In this content, we will discuss the dissolution of partnership firm; it’s the mode of dissolution of a partnership firm and the settlement of accounts on the dissolution of a partnership firm ( documents required for dissolution of partnership firm).
The word ‘Dissolution’ or phrase ‘ end of partnership ‘ is used in the following two senses :
1. Dissolution of partnership.
2. Dissolution of the partnership firm.
Dissolution of partnership means where the partnership deed comes to an end. This is basically a reconstitution of the firm. But the dissolution of a partnership firm is a broader term in which the firm closes down and discontinued.
According to section ,39 of Indian Partnership Act 1932,” The dissolution of a partnership between all the partners of a firm is called the dissolution of firm.”
Modes Of Dissolution Of Partnership Firm
There are mainly two situation arises for dissolution of partnership firm –
1. Without the intervention of the court.
2. by order of the Court.
1. Without The Intervention Of Court
Anyone of the following reasons for dissolution without the intervention of the court.
1. Dissolution by agreement: According to the partnership act, a partnership can be formed by agreement and dissolved.
2. Compulsory Dissolution: Under section 41 of the Indian Partnership Act 1932, by the adjudication of all the partners but one as insolvent, or by the business of the firm becomes unlawful or illegal due to the happening of any such incident or event, the firm may be compulsorily dissolved.
Any one of the reasons may result to the dissolution of partnership firm compulsorily.
1. Insolvency of all partners except one.
2. Illegal business: when the business is declared illegal, then the firm is dissolved compulsory. It should be kept in mind that if a firm carries on many businesses, and one of them is declared illegal, it does not mean that the firm should necessarily be dissolved.
3. Dissolution on contingency: In the absence of any contract or agreement among partners, the firm can be dissolved in the following conditions.
1. Death of a partner: On the death of a partner, a firm may also be dissolved.
2. Insolvency of a partner: The firm may also be dissolved when any of the partners is declared insolvent.
3. Expiry of the period: if a firm has been formed for a particular period, then the period firm’s expiry can be dissolved.
4. Fulfillment of object: when a firm is established for a specific purpose, it may be dissolved on the completion of its objectives or purpose.
5. Retirement or resigns of a partner: If a partner resigns from the firm, the partnership may also be treated as dissolved section 42.
4. Dissolution by notice: If the partnership is at will, then the partnership between partners can be dissolved by just giving the notice. This is called Dissolution by will section 43.
Also read:
2. Dissolution By The Order Of The Court.
The court may, on an application, can intervene and issues an order for dissolution of partnership firm under the following conditions or situation :
1. Partnership is of unsound mind: When any of the partners is declared of unsound mind, then his /her Friend, relative, or any other partner can file an application for dissolution of the firm.
2. Permanent incapability of a partner: If any person becomes permanently incapable of performing his/her duties, then the court can pass an order for dissolution of partnership firm on the application of any other partner.
3. Misconduct by a partner: When any partner is guilty of misconduct that harms the business’s smooth functioning or results in loss, the court can order the firm’s dissolution on the application of other partners.
4. Breach of partnership agreement: When a partner willfully or persistently commits a breach of the partnership agreement or creates problems in smooth conduction of business by his/her behavior, the court can order the dissolution of the partnership firm on the application of other partners.
5. Transfer of interest: when a partner sells or transfers the whole of his /her share in the firm to a third party, the court can pass the order of dissolution of firm on any other partner’s application.
6. Consistent loss: if the firm is facing continuous loss and there is no hope of profit in the future, then the application of any other partner court can dissolve the firm.
7. Justified reason: Court can also order dissolution for any other valid reasons if it finds that it is justified and equitable to do so.
Effects Of dissolution
1. After dissolution, the firm’s business is closed, and assets are either sold out or taken by the partners, and liabilities are discharged.
2. Partners can start their own business separately.
3. The firm can not be supposed to dissolve till all the activities are not completed regarding dissolution by the partners: i. e. Realization of the amount by the sale of asset and liabilities are discharged.
On the dissolution of a firm, partners or any one of them must serve a public notice that they have dissolved the firm. Before serving the notice, the partners will be liable to the third party as before.
Settlement Of Accounts On Dissolution Of Partnership Firm
1. Firstly, All the loss, including capital deficiency of the partner, shall be paid out of profit, then from their capital balance, and if the need arises, they have to realize from the partners in their profit and loss sharing ratio.
2. The amount realized from the sale of an asset can be utilized in the following order :
1. The outside liabilities of the firm.
2. Proportionate payment of partners loan
3. Payment of capital balance.
4. If any amount is left. The partners share it in their profit and loss sharing ratio.
Accounting Of Dissolution
When a firm is dissolved, then all the accounts in the books of the firm are closed. Every account is closed by some entry. A Realisation Account is opened here in which accounting is done for the sale of assets and payments of liabilities. Following are the main accounts made at the time of dissolution, as per the requirements –
1. Realisation account
2. Partner current account.
3. Partner capital account.
4. Partners loan Account.
5. Cash or bank account.
Realization account: when a partnership is dissolved for closing all the asset and liabilities account and for entering the amount realized from the sale of asset and payments of all the liabilities, an account is opened, which is known as a realization account.
Preparation of realization account –
1. In the debit side of the realization account, all the assets, excluding cash and bank balance, are entered.
2. In the credit side of the realization account, all the liabilities excluding the partner’s capital balance, partner loan towards the firm, and the reserves are entered.
3. After that, the amount received from the sale of assets credited, and the payment of liabilities is debited in this account.
4. After the dissolution, the balance of this account is transferred to all the partners’ capital account in their profit and loss sharing ratio.
Conclusion :
To conclude, we studied the dissolution of a partnership firm in which the firm’s business activities are closed down permanently, and all the assets are sold out to pay off all the firm’s liabilities ( both internal and external). Dissolution of partnership firm can be done in two ways; the first one is without the intervention of the court and the second one is by order of the Court. Then settlement of accounts on this situation.
Frequently asked questions
Ques.1) what is the difference between dissolution of partnership firm and dissolution of partnership?
Answer. Dissolution of partnership firm means where the firm discontinued. But the dissolution of partnership means where the partnership deed ends, not the firm. The firm continues after dissolution of the partnership.
Dissolution of partnership doesn’t need the winding up of the firm. But when the firm is dissolved, the partners are also winding up.
3. Book is not closed as the firm continues, but in the case of the firm dissolved, all these books of accounts are closed.
Ques.2) what is the status of the firm upon the dissolution of the partnership?
Answer. After the dissolution of the partnership, the firm continues to do its business. The account of the old partner is closed, but the book of the firm continues.
Ques.3) Write the names of those accounts entered in the balance sheet’s asset side, which is not transferred to realization a/c?
Answer. The following account is not transferred to the realization account :
1. Cash account,
2. Bank account,
3. Prepaid expense account.
4. Accrued income account,
5. Debit balance of profit and loss account.
Ques.4) what do you mean by realization account?
Answer. When the firm is dissolved, it is essential to close the accounts of various assets and liabilities. In this circumstance, the asset are sold off, and cash is realized. This cash is used for paying the liabilities. This process is entered into a separate account, which is known as the realization account. It is a temporary account.
Ques 5.) How can I dissolve a partnership?
Answer. A one can dissolve the partnership by giving notice or discuss with other partners about to dissolve the partnership when all partners agreed.
Then, they have filled a dissolution form and notify the others about the dissolution of the partnership.
After all this process, they should set off all the liabilities of the firm by the selling of assets.