How to record the dissolution of a partnership (Realisation Account)

Accounting for Partnerships

What you need

• The latest balance sheet (Statement of Financial Position) showing the book value of all assets and liabilities
• The profit-and-loss sharing ratio between the partners
• Details of asset sale proceeds, the actual amount paid to creditors, and realisation expenses
• The balance of each partner's Capital Account (and Current Account, if any)

Step by step

1. 1

   Open the Realisation Account and transfer the book value of assets

   Transfer all assets (except cash/bank) at book value to the debit side of the Realisation Account so the assets are removed from the books. For example, Perniagaan Setia is owned by Aminah and Bakar, who share profit and loss 3:2. The assets are Equipment RM20,000, Inventory RM8,000, Debtors RM5,000 and Bank RM3,000. The entries are: Debit Realisation Account, Credit Equipment RM20,000; Debit Realisation Account, Credit Inventory RM8,000; Debit Realisation Account, Credit Debtors RM5,000. The RM3,000 Bank is not transferred because it stays in the Bank Account.

2. 2

   Transfer liabilities to the Realisation Account

   Transfer creditors at book value to the credit side of the Realisation Account so the liability is settled through this account. Perniagaan Setia has Creditors RM6,000. The entry is: Debit Creditors RM6,000; Credit Realisation Account RM6,000. The book value of the liability now sits on the credit side, ready to be compared with the actual payment later.

3. 3

   Record the proceeds from selling the assets

   When assets are sold, cash enters the Bank and the Realisation Account is credited with the actual proceeds. Equipment is sold for RM15,000, Inventory for RM9,000, and Debtors pay RM4,500 (RM500 becomes a bad debt). Total proceeds are RM28,500. The entry is: Debit Bank RM28,500; Credit Realisation Account RM28,500. The difference between book value and proceeds creates the profit or loss on realisation.

4. 4

   Pay the creditors and record realisation expenses

   Pay the creditors and record any dissolution expenses. The RM6,000 creditors are settled with only RM5,800 (discount received RM200): Debit Realisation Account RM5,800; Credit Bank RM5,800. Realisation expenses RM300: Debit Realisation Account RM300; Credit Bank RM300. The RM200 discount is not recorded separately because it is absorbed automatically within the Realisation Account.

5. 5

   Calculate the profit or loss on realisation

   Total both sides of the Realisation Account. Debit side: Equipment 20,000 + Inventory 8,000 + Debtors 5,000 + Payment to creditors 5,800 + Expenses 300 = RM39,100. Credit side: Creditors 6,000 + Sale proceeds 28,500 = RM34,500. Because the debit exceeds the credit, there is a loss on realisation of RM39,100 - RM34,500 = RM4,600.

6. 6

   Distribute the profit or loss to the partners by ratio

   Divide the RM4,600 loss by the profit-and-loss ratio 3:2 (not the capital ratio). Aminah: 3/5 x 4,600 = RM2,760; Bakar: 2/5 x 4,600 = RM1,840. The entry is: Debit Aminah's Capital Account RM2,760; Debit Bakar's Capital Account RM1,840; Credit Realisation Account RM4,600. The Realisation Account is now balanced and closed.

7. 7

   Settle the Capital Accounts and pay out the remaining cash

   Work out the capital balances after absorbing the loss. Aminah: 20,000 - 2,760 = RM17,240; Bakar: 10,000 - 1,840 = RM8,160. The Bank balance is opening cash 3,000 + proceeds 28,500 - creditors 5,800 - expenses 300 = RM25,400, which equals the total capital (17,240 + 8,160). Pay the partners: Debit Aminah's Capital Account RM17,240; Debit Bakar's Capital Account RM8,160; Credit Bank RM25,400. The Bank Account becomes zero and the partnership is fully dissolved.

Second example

Now consider Perniagaan Maju, where partners Chong and Devi share profit and loss equally (1:1). A motor vehicle with a book value of RM12,000 is taken over by Chong at an agreed value of RM10,000 rather than sold for cash. The entry is: Debit Chong's Capital Account RM10,000; Credit Realisation Account RM10,000. The resulting loss of RM2,000 (12,000 - 10,000) is absorbed by the Realisation Account and shared equally, that is RM1,000 each. This shows that assets need not be sold to outsiders; sometimes a partner takes over an asset, and it is the agreed value that is credited to the Realisation Account.

If the opposite happens, for example an asset is sold above book value or the creditors grant a large discount, the Realisation Account will show a profit (credit exceeds debit). That profit is then credited to the partners' Capital Accounts using the same sharing ratio.

Common mistakes

Related chapter: Accounting for Partnerships →

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