Q.Aman, Aadhar and Avinash were partners and sharing profits in the ratio of 3 : 2 : 1. Avinash retired from the firm on 1st July, 2022. On the date of Avinash's retirement, the Balance Sheet showed a debit balance of ₹ 1,20,000 in the Profit and Loss Account. For calculating the amount payable to Avinash, this balance will be transferred : (A) To the debit side of the capital accounts of Aman and Aadhar in old profit sharing ratio. (B) To the debit side of the capital accounts of Aman, Aadhar and Avinash in old profit sharing ratio. (C) To the credit side of the capital accounts of Aman and Aadhar in new profit sharing ratio. (D) To the credit side of the capital accounts of Aman and Aadhar in their gaining ratio.
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Start your 14-day free trial to unlock the full solution →The debit balance of ₹1,20,000 in the Profit and Loss Account will be transferred to the debit side of the capital accounts of Aman, Aadhar and Avinash in the old profit sharing ratio (3 : 2 : 1).
Concept: Treatment of Accumulated Losses on Retirement
When a partner retires, all accumulated profits and losses appearing in the Balance Sheet must be distributed among the partners before calculating the retiring partner's dues. A debit balance in the Profit and Loss Account represents an accumulated loss — it is a loss that has not yet been written off against the partners' capital.
The fundamental principle is this: accumulated losses (or profits) belong to the period during which all the partners were active. They must therefore be shared by all partners, including the retiring partner, in their old profit sharing ratio. This is because these losses were incurred when all three partners were sharing profits and losses in that ratio.
Why the Old Ratio?
The old profit sharing ratio reflects the agreement under which the partners bore profits and losses up to the date of retirement. The retiring partner cannot escape his share of past losses simply by leaving the firm. Similarly, continuing partners cannot be burdened with the retiring partner's share of accumulated losses.
The Accounting Treatment
The journal entry to transfer the debit balance in Profit and Loss Account is:
| Date | Particulars | L.F. | Debit (₹) | Credit (₹) |
|---|---|---|---|---|
| 1st July, 2022 | All Partners' Capital Accounts Dr. (in old ratio) | 1,20,000 | ||
| Aman's Capital A/c Dr. | 60,000 | |||
| Aadhar's Capital A/c Dr. | 40,000 | |||
| Avinash's Capital A/c Dr. | 20,000 | |||
| To Profit and Loss A/c | 1,20,000 | |||
| (Being accumulated loss transferred to partners' capital accounts in old profit sharing ratio 3 : 2 : 1) |
This entry debits each partner's capital account with their share of the loss, thereby reducing the amount payable to Avinash and the capital balances of the continuing partners.
Working Notes
W.N. 1: Distribution of Accumulated Loss
Old profit sharing ratio = 3 : 2 : 1
Total = 3 + 2 + 1 = 6
- Aman's share =
- Aadhar's share =
- Avinash's share =
A common mistake is to think that only the continuing partners (Aman and Aadhar) should bear the accumulated loss. This is incorrect. The retiring partner must bear his share of past losses because they were incurred during his tenure. If we exclude Avinash, we would be unfairly burdening the remaining partners with his share of the loss. …
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