ACCOUNTING FOR SPECIAL TRANSACTIONS

GCST: BSA-3 & 4

AST 4: PARTNERSHIP DISSOLUTION

Partnership Dissolution
- is the change in the relation of the partners caused by any partner ceasing to be associated in the
carrying on as distinguished from the winding up of the business. Dissolution ends the association of partners
of their original purpose. (CC Art. 1828)

Dissolution vs, Liquidation

Dissolution is different from liquidation. Liquidation is the termination of business operations or the
winding up of affairs. Partnership dissolution does not necessarily terminate the business. The business
continues until the remaining partners decide to liquidate the business. If the business is continued after
dissolution, new articles of partnership should be drawn up.

Capital interest vs. Profit and loss interest:

 Capital interest – claim against the net assets of the partnership as shown by the balance of the
partner’s capital account.

 Profit and loss interest – determines how the partner’s capital interest will increase or decrease as a
result of subsequent operations.

Major considerations in partnership dissolutions:

1. Admission of a partner
a. By purchase of interest
b. By investment
2. Withdrawal, retirement or death of a partner
3. Incorporation of a partnership
Admission of a Partner
1. By purchase of interest – transaction between the incoming partner and the partners.
2. By investment in the Partnership – transaction between the incoming partner and the
partnership.
Admission by purchase of an interest:
 The purchase of an interest from one or more of the partnership’s existing partners is a personal
transaction between the incoming partner and the selling partner(s).
 No additional money or properties are invested in the partnership.
 The only entry made on the partnership books transfers an amount of the selling partner’s capital account
to the new partner’s capital account:

Selling Partner(s) Capital account Amount of capital interest sold

Incoming Partner’s Capital account Amount of interest purchased

Illustration 1 – Purchase of Interest

The capital balances and profit and loss ratios of the partners in ABC Co. are as follows:
Capital P&L
A 40,000 40%
B 60,000 30%
C 80,000 30%
TOTAL 180,000 100%

 Case 1: Purchase of interest from one partner:

D purchases one-half of C’s capital interest for P48,000.
C, Capital (80,000*1/2) 40,000
D, Capital 40,000
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 The P48,000 payment is not recorded in the partnership books because it is a transaction between the
incoming partner and an existing partner.
 Partner C has a personal gain of P8,000 from the transaction.

 Case 2: Purchase of interest from more than one partner.

D purchases 25% of A’s, B’s and C’s capital interests for P60,000.

A, Capital (40,000*.25) 10,000

B, Capital (60,000*.25) 15,000
C, Capital (80,000*.25) 20,000
D, Capital 45,000

A B C D TOTAL
Beginning Capital 40,000 60,000 80,000 -- 180,000
Sale of interest to D (10,000) (15,000) (20,000) 45,000 --
Ending Capital 30,000 45,000 60,000 45,000 180,000

 Case 3: Purchase of interest – Book value Method

D purchases 20% interest from A and B for P50,000. The partners agreed to account for the sale at the
book values of A’s and B’s capital accounts (rather than the total partnership capital).

A, Capital (40,000*.20) 6,000

B, Capital (60,000*.20) 12,000
D, Capital 18,000

 Case 4: Purchase of interest – Proportionate Share

D purchases 20% interest in the net assets and profits of the partnership from A and b for P50,000. A and
B agreed to share proportionately on the 20% interest sold to D. The partnership net assets are fairly
valued on D’s admission date.

A, Capital (36,000*4/7) 20,571

B, Capital (36,000*3/7) 15,429
D, Capital (180,000*20%) 36,000

Fractions:
A = 40%; B = 30%; Total = 70%;
A = 40/70 or 4/7; B = 30/70 or 3/7

New P&L ratio after D’s admission:

Before Adjustment After

A 40 20% * 4/7 = (11.43%) 28.57%
B 30 20% * 3/7 = (8.57%) 21.43%
C 30 30% 30%
D -- 20% 20%
Total 100 0 100%

Revaluation of Assets
 When a partnership is dissolved but not liquidated, a new partnership is created. (there is as if a
partnership formation)
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GCST: BSA-3 & 4
 Recap: In a partnership formation, investments should be recorded at fair value.
 The assets and liabilities carried over by the new partnership should be restated at their fair values.

Note: The adjustment to the assets and liabilities is allocated first to the existing partners before recording the
admission of the new partner.

Illustration 2 – Revaluation of Assets

C purchases 205 of A’s and B’s capital interests for P100,000. The carrying amounts and fair values of the
partnership’s net identifiable assets immediately before C’s admission are as follows:

Increase/
Carrying amount Fair Value
(Decrease)
Cash 20,000 20,000 --
Equipment 340,000 390,000 50,000
Accounts Payable 10,000 10,000 --
A, Capital (40%) 130,000 n/a --
B, Capital (60%) 220,000 n/a --

The capital balances of the existing partners are adjusted first for the revaluation increase before recording the
admission of C.

Equipment 50,000
A, Capital (50,000*40%) 20,000
B, Capital (50,000*60%) 30,000

After adjustment from revaluation:

A B TOTAL
Unadjusted Capital 130,000 220,000 350,000
Share in Revaluation 20,000 30,000 50,000
Adjusted capital 150,000 250,000 400,000

Record the admission of C using the adjusted capital of the partners:

A, Capital (150,000*20%) 30,000

B, Capital (250,000*20%) 50,000
D, Capital 80,000

After admission of C:

A B C TOTAL
Unadjusted Capital 150,000 250,000 -- 400,000
Sale of interest to C (30,000) (50,000) 80,000 --
Adjusted capital 120,000 200,000 80,000 400,000

Investment in the Partnership

 A new partner may be admitted by investing directly to the partnership.
 This transaction is a transaction between the new partner and the partnership.
 The consideration paid by the new partner is recorded in the partnership bboks.
 No gain or loss is recognized.
Scenarios:
1. New Partner’s investment = Capital Credit
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GCST: BSA-3 & 4
Capital Credit = new partner’s interest * partnership net assets after admission
2. New Partner’s Investment > Capital Credit
The excess contribution is treated as bonus to old partners.
Bonus to old partners is accounted for as an increase old partner’s capital and decreases new
partner’s capital.

3. New Partner’s Investment < Capital Credit

The deficiency is treated as bonus to the new partner.
The bonus is accounted for as an increase in the new partner’s capital and a decrease in the old
partner’s capital.

Illustration 3 – Investment in the Partnership

The capital balances of the partners in ABC Co. are as follows:

Capital P&L
A 40,000 40%
B 60,000 30%
C 80,000 30%
TOTAL 180,000 100%

The carrying amount of the net assets approximates fair value.

 Case 1 – New Partner’s investment = Capital Credit

D invests P60,000 cash for a 25% interest in the partnership’s net assets and profits.

Net Assets before Admission 180,000

Investment of D 60,000
Net Assets after Admission 210,000
D’s interest in Net Assets * 25%
Capital Credit to D 60,000
Investment of D (60,000)
Bonus 0

Cash 60,000
D, Capital 60,000

AC CC BONUS
OLD (A, B, C) 180,000 180,000 --
NEW (D) 60,000 60,000 --
TOTAL 210,000 210,000 --

 Case 2 – New Partner’s investment > Capital Credit

D invests P80,000 cash for a 25% interest in the partnership’s net assets and profits.

Net Assets before Admission 180,000

Investment of D 80,000
Net Assets after Admission 260,000
D’s interest in Net Assets * 25%
Capital Credit to D 65,000
Investment of D (80,000)
Bonus to old partners (15,000)
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GCST: BSA-3 & 4

Cash 80,000
D, Capital 80,000

D, Capital 15,000
A, Capital (15,000*40%) 6,000
B, Capital (15,000*30%) 4,500
C, Capital (15,000*30%) 4,500

AC CC BONUS
OLD (A, B, C) 195,000 180,000 15,000
NEW (D) 65,000 80,000 (15,000)
TOTAL 260,000 260,000 --

Capital balances:

A B C D TOTAL
Capital before admission 40,000 60,000 80,000 -- 180,000
Investment of D 80,000 80,000
Bonus to old Partners 6,000 4,500 4,500 (15,000) --
Capital after admission 46,000 64,500 84,500 65,000 260,000

New profit and loss ratio:

Before Adjustment After

A 40 25% * 40% = (10) 30%
B 30 25% * 30% = (7.5%) 22.5%
C 30 25% * 30%= (7.5%) 22.5%
D -- 25% 25%
Total 100 0 100%

 Case 3 – New Partner’s investment < Capital Credit

D invests P52,000 cash for a 25% interest in the partnership’s net assets and profits.

Net Assets before Admission 180,000

Investment of D 52,000
Net Assets after Admission 232,000
D’s interest in Net Assets * 25%
Capital Credit to D 58,000
Investment of D (52,000)
Bonus to new partner 6,000

Cash 52,000
D, Capital 52,000

A, Capital (6,000*40%) 2,400

B, Capital (6,000*30%) 1,800
C, Capital (6,000*30%) 1,800
D, Capital 6,000
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GCST: BSA-3 & 4

AC CC BONUS
OLD (A, B, C) 174,000 180,000 (6,000)
NEW (D) 58,000 52,000 6,000
TOTAL 232,000 232,000 --

A B C D TOTAL
Capital before admission 40,000 60,000 80,000 -- 180,000
Investment of D 52,000 52,000
Bonus to old Partners (2,400) (1,800) (1,800) 6,000 --
Capital after admission 37,600 58,200 78,200 58,000 232,000

Withdrawal, retirement or death by a partner

When a partner withdraws, retires or dies, his interest may be:

1. Purchased by one or all of the remaining partners.

2. Settled by the partnership.

Note: in case of death, the deceased partner’s estate is entitled to the value of the partner’s interest at the
date of his death.

The interest of the withdrawing, retiring, or deceased partner is adjusted for the following:
a. His share of any profit or loss during the period up to the date of his withdrawal, retirement or death,
b. His share of any revaluation gains or losses as at the date of his withdrawal, retirement or death.

Purchase by one or all of the remaining partners

 Personal transaction between and among the partners (or deceased partner’s estate)
 Settlement amount is not recorded in the partnership books.
 The only entry to be made is a transfer within equity.

Settlement by the Partnership

 The partnership will settle the interest of the retiring, withdrawing, or deceased partner.
 It is a transaction between the outgoing partner and the partnership.
 Settlement amount is recorded in the partnership books, alongside any other necessary adjustments

Bonus method
 When an outgoing partner’s interest is settled at an amount greater than or less than the value of
his interest, the bonus method is used.
 Any excess or deficiency in the payment is accounted for as a deduction from (or addition to) the
remaining partner’s capital accounts.

Deferred Settlement
 Pending settlement, the outgoing partner’s interest is transferred to a liability account, which is
considered an ordinary claim subordinate to the claims of other outside creditors. (1841)
 It may also be agreed that interest shall accrue on the outgoing partner’s unpaid balance from the
date of dissociation up to the date of settlement.
 In lieu of interest, the partner may eb entitled to the profits attributable to the use of his right in the
property of the dissolved partnership (1841)
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GCST: BSA-3 & 4

Illustration 3 – Withdrawal, retirement or death of a partner

The capital balances of the partners in ABC Partnership on July 1, 2023 before any necessary adjustments are
as follows:
Capital P&L
A 150,000 20%
B 250,000 30%
C 100,000 50%
TOTAL 500,000 100%

The partnership reported profit of P900,000 for the six months ended June 30, 2023.

 Case 1: Withdrawal – Purchase of interest by remaining partners

On July 1, 2023, c withdraws from the partnership when he was bought-out by his co-partners for P620,000
cash. The net assets of the firm as of this date approximate their fair values.

Adjust the balance of the partners for their respective shares in the profit:
A B C TOTAL
Unadjusted Balance 150,000 250,000 100,000 500,000
Share in Profit: 180,000 270,000 450,000 900,000
A: 900,000*20% = 180,000
B: 900.000*30% = 270,000
C: 900,000*50% = 450,000
Adjusted Capital 330,000 520,000 550,000 1,400,000

Income Summary 900,000

A, Capital 180,000
B, Capital 270,000
C, Capital 450,000

C, Capital 550,000
A, Capital 220,000
B, Capital 330,000

A B C TOTAL
Capital balance before withdrawal 330,000 520,000 550,000 1,400,000
Withdrawal of C 220,000 330,000 (550,000) --
A: 550,000*2/5 = 220,000
B: 550,000*3/5 = 330,000
Capital balance after withdrawal 550,000 850,000 -- 1,400,000
Notes:
The P620,000 payment of C to A and B is not recorded in the books.
The capital balance of C is allocated to the purchasing partners based on their relative old P&L ratio.

 Case 2: Retirement – Settlement of interest by Partnership

C retires on July 1, 2023. The partnership settles C’s interest for P620,000 cash.

A B C TOTAL
Unadjusted Balance 150,000 250,000 100,000 500,000
Share in Profit: 180,000 270,000 450,000 900,000
A: 900,000*20% = 180,000
B: 900.000*30% = 270,000
C: 900,000*50% = 450,000
Adjusted Capital 330,000 520,000 550,000 1,400,000
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C, Capital 550,000
A, Capital (70,000*2/5) 28,000
B, Capital (70,000*3/5) 42,000
Cash 620,000

Bonus to retiring partner: 620,000 – 550,000 = 70,000

A B C TOTAL
Capital balance before withdrawal 330,000 520,000 550,000 1,400,000
Payment to C (620,000) (620,000)
Bonus to C (28,000) (42,000) 70,000 --
Capital balance after withdrawal 302,000 478,000 -- 780,000

Incorporation of a Partnership
When a partnership is converted into a corporation, the corporation acquires the assets and assumes the
liabilities of the partnership and in return issues shares of stocks to the owners. On the date of the
incorporation:
a. The partner’s capital balances are adjusted for their respective shares in the profit and loss and
revaluation gains or losses as at the date of incorporation.
The adjusted capital balance may be used to determine the number of shares to be issued to each
partner.
b. Normally, the books of the partnership are closed and new books are opened for the corporation

Illustration 4 – Incorporation of a Partnership

Carrying Amounts Fair Values Increase/(Decrease)

Cash 20,000 20,000 --
Receivables 60,000 40,000 (20,000)
Inventory 80,000 70,000 (10,000)
Equipment 540,000 670,000 130,000
Payables 50,000 50,000 --
A, Capital (20%) 150,000 n/a --
B, Capital (30%) 200,000 n/a --
C, Capital (50%) 300,000 n/a --
100,000

The corporation’s authorized capitalization is P2,000,000 divided into 200,000 ordinary shares with par value of
P10 per share.
 Case 1: Numbers of Shares issued
Assume that the shares to be issued to the partners are based on their respective adjusted capital
balances. Compute for the number of shares to be issued to each of the partners.

A B C TOTAL
Unadjusted Balance 150,000 200,000 300,000 650,000
Share in Revaluation gain: 20,000 30,000 50,000 100,000
A: 100,000*20% = 20,000
B: 100.000*30% = 30,000
C: 100,000*50% = 50,000
Adjusted Capital 170,000 230,000 350,000 750,000
Divide by: Par Value per share 10 10 10 10
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No. of shares issued 17,000 23,000 35,000 75,000

 Case 2: Share Premium

Assume that A, B and C agreed to be issued 14,000, 21,000, and 35,000 shares, respectively.
How much is credited to the share premium?

Adjusted Capital 750,000

Total par value of shares issued
(700,000)
(70,000 shares *10)
Share Premium 50,000