital accounts of partners show (A) Debit balance (B) Credit balance (C) Profit (D) Loss$
›Reveal solutionSolution
When capital is fixed, each partner's capital account shows a credit balance, so the correct option is (B).

This is a standard BSEB Inter / Bihar Class-12 Accountancy point on the fixed capital method, which aligns with the NCERT/CBSE partnership syllabus. Under the fixed capital method two accounts are kept for each partner: a Capital Account and a Current Account.

The Capital Account records only the fixed capital contributed (and permanent additions/withdrawals of capital). Since capital brought in is a liability of the firm to the partner, it is credited to the capital account, giving it a credit balance. …
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CBSE 2025Set ANNUAL1 markMCQ
$Q. The balance of Current Account can be (A) Positive (B) Negative (C) Zero (D) All of these$
›Reveal solutionSolution
A partner's current account can have a positive, negative or zero balance, so the answer is (D).

Under the fixed capital method the Current Account carries all the fluctuating items — share of profit, interest on capital, salary/commission (credits) and drawings and interest on drawings (debits).

If credits exceed debits, the account shows a positive (credit) balance. …
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CBSE 2025Set ANNUAL1 markMCQ
$Q. The Partner's Capital Account is credited with (A) Interest on Capital (B) Interest on Drawings (C) Drawings (D) Share in Loss$
›Reveal solutionSolution
A partner's capital account is credited with interest on capital, so the answer is (A).

A partner's capital account is credited with items that increase the firm's liability to him, and debited with items that reduce it.

Interest on Capital (A) is an allowance due to the partner, so it is credited to his capital (or current) account.

Interest on Drawings (B) is a charge on the partner, so it is debited, not credited.

Drawings (C) reduce his balance, so they are debited. …
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CBSE 2025Set ANNUAL1 markMCQ
$Q. Partners Current Accounts are opened when Capital Accounts are (A) Fluctuating (B) Fixed (C) Fixed & Fluctuating (D) None of these.$
›Reveal solutionSolution
Current Accounts are opened only under the Fixed Capital Method, so the correct option is (B) Fixed.

This topic, from the WBCHSE HS (West Bengal Class-12) Accountancy course (which aligns with the NCERT/CBSE commerce curriculum), tests how partners' capital is maintained. There are two methods:

Under the Fluctuating Capital Method, one capital account absorbs every item — interest on capital, interest on drawings, salary or commission, share of profit or loss and drawings. The balance keeps fluctuating, so no second account is needed. …
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CBSE 2025Set ANNUAL1 mark
$Q. Answer in one word/sentence: When are partners' current accounts prepared?$
›Reveal solutionSolution

Answer: Under the Fixed Capital Method.

Partners' Current Accounts are prepared only when the Fixed Capital Method is followed. The Capital Accounts remain fixed and all other items - interest on capital, salary, drawings, share of profit - are recorded in the Curren …

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CBSE 2025Set ANNUAL1 markMCQ
$Q. Partners' ________ always show a credit balance. (A) Current Account (B) Drawings Account (C) Fluctuating Capital Account (D) Fixed Capital Account$
›Reveal solutionSolution
A Fixed Capital Account always shows a credit balance because only capital introduced/withdrawn is routed through it; all fluctuating items go to the Current Account.

Under the Fixed Capital Method, a partner's capital is split into two accounts:

Capital Account — records only capital introduced and capital permanently withdrawn. Its balance stays "fixed" from year to year and normally always shows a credit balance.

Current Account — records interest on capital, salary, share of profit/loss, drawings and interest on drawings. Because drawings and losses can exceed credits, the Current Account can show a debit balance.

Checking the options:

(A) Current Account — can show a debit balance (e.g., if drawings exceed credits), so this is wrong.

(B) Drawings Account — always a debit balance (it records what the partner has taken out), so this is wrong. …
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CBSE 2024Set 67/1/11 markMCQ
$Q. Read the following hypothetical situation and answer the question on the basis of the given information. Abha and Babita were partners in a clay toy making firm sharing profits in the ratio of 2 : 1. On 1st April, 2023, their capital accounts showed balances of ₹5,00,000 and ₹10,00,000 respectively. The partnership deed provides for interest on capital @ 10% p.a. The firm earned a profit of ₹90,000 during the year. Babita's share in profit will be : (A) ₹60,000 (B) ₹30,000 (C) Nil (D) ₹1,00,000$
›Reveal solutionSolution
Babita's share in profit is Nil because the firm's profit of ₹90,000 is insufficient to cover the interest on capital (₹1,50,000), leaving no distributable profit.

Concept: Appropriation of Profit and Interest on Capital

In partnership accounting, interest on capital is an appropriation of profit, not a charge against profit (unless the deed explicitly states otherwise). This means interest is paid out of the available profit. The treatment follows a strict sequence:

Calculate interest on capital for all partners.

Check if the profit is sufficient to pay the full interest.

If profit < total interest, distribute the available profit as interest in the capital ratio (or as per deed), and no profit remains for sharing in the profit-sharing ratio.

If profit > total interest, pay full interest, then distribute the remaining profit in the profit-sharing ratio.

The partnership deed here provides for 10% p.a. interest on capital. Abha's capital is ₹5,00,000 and Babita's is ₹10,00,000. The profit-sharing ratio is 2:1 (Abha:Babita).

Solution

Working Note 1: Interest on Capital

Partner Capital (₹) Rate Interest (₹)
Abha 5,00,000 10% 50,000
Babita 10,00,000 10% 1,00,000
Total 1,50,000

Working Note 2: Distribution of Profit

Available profit = ₹90,000

Total interest on capital = ₹1,50,000

Since the profit (₹90,000) is less than the total interest on capital (₹1,50,000), the entire profit will be distributed as interest on capital in proportion to the interest due (or in the capital ratio, which is the same here: 5:10 = 1:2).

Proportion of interest:

Abha: $\frac{50,000}{1,50,000} \times 90,000 = 30,000$

Babita: $\frac{1,00,000}{1,50,000} \times 90,000 = 60,000$

Total distributed = ₹90,000 (exhausts the profit)

Profit available for distribution in profit-sharing ratio = ₹90,000 − ₹90,000 = ₹0

Therefore:

Abha's share in profit (in 2:1 ratio) = ₹0

Babita's share in profit (in 2:1 ratio) = ₹0 …
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CBSE 2024Set 67/2/11 markMCQ
$Q. Which of the following items cannot be recorded in the capital account of partners if the capital accounts of partners are fixed ? (A) Drawings (B) Withdrawal of capital (C) Introduction of additional capital (D) Opening balance of capital$
›Reveal solutionSolution
Fixed Capital Accounts: What Can and Cannot Be Recorded

When partners maintain fixed capital accounts, only the opening balance and permanent changes (additional capital introduced or capital withdrawn permanently) appear in the Capital Account. All other transactions — drawings, interest, salary, profit share — flow through the Current Account. The answer is (A) Drawings.

The Concept: Fixed vs. Fluctuating Capital

In partnership accounting, capital can be maintained under two methods:

1. Fluctuating Capital Method

A single Capital Account for each partner records everything: opening balance, additional capital, drawings, interest on capital, salary, commission, share of profit/loss, interest on drawings. The balance keeps changing (fluctuating) every year.

2. Fixed Capital Method

Each partner has two accounts:

Capital Account — records only the permanent capital: opening balance, any fresh capital introduced, and any capital withdrawn permanently. The balance remains fixed unless there is a deliberate change in the capital structure.

Current Account — records all operational items: drawings, interest on capital, salary, commission, share of profit/loss, interest on drawings. This account fluctuates.

The logic is simple: the Capital Account represents the partner's stake in the firm (what they have invested), while the Current Account tracks their running transactions with the firm.

Treatment of Each Item

Let's examine the four options:

(A) Drawings

Drawings are amounts withdrawn by a partner for personal use during the year. They are temporary reductions in what the partner is owed, not a permanent reduction in capital. Under the fixed capital method, drawings are debited to the Current Account, not the Capital Account.

Watch out

A common mistake is to confuse drawings with withdrawal of capital. Drawings are regular, operational withdrawals (salary, personal expenses); withdrawal of capital is a permanent reduction in the partner's investment, often requiring mutual consent and recorded in the Capital Account itself.

(B) Withdrawal of Capital

If a partner permanently reduces their capital (say, the partnership deed is amended and A's capital is reduced from ₹2,00,000 to ₹1,50,000), this is recorded in the Capital Account:

Debit A's Capital Account ₹50,000

Credit Cash/Bank ₹50,000

This can be recorded in the Capital Account because it is a structural change.

(C) Introduction of Additional Capital …
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Partner	Capital (₹)	Rate	Interest (₹)
Abha	5,00,000	10%	50,000
Babita	10,00,000	10%	1,00,000
Total			1,50,000

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Q.How will you deal with a change in profit sharing ratio among existing partners? Take imaginary figures to illustrate your answer.

Concept and Accounting Treatment

Illustration with Imaginary Figures

Step 1: Calculate Sacrifice/Gain

Step 2: Adjust General Reserve

Step 3: Adjust Goodwill

Step 4: Revaluation of Assets/Liabilities

Step 5: Final Capital Accounts

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