Class 12 Accountancy Notes Chapter 4: Dissolution of Partnership Firm
1. Meaning of Dissolution of Partnership
Dissolution of partnership means a change in the relationship among partners due to:
- Admission of a partner
- Retirement of a partner
- Death of a partner
- Change in profit-sharing ratio
➡️ The business may continue with the remaining partners.
2. Meaning of Dissolution of Firm
Dissolution of firm means:
- The business permanently comes to an end.
- All assets are sold.
- All liabilities are paid.
- Partners receive the remaining balance.
- Books of accounts are closed forever.
Remember:
Every dissolution of a firm includes dissolution of partnership, but every dissolution of partnership does not mean dissolution of the firm.
3. Difference Between Dissolution of Partnership and Dissolution of Firm
| Basis | Dissolution of Partnership | Dissolution of Firm |
|---|---|---|
| Business | Continues | Ends permanently |
| Assets | Revalued | Sold |
| Liabilities | Adjusted | Paid off |
| Books | Continue | Closed |
| Partners | Relationship changes | Relationship ends completely |
4. Modes of Dissolution of Firm
A firm may be dissolved in the following ways:
(A) By Agreement
- With consent of all partners
- According to partnership agreement
(B) Compulsory Dissolution
Examples:
- All partners become insolvent.
- Business becomes illegal.
- Any event making business unlawful.
(C) On Happening of Certain Events
- Expiry of partnership period
- Completion of project
- Death of partner
- Insolvency of partner
(D) By Notice
Applicable only in Partnership at Will.
(E) By Court Order
Court may dissolve a firm when:
- Partner becomes insane.
- Permanent incapacity.
- Misconduct.
- Continuous breach of agreement.
- Business runs only at losses.
- Any just and equitable reason.
5. Settlement of Accounts (Section 48)
Step 1: Treatment of Losses
Losses are adjusted in this order:
- From profits
- From capitals
- By partners personally (Profit Sharing Ratio)
Step 2: Application of Assets
Money realised from assets is used in this sequence:
- Pay outside liabilities
- Pay Partner’s Loan
- Pay Capital
- Balance divided among partners in PSR
Easy Mnemonic
Outside → Loan → Capital → Profit
6. Firm’s Debts vs Private Debts
Firm’s Property
Used first to pay:
- Firm’s creditors
Remaining amount goes to partners.
Partner’s Private Property
Used first to pay:
- Personal debts
Any surplus can be used to pay firm’s debts.
7. Realisation Account
Purpose
Prepared to calculate:
- Profit on Realisation
OR - Loss on Realisation
during dissolution.
Debit Side
Transfer:
- Land & Building
- Plant
- Furniture
- Stock
- Debtors
- Investments
- Bills Receivable
Also record:
- Payment of liabilities
- Realisation expenses
Credit Side
Transfer:
- Creditors
- Bills Payable
- Outstanding Expenses
Also record:
- Sale of assets
- Assets taken by partners
- Liabilities taken over by partners
8. Important Journal Entries
(1) Transfer of Assets
Realisation A/c Dr.
To Asset A/c
(2) Transfer of Liabilities
Liability A/c Dr.
To Realisation A/c
(3) Sale of Assets
Bank A/c Dr.
To Realisation A/c
(4) Asset Taken Over by Partner
Partner’s Capital A/c Dr.
To Realisation A/c
(5) Payment of Liabilities
Realisation A/c Dr.
To Bank A/c
(6) Liability Taken Over by Partner
Realisation A/c Dr.
To Partner’s Capital A/c
(7) Realisation Expenses Paid by Firm
Realisation A/c Dr.
To Bank A/c
(8) Realisation Expenses Paid by Partner
Realisation A/c Dr.
To Partner’s Capital A/c
(9) Profit on Realisation
Realisation A/c Dr.
To Partners’ Capital A/c
(10) Loss on Realisation
Partners’ Capital A/c Dr.
To Realisation A/c
(11) General Reserve
General Reserve A/c Dr.
To Partners’ Capital A/c
(12) Partner’s Loan Paid
Partner’s Loan A/c Dr.
To Bank A/c
(13) Final Payment to Partners
Partners’ Capital A/c Dr.
To Bank A/c
9. Unrecorded Items
Unrecorded Asset Sold
Bank A/c Dr.
To Realisation A/c
Unrecorded Asset Taken by Partner
Partner’s Capital A/c Dr.
To Realisation A/c
Unrecorded Liability Paid
Realisation A/c Dr.
To Bank A/c
10. Realisation Expenses
Case 1
Firm pays expenses
➡️ Debit Realisation A/c
Case 2
Partner pays on behalf of firm
➡️ Credit Partner’s Capital A/c
Case 3
Partner agrees to bear expenses
- If partner pays personally → No entry.
- If firm pays → Debit Partner’s Capital A/c.
11. Partner’s Loan
If Loan is Liability
Pay before capital.
If Loan is Asset
Recover from partner before final settlement.
12. Order of Closing Accounts
- Transfer Assets
- Transfer Liabilities
- Sell Assets
- Pay Liabilities
- Record Expenses
- Calculate Profit/Loss on Realisation
- Transfer Reserves
- Settle Partner’s Loan
- Settle Capital Accounts
- Close Bank Account
13. Board Exam Tips ⭐
- Cash and Bank are not transferred to Realisation Account.
- Fictitious Assets are not transferred to Realisation Account.
- Partner’s Loan is not transferred to Realisation Account.
- Assets taken by partner are credited to Realisation Account.
- Liabilities taken over by partner are debited to Realisation Account.
- Profit/Loss on Realisation is shared in the old Profit Sharing Ratio.
14. Quick Revision (One-Minute Recap)
✅ Dissolution of Partnership ≠ Dissolution of Firm
✅ Sequence of Payment:
Outside Liabilities → Partner’s Loan → Capital → Profit
✅ Realisation Profit → Credit Partners’ Capital
✅ Realisation Loss → Debit Partners’ Capital
✅ Cash/Bank is never transferred to Realisation Account.
✅ Partner’s Loan is paid before Capital.
Objective Question Bank
A. Multiple Choice Questions (MCQs)
1. Dissolution of a firm means—
a) Admission of partner b) Change in PSR c) Permanent closure of business d) Retirement of partner
Ans. (c)
2. Which does NOT necessarily dissolve the firm?
a) Death of partner b) Dissolution of partnership c) Retirement d) Admission
Ans. (b)
3. Profit/Loss on dissolution is calculated through—
a) Capital A/c b) Trading A/c c) Realisation A/c d) Revaluation A/c
Ans. (c)
4. Which asset is NOT transferred to Realisation A/c?
a) Machinery b) Furniture c) Cash d) Debtors
Ans. (c)
5. Which liability is transferred to Realisation A/c?
a) Partner’s Loan b) Creditors c) Capital d) Drawings
Ans. (b)
6. Partner’s loan is paid—
a) Before creditors b) After capital c) After creditors but before capital d) Last
Ans. (c)
7. Profit on Realisation is transferred to—
a) Bank A/c b) Partners’ Capital A/c c) Cash A/c d) Loan A/c
Ans. (b)
8. Loss on Realisation is transferred to—
a) Capital A/c b) Bank A/c c) Cash A/c d) Creditors A/c
Ans. (a)
B. Fill in the Blanks
- Dissolution of a firm results in permanent __________ of business. (Closure)
- All external liabilities are transferred to __________ Account. (Realisation)
- Profit on Realisation is transferred to Partners’ __________ Account. (Capital)
- Cash and Bank are __________ transferred to Realisation Account. (Not)
- Partner’s loan is paid before __________ Account. (Capital)
- Assets are transferred at their __________ value. (Book)
- Loss on Realisation is shared in __________ ratio. (Profit-sharing)
- General Reserve is transferred to __________ Accounts. (Partners’ Capital)
- Partnership at will can be dissolved by giving __________. (Notice)
- The last account to be closed is __________ Account. (Bank)
C. True / False
| No. | Statement | T/F |
|---|---|---|
| 1 | Every dissolution of partnership dissolves the firm. | False |
| 2 | Every dissolution of firm dissolves the partnership. | True |
| 3 | Cash is transferred to Realisation A/c. | False |
| 4 | Creditors are transferred to Realisation A/c. | True |
| 5 | Partner’s Loan is transferred to Realisation A/c. | False |
| 6 | General Reserve is distributed among partners. | True |
| 7 | Loss on Realisation is transferred to Capital A/c. | True |
| 8 | Assets are transferred at market value. | False |
| 9 | Realisation A/c is prepared only at dissolution. | True |
| 10 | Bank A/c is closed after dissolution. | True |
D. Match the Following
| A | B |
|---|---|
| Realisation Account | Profit/Loss on Realisation |
| Creditors | External Liability |
| Bank Account | Final Settlement |
| General Reserve | Transferred to Capital A/c |
| Cash | Not transferred to Realisation A/c |
E. One Word Answer
| Question | Answer |
|---|---|
| Account prepared on dissolution | Realisation Account |
| Money due to partner apart from capital | Partner’s Loan |
| Permanent closure of business | Dissolution |
| Expenses incurred during winding up | Realisation Expenses |
| Amount payable to outsiders | Liabilities |
F. Assertion–Reason
Q1.
A: Dissolution of a firm results in closure of business.
R: All assets are realised and liabilities are settled.
a) Both A & R true and R explains A
b) Both true but R doesn’t explain A
c) A true, R false
d) A false, R true
Ans. (a)
G. Arrange in Correct Order
1. Transfer of Assets, Sale of Assets, Payment of Creditors, Settlement of Capital
Answer: Transfer of Assets → Sale of Assets → Payment of Creditors → Settlement of Capital
📚 Even More Space-Saving Tip (Best for PDFs)
For a printed question bank, use two-column formatting like this:
| MCQ | Answer |
|---|---|
| 1. Dissolution of a firm means— a) Admission b) Change in PSR c) Permanent closure d) Retirement | c |
| 2. Which asset is not transferred to Realisation A/c? a) Machinery b) Cash c) Debtors d) Furniture | b |
| 3. Profit on Realisation is transferred to— a) Bank b) Capital c) Cash d) Loan | b |