NIOS Senior Secondary • Module 4

Lesson 25: Dissolution of Partnership Firm

Board Written Exam Focus

Lesson 25: Dissolution of Partnership Firm

Extracted strictly from NIOS Senior Secondary Accountancy Module 4. Covers legal modes of dissolution, distinction between dissolution of partnership vs. firm, Realisation Account mechanics, unrecorded assets/liabilities, realisation expenses, and final settlement of capital & bank accounts.

1 Meaning & Legal Modes of Dissolution

Section 25.1

Core Concept & Legal Foundation

Dissolution of a partnership firm means complete breakdown of partnership relations among all partners, resulting in closure of business operations, sale of assets, payment of external liabilities, and winding up of all accounts.

Basis Dissolution of Partnership Dissolution of Partnership Firm
Business Continuity Business continues under a reconstituted new agreement. Business ceases completely and comes to an end.
Scope Involves change in partner relations (admission, retirement, death). Includes dissolution of partnership among ALL partners.
Closure of Books Books of accounts are NOT closed (Revaluation A/c prepared). Books of accounts are PERMANENTLY closed (Realisation A/c prepared).

4 Legal Modes of Firm Dissolution

(i) By Agreement

With consent of all partners or according to terms of partnership agreement.

(ii) Compulsory Dissolution

When all or all except one partner become insolvent/unsound mind, or business becomes unlawful, or all except one die/retire.

(iii) By Notice

In partnership at will, dissolved when any partner gives written notice to other partners.

(iv) By Court Order

Court orders dissolution due to partner's unsound mind, permanent incapacity, breach of agreement, adverse conduct, or just & equitable grounds.

2 Realisation Account Mechanics & Asset/Liability Transfers

Section 25.2

Realisation Account Purpose & Structure

Realisation Account is a nominal account opened on dissolution to close asset accounts (transferred at book value on debit side) and external liability accounts (transferred at book value on credit side), and to record proceeds from asset sales and payments made to discharge liabilities.

Items NOT Transferred to Debit of Realisation:
  • Cash in Hand & Cash at Bank: Form opening balance of Cash/Bank A/c.
  • Undistributed Losses (P&L Debit Balance): Transferred directly to Partners' Capital A/cs in profit sharing ratio.
  • Fictitious Assets / Deferred Expenses: (e.g. preliminary expenses) Transferred directly to Partners' Capital A/cs.
Critical Transfer Rules to Remember:
  • Provisions against Assets: (e.g. Provision for Doubtful Debts, Depreciation) Credited to Realisation A/c.
  • Partner's Wife Loan: Treated as an external liability and transferred to credit of Realisation A/c.
  • Partner's Own Loan: Treated separately; NOT transferred to Realisation A/c (settled via Cash/Bank).

Core Realisation Journal Entries

1. Asset Sales (For Cash):

Bank / Cash A/c ... Dr. (Realised Value)

To Realisation A/c

2. Asset Taken Over by Partner:

Partner's Capital A/c ... Dr. (Agreed Price)

To Realisation A/c

3. Payment of External Liabilities:

Realisation A/c ... Dr. (Paid Amount)

To Cash / Bank A/c

4. Liability Taken Over by Partner:

Realisation A/c ... Dr. (Agreed Value)

To Partner's Capital A/c

3 Unrecorded Items & Realisation Expenses Accounting

Section 25.2

Unrecorded Assets & Liabilities Handling

Unrecorded assets (completely written off previously) or unrecorded liabilities (e.g. dishonoured discounted bill) are NEVER transferred to Realisation at book value. Only actual cash realized/paid or agreed value on takeover is recorded in Realisation A/c.

Realisation Expenses Treatment Matrix

Case Situation Borne By Paid By Journal Entry
Case (a) Firm Firm Realisation A/c Dr. to Cash/Bank A/c
Case (b) Firm Partner Realisation A/c Dr. to Partner's Capital A/c
Case (c) Partner Firm Partner's Capital A/c Dr. to Cash/Bank A/c

4 Capital Account Settlement & Cash/Bank Zero Tally Rule

Section 25.3

Final Settlement Mechanics

After transferring Realisation Profit/Loss and General Reserves to Capital Accounts:
1) Debit Balance in Capital A/c: Partner brings in cash (Cash/Bank A/c Dr. to Partner's Capital A/c).
2) Credit Balance in Capital A/c: Partner is paid off in cash (Partner's Capital A/c Dr. to Cash/Bank A/c).

The Ultimate Cash/Bank Tally Test:

Total Cash/Bank Receipts (Opening Cash + Asset Realisation proceeds + Cash brought in by deficit partners)
= Total Cash/Bank Payments (External Liabilities discharge + Realisation Expenses + Settlement of Partner Loans + Final Capital payouts).

If the Cash/Bank Account shows ZERO balance after these entries, it proves all books of the dissolved firm are correctly closed!