The Full Set of Entries for a Scheme of Internal Reconstruction
Chapter Fifteen
Syllabus topic 3, "... and accounting treatment for same"
Pages 35 to 36 of 85
In one line
Reduce each capital account to its new figure and credit the difference to Capital Reduction; credit the liabilities that are forgiven to the same account; then debit it with every write-off and close it to Capital Reserve.
The order
- Equity share capital, reduced to its new figure.
- Preference share capital, reduced to its new figure.
- Arrears of preference dividend, only if they stand in the books.
- Debenture-holders' sacrifice, if any.
- Creditors' sacrifice, if any.
- Settlements, where an asset is handed over in satisfaction of a liability.
- All write-offs together, in one compound entry.
- The balance to Capital Reserve.
Steps 1 to 6 fill the credit side. Step 7 empties it. Step 8 closes it.
The entries, on the Ashwin Ltd. scheme
Recall the scheme: equity shares of Rs 10 reduced to Rs 4; preference shares of Rs 10 reduced to Rs 8; creditors forgo 20 per cent of Rs 1,50,000; goodwill of Rs 80,000 and the Profit and Loss debit balance of Rs 2,50,000 written off in full; plant written down by Rs 40,000; balance to Capital Reserve.
| Particulars | Dr Rs | Cr Rs |
|---|---|---|
| 1. Equity Share Capital (Rs 10) A/c ... Dr | 6,00,000 | |
| To Equity Share Capital (Rs 4) A/c | 2,40,000 | |
| To Capital Reduction A/c | 3,60,000 | |
| (Being 60,000 equity shares of Rs 10 each reduced to Rs 4 each fully paid under the scheme sanctioned by the Tribunal, WN 1) | ||
| 2. 8% Preference Share Capital (Rs 10) A/c ... Dr | 1,00,000 | |
| To 8% Preference Share Capital (Rs 8) A/c | 80,000 | |
| To Capital Reduction A/c | 20,000 | |
| (Being 10,000 preference shares of Rs 10 each reduced to Rs 8 each fully paid, WN 2) | ||
| 3. Sundry Creditors A/c ... Dr | 30,000 | |
| To Capital Reduction A/c | 30,000 | |
| (Being 20 per cent of the creditors' claim of Rs 1,50,000 forgone under the scheme, WN 3) | ||
| 4. Capital Reduction A/c ... Dr | 3,70,000 | |
| To Goodwill A/c | 80,000 | |
| To Profit and Loss A/c | 2,50,000 | |
| To Plant and Machinery A/c | 40,000 | |
| (Being goodwill and the debit balance of profit and loss written off in full and plant written down as directed, WN 4 to WN 6) | ||
| 5. Capital Reduction A/c ... Dr | 40,000 | |
| To Capital Reserve A/c | 40,000 | |
| (Being the balance on the Capital Reduction Account transferred to Capital Reserve) | ||
| Total | 11,40,000 | 11,40,000 |
The three entries a question may add
Arrears of preference dividend. Only if the books carry them. Where they do:
| Particulars | Dr Rs | Cr Rs |
|---|---|---|
| Preference Dividend Payable A/c ... Dr | 90,000 | |
| To Capital Reduction A/c | 90,000 | |
| (Being arrears of preference dividend forgone by the preference shareholders) | ||
| Total | 90,000 | 90,000 |
Where the arrears are only a contingent note, no entry is passed at all and a student who passes one has invented a liability.
The Full Set of Entries for a Scheme of Internal Reconstruction
A debenture-holder taking an asset in settlement. Suppose debenture-holders take the freehold property, book value Rs 2,50,000, in part satisfaction of their Rs 2,00,000 claim, the excess being paid to them in cash:
| Particulars | Dr Rs | Cr Rs |
|---|---|---|
| 9% Debentures A/c ... Dr | 2,00,000 | |
| Bank A/c ... Dr | 50,000 | |
| To Freehold Property A/c | 2,50,000 | |
| (Being freehold property transferred to debenture-holders in satisfaction of their claim, the excess being received in cash) | ||
| Total | 2,50,000 | 2,50,000 |
No part of this touches Capital Reduction, because nobody has sacrificed anything: an asset has been exchanged for a liability at book value. Only a difference between the two would reach the account.
A provision newly recognised. A claim against the company that the scheme requires to be provided for is a write-off, and joins entry 4:
| Particulars | Dr Rs | Cr Rs |
|---|---|---|
| Capital Reduction A/c ... Dr | 15,000 | |
| To Provision for Claim A/c | 15,000 | |
| (Being provision made for a claim against the company as required by the scheme) | ||
| Total | 15,000 | 15,000 |
The narration
Every entry carries one, and MU's markers give credit for it. A narration should say what was done, to how many shares or how much of a claim, and under whose authority. "Being shares reduced" earns less than "Being 60,000 equity shares of Rs 10 each reduced to Rs 4 each fully paid under the scheme sanctioned by the Tribunal".
Where a figure comes from a working note, cite the note in the narration, as above. That is what lets a marker follow the arithmetic without recomputing it.
In short
- Fill the credit side first: capital reductions, then forgiven liabilities.
- Write-offs go in one compound entry, not several.
- Close the account to Capital Reserve last.
- An asset handed over in settlement of a liability does not touch Capital Reduction unless there is a difference in value.
- Arrears of preference dividend produce an entry only if they are in the books.
- Narrate every entry and cite the working note the figure came from.
Answer in one sentence
Give the entry for a reduction of equity capital under a scheme. Debit the old Equity Share Capital Account with its full paid-up amount, credit the new Equity Share Capital Account with the reduced amount, and credit the difference to the Capital Reduction Account.
How is a creditor's sacrifice recorded? By debiting Sundry Creditors with the amount forgone and crediting Capital Reduction Account.
The rest of this subject
These notes are cut from the University's printed syllabus. Open the syllabus itself, or the past papers, for the same subject.