CHAPTER 3

PARTNERSHIP DISSOLUTION

Learning Objectives:
At the end of the chapter, the student should be able to:
1. State the meaning of partnership dissolution.
2. Determine the effects of dissolution.
3. Enumerate the causes of dissolution.
4. Identify the different terms attached to admission of a new partner.
5. Differentiate te concept of admission by purchase and admission by investment.
6. Compute the different cases of admission by purchase.
7. Compute the different cases of admission by investment.
8. Prepare the necessary journal entries to record the admission by purchase and by
investment.

DISSOLUTION – according to Article 1825 of the Civil Code of the Philippines. It is

the change in the relation of the partners caused by any partner ceasing to be
associated in the carrying of the business. It refers to the termination of the life of
the existing partnership.

EFFECTS OF DISSOLUTION
1. The formation of a new partnership called dissolution by change in ownership
structure. Here the new partnership continues the business activities of the
dissolved partnership without interruption.
2. The liquidation of the existing partnership. Liquidation refers to the termination
of the business activities carried on by the partnership. It is also the winding up
of the partnership affairs preparatory to the going out of business.
** Dissolution therefore does not always result to liquidation although liquidation is
always preceded by dissolution.

CAUSES OF DISSOLUTION
1. Admission of a new partner/s
2. Retirement or withdrawal of a partner
3. Death, bankruptcy, or incapacity of a partner
4. Incorporation of a partnership
5. By court decree

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I. ADMISSION OF NEW PARTNER/S
A new partner or partners, with the consent of all the partners, may be
admitted in an existing partnership. Upon admission of a new partner, the firm
is automatically dissolved and a new partnership is formed. A new Articles of
Co-Partnership is drawn by all the partners.

TYPES OF ADMISSION OF NEW PARTNER/S

A. By purchase of interest from one or more of the original (old) partners.
B. By investment or asset contributions to the partnership.

A. ADMISSION BY PURCHASE

When a new partner is admitted to the partnership by purchasing a

portion or the whole interest of an old partner or partners, the admission is
known as purchase.

CHARACTERISTICS
1. Transaction is recognized through the use of terms such as “purchase of an
interest”, “sale of an interest”, “buys an interest”, “sold and transfer of an
interest”, etc.
2. The consent of all the partners for the admission of the new partner is necessary.
3. Payment by the incoming partner is made privately to the present partners. The
sale of a partner’s interest in an existing partnership is a personal transaction
between the selling partner and the buying or new partner. The amount paid by
the new partner goes personally to the partner selling his interest and not to the
partnership. Thus any gain or loss is recognized by the selling partner and not
by the partnership.
4. Capital is transferred from the present partners to the incoming partner. This is
the only entry required in the partnership books. The amount of capital
transferred will be equal to the book value of the interest sold.
5. Total partnership capital remains unchanged.
6. The new profit and loss ratio must be established and agreed upon.

The pro-forma entry to record the purchase of interest is:

Seller’s Capital Account xxx

Buyer’s Capital Account xxx

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ACCOUNTING FOR THE ADMISSION OF A NEW PARTNER BY PURCHASE
may be:
1. At book value – when the purchase price of the equity being bought is equal to
the book value of equity or interest being sold.
2. At less than book value – when the purchase price of the equity being bought is
smaller than the book value of equity or interest being sold.
3. At more than book value – when the purchase price of the equity bought is
greater than the book value of equity or interest being sold.
To illustrate the above cases, assume the following data:
Ana and Beka are partners with capital balances of P40,000 and P20,000
respectively. They share profits and losses equally. It was agreed by the partners to
take in Caty as a new partner.
Case 1a – Purchase at book value from one partner only
Caty purchased ¼ interest from Ana by paying P10,000.
Analysis:
Purchase price P 10,000
Book value of equity acquired 10,000
(1/4 x P40,000) ----------
Difference -
======

Journal entry:
Ana, Capital 10,000
Caty, Capital 10,000
To record the admission of Caty for the ¼ interest of
Ana.

Profit and loss ratio:

Original Computation New
Ana 50% [50%-(50% x ¼)] 37.5%
Beka 50% 50%
Caty ______ 50% x ¼ 12.5%
100% 100%
====== ======

The admission of Caty by purchasing at book value ¼ of the interest of Ana

does not result to any personal gain or loss to Ana.

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Case 1b – Purchase at book value from more than one partner
Caty purchased ¼ interest from the old partners by paying P15,000.
Analysis:
Purchase Price 15,000
Book value of equity acquired:
Ann – ¼ x P40,000 10,000
Bee – ¼ x P20,000 5,000 15,000
Difference -
=====
Journal entry:
Ana, Capital 10,000
Beka, Capital 5,000
Caty, Capital 15,000
To record the admission of Caty for ¼ interest.

Profit and Loss ratio:

Original Computation New
Ana 50% [50%-(50% x ¼)] 37.5%
Beka 50% [50%-(50% x ¼)] 37.5%
Caty ______ (50% x ¼)+(50% x ¼) 25%
100% 100%
====== ======

The capital balances are:

Before Admission After Admission
Ana P 40,000 P 30,000
Beka 20,000 15,000
Caty 15,000
------------ -----------
P 60,000 P 60,000
======= =======

Case 2 – Purchase at less than book value

Caty purchased ¼ interest from the old partners by paying P14,000.

Analysis:
Purchase Price 14,000
Book value of equity acquired:
Ana – ¼ x P40,000 10,000
Beka – ¼ x P20,000 5,000 15,000
Difference ( 1,000)
======
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 Journal entry:

Ana, Capital 10,000

Beka, Capital 5,000
Caty, Capital 15,000
To record admission of Caty for ¼ interest.

Profit and loss ratio:

Original Computation New
Ana 50% [50%-(50% x ¼)] 37.5%
Beka 50% [50%-(50% x ¼)] 37.5%
Caty ______ (50% x ¼)+(50% x ¼) 25%
100% 100%
====== ======

The capital balances are:

Before Admission After Admission
Ana P 40,000 P 30,000
Beka 20,000 15,000
Caty 15,000
------------ -----------
P 60,000 P 60,000
======= =======
The payment of P14,000 is a personal transaction between the new partner and
the old partners and is not reflected in the books of the partnership. What is recognized
in the partnership books is the transfer of ¼ of the capital of the old partners to the new
partner. The difference of P1,000 is a personal loss of the old partners.

Case 3 – Purchase at more than book value

Caty pays P16,000 for 1/5 of the interest of old partners.

Analysis:
Purchase Price 16,000
Book value of equity acquired:
Ana – 1/5 x P40,000 8,000
Beka – 1/5 x P20,000 4,000 12,000
Difference 4,000
=====
Journal entry:
Ana, Capital 8,000
Beka, Capital 4,000
Caty, Capital 12,000
To record the admission of Caty for 1/5 interest.
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 Profit and Loss ratio:
Original Computation New
Ana 50% [50%-(50% x 1/5)] 40%
Beka 50% [50%-(50% x 1/5)] 40%
Caty ______ (50% x 1/5)+(50% x 1/5) 20%
100% 100%
====== ======

Cash Distribution:
Ana Beka Total
Equity transferred to Caty P 8,000 P 4,000 P 12,000
Gain from sales-divided using P&L ratio 2,000 2,000 4,000
------------ 1,000
----------- ----------
Total Cash distribution P 10,000 7,500
P 6,000 P 16,000
======= ======= ======
The P16,000 payment is a personal transaction between Caty and the old
partners and is not reflected in the books of the partnership. The P4,000 excess is a
personal gain to the old partners.

ASSET REVALUATION PRIOR TO ADMISSION BY PURCHASE

Asset revaluation is the necessary adjustment in asset values undertaken prior to

admission of a new partner. It may be a positive or negative asset revaluation and the
effect is included in the capital accounts of the old partners. The adjusted capital of the
old partners becomes the basis for the interest transferred to the new partner.

The transactions would be recorded by imputing the fair market value of the
partnership entity based on the consideration paid by the new partner (Baysa and
Lupisan, 2008).

1. Positive Asset Revaluation

Vin and Van are partners with capital balances of P300,000 and
P200,000 respectively. Their profit and loss ratio is equally divided. Von
bought 25% interest from both partners for P150,000.

Computations: Imputed fair value of net assets P 600,000

(P150,000 / 25%)
Less: Total partnership capital 500,000
-------------
Positive asset revaluation P 100,000
========

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 Entries: Other Assets 100,000
Vin, Capital (100,000 x 50%) 50,000
Van, Capital (100,000 x 50%) 50,000
To record asset revaluation.

Vin, Capital 87,500

Van, Capital 62,500
Von, Capital 150,000
To record admission of Von.

Vin (300,000 + 50,000) x 25% = 87,500

Van (200,000 + 50,000) x 25% = 62,500

2. Negative Asset Revaluation

Vin and Van are partners with capital balances of P300,000 and
P200,000 respectively. Their profit and loss ratio is equally divided. Von
bought 40% interest from both partners for P150,000.

Computations: Imputed fair value of net asset P 375,000

(P 150,000 / 40% )
Less: Total partnership capital 500,000
-------------
Negative asset revaluation ( P 125,000 )
========

Entries: Vin, Capital (125,000 x 50%) 62,500

Van, Capital (125,000 x 50%) 62,500
Other Assets 125,000
To record asset revaluation.

Vin, Capital 95,000

Van, Capital 55,000
Von, Capital 150,000
To record admission of Von.

Vin (300,000 - 62,500) x 40% = 95,000

Van (200,000 - 62,500) x 40% = 55,000

Note: If assets are to be revalued, the revaluation should be done before the admission
of the new partner into the partnership. When assets are revalued and identifiable
accounts are adjusted, the amount of the adjustments will be amortized or depreciated
over the remaining life of the asset (Baysa and Lupisan, 2008 p.77)

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 Exercise 3-1
Pek, Pak and Pong are partners doing business in the Philippines, and with
capital balances per books as follows:
Pek 400,000
Pak 600,000
Pong 800,000
The partners share profits and losses in the ratio of 20%, 30%, and 50%
respectively. Anxious to expand their business, the partners include Yong to join the
firm as a partner.
Prepare the entry or entries in general journal form necessary to admit Yong and
compute the new profit and loss ratios under each of the following conditions below:
1. Yong purchases 2/5 interest of Pek and Pong at book value.
2. Yong purchases ¼ interest of Pek and Pak for P180,000.
3. Yong purchases ¼ interest of Pek, Pak, and Pong for P600,000. Show the cash
distribution to partners.
4. Yong purchases 1/5 interest of Pek, Pak, and Pong for P320,000. No adjustment
of assets is to be taken up. Show cash distribution to partners.
5. Yong purchases 25% interest of Pek, Pak, and Pong for P550,000. Assets are
revalued prior to admission.
6. Yong purchases 20% interest of Pek, Pak, and Pong for P250,000. Adjustments
of assets are to be taken up.

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B. ADMISSION BY INVESTMENT

When a new partner is admitted to the partnership by contributing money or

property where such contributions become part of the specific partnership assets,
such admission is known as by investment. This is now a transaction between the
old partnership and the new partner.

CHARACTERISTICS
1. Transactions of this type make use of the terms such as “invests”, “contributes
to”, “pay in”, etc.
2. The payment made by the incoming partner is added to the assets of the
partnership.
3. The capital of the incoming partner is normally credited upon receipt of his
investment.
4. The total capital of the new partnership, as a result becomes greater than that of
the old partnership.
5. The consent of all the partners is necessary.
6. After the admission of the new partner, the revised profit and loss sharing ratio
must be agreed.

DEFINITION OF TERMS:
1. Agreed Capital (AC) – the new capitalization of the new partnership which
may be equal to, less than, or more than the total contributed capital. Other
terms used for total agreed capital are: new firm capital, total capital, and
agreed capitalization. The terms of the admission of a new partner may indicate
the agreed capital, if not it could be computed in either two ways:
a. Investment of a new partner divided by the new partner’s fraction of
interest.
b. Investment of the old partner which is equal to the net assets or capital of
the old partnership divided by the old partner’s fraction of interest.

Example: Kris and Kat are partners with capital balances of P24,000 and P24,000
respectively. Heart invests P20,000 for a ¼ interest in the new partnership. How much
is the agreed capital for Kris, Kat, and Heart partnership?

Solution 1 – New partner’s investment is used as basis

AC = P20,000 / ¼ = P 80,000
=====
Solution 2 – Old partners’ investment is used as basis

AC = (P24,000 + P24,000) / ¾ = P 64,000

=====
AC is different for each solution because of the difference on the basis used.
Whichever is used will depend on the requirements of a particular problem. Generally,
the new partner’s investment determines the new firm capital.
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 2. Contributed Capital (CC) – the investment of all the partners (both old and
new) to the partnership. It is the sum of the capital balances of the old partners
and the contribution of the new partner.

3. Agreed Capital Credit of the New Partner (ACN) – this is the interest or
equity of the new partner in the new partnership.

4. Actual Investment of the New Partner (AIP) – this is the actual contribution
of the new partner in the new partnership.

5. Asset Revaluation – the adjustment in assets brought about by the admission of

a new partner. It is evidenced by the amount of investment which relates to the
total value of the business or values of identifiable assets as determined by
appraisal or other valuation technique on an individual basis.

The amount of asset adjustment maybe determined as the difference

between the AC and the CC. Generally, asset revaluations upon partnership
formation are connected to the partners of the old partnership only.

Positive asset revaluation = AC > CC

Negative asset revaluation = AC < CC

6. Bonus – the transfer of capital from one partner to another in consideration of

good reputation or earning capacity of the latter. Bonus is recorded by debiting
the capital of the giving partner and crediting the capital of the receiving partner.

7. Capital Credit – the interest or equity of a partner in the firm. It is obtained by

multiplying the AC by the fraction of the interest of the partner.

EQUATIONS:
Capital of the Old Partners COP
+ Actual investment of the New Partner AIP
Contributed Capital CC
===

Agreed Capital of the Old Partners ACO

+ Agreed New Capital of the New Partner ACN
Agreed Capital of the new Partnership AC
====

***When AC is given, any of the following cases may arise:

1. No Bonus, no Asset Revaluation
2. Bonus to old partners, no Asset Revaluation
3. Bonus to new partners, no Asset Revaluation
4. Asset Revaluation, no Bonus
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*** When AC is not given, the problem call for 2 solutions:
1. Bonus method
2. Asset Revaluation Method

The following summarizes the bonus situations:

1. No bonus when:
AC = CC
ACN = AIP
2. There is bonus when:
AC = CC
ACN ≠ AIP

Which partner/s receive the Bonus?

*old partners = ACN < AIP *new partner = ACN > AIP

(the difference represents the bonus allocated to old partners in their profit and
loss ratio).

AGREED CAPITAL IS GIVEN

ILLUSTRATIVE CASES

Inday and Toto are partners of Fam & Co. They share profits and losses
equally. Nonoy is admitted as a new partner by contributing cash to the firm. The
capital balances before the admission of Nonoy are as follows:

Inday, Capital P 48,000

Toto, Capital 96,000
-----------
P144,000
=======

Use this table:

AC CC Bonus/Asset Rev.
Old partners ACP COP
New partner ACN AIP
--------- ----------
AC CC
===== ======

Case 1. No Bonus, No Asset Revaluation

Nonoy invests P72,000 and is to be credited for the same amount to give him a
1/3 interest in the firm. The agreed capital is P216,000.
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 AC CC Bonus/Asset Rev.
Old partners(2/3 x P216,000) 144,000 144,000 0
New partner(1/3 x P216,000) 72,000 72,000 0
--------- ---------- ---------
216,000 216,000 0
====== ====== ======

a) To record investment of Nonoy

Cash 72,000
Nonoy, Capital 72,000

Case 2. Bonus to Old Partners, No Asset Revaluation

Nonoy invests P96,000 for a 1/3 interest in the firm. The agreed new capital is
P240,000.

AC CC Bonus/Asset Rev.
Old partners(2/3 x P240,000) 160,000 144,000 16,000
New partner(1/3 x P240,000) 80,000 96,000 (16,000)
--------- ---------- ---------
240,000 240,000 0
====== ====== ======
*bonus to old partners from the new partner as evidenced by the decrease
in his contributed capital.

a) To record investment of Nonoy

Cash 96,000
Nonoy, Capital 96,000

b) To record bonus to old partners

Nonoy, Capital 16,000
Inday, Capital 8,000
Toto, Capital 8,000

Case 3. Bonus to New Partner, No Asset Revaluation

Nonoy invests P96,000 for a 45% interest in the firm. The agreed new capital is
P240,000.
AC CC Bonus/Asset Rev.
Old partners(55% x P240,000) 132,000 144,000 (12,000)
New partner(45% x P240,000) 108,000 96,000 12,000
--------- ---------- ---------
240,000 240,000 0
====== ====== ======
*bonus to new partner from the old partners as evidenced by the decrease
in their contributed capital.
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 a) To record investment of Nonoy
Cash 96,000
Nonoy, Capital 96,000

b) To record bonus to new partner

Inday, Capital 6,000
Toto, Capital 6,000
Nonoy, Capital 12,000

Case 4. No Bonus, Positive Asset Revaluation

Nonoy invests P96,000 for a 1/3 interest in the firm. The agreed new capital is
P288,000.
AC CC Bonus/Asset Rev.
Old partners(2/3 x P288,000) 192,000 144,000 48,000
New partner(1/3 x P288,000) 96,000 96,000 0
--------- ---------- ---------
288,000 240,000 48,000
====== ====== ======
*positive effect of asset revaluation as evidenced by the increase in the
old partners contributed capital.

a) To record investment of Nonoy

Cash 96,000
Nonoy, Capital 96,000

b) To record positive asset revaluation

Other Assets 48,000
Inday, Capital 24,000
Toto, Capital 24,000

Case 5. No Bonus, Negative Asset Revaluation

Nonoy invests P96,000 for a 48% interest in the firm. The agreed new capital is
P200,000.

AC CC Bonus/Asset Rev.
Old partners(52% x P200,000) 104,000 144,000 (40,000)
New partner(48% x P200,000) 96,000 96,000 0
--------- ---------- ---------
200,000 240,000 (40,000)
====== ====== ======
*negative effect of asset revaluation as evidenced by the decrease in the
old partners contributed capital.

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 a) To record investment of Nonoy
Cash 96,000
Nonoy, Capital 96,000

b) To record negative asset revaluation

Inday, Capital 20,000
Toto, Capital 20,000
Other Assets 40,000.
Exercise 3-2
Compute for the bonus or asset revaluations in each of the following
independent cases. Prepare the necessary journal entries.

Capital balances of old partners: Aria – P30,000; Nah– P60,000; Bell –

P10,000. Their profit and loss ratio is 2:3:1.

1. Candy invests P20,000 for a 1/6 interest in the partnership with total agreed
capital of P120,000.
2. Sweet contributes P40,000 for a 30% interest in the partnership with agreed new
capital of P140,000.
3. Cherry puts in P30,000 for a 1/5 interest in the partnership with a new firm’s
capital of P150,000.
4. Pie invests P34,000 for a 25% interest with total agreed capital of P136,000.
5. Stacy contributes P42,000 for a 35% interest with a new firm’s capital of
P142,000.

AGREED CAPITAL IS NOT GIVEN

Partnership problems usually provide information as to the capital of the old

partners and the new partner’s interest in the firm in relation to his actual investment.
However, it may fail to point out the total agreed capital of the new partnership. In such
cases, the bonus method or asset revaluation method be used.

A. BONUS METHOD

Under the bonus method, total agreed capital of the partnership upon admission of
the partner is assumed to be equal to its total contributed capital. This assumption
will mean bonus to the new or old partners for the difference between the new
partner’s agreed capital credit and his actual investment.

AC = CC
ACN ≠ AIP

1. Bonus to Old Partners 2. Bonus to New Partner

AC = CC AC = CC
ACN < AIP ACN > AIP
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 ILLUSTRATION

Assume the following principal data:

Partner Pepe Yeye Bebe
Capital P20,000 P40,000 P60,000
P & L ratio 40% 40% 20%

1. Meme is admitted to the partnership and is given a 20% interest in the capital in
return for a cash contribution of P60,000 with bonus method being used in
recording the investment.
AC = CC

AC CC Bonus/Asset Rev.
Old partners(80% x P180,000) 144,000 120,000 24,000
New partner(20% x P180,000) 36,000 60,000 (24,000)
--------- ---------- ---------
180,000 180,000 0
====== ====== ======

Entries:
Cash 60,000
Meme, Capital 60,000
To record investment of Meme.

Meme, Capital 24,000

Pepe, Capital 9,600
Yeye, Capital 9,600
Bebe, Capital 4,800
To record bonus to old partners.

2. Meme is admitted to the partnership and is given a 20% interest in the capital in
return for a cash contribution of P20,000 with bonus method be used in
recording the investment.

AC CC Bonus/Asset Rev.
Old partners(80% x P140,000) 112,000 120,000 (8,000)
New partner(20% x P140,000) 28,000 20,000 8,000
--------- ---------- ---------
140,000 140,000 0
====== ====== ======

Entries:
Cash 20,000
Meme, Capital 20,000
To record investment of Meme.

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 Pepe, Capital 3,200
Yeye, Capital 3,200
Bebe, Capital 1,600
Meme, Capital 8,000
To record bonus to new partner.

B. ASSET REVALUATION METHOD

Partnership assets may not be properly valued upon the admission of a

new partner. Revaluation of assets shall, therefore, be necessary upon
admission. The revaluation may be an increase or a decrease in the capital
accounts of the old partners.

ILLUSTRATION

B.1. Positive Asset Revaluation AC > CC

Nene contributes P200,000 for a 1/5 interest in the partnership of Wil and Hahn
with capital balances of P400,000 and P200,000 respectively. They share profit and
loss in the ratio of 3:1. After the admission of Nene, profits and losses will be divided
equally.

AC CC Bonus/Asset Rev.
Old partners(4/5 x P1,000,000) 800,000 600,000 200,000
New partner(1/5 x P1,000,000) 200,000 200,000 0
------------ ---------- ----------
1,000,000 800,000 200,000
======= ====== ======

AC (based on new partner’s contribution) = 200,000 ÷ 1/5 = 1,000,000

AC (based on old partners’ capital) = 600,000 ÷ 4/5 = 750,000

Entries:
Cash 200,000
Nene, Capital 200,000
To record admission of Nene.

Other Assets 200,000

Wil, Capital 150,000
Hahn, Capital 50,000
To record asset revaluation.

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B.2. Negative Asset Revaluation AC < CC

Nene contributes P160,000 for a ¼ interest in the partnership.

AC CC Bonus/Asset Rev.
Old partners(3/4 x 640,000) 480,000 600,000 (120,000)
New partner(1/4 x 640,000) 160,000 160,000 0
------------ ---------- ----------
640,000 760,000 (120,000)
======= ====== ======

AC (based on new partner’s contribution) = 160,000 ÷ 1/4 = 640,000

AC (based on old partners’ capital) = 600,000 ÷ 3/4 = 800,000

Entries:
Cash 160,000
Nene, Capital 160,000
To record admission of Nene.

Wil, Capital 90,000

Hahn, Capital 30,000
Other Assets 120,000
To record asset revaluation.
Exercise 3-3

At the end of 2020, the capital accounts and the profit and loss sharing ratio for
the partners of SHALOM Co. are presented below. At this date, it is agreed that a new
partner, Jade is to be admitted to the firm.

Peace Love Joy

Capital balances P400,000 P320,000 P240,000
P & L ratio 5/8 2/8 1/8

Instructions: For each of the following situations involving the admission Charity into
the partnership, give the journal entry to record her admission.
1. Charity purchases ¼ of Love’s interest in the firm paying P200,000.
2. Charity buys a one-quarter interest in the firm for P280,000 by purchasing ¼ of
the present interest of each of the three partners. Asset revaluation is imputed
based on the amount paid by Charity.
3. Charity invests P460,000 and receives a ¼ interest in capital and profits of the
business. Bonus is being allowed in the admission.
4. Charity invests P300,000 for a 20% interest in the firm. Use 2 probable methods
to record the admission of Charity.

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