If it is agreed that the capital of all the partners should be proportionate to the new profit sharing ratio,

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Q. If it is agreed that the capital of all the partners should be proportionate to the new profit sharing ratio, how will you work out the new capital of each partner? Give examples and state how necessary adjustments will be made.

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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Under this method, the capital account remains constant (except when additional capital is introduced or capital is withdrawn permanently).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 partners agree to make their capitals proportionate to a new profit-sharing ratio, the goal is to align each partner’s capital balance with their share of the firm’s total capital. The process has two clear steps.

Step 1: Determine the total capital of the new firm.

This is usually taken as the sum of the existing capitals of all partners after all revaluation, goodwill, and accumulated profits/losses have been adjusted. Alternatively, the partners may decide to base the total capital on the capital of one partner (often the one whose capital is most convenient).

Step 2: Calculate each partner’s proportionate capital.

Multiply the total capital (from Step 1) by each partner’s new profit-sharing ratio. The result is the capital each partner should have.

Example:

A, B, and C share profits in the ratio 5:3:2. They decide to change to 1:1:1. After revaluation, their capitals are: A ₹60,000, B ₹40,000, C ₹20,000 (total ₹1,20,000). The new ratio is equal (1:1:1).

New capital for each partner = ₹1,20,000 × 1/3 = ₹40,000.

Adjustments:

Compare the new required capital with the existing capital. The difference is either brought in (deficit) or withdrawn (surplus).

Partner	Existing Capital (₹)	Required Capital (₹)	Difference (₹)	Adjustment
A	60,000	40,000	20,000 (excess)	Withdraw ₹20,000
B	40,000	40,000	0	No change
C	20,000	40,000	20,000 (deficit)	Bring in ₹20,000

Journal entries:

For excess withdrawal (A): …

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When partners agree to make their capitals proportionate to a new profit-sharing ratio, the total capital of the firm is first determined (often based on the existing capital of one partner or a mutually agreed figure), and then each partner's capital is calculated as their share of that total. The difference between the existing capital and the required capital is adjusted by bringing in or withdrawing cash, or through a current account transfer.

The Concept: Why Proportionate Capital?

In a partnership, capital represents each partner's stake in the firm. When the profit-sharing ratio changes (due to admission, retirement, or a mutual agreement), the partners often decide that their capital accounts should reflect their new risk-and-reward share. This ensures fairness — no partner has a disproportionately large or small investment relative to their claim on profits.

The accounting treatment follows the Fixed Capital Method (most common for such adjustments) or the Fluctuating Capital Method. Under the fixed method, adjustments are made through a Current Account (or a separate Capital Adjustment Account), keeping the original capital account balances unchanged. Under the fluctuating method, the capital account itself is directly adjusted.

The Procedure: Step-by-Step

Determine the Total Capital of the New Firm. This is usually based on the capital of the partner who has the highest existing capital, or it is mutually agreed upon. For example, if Partner A has ₹1,00,000 and the new ratio is 2:1, the total capital might be set as ₹1,50,000 (so that A's 2/3 share equals ₹1,00,000).
Calculate Each Partner's Required Capital. Multiply the total capital by each partner's new profit-sharing ratio.
Find the Surplus or Deficiency. Compare each partner's existing capital (after all other adjustments like revaluation, goodwill, etc.) with their required capital.
- If existing capital > required capital → Surplus (partner withdraws the excess).
- If existing capital < required capital → Deficiency (partner brings in the shortfall).
Record the Adjustment. The partner either brings in cash (debit Bank, credit Capital/Current Account) or withdraws cash (debit Capital/Current Account, credit Bank).

Example 1: Fixed Capital Method (Most Common)

Given: A and B are partners sharing profits in 3:2. Their capitals (fixed) are ₹1,50,000 and ₹1,00,000 respectively. They decide to share future profits equally (1:1). The total capital of the new firm is agreed at ₹2,50,000.

Step 1: Calculate Required Capitals

Total capital = ₹2,50,000
A's new share = 1/2 → Required capital = ₹2,50,000 × 1/2 = ₹1,25,000
B's new share = 1/2 → Required capital = ₹2,50,000 × 1/2 = ₹1,25,000

Step 2: Compare with Existing Capitals

A: Existing ₹1,50,000 – Required ₹1,25,000 = Surplus ₹25,000 (A will withdraw)
B: Existing ₹1,00,000 – Required ₹1,25,000 = Deficiency ₹25,000 (B will bring in)

Step 3: Journal Entry

Particulars	Debit (₹)	Credit (₹)
A's Current A/c Dr.	25,000
To A's Capital A/c		25,000
(Being surplus capital transferred to Current A/c — A will withdraw)
Bank A/c Dr.	25,000
To B's Current A/c		25,000
(Being deficiency brought in by B)

Note

Under the Fixed Capital Method, the Capital Account remains unchanged. The adjustment is routed through the Current Account. If the partner withdraws the surplus, the Current Account is debited (reducing it). If the partner brings in cash, the Current Account is credited.

Example 2: Fluctuating Capital Method

Given: Same as above, but capitals are fluctuating.

Step 1 & 2: Same calculations — A has surplus ₹25,000, B has deficiency ₹25,000.

Step 3: Journal Entry

Particulars	Debit (₹)	Credit (₹)
A's Capital A/c Dr.	25,000
To Bank A/c		25,000
(Being surplus capital withdrawn by A)
Bank A/c Dr.	25,000
To B's Capital A/c		25,000
(Being deficiency brought in by B)

Watch out

A common mistake is to debit/credit the Capital Account directly under the Fixed Capital Method. Remember: under Fixed Capital, the Capital Account is a permanent record of the partner's agreed capital. All adjustments for surplus/deficiency go through the Current Account.

Example 3: When Total Capital is Based on One Partner's Capital

Given: X, Y, Z share profits in 5:3:2. Their capitals are ₹80,000, ₹60,000, and ₹40,000 respectively. They admit W with 1/5th share. The new ratio is 4:2:2:2. It is agreed that capitals shall be proportionate to the new ratio, and X's capital will be the base.

Step 1: Determine Total Capital Based on X's Capital

X's new share = 4/10 = 2/5 …

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Q.If it is agreed that the capital of all the partners should be proportionate to the new profit sharing ratio, how will you work out the new capital of each partner? Give examples and state how necessary adjustments will be made.

The Concept: Why Proportionate Capital?

The Procedure: Step-by-Step

Example 1: Fixed Capital Method (Most Common)

Example 2: Fluctuating Capital Method

Example 3: When Total Capital is Based on One Partner's Capital

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