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CA – CPT
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Compiled by:
CA Arpita S. Tulsyan
CA Vinesh R. Savla
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CA – C PT
Fundamentals of Accounting
(60 Marks)
Revision Notes
Compiled by:
CA Arpita S. Tulsyan
CA Arpita S. Tulsyan - 9167082081
CA CPT Fundamentals of Accounting
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Accounting An Introduction
Unit 1: Meaning & Scope of Accounting
Unit 2: Accounting Concepts, Principles & Conventions
Unit 3: Accounting Standards Concepts, Objectives & Benefits
Unit 4: Accounting Policies
Unit 5: Accounting as a Measurement Discipline Valuation Principles,
Accounting Estimates
Unit 1: Meaning and Scope of
Accounting
Transaction is used to mean a business, performance of an act, an agreement while event
is used to mean a happening, as a consequence of transaction(s), a result.
Meaning of Accounting
A ccounting is simply an art of record kee ping. The process of accounting starts by first
identifying the events and transactions which are of financial charac ter and then be
recorded in the books of account.
The Accounting Principles Board (APB) of American Institute of Certified Public Accountants
(AICPA) enumerated the func tions of accounting.
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Objectives of Accounting
Book -Keeping
Book -keeping is an activity concerned with the recordin g of financial data relating to
business operations in a significant and orderly manner.
Objective of Book-keeping : C omplete Recording of Transactions
Distinction between Book -Keepi ng and Accounting
Sr. No. Book-keeping Accounting
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1. It is a process concerned with
recording of transactions.
It is a process concerned with
summarising of the recorded transactions.
2. It constitutes as a base for
accounting.
It is considered as a language of the
business.
3. Financial statements do not form
part of this process.
Financial statements are prepared in this
process on the basis of book -keeping
records.
4. Managerial decisions cannot
be taken with the help of these
records.
Management takes decisions on the basis
of these records.
5. There is no sub-field of book-
keeping.
It has several sub-fields like financial
accounting, management accounting etc.
6. Financial position of the business
cannot be ascertained through
book-keeping records.
Financial position of the business is
ascertained on the basis of the accounting
reports.
Unit 2: Accounting Concepts, Principles
and Conventions
Accounting Concepts
Accounting concepts define the assumptions on the basis of which financial statements of a
business entity are prepared. These accounting concepts lay the foundation on the basis of
which the accounting principles are formulated.
A ccounting Principles
Accounting principles are a body of doctrines commonly associated with the theory and
procedures of accounting serving as an explanation of current practices and as a guide for
selecti on of conventions or procedures where alternative s exist.
A ccounting Conventions
Accounting conventions emerge out of accounting practice s, commonly known as
accounting principles, adopted by various organizations over a period of time .
CONCEPTS, PRINCIPLES AND CONVENT IONS - AN OVERVIEW
a) Entity concept
(b) Money Measurement Concept
(c) Periodicity concept
(d) Accrual concept
(e) Matching concept
(f) Going Concern concept
(g) Cost concept
(h) Realisation concept
(i) Dual aspect concept
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(j) Conservatism
(k) Consistency
(l) Materiality
F undamental accounting assumptions
There are three fundamental accounting assumptions :
(i) Going Concern (ii) Consistency (iii) Accrual
Qualitative Characteristics of Financial Statements
1. Understandability 2. R elevance 3. Reliability 4. C omparability
The four principal qualitative characteristics are understandability, relevance, reliability
and comparability.
5. Material ity 6. F aithful Representation 7. Substance Over Form 8. N eutrality
9. Prudence 10. F ull, fair and adequate disclosure 11. C ompleteness
Unit 3: Accounting Standards-
Concepts, Objectives, Benefits
Accounting standards are written policy documents issued by expert accounting body or by
government or other regulatory body covering the aspects of recognition, treatment,
measurement, presentation and disclosure of accounting transactions and events in the
financial statements.
B enefits and Limitations
B enefits:
(i) eliminate altogether confusing variations in the accounting treatments.
(ii) Standards may call for disclosure beyond that required by law.
(iii) facilitate comparison of financial statements of compani es.
Limitations:
(i) Choice between different alternative accounting treatments may become difficult.
(ii) There may be a trend towards rigidity and away from flexibility in applying the
accounting standards.
(iii) Accounting standar ds cannot override the statute.
Overview of Accounting Standards in India:
In India, the Institute of Chartered Accountants of India (ICAI), being a premier accounting
body in the country, took upon itself the leadership role by constituting the Accounting
Standards Board (ASB) on 21st April, 1977. The main fu nction of ASB is to formulate
accounting standards so that such standards may be established in India by the council of
the ICAI. Following is the list of Accounting Standards with their respective date of
applicability
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Important Terms:
1) IASB Inte rnational Accounting Standard Board
2) IFRS International Financial Reporting Standards
3) IAS International Accounting Standards
4) US GAAP - US Generally Accepted Accounting Principles
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Unit 4: Accounting Policies
Accounting Policies refer to specific accounting principles and methods of applying these
principles adopted by the enterprise in the preparation and presentation of financial
statements. For Eg.:
(1) Methods of depreciation, depletion and amortisation;
(2) Valuation of inventories;
( 3) Valuation of investments.
Ch ange in Accounting Policies
A change in accounting policies should be made in the following conditions:
(a) It is required by some statute or for compliance with an Accounting Standard.
(b) Change would result in more appr opriate presentation of financial statement.
Change in accounting policy may have a material e ffect on the items of financial
statements.
Unit 5 : Accounting as a Measurement
Discipline - Valuation Principles, Accounting
Estimates
VALUATION PRINCIPLES
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Accounting Process
CONTENTS:
UNIT -1: JOURNAL ENTRIES
UNIT -2: LEDGERS
UNIT -3: TRIAL BALANCE
UNIT -4: SUBSIDIARY BOOKS
UNIT -5: CASH BOOK
UNIT -6: CAPITAL & REVENUE EXPENDITURE
UNIT -7: CONTINGENT ASSETS & LIABILITIES
UNIT -8: RECTIFICATION OF ERRORS
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Unit-1: Journal Entries
Balance Sheet Approach
Equity + Liabilities = Assets
or, Equity + Long -Term Liabilities = Fixed Assets + Current Assets - Current Liabilities
CLASSIFICATION OF ACCOUNTS:
ACCOUNTS
PERSONAL IMPERSONAL
Natural Real Nominal
Artificial
Representative
GOLDEN RULES OF ACCOUNTING
Personal account is governed by the following two rules:
Debit the receiver
Credit the giver
Real account is governed by the following two rules:
Debit what comes in
Credit what goes out
Nominal account is governed by the following two rules:
Debit all expenses and losses
Credit all incomes and gains.
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Unit: 2 Ledgers
POSTING:
The process of transferring the debit and credit items from journal to classified accounts in
the ledger is known as posting.
BALANCING:
To ascertain the balance in any account, what is done is to total the sides and ascertain the
difference; the difference is the balance. If the credit side is bigger than the debit side, it is a
credit balance. In the other case it is a debit balance. The credit balance is written on the
debit side as, "To Balance c/d"; c/d means "carried down". By doing this, two sides will be
equal.
It should be noted that nominal accounts are not balanced; the balance in the end are
transferred to the profit and loss account. Only personal and real accounts ultimately show
balances.
Unit: 3 Trial Balance
Preparation of trial balance is the third phase in the accounting process. After posting the
accounts in the ledger, a statement is prepared to show separately the debit and credit
balances . Such a statement is known as the trial balance.
It may be noted that trial balance is a statement and not an account. It is not a conclusive
evidence.
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Unit: 4 Subsidiary Books
FINANCIAL BOOKS
Principal Books Cash Book Subsidiary
Books
(But also treated as principle books)
Ledger
Simple Cash Book with Cash book with Bank Petty Cash book
Cash Book Discount column & discount column
Purchase Sales P. Return S. Return B/R Book B/P Book Journal
Book Book Book Book Proper
Unit: 5 Cash Book
Cash transactions are straightaway recorded in the Cash Book and on the basis of such a
record, ledger accounts are prepared. Therefore, the Cash B ook is a subsidiary book. But the
Cash Book itself serves as the cash account and the bank account; the balances are entered
in the trial balance directly. The Cash Book, therefore, is part of the ledger also. Hence, it
has also to be treated as the princi pal book. The Cash Book is thus both a subsidiary book
and a principal book.
Types o f Cash Book:
The main Cash Book may be of the three types:
(i) Simple Cash Book;
(ii) Two -column Cash Book;
(iii) Three -column Cash Book.
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Unit: 6 Capital & Revenue
Expenditure & Receipts
The distinction of transaction into revenue and capital is done for the purpose of placing
them in Profit and Loss account or in the Balance Sheet.
CONSIDERATIONS IN DETERMINING CAPITAL AND REVENUE EXPENDITURES:
The basic considerati ons in distinction between capital and revenue expenditures are:
(a) Nature of business
(b) Recurring nature of expenditure
(c) Purpose of expenses
(d) Effect on revenue generating capacity of business
(e) Materiality of the amount involved
Capital Expenditure:
C apital expenditure contributes to the revenue earning capacity of a business over more
than one accounting period. Capital expenditure may represent acquisition of any tangible
or intangible fixed assets for enduring future benefits. Therefor e, the benefits arising out of
capital expenditure last for more than one accounting period
Revenue Expenditure:
R evenue expense is incurred to generate revenue for a particular accounting period. The
revenue expenses either occur in direct relation with t he revenue or in relation with
accounting periods, for example cost of goods sold, salaries, rent, etc.
Deferred Revenue Expenditure:
Deferred revenue expenditure is that expenditure for which payment has been made or a
liability incurred but which is carried forward on the presumption that it will be of benefit
over a subsequent period or periods. In short, it refers to that expenditure that is, for the
time being, deferred from being charged against income.
CAPITAL & REVENUE RECEIPTS:
Receipts which are o btained in course of normal business activities are revenue receipts
(e.g. receipts from sale of goods or services, interest income etc.). On the other hand,
receipts which are not revenue in nature are capital receipts (e.g. receipts from sale of fixed
as sets or investments, secured or unsecured loans, owners contributions etc.). Revenue
and capital receipts are recognised on accrual basis as soon as the right of receipt is
established. Revenue receipts should not be equated with the actual cash receipts. Revenue
receipts are credited to the Profit and Loss Account.
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Unit: 7 Contingent Assets & Liabilities
CONTINGENT ASSETS
A contingent asset may be defined as a possible asset that arises from past events and
whose existence will be confirmed only after occurrence or non -occurrence of one or more
uncertain future events not wholly within the control of the enterprise.
A contingent asset need not be disclosed in the financial statements. A contingent asset is
usually disclosed in the report of t he approving authority (Board of Directors in the case of a
company, and the corresponding approving authority in the case of any other enterprise), if
an inflow of economic benefits is probable. Contingent assets are assessed continually and if
it has bec ome virtually certain that an inflow of economic benefits will arise, the asset and
the related income are recognized in the financial statements of the period in which the
change occurs.
CONTINGENT LIABILITIES
A contingent liability is a possible obligat ion arising from past events and may arise in future
depending on the occurrence or non- occurrence of one or more uncertain future events. A
contingent liability may also be a present obligation that arises from past events. An
enterprise should not recognise a contingent liability. A Contingent liability is required to be
disclosed unless possibility of outflow of a resource embodying economic benefits is
remote. These liabilities are assessed continually to determine whether an outflow of
resources embody ing economic benefits has become probable. If it becomes probable that
an outflow or future economic benefits will be required for an item previously dealt with as
a contingent liability.
DISTINCTION BETWEEN CONTINGENT LIABILITIES AND LIABILITIES
The distinction between a liability and a contingent liability is generally based on the
judgement of the management. A liability is defined as the present financial obligation of an
enterprise, which arises from past events. On the other hand, in the case of contingent
liability, either outflow of resources to settle the obligation is not probable or the amount
expected to be paid to settle the liability cannot be measured with sufficient reliability.
DISTINCTION BETWEEN CONTINGENT LIABILITIES AND PROVISIONS:
Provision means "any amount written off or retained by way of providing for depreciation,
renewal or diminution in the value of assets or retained by way of providing for any known
liability of which the amount cannot be determined with substantial accura cy".
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Unit: 8 - Rectification of Errors
Notes:
Types of Errors:
1) Error of Omission: Entry is not recorded partially or usually wholly.
2 )
Error of Principle: Eg. Revenue expenses are treated as capital expenditure or vice versa.
(TB will tally)
3 )
Compensating Errors: It does not affect TB.
Eg. Correct Entry: A a/cDr To Sales
Wrong Entry: B a/c Dr To Sales
4 )
Error of Commission: Posted in wrong books/wrong ledger at wrong amount/wrong
balancing of account. (TB will never tally)
If rectification is done in the next year, we use P&L Adjustment account which is
ultimately adjusted in capital account.
Suspense account can be personal, real or nominal account.
How to Rectify an entry:
Steps:
1 ) Wrong Entry
2 ) Reverse Entry
3 ) Correct Entry
4 ) Re ctification Entry
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Bank Reconciliation Statement
Notes:
• BRS is prepared by the bank account holder (customer)
• It is just a statement & does not form part of Trading/ P/L or Balance Sheet
• Bank Statement/ Pass Book reflects customers account in bank books
• While preparing BRS, we compare bank column of Cash Book with Pass Book
• BRS is due to timing difference & errors in recording the entries either in Cash Book or
in Pass Book
Shortcuts:
FAVOURABLE BALANCES:
Dr. balance as per CB - + - +
Cr. Balance as per PB + - + -
UNFAVOURABLE BALANCES:
Cr. Balance as per CB + - + -
Dr. Balance as per PB - + - +
(If Credit, start with + If debit, start with - )
Few Terms:
Uncollected cheques/paid into bank/banked means Cheques deposited but not cleared
Unpre sented cheques/cheques issued means cheques issued but not presented.
Timing differences
(i) Cheques issued but not presented for payment
(ii) Cheques paid into the bank but not cleared
(iii) Interest allowed by bank
(iv) Interest and expenses charged by the bank
(v) Interest and dividends collected by the bank
(vi) Direct payments by the bank
(vii) Direct payment into the bank by a customer
(viii) Dishonour of a bill discounted with the bank
(ix) Bills collected by the bank on behalf of the customer
All th ese timing differences will lead to difference in balances as shown by the cash book
and the pass book.
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Inventories
Notes:
Average Stock =
Opening Stock + Closing Stock
2
Cost of Goods Sold (COGS)=Opening Stock + Purchases + Direct Expenses Closing Stock
Loss
Cost of Goods Available for Sale = Opening Stock + Purchases
Methods of Valuation :
FIFO , LIFO , Simple Average / Average Price Method , Weighted Average
Closing stock is always valued at cost or Net Realisable Value whichever is lower.
Sales ( -) COGS = Gross Profit
Gross Profit ( -) Operating Expenses ( P/L Expense s) = Net Profit
The effect of any over or understatement of inventory may be explained as:
(a) When closing inventory is overstated, net income for the accounting period will be
ov erstated.
(b) When opening inventory is overstated, net income for the accounting period will be
understated.
(c) When closing inventory is understated, net income for the accounting period will be
understated.
(d) When opening inventory is understated, net income for the accounting period will be
overstated.
Statutory Compliance
Schedule III to the Companies Act, 2013 requires valuation of each class of goods i.e. raw
material, work -in -progress and finished goods under broad head to be disclosed in the
financial statements.
DISTINCTION BETWEEN PERIODIC INVENTORY SYSTEM
AND PERPETUAL INVENTORY
SYSTEM
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Depreciation
Notes:
It refers to decrease in value of an asset which can be caused by use of an asset, passage of
time, technological changes, improvement in production method, change in market demand
or other legal restrictions of Govt.
Different forms of Depreciation:
Tang ible Assets Depreciation
Intangible Assets Amortization
Wasting Assets Depletion
Methods of Depreciation:
1) SLM Method/Fixed Installment Method:
Annual Depreciation =
Original Cost ( -) Scrap Value
Useful Life
Rate of Depreciation =
Annual Depreciation X 100
O.C.
2 ) WDV/ RBM:
Depre =
For 1
st year = O.C. * Rate
For Subsequent years = WDV * Rate
(Ignore Useful Life & Scrap Value in WDV / RBM Method)
3 ) Production Method:
Depre =
O.C. ( -) Scrap Value * No. of units produced in that year
Total No. of units produced over the life
(Ignore Rate of Depreciation)
4) Machine Hours Method:
Depre =
O.C. ( -) Scrap Value * No. of hours worked in that year
Total No. of machine hours worked ove r the life
(Ignore Rate of Depreciation)
5) Sum of Years Digit Method:
Depre = O.C. ( -) Scrap Value *
Weight for that year
Sum of weights
Sum of weights = n(n+1)/2
(Ignore Rate of Depreciation)
ANNUITY METHOD (Used for Leases)
This is a method of depreciation which also takes into account the element of interest on
capital outlay and seeks to write off the value of the asset as well as the interest lost over
the life of the asset.
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Relevant Journal entries are:
(1) For charging interest on ass et account
Asset Account Dr.
To Interest Account
(2) For charging depreciation on asset
Depreciation Account Dr.
To Asset Account
Interest & Depreciation will be transferred to Profit & Loss Account.
Original Cost means = Purchase Price + Capital Expe nditure Incurred on it.
Prime objectives for providing depreciation are:
Accounting Entries under Straight Line and Reducing Balance Methods:
There are two alternative approaches for recording accounting entries for depreciation.
First Alternative
A provision for depreciation account is opened to accumulate the balance of depreciation
and the assets are carried at historical cost.
Accounting entry
Profit and Loss Account Dr.
To Provision for Depreciation Account
Second Alternative
Amount of Deprecia tion is credited to the Asset Account every year and the Asset Account
is carried at historical cost less depreciation.
Accounting entries:
Depreciation Account Dr.
To Asset Account
Profit and Loss Account Dr.
To Depreciation Account
If the concept of Going Concern is applicable to the company, then always show assets at
WDV . If the concept of Going Concern is violated then show it at NRV.
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Consignment
An account sale is the periodical summary statement sent by the consignee to the
consignor. It cont ains details regarding
(a) sales made, (b) expenses incurred on behalf of the consignor, (c) commission
earned, (d) unsold inventories left with the consignee, (e) advance payment or
security deposited with the consignor and the extent to which it has been adjusted, (f)
balance payment due or remitted. It is a summary statement and is different from Sales
Account.
VALUATION OF Inventories
The principle is that inventories should be valued at cost or net
realisable value whichever is lower . In the case o f consignment, cost means not only the
cost of the goods as such to the consignor but also all expenses incurred till the goods reach
the premises of the consignee.
COMMISSION : Commission is the remuneration paid by the consignor to the consignee for
the s ervices rendered for selling the consigned goods. Three types of commission
ORDINARY COMMISSION : The term commission simply denotes ordinary commission. It is
based on fixed percentage of the gross sales proceeds made by the consignee.
DEL -CREDERE COMMISSION : To increase the sale and to encourage the consignee to make
credit sales, the consignor provides an additional commission generally known as del-
credere commission. This additional commission when provided to the consignee gives a
protection to the co nsignor against bad debts. In other words, after providing the del -
credere commission, bad debts is no more the loss of the consignor.
OVER -RIDING COMMISSION : It is an extra commission allowed by the consignor to the
consignee to promote sales at higher pr ice then specified or to encourage the consignee to
put hard work in introducing new product in the market.
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Joint Venture
1. In joint venture, partners to joint ventures are known as co -venturers.
2 . JV is similar (but not same) to partnership & hence provisions of partnership applies
3 . JV does not follow the concept of going concern
JOURNAL ENTRIES: -
(a) For initial contribution by the co -venturers in Joint Bank Account
Joint Bank A/c Dr.
To Co-venturers A/c
(b) For expenses paid out of Joint Bank Ac count
Joint Venture A/c Dr.
To Joint Bank A/c
(c) For material supplied by venturers or direct payment made by venturers
Joint Venture A/c Dr.
To Co-venturers A/cs
(d) For sale or payment received
Joint Bank A/c Dr.
To Joint Venture A/c
(e) For sale or payment received directly by the venturers
Co -venturers A/cs Dr.
To Joint Venture A/c
(f) For profit on Joint Venture
Joint Venture A/c Dr.
To Co-venturers A/cs
or For loss on Joint Venture
Co -venturers A/cs Dr.
To Joint Venture A/c
(g) For closing the Joint Bank A/c
Co -venturers A/cs Dr.
To Joint Bank A/c
(h) Goods taken over by co- venturer (always at selling price)
Co -venturer A/c dr
To joint venture
In joint venture, normal loss and abnormal loss are not recorded in t he books of A/c.
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Bills Of Exchange & Promissory Notes
1. BOE contains an unconditional order to pay.
2 . In case of a bill, 3 days of grace are to be considered.
3 . In case of sudden/emergency holiday due date will be subsequent (next) day.
4 . In case of public holiday due date will be preceding (previous) day.
5 . In case of AFTER SIGHT BILLS, due date is to be considered from the date of acceptance
otherwise from the date of drawing.
6 . Oral BOE are invalid.
7 . Indian Currency is a promissory note.
8 . BOE, bearer cheque and Indian Currency are negotiable.
9 . However A/c payee cheque is not negotiable.
10. If the bill is dishonoured then bank will charge bill amount + notary charges and not
discounting charges.
11. Usually holder of the bill goes to notary. Therefore, notary charges is recovered from the
party who is responsible for dishonour.
12. Accommodation bills are drawn when both the parties are in need of funds. Discounting
charges will be shared by both the parties in the ratio determined mutually.
Journal Entries:
On receipt of Bill :
Bills Receivable Account ...... Dr.
To Drawee/Maker of the note
The person who receives the bill has three options. These are :
(i) He can hold the bill till maturity. (Naturally in this case no further entry is passed until the
date of maturity arrives) .
(ii) The bill can be endorsed in favour of another party. In this case the entry will be to debit
the party which now receives the bill and to credit the Bills Receivable Account.
A ...... Dr.
To Bills Receivable Account
(iii) The Bill of Exchange can be discounted with bank. The bank will deduct a small sum of
money as discount and pay rest of the money.
Bank Account Dr. (with the amount actually received)
Discount Account Dr. (with the amount of loss or discount)
To Bills Receivable Account
On t he date of maturity there will be two possibilities. The first is that the bill will be paid,
that is to say, met or honoured. The entries for this will depend upon what was done to the
bill during the period of maturity. If the bill was kept, the cash wil l be received by the party
which originally received the bill. In his books, therefore, the entry will be :
Cash Account ... Dr.
To Bills Receivable Account
But if he has already endorsed the bill in favour of his creditor or if the bill has been
discounted with the bank he will not get the amount; it will be the creditor or the bank wich
will receive the money. Therefore, in these two cases, no entry will be made in the books of
the party which originally received the bill.
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The second possibility is that the bill will be dishonoured, that is to say, the bill will not be
paid. If the bill is dishonoured, the bill becomes useless and the party from whom the bill
was received will be liable to pay the amount (and also the expenses incurred by the party).
Therefore, the following entires will be made :
1. If the bill was kept till maturity then :
Drawee / Maker of the note .... Dr.
To Bills Receivable Account
2. If the bill was endorsed in favour of a creditor, the entry is :
Drawee / Maker of the note .... Dr.
To Bill payables
3. If the bill was discounted with the bank :
Drawee / Maker of the note .... Dr.
To Bank A/c
Sale of Goods on Approval or Return Basis
TYPE-1 - CASUAL
Casual/Less Transaction : Treat as Ordinary sales when the goods are sent
Therefore Journal Entry:
Debtors A/c dr
To sales
On balance sheet date, if the goods are still unapproved:
Sales A/c dr
To debtors.
Stock with customer dr [At cost(lower)]
To trading
If accepted in next year,
Debtors A/c dr
To stock with customer
TYPE 2 - FREQUENTLY
In this method we prepare sale/ return journal
Format of this journal
Goods sent on approval | Goods Return | Goods Approved | Balance |
On approval following journal entry is passed
Debtors A/c dr
To sales
TYPE 3 - NUMEROUS TRANSACTION
In this method we prepare sale on return
daybook and sale on return ledger .
These books and ledger are prepared in memorandum books.
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ENTRIES IN MEMORANDUM BOOKS
Wh en goods are sent, 1st pass entry in daybook
Customer A A/c dr
Customer B A/c dr
To sales on return/approval
Entries in Main Books
On Approval
Debtors a/c dr
To sales a/c
On B/S day, if goods are kept with Customers,
Stock with customers a/c dr [at cost]
To trading a/c
Company Accounts
Unit 1: Introduction to Company A/cs
Company is an organisation consisting of individuals, called shareholders by virtue of
holding the shares of a company, who are authorised by law to elect a board of directors
and, through it, to act as a separate legal entity as regards its activities. Generally, the
capital of the company consists of transferable shares, and members have limited liabilities.
Following are the salient features of a company:
1. Incorporated Association 2. Separate Legal Entity 3. Perpetual Existence
4. Common Seal 5. Limited Liability 6. Distinction between Ownership and
Management 7. Not a citizen 8. Transferability of Shares 9. Maintenance of Books
10. Periodic A udit 11. Right of Access to Information
Types of Companies:
1. Government Company : 51% is held by the CG or SG or CG+SG
2. Foreign Company
3. Private company
M inimum paid -up share capital of one lakh rupees
R estricts the right to transfer its shares;
4. Public Company
(a) is not a private company;
(b) has a minimum paid -up share capital of five lakh rupees
5. One Person Company : a company which has only one person as a member;
6. Small Company
a company, other than a public company, -
(i) paid -up share c apital of which does not exceed fifty lakh rupees or such higher amount as
may be prescribed which shall not be more than five crore rupees; or
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(ii) turnover of which as per its last profit and loss account does not exceed two crore
rupees or such higher amount as may be prescribed which shall not be more than twenty
crore rupees:
7. Listed Company
The company, whose shares are not listed on any recognised stock exchange, is called
Unlisted Company.
8. Unlimited Company
a company not having any limit on the liability of its members.
9. Company limited by Shares
a company having the liability of its members limited by the memorandum to the amount, if
any, unpaid on the shares respectively held by them.
10. Company limited by Guarantee
A company having t he liability of its members limited by the MOA to such amount as the
members may respectively undertake to contribute to the assets of the company in the
event of its being wound up.
11. Holding Company : a company of which such companies are subsidiary companies.
12. Subsidiary company
A company in which the holding company:
(i) controls the composition of the Board of Directors; or (ii) exercises or controls more than
one -half of the total share capital either at its own or together with one or more of its
subsidiary companies:
Schedule III of the Companies Act, 2013
Balance Sheet as per Form set out in Part I of Schedule III and Statement of Profit and Loss
as per Part II of Schedule III
Unit 2: Issue, Forfeiture and Reissue of Shares
Share capital of a company is divided into following categories:
(i) Authorised Share Capital or Nominal Capital : It puts a limit on the amount of capital,
which a company is authorised to raise during its lifetime and is called Authorised Capital.
(ii) Issued Share Capi tal: Whatever portion of the share capital is issued by the company, it
is called Issued Capital. The remaining portion of the authorised capital which is not issued
either in cash or consideration may be termed as Un -issued Capital . It is not shown in the
balance sheet.
(iii) Subscribed Share Capital : It is that part of the issued share capital, which is subscribed
by the public .
(iv) Called- up Share Capital: The portion of the issue price of shares which a company has
demanded or called from shareholders is known as Called -up Capital and the balance,
which the company has decided to demand in future may be referred to as Uncalled
Capital .
(v) Paid -up Share Capital : It is the portion of called up capital which is paid by the
shareholders. If shareholder(s) fails to pay the amount fully or partially, it is known as
unpaid calls or installments (or Calls) in Arrears.
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(vi) Reserve Share Capital : Portion of the uncalled capital which a company has decided to
call only in case of liquidation of the company is called Reserve Capital.
Reserve Capital is different from Capital reserve, Capital reserves are part of Reserves and
Surplus and refer to those reserve s which are not available for declaration of dividend.
TYPES OF SHARES
Share issued by a company can be divided into following categories:
(i) P reference Shares : T hey enjoy preferential rights in the matter of:
(a) Payment of dividend, and (b) Repayment of capital
Types of Preference Shares:
(a) Cumulative Preference Shares : O ne that carries the right to a fixed amount of dividend
or dividend at a fixed rate.
(b) Non -cumulative Preference Shares : In case no dividend is declared in a year due to any
reaso n, the right to receive such dividend for that year expires. It implies that holder of such
a share is not entitled to arrears of dividend in future.
(c) Participating Preference Shares : T his category of preference share confers on the holder
the right to participate in the surplus profits, if any, after the equity shareholders have been
paid dividend at a stipulated rate.
(d) Non -participating Preference Shares : A share on which only a fixed rate of dividend is
paid every year, without any accompanying a dditional rights in profits is called Non-
participating Preference Shares .
(e) Redeemable Preference Shares : T he company will repay after the fixed period or even
earlier at companys discretion. The repayment on these shares is called redemption .
(f) N on-redeemable Preference Shares : The preference shares, which do not carry with
them the arrangement regarding redemption, are called Non -redeemable Preference
Shares. However , no company limited by shares shall issue irredeemable preference shares ,
redeemable after the expiry of 20 y ears from the date of issue (Except f or such
infrastructure projects)
(g) Convertible Preference Shares : R ight to the holder to get them converted into equity
shares.
(h) Non -convertible Preference Shares : H as not been conferred the right to get his holding
converted into equity share .
(ii) Equity Shares : Equity shares are those shares, which are not preference shares. The
rate of dividend on equity shares is recommended by the Board of Directors and may vary
from year to year. These shares carry voting rights. The shares can be issued by a company
either (1) for cash or (2) for consideration other than cash.
Issue of Shares for Cash
The issue price of shares is generally received by the company in instalments and these
instalments are known as under:
First instalment .. Application Money
Second Instalment .. Allotment Money
Third Instalment .. First Call Money
Fourth Instalment .. Second Call Money and so on.
Last Instalment . Final Call Money
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As per Section 39 of the Companies Act, 2013. Application money must be atleast 5% of the
nominal value of shares. According to the Companies Act, 2013, a company cannot proceed
to allot shares unless minimum subscription is received by the company.
As per guidelines of the Securities Exchange Board of India (SEBI), a company must receive a
minimum of 90% subscription against the entire issue before making any allotment of
shares or debentures to the public. If the Company does not receive the minimum
subsc ription of 90% of the issue, the entire subscription shall be refunded to the applicants
within 15 days after the date of closure of issue.
Successful applicants become shareholders of the company and are required to pay the
second installment which is kno wn as Allotment Money and unsuccessful a pplicants get
back their money.
(1) On receipt of the application money
Bank Account Dr. (With the actual amount received.)
To Shares Application Account
(2) On allotment of share
Share Allotment Account Dr. (With the amount due on allotment.)
Share Application Account Dr. (With the application amount received on allotted shares.)
To Share Capital Account (With the amount due on allotment and application.)
(3) On receipt of allotment money
Bank Account Dr. (With the amount actually received on allotment.)
To Share Allotment Account
(4) On a call being made
Share Call Account Dr. (With the amount due on the call.)
To Share Capital Account
(5) On receipt of call money
Bank Account Dr. (with the due amount actually received on call)
To Share Call Account
Over Subscription:
(1) On refund of application money to applicants to whom shares have not been allotted:
Share Application A/c Dr.
To Bank Account
(2) When only a part of shares applied for are allowed:
Share Application A/c Dr. (With the amount received in advance for allotment)
To Share Allotment A/c
To Share Calls -in -Advance Account
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Shares issued at discount
According to Section 53 of the Companies Act, 2013, a Company cannot issue shares at a
discount except in the case of issue of sweat equity shares (issued to employees and
directors). Thus any issue of shares at discount shall be void.
Shares issued at premium
When a company issues its securities at a price more than the face value, it is said to b e an
issue at a premium.
When shares are issued at a premium, the premium amount is credited to a separate
account call ed Securities Premium Account. According to Section 52 of the Companies
Act, 2013, Securities Premium Account may be used by the company:
(a) Towards issue of un -issued shares of the company to be issued to members of the
company as fully paid bonus securities.
(b) To write off preliminary expenses of the company.
(c) To write off the expenses of, or commission paid, or discount allowed on any of the
securities or debentures of the company.
(d) To provide for premium on the redemption of redeemable preference shares or
debentures of the company.
(e) For the purchase of own shares or other securities.
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When shares are issued at a premium, the journal entries are as follows:
(a) Premium amount called with Application money
(i) Bank A/c Dr. [Total Application money + Premium Amount]
To Share Application A/c [Amount received]
[Money received on applications for__Shares @ Rs._______ per share including premium]
(ii) Share Application A/c Dr. [No. of Shares Applied for x Application Amount per share]
To Securities Premium A/c [No. of Shares allotted x Premium Amount per share]
To Share Capital A/c [No. of Shares allotted x per share for capital]
(b) Premium Amount called with Allotment Money
(i) Share Allotment A/c Dr. [No. of Shares Allotted x Allotment and Premium Money/ share]
To Share Capital A/c [No. of Shares Allotted x Allotment Amount per share]
To Securities Premium A/c [No. of Share Allotted x Premium Amount per share]
(ii) Bank A/c Dr.
To Share Allotment A/c
(Money received including premium consequent upon allotment).
Over subscription and pro -rata allotment:
Accounting Entries:
(a) For rejected application:
Share Application Acc ount Dr.
To Bank Account
(b) For pro- rata allotment
Share Application Account Dr.
To Share Allotment Account
Calls-in -arrears and Calls -in -advance:
For recording Calls -in -Arrears, the following journal entry is recorded :
Calls -in -Arrears A/c Dr. [ Amount of Unpaid Calls]
To Share Allotment A/c
To Share Calls A/c
Interest on Cal ls in arrears = 10 % p.a.
The journal entries for calls -in -arrears are as follows :
(i) For interest receivable on calls -in -arrears
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Shareholders A/c Dr.
To Interest on calls -in -arrears A/c
(ii) For receipt of interest
Bank A/c Dr.
To Shareholders A/c
Calls -in -Advance
Interest on Calls in advance = 12% p.a
The following entry is recorded:
Bank A/c Dr.
To Call- in-Advance A/c
When calls become actually due, calls -in -adv ance account is adjusted at the time of the call.
For this the following journal entry is recorded:
Calls -in -Advance A/c Dr. [Call amount due]
To Particular Call A/c
The accounting treatment of interest on Calls -in -Advance is as follows:
(i) Interest Due
Interest on Calls -in -Advance A/c Dr. [Amount of interest due for payment]
To Shareholders A/c
(ii) Payment of Interest
Shareholders A/c Dr. [Amount of interest paid]
To Bank A/c
Forfeiture of shares
Failure to pay call money results in forfeiture of shares.
Forfeiture of Shares which were issued at Par:
In this case, Share Capital Account will be debited with the called -up value of shares
forfeited. Allotment or Calls Account will be credited with the amount due but not paid by
the shareholder(s). (A lternatively, Calls-in -Arrears Account can be credited for all amounts
due, if it was transferred to Calls -in -Arrears Account).
Forfeited Shares Account or Shares Forfeiture Account will be credited with the amount
already received in respect of those shares.
Share Capital Account Dr. [No. of shares x called -up value per share]
To Forfeited Shares Account [Amount already received on forfeited shares]
To Share Allotment Account [If amount due, but not paid]
To Share First Call Account [If amount due, but not paid]
To Share Final Call Account [If amount due, but not paid]
Where all amounts due on allotment, first call and final call have been transferred to Calls -
in- Arrears Account, the entry will be:
Share Capital Account Dr. [No. of shares x called -up value per share]
To Calls -in -Arrears Account [Total amount due, but not paid]
To Forfeited Shares Account [Amount received]
FORFEITURE OF SHARES WHICH WERE ISSUED AT A PREMIUM:
In this case, Share Capital Account will be debited with the called -up val ue of shares
forfeited. If the premium on such shares has not been paid by the shareholder, the
Securities Premium Account will be debited to cancel it (if it was credited earlier). Allotment,
Calls and Forfeited Accounts will be credited in the usual mann er.
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If the premium has already received by the company, it cannot be cancelled even if the
shares are forfeited in the future.
If premium not received:
Share capital A/c Dr. [Called -up value]
Securities Premium A/c Dr. [Amount of Security premium not received]
To Share Allotment Account [If amount due, but not paid]
To Share First Call Account [If amount due, but not paid]
To Share Final Call Account [If amount due, but not paid]
To Forfeited Shares Account [Amount received on forfeited shares]
If premium received
Share capital A/c Dr. [Called -up value]
To Share Allotment Account [If amount due, but not paid]
To Share First Call Account [If amount due, but not paid]
To Share Final Call Account [If amount due, but not paid]
To Forfeited Shares Ac count [Amount received on forfeited shares]
RE -ISSUE OF FORFEITED SHARES:
A forfeited share is merely a share available to the company for sale and remains vested in
the company for that purpose only. Reissue of forfeited shares is not allot ment of shares but
only a sale.
Accounting Entries :
(a) Bank Account Dr. [Actual amount received]
Forfeited Shares Account Dr. [Loss on re -issue]
To Share Capital Account
(b) Forfeited Shares Account Dr.
To Capital Reserve Account
POINTS FOR CONSIDERATION
1. Los s on re -issue should not exceed the forfeited amount.
2. If the loss on re -issue is less than the amount forfeited, the surplus should be transferred
to Capital Reserve.
3. The forfeited amount on shares (amount originally paid -up) not yet reissued should be
shown under the heading share capital.
4. When only a portion of the forfeited shares are re -issued, then the profit made on reissue
of such shares must be transferred to Capital Reserve.
5. When the shares are re -issued at a loss, such loss is to be debited to Forfeited Shares
Account.
6. If the shares are re -issued at a price which is more than the face value of the shares, the
excess amount will be credited to Securities Premium Account.
7. If the re -issued amount and forfeited amount (taken toget her) exceeds the face value of
the shares re -issued, it is not necessary to transfer such amount to Securities Premium
Account.
8. Dividend is paid on Paid up Capital (Called up ( -) Arrears)
ISSUE OF SHARES FOR CONSIDERATION OTHER THAN CASH
Accounting Entries
(a) When assets are purchased in exchange of shares
Assets Account Dr.
To Share Capital Account
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(b) When shares are issued to promoters
Goodwill Account Dr.
To Share Capital Account
Unit 3: Redemption of Preference
Shares
Accounting Entries
1. When new shares are issued at par
Bank Account Dr.
To Share Capital Account
2. When new shares are issued at a premium
Bank Account Dr.
To Share Capital Account
To Securities Premium Account
3. When preference shares are redeemed at par
Redeemable Preference Share Capital Account Dr.
To Preference Shareholders Account
4. When preference shares are redeemed at a premium
Redeemable Preference Share Capital Account Dr.
Premium on Redemption of Preference Shares Account Dr.
To Preference Shareholders Ac count
5. When payment is made to preference shareholders
Preference Shareholders Account Dr.
To Bank Account
6. For adjustment of premium on redemption
Profit and Loss Account Dr.
Securities Premium Account Dr.
To Premium on Redemption of Preference Shares Account
7. For transferring nominal amount of shares redeemed to Capital Redemption Reserve
Account
General Reserve Account Dr.
Profit and Loss Account Dr.
To Capital Redemption Reserve Account
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Unit 4: Issue of Debentures
Distinction between debentures and shares
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Journal entries in each of the above cases are discussed below:
1. Debenture issued at par redeemable at par: When debenture are issued at par, the issue
price is equal to par value, in this regard the following entries are rec orded:
(a) For receipt of application money :
Bank A/c Dr.
To Debenture Application A/c
(b) For transfer of application money to debentures account :
Debenture Application A/c Dr.
To % Debenture A/c
2. Debenture issued at Discount and Redeemable at par or at discount : When debentures
are issued at discount, issue price will be less than par value. The difference between the
two is considered as loss on issue on debentures and is to be written -off over the life of
debentures. The entries with regards to issue are given below :
(a) For receipt of application money
Bank A/c Dr.
To Debenture Application A/c
(b) At the time of making allotment
(i) Debenture Application A/c Dr.
Discount on issue of debentures A/c Dr.
To % Debentures A/c
3. Debenture Issued at Premium and Redeemable at par or at discount
When debenture are issued at premium, the issue price is more than the par value. The
premium is transferred to securities premium account. In this regard, the following journal
entries are recorded :
When premium amount is received at the time of application;
(a) For receipt of application money
Bank A/c Dr.
To Debenture Application A/c
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(b) For transfer of application of money at the time of allotment
Debenture application A/c Dr.
To % Debentures A/c
To Securities Premium A/c
4. Debenture issued at par and redeemable at a premium
(a) For receipt of application money
Bank A/c Dr.
To Debenture application A/c
(b) At the time of making allotment
(i) Transfer of application money to debenture account
Debenture Application A/c Dr.
To .% Debenture A/c
(ii) Call made consequent upon allotment.
Debenture Allotment A/c Dr.
Loss on issue of debenture A/c Dr. [Equal to Debenture Redemption Premium]
To % Debenture A/c
To Debenture redemption premium A/c
Students can note that instead of passing the separate entries, a compound entry can be
passed:
Bank A/c Dr.
Loss on issue of debenture A/c Dr.
To % Debenture A/c
To Debenture redemption premium A/c
5. Debenture Issued at discount and redeemable at premium
(a) For the receipt of application money
Bank A/c Dr.
To Debenture Application A/c
(b) At the time of making allotment
(i) Transfer of application money to debenture account
Debenture Application A/c Dr.
To % Debentures A/c
(ii) Call made consequent upon allotment of debentures at discount and redeemable at
premium
Debenture Allotment A/c Dr.
Discount/Loss on issue of debenture A/c Dr. [Amount equal to the discount on issue of
debenture plus Premium on redemption]
To % Debenture A/c
To Debenture Redemption Premium A/c
(c) For receipt of call made on allotment
Bank A/c Dr.
To Debenture Allotment A/c
Students can note that instead of passing the separate entries, a compound entry can be
passed:
Bank A/c Dr.
Discount/Loss on issue of debentures A/c Dr.
To % Debentures A/c
To Debenture redemption premium A/c
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6. Debenture Issued at premium and redeemable at premium
(a) For the receipt of application money
Bank A/c Dr.
To Debenture Application A/c
(b) At the time of making allotment
(i) Transfer of application money to debenture account
Debenture Application A/c Dr.
To % Debentures A/c
(ii) Call made consequent upon allotment of debenture at premium and re deemable at
premium
Debenture Allotment A/c Dr.
Loss on issue of debenture A/c Dr. [Amount equal to the premium on redemption]
To % Debenture A/c
To Securities Premium A/c
To Premium on Redemption of Debentures A/c
Students can note that instead of pas sing the separate entries, a compound entry can be
passed:
Bank A/c Dr.
Loss on issue of Debentures A/c Dr.
To % Debentures A/c
To Securities Premium A/c
To Premium on redemption of debentures A/c
Debentures Issued at Par:
The accounting entries would be as follows:
(a) When cash is received
Bank Account Dr.
To Debentures Application Account
(b) When excess money is refunded
Debentures Application Account Dr.
To Bank Account
(c) When the debentures are allotted
Debentures Application Account Dr.
To Debentures Account
Debentures Issued at a Premium:
The accounting entries would be as follows:
(a) When cash is received
Bank Account Dr. [Nominal value plus premium]
To Debentures Application Account
(b) When excess money is refunded
Debentures Applicati on Account Dr.
To Bank Account
(c) When the debentures are allotted
Debentures Application Account Dr.
To Debentures Account
To Securities Premium Account
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Debentures Issued at a Discount
The accounting entries would be as follows :
(a) When Cash is re ceived
Bank Account Dr. [Actual cash received]
To Debentures Application Account
(b) When excess money is refunded
Debentures Application Account Dr.
To Bank Account
(c) When the debentures are allotted
Debentures Application Account Dr. [Actual cash received]
Discount on Issue of Debentures Account Dr. [Discount on debentures]
To Debentures Account [Nominal value of debentures]
Issue of debentures as collateral security
Accounting Entries
There are two methods of showing these types of debentures in the accounts of a company.
Method 1
Under this method, no entry is made in the books of account of the company at the time of
making issue of such debentures. In the Notes to Accounts of Balance Sheet, the fact of the
debentures being issued and outstanding is shown by a note under the liability secured.
Method 2
Under this method, the following entry is made to record the issue of such debentures:
Debentures Suspense Account Dr.
To Debentures Account
The Debentures Suspense Account will appear on the a ssets side of the Balance Sheet and
Debentures on the liabilities side of the Balance Sheet. When the loan is repaid, the entry is
reversed in order to cancel it.
Issue of debentures in consideration other than for cash
Just like shares, debentures can als o be issued for consideration other than for cash, such as
for purchase of land, machinery, etc. In this case, the following entries are passed :
(a) Sundry Assets Account Dr. [Assets taken over]
To Sundry Liabilities Account [Liabilities assumed]
To Vendors Account [Purchase consideration]
(Being the assets and liabilities taken over)
(b) Vendors Account Dr.
To Debentures Account
Treatment of Discount/LOSS on Issue of Debentures:
The discount on issue of debentures is amortised over a period between the issuance date
and redemption date. It should be written- off in the following manner depending upon the
terms of redemption:
(a) If the debentures are redeemable after a certain period of time, say at the end of 5
years, the total amount of discount sho uld be written-off equally throughout the life of the
debentures (applying the straight line method)..
(b) If the debentures are redeemable at different dates, the total amount of discount should
be written- off in the ratio of benefit derived from debentur e loan in any particular year
(applying the s um of the years digit method).
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The accounting entries would be as follows :
Profit and Loss Account Dr.
To Discount on Issue of Debentures Account
Interest on Debentures
1. For making interest due
Interest A/ c Dr.
To Debentureholders A/c
2. For making payment of interest and deduction of tax at source (TDS)
Debentureholders A/c Dr.
To TDS Payable A/c
To Bank A/c
3. For making payment of tax deducted at source
TDS payable A/c Dr.
To Bank A/c
4. For trans ferring interest to profit and loss account
Profit and Loss A/c Dr.
To Interest A/c
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Partnership Accounts
CONTENTS:
Unit -1: Introduction to Partnership Accounts
Unit -2: Goodwill
Unit -3: Admission of a New Partner
Unit -4: Retirement of a Partner
Unit -5: Death of a Partner
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Unit 1: Introduction to Partnership
Accounts
The Indian Partnership Act defines partnership as the relationship between persons who
have agreed to share the profit of a business carried on by all or any of them acting for all.
The essential features of partnership are:
1. An association of two or more persons;
2. An agreement entered into by all persons concerned;
3. Existence of a business;
4. The carrying on of such business by all or any one of them acting for all; and
5. Sharing of profits of the business (including losses).
6. Unlimited liability of all partners.
The persons who enter into such an agreement are called partners and the business is called
a firm.
I n the absence of any agreement to the contrary;
1. no pa rtner has the right to a salary,
2. no interest is to be allowed on capital,
3. no interest is to be charged on the drawings,
4. interest at the rate of 6% is to be allowed on a partners loan to the firm, and
5. profits and losses are to be shared equally .
Note: In the absence of an agreement, the interest and salary payable to a partner will be
paid only if there is profit.
Accounts :
(i) Trading A/c
(ii) P & L A/c
(iii) P&L appropriation a/c is prepared for distribution of profits among the owners.
(iv) Partners Capital Account
(v) Balance Sheet
Journal Entries:
Capital Introduced
Cash/Bank A/c dr
To partners Capital A/c
Drawings
Drawings A/c dr
To cash/bank
Partners Capital A/c dr
To drawing
[Drawing A/c is transferred to Partners Capital A/c / Current A/c]
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Salary [Paid only if specified in partnership deed]
P&L appropriation A/c dr
To partners capital A/c
Interest on Capital
P&L Appropriation A/c dr
To Partners Capital A/c
- It is calculated on balance at the beginning of the year + capital introduced.
- Interest is paid only if specified in partnership deed.
- If profit before interest is less than the interest to be distributed then distribute such
profit in capital ratio.
Fixed Capi tal Account v/s Fluctuating Capital Account:
Fluctuating Capital Account: Generally if we prepare 1 capital A/c it is known as fluctuating
A/c method, as amount of capital changes every year.
Fixed Capital Method: To avoid the above problem, generally two A/cs are maintained.
- Partners fixed capital A/c.
- Partners current A/c (Drawing A/c)
In partners fixed capital A/c, only capital introduced / Capital withdrawn is recorded, rest all
transactions (Salary, Interest, drawings) are recorded in partners cu rrent A/c.
In such a case, interest is calculated on opening balance + addition in fixed capital A/c and
not on Current A/c
Interest On Drawings [Only if specified in deed]:
Partners capital A/c dr
To P&L appropriation A/c
Guarantee Of Min imum Profits:
If A, B & C are partners & A has guaranteed C that he will get minimum 40,000. If profit is
90,000 then calculation will be as follows:
90,000
1:1:1
A B C
30,000 30,000 30,000
(10,000) + 10,000
= 20,000 =30,000 = 40,000
Distribution of Profits: P&L appropriation A/c dr
To partne rs capital A/c
Distribution of loss: Partners Capital A/c
To P&L appropriation
[If nothing is given then distribution of profit equally ]
Transfer to reserves:
P&L Appropritation A/c Dr
To Reserve A/c
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Unit 2 & Unit 3: Goodwill & Admission
of a Partner
Admission of Partner
Adjustment 1: Ratio Calculation (SR = OR NR )
Adjustment 2: Goodwill :
Valuation of Goodwill:
Method 1: Average Profit Method:
Goodwill = Adjusted Average operating Profits * No of Years of Purchase
Notes:
(i) Average can be simple or weighted average.
(ii) If there is increasing or decreasing trend we use weighted average.
(iii) If profits are fluctuating we use simple average.
(iv) Meaning of adjusted operating profit: Abnormal items i n past profits are removed and
future adjustments are made. Also non operating incomes/expenses are removed
Method 2: Super Profit Method:
Goodwill = Super Profits * No of Years of Purchase
Super Profits = Adjusted Average Operating Profit (what I earn) Normal Profits (what
people earn)
Normal Profits = Capital Employed * NRR (Normal rate of return)
Capital Employed = Capital + Reserves Non operating Net Assets
Capital Employed = Operating Assets Operating Liabilities
Method 3: Annuity Method:
Goodwill = Super Profits * Annuity factor
Present Value annuity factor:
1__ then press = = = then press GT (= N times No of years)
1+rate
Method 4: Capitalisation Method:
Goodwill = (Adjusted Average Operating Profit / NRR) - Operating Capital Employed
Goodwill = Super Profits / NRR
Accounting for Goodwill:
Type 1: When Goodwill is brought in cash:
(i) New Partner will bring only HIS SHARE of goodwill in cash.
(ii) Entries: Cash/Bank A/c Dr
To Goodwill A/c
Goodwil l A/c Dr
To Old Partners Capital A/c (SR)
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Type 2:
New Partner is unable to bring Goodwill in cas h & Goodwill is raised and written off:
(i) Entire Goodwill is considered
(ii) Entries: Goodwill A/c Dr
To Old Partners Capital A/c (OR)
New Pa rtners Capital A/c (NR) Dr
To Goodwill A/c
Type 3:
Net Effect: New Partner is unable to bring Goodwill in cash & Goodwill is adjusted directly
from Partners Capital A/c
(i) Only New Partners SHARE in goodwill is considered.
(ii) Entries: Incoming Partners Capital A/c Dr
To Old Partners Capital A/c (SR)
Extra Points:
(i) If before starting the sum of admission, there is an existing goodwill in old Balance Sheet
then write -off such goodwill in old ratio then start the sum.
(ii) I n all the three types, final amount of goodwill in the Balance Sheet will be Zero. This is
as per AS- 26. However if type 2 is followed partly i.e. goodwill is only raised and not written
off, in that case Goodwill will be shown in Balance Sheet at Full Value
Extra points on Goodwill
The necessity for valuation of goodwill in a firm arises in the following cases:
a) When the profit sharing ratio amongst the partners is changed;
b) When a new partner is admitted;
c) When a partner retires or dies; and
d) Whe n the business is dissolved or sold.
Adjustment 3: Revaluation: Any profit / loss relating to value assets or liability for the
period before admission must belong to old Partners. Hence revaluation adjustments are
carried out.
Entries:
(i) Asset Value Increases:
Asset A/c Dr
To Revaluation A/c
(ii) Asset Value Decreases:
Revaluation A/c Dr
To Asset A/c
(iii) Liability Increases:
Revaluation A/c Dr
To Liability A/c
(iv) Liability Decreases:
Liability A/c Dr
To Revaluation A/c
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Balance in Revaluation A/c after above adjustment represents Profit or Loss on revaluation
which belongs to Old partners. Hence it should be transferred to Old Partners in OR.
(v) Profit:
Revaluation A/c Dr
To Old Partners Capital A/c (OR)
(vi) Loss:
Ol d Partners Capital A/c (OR) Dr
To Revaluation A/c
Adjustment 4: Old Reserves/Losses (Shown in Balance Sheet)
Old reserves and losses shown in Balance Sheet belong to old Partners. Hence it should be
distributed to Old Partners in Old Ratio.
Entries:
(i) Reserves (Profits):
Reserves A/c Dr
To Old Partners Capital A/c (OR)
(ii) Losses:
Old Partners Capital A/c (OR)
To Losses A/c
Adjustment 5: Capital brought in by New Partner
Cash/Bank A/c Dr
To New Partners Capital A/c
Extra Concepts:
Cr eation of Reserves from P&L:
P&L Appropriation A/c Dr
To Reserve A/c
Change in PSR
Adjustment 1: Ratio: Few partners sacrifice, few partners gain:
Adjustment 2: Goodwill
(i) Raise in Old Ratio, Write off in New Ratio or
(ii) Net effect table
Adjustment 3: Revaluation: Same as earlier
Adjustment 4: Old Profit/losses: Same as earlier
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Unit-4: Retirement of a Partner
Adjustment 1: Ratio Calculation: GR = NR - OR
Adjustment 2: Goodwill
Type 1: Goodwill brought in cash (Not Possible)
Type 2: Goodwill raised in old ratio and write -off in new ratio. (Entire Goodwill)
Type 3: Remaining Partners Capital A/c.. Dr
To Outgoing Partners Capital A/c (His share in GR)
OR
MAKE TABLE
Adjustment 3: Revaluation (Same as earlier)
Adjustment 4: Old Reserves/losses (Same as earlier)
Adjustment 5: Amount paid to outgoing partner
Outgoing Partners Capital A/c. Dr
To C/B
To Partners loan A/c
If outgoing partner is not settled in above way then for the period of delay, Section 37 of
Indian Partnership Act,1932 gets applicable. Outgoing partner will be paid profit in Capital
Ratio or interest @ 6% p.a whichever is higher for the period of delay.
JOINT LIFE POLICY (JLP):
It is an insurance policy taken on the life of partner jointly and severely. It is taken so that on
the death of a partner or on retirement of partner, hardship caused to firm is minimized.
Terms:
1. Premium Paid: Amount paid periodically.
2. Surrender Value: Value on a date, when policy is given up i.e before Maturity/death.
3. Maturity Value: Value received on maturity or death whichever is earlier.
Accounting for JLP:
Option 1: JLP premium is debited to P&L A/c
Entry 1: On date of pa yment:
JLP Insurance Premium A/c.Dr (P&L) (treated as expense)
To Cash/Bank
Entry 2: On date of Balance Sheet: No Entry
Entry 3: On Maturity:
Insurance Co. A/c or Cash/Bank A/c.. Dr
To Old partners Capital A/c (OR) / To Revaluation A/c
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Option 2: If JLP is treated as an asset.
Entry 1: At the time of payment:
JLP A/c Dr (Asset)
To C/B
Entry 2: On date of Balance Sheet
(Bring the asset to surrender value)
P&L A/c.. Dr
To JLP asset
Entry 3: On Receipt
Cash/Bank A/c Dr
To JLP asset A/c
To Old Partners Capital A/c ( OR) / Revaluation A/c
Option 3: JLP is treated as an asset and JLP reserve is also created.
Entry 1: At the time premium is paid:
a) JLP Asset A/c Dr 100
To C/B 100
b) P&L Appropriation A/c.. Dr 100
To JLP Reserves 100
Entry 2: JLP asset and reserve is brought to surrender value on B/S date :
JLP Reserve A/c.. Dr 10
To JLP Asset 10
(Surrender value is 90)
Therefore, we can conclude that both JLP reserve and JLP asset are at surrender value.
Entry 3: On receipt:
a) Cash/Bank A/c Dr 93
To JLP Asset 90
To Old Partners Capital A/c ( OR) 3
b) JLP Reserve A/c.. Dr 90
To Old Partners Capital A/c (OR) 90
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Unit 5: Death of a Partner
Adjustment 1, 2, 3 & 4 same as Retirement
Adjustment 5 (a):
On death of a partner he is entitled to profit upto the date of death.
Adjustment 5 (b):
Deceased Partner Capital A/c.. Dr
To Legal Heir A/c
Adjustment 5 (c):
Legal Heir A/c.. Dr
To Cash/Bank
To Loan A/c
(Section 37 also applicable)
CA – C PT
Mercantile Laws
( 4 0 Marks)
Revision Notes
Compiled by:
CA Vinesh R. Savla
CA Vinesh R. Savla- 9870109394
CA CPT Mercantile Laws
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The Indian Contract Act, 1872
Nature of Contract : The Indian Contract Act, 1872 is a mercantile law passed as Indian
Parliament . This law regulates trade and commerce. It is based on English common law. It is
applicable to whole of India expect the state of J&K. It came into force from 1
st
September,1872.
PROMISE: [Section 2(d)]: A proposal whe n accepted, becomes a promise.
Promise = offer (or proposal) + Acceptance of offer (or Proposal)
AGREEMENT: [Section 2(e)]: Every promise and every set of promises forming the
consideration for each other is an agreement. Agreement = Promise + consideration
CONTRACT : [ Section 2(h )]: An ag reement enf orceable by law is a contract .
Contract = Agreement + Enforceability of an agreement by law .
ENFORCEABILITY OF AGREEMENT : An agreement is said to be enforceable by law if it
creates some legal obligation. if X proposes Y to come for a movie and in turn agrees to give
a treat, and Y agrees, then such an agreements is not a contract since it is not enforceable
by law. All Contracts are Agreement but all Agreements are not Contracts.
DIFFERENT TYPE OF CONTRACTS :
1) On the Basis of Creation:
a) Express Contract : Express contract is one which is made by words spoken or written.
b) Implied Contract: By implied contract means implied by law (i.e.) the law implies a
contract though parties never intended. As such proposal and acceptance are made
otherwise than in words.
c) Tacit Contract: A tacit contract is one which is inferr ed from the conduct of parties.
Here also proposal and acceptance are made otherwise than in words. It is type of
Implied contract.
2) On the B asis of Execution :
a) Executed Contract: It is a contract where both the parties to t he contract have
performed their respective obligations under the contract.
b) Executory Contract: It is a contract where both the parties to the contract have still to
perform their respective obligations.
c) Partly Executed and Partly Executory Contract: It is a contract where one of the parties
to the contract has performed his obligation and the other party has still to perform his
obligation.
d) Unilateral Contract: A unilateral contract is a one -sided contract in which only one
party has to perform his promise or obligation to do or forbear.
3) On the Basis of E nforceability:
a) Valid Contract: A contract w hich contains all the essential elements of a contract is
called as a valid contract.
b) Void Contract: S ection 2(j) - A void contract is a contract which was valid when entered
into but which subsequently became void due to impossibility of performance or due to
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change of law or some other reason. Example: A contracts with B (owner of the factory)
for the supply of 10 tons of sugar, but before the supply is effecte d, the factory catches
fire and everything was destroyed. Here the contract becomes void.
c) Void agreement : Section 2(g), An Agreement not enforceable by law is said to be
void. Such ag reements are void - ab initio. [Collateral Not Void]
d) Voidable Contract: S ection 2(i) an agreement which is enforceable by law at the option
of one or more of the parties thereon but not at the option of the other or o thers, is a
voidable contract.
e) Illegal Agreement: An illegal agreement is one the object of which is unlawful. Thus,
illegal agreement s are always void - ab initio
[ All Illegal Void but all void not illegal] [Collateral Illegal/Void]
f) Unenforceable Contract: It is a contract which is actually valid but cannot be enforced
because of some technical defect (such not in writing, under stamped). Such contracts
can be enforced if the technical defect involv ed is removed.
ESSENTIALS OF A VALID CONTRACT : (Section 10) All agreements are contracts if : a) They
are made by the free consent, b) By competent parties, c) For a lawful consideration, d)
With a lawful object , e) And are not hereby expressly declared to be void.
Offer & Acceptance [Juristic Concept]
Offer / Proposal: [Tender] Section 2(a) A person is said to have made the proposal when
he signifies to another his willingness to do something or to abstain from doing anything
(not to do something) with a view to obtaining the assent Examples: 1) A tells B , I want to
marry. This does not amount to offer but it is a mere expression of willingness. 2) A said to
B, I want to marry, Will you marry me. This would amounts to off er because in this case,
the intention of A is to obtaining the consent of B.
Offeror: Person who makes the offer Offeree: Person to whom offer is made.
Types of offer:
1) Specific offer: A specific offer is o ne which is made to a definite person or part icular
group of persons. A specific offer can be accepted only by the definite person or that
particular group of persons to whom it has been made.
2) General Offer: A general offer is one which is not made to a definite person, but to the
world at large or public in general. A general offer can be accepted by any person having the
knowledge of the offer comes forward and acts according to the conditions of the offer.
3) Cross Offer: Two offers which are similar in all respects made by two parties to each
other, in ignorance of each others offer are known as cross offers. cross offers do not
amount to acceptance of ones offer by the other. Hence, no contract is entered into on
cross offers.
4) Counter Offer: When the offeree gives a qualified acceptance of the offer i.e. with
modifications in the terms of original offer, he is said to have made a counter offer.
Counter -offer amounts to r ejection of the original offe r.
5 ) Standing/ Open/ Continuing Offer / Tender: An offer of continuous nature is known as
standing offer.
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RULES FOR A VALID OFFER:
1) Intenti on to create legal relationship
2) Certain and unambiguous Terms
3) Different from mere declaration of intention i.e. it should be with a view to obtain
consent
4) Different from an invitation to offer: In case of an invitation to offer, the person making
an invitation invites others to make an offer to him. Example: goods were displayed in the
shop for sal e with price tags attached on each article and self service system was there. One
customer selected the goods. It was held that the display of goods was only an intention to
offer and the selection of the goods was on offer by the customer to buy and the c ontract
was made when the cashier accepted the offer to buy and received the price.
5) Communication : An offer is complete only when it is communicated to the offeree. One
can accept the offer only when he knows about it.
6) No term that non - compliance of said term amounts to acceptance:
7 ) An offer may be conditional:
8) The offer may be expressed or implied :
When is Communication of Offer Complete: The Communication of Offer is complete when
it comes to the knowledge of the person to whom it is made.
ACCEPTANCE : A proposal wh en accepted becomes a promise. Acceptance produces
something which cannot be undone (Individually). It is like a lighted match stick to a train of
gun powder.
RULES FOR A VALID ACCEPTANCE :
1) Absolute and Unqualified (Section 7): A qualified and conditional acceptance amounts to
marking of a counter offer which put an end to the original offer and it cannot be revived by
subsequent acceptance.
2) Accepting the offer in the prescribed manner
3) Communication: The acceptance must be signified. T he acceptance is complete only
when it has be en communicated to the offerer. Further Acceptance must be communicated
to the offeror i.e. the person who made the offer
4) Time Limit: The Acceptance must be communicated within the time prescribed (if any) or
within a reasonable time (if no time is prescribed). if the acceptance is made after the lapse
or withdrawal of the offer, it will not give rise to leg al relations.
5) Mere silence is not acceptance
6) Acceptance is valid even if it is lost in Transit.
C
ommunication of an acceptance is complete: [Section 5]
(i) as against th e offerer, when it is put in course of transmission by acceptor.
(ii) as against the acceptor, when it comes to the knowledge of the offere r.
REVOCATION OF OFFER AND ACCEPTANCE : The term revocation means taking back or
withdrawal.
What is the Time Limit wi thin which offer can be Revoked: A n offer may be revoked at any
time before the communication of its acceptance is complete as again st the offere r, b ut not
afterwards. Hence, an offer can be revoked at any time before the letter of acceptance is
duly posted by the acceptor.
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Capacities of Parties to Contract:
WHO IS COMPETENT TO CONTRACT: Every person is competent to contract who is of the
age of majority, and who is of sound mind, and is not disqualified from contractin g by any
law.
WHAT IS THE AGE OF M AJORITY: 18 years
1) Validity: An agreement with a minor is void ab - initio . It was held that the money
advanced to minor cannot be recovered because minors agreement was void.
2) No Estoppel: A minor can always plead minority and is not stopped to do so even where
he has tak en any loan or entered into contract by falsely representing that he was major.
3) Ratification on attaining the age of majority: An agreement with a minor cannot be
ratified even after he attains majority.
4) Minor as a partner: A minor cannot become a partner in a partnership firm. However,
according to Section 30 of Indian Partners hip Act 1932, with the consent of all the partners
be admitted to the benefits of partnership and not loss.
5) Minor as an agent: A minor can act as an agent and bind his principle by his acts without
incurring any personal liability.
6) Contract for the benefit of a minor: A minor can be a promisee. Though a minor is not
competent to contract, nothing in the Contract Act prevents him from making the o ther
party bound to the minor.
7) Contract by minors guardian: The contracts entered into on behalf of a m inor by his
guardian or manager of his estate can be enforced by or against the minor if the contract
(a) is within the scope of the authority of guardian or manager, and (b) is for the benefit of
the minor.
8) Contract for supply of necessaries: A person who has supplied the necessaries to a minor
or to those who are dependent on him is entitled to be reimbursed from the property of
such minor. The term necessaries includes food, clothing etc depending on the status of the
person. [Quasi Contract]
9 ) A Contract can be entered by Minor for apprenticeship (Training) after 14 Years .
10) No Restitution: But exceptions:
1) Doctrine of equitable restitution Goods and property still in possession of minor can be
recovered back but should not involve perso nal liability of minor.
2) Also Restitution allowed if minor has made false representation as major.
11) Minor can become shareholder of fully paid shares through transfer via guardian.
Company will not allot share on application.
POSITION OF CONTRACT WITH THE PERSON OF UNSOUND MIND :
A person is said to be of sound mind for the purpose of making a contract, if at the time
when he makes it, is capable (i) To understand the terms of the contract, (ii) To form a
rational judgement as to its effect upon hi s interests. A person who is usually of unsound
mind but occasionally of sound mind may make a con tract when he is of sound mind. A
person who is usually of sound mind but occasionally of unsound mind may not make a
contr act when he is of unsound mind.
PERSONS DISQUALIFIED BY LAW : Alien Enemy, Fore ign Sovereigns and ambassador,
Convicts, Insolvent etc . Foreign Sovereigns and ambassador: They cannot be sued but they
can sue
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CONSENT: Two or more persons are said to consent when they agree upon the same thi ng
in the same sense. T his is called Consensus - ad - idem.
FREE CONSENT : Fu rther the above consent must be free .
EXPLAIN THE CASES WHERE THE CONSENT WILL NOT AMOUNT TO FREE CONSENT :
1) COERCION: A contract is said to be caused by coercion when it is obtained by :
a) Committing any act which is forbidden by the Indian Penal Code; or
b) Threatening to commit any act which is forbidden by Indian Penal Code; or
c) Unlawful detaining of any property; or Threatening to detain any property.
A threat to commit suicide amounts to coercion. The agreement induced by coercion is
voidable at the option of the party whose consent is not free. A person to whom money has
been paid or anything delivered under coercion must r epay or return it
2) UNDUE INFLUENCE : C ontract is said t o be induced by undue influence:
a) Where the relations subsisting between the parties are such that one of them is in a
position to dominate the will of the other, and
b) The dominant party uses that position to obtain an unfair advantage over the other.
A person is deemed to be in a position to dominate the will of the other, when he holds
authority real or apparent over the other, or when he stands in a fiduciary relation to the
other or where other person is under mental distress . A contract which is induced by undue
influence is either voidable or the court may set it aside or enforce it in a modified form.
Relation where it is presumed that undue influence is present:
1) Parent and Child 2) Guardian 3) Trustee and beneficiary 4) Doctor and patient 5) Lawyer
and Client 6) Guru and disciple 7) Pardashin woman
Relation where no presumption of undue influence:
1) Landlord and tenant 2) Creditor and debtor 3) Husband and Wife (unless proved)
3) FRAUD : Fraud means and includes any of the following acts com mitted by a party to a
contract or by hi s agent, with intent to deceive another party to enter into the contract:
a ) The suggestion of fact which is false as true by one who knows it to be false.
b ) The active concealment of a fact by one having knowledge or belief of the fact.
c ) A promise made without a ny intention of performing i t:
d ) Any such act or omission as the law specially declares to be fraudulent .
A contract which is induced by Fraud is voidable and aggrieved party can also claim
damages.
Does silence amount to fraud?
Mere silence as to facts likely to affect the willingness of a person to enter into a contract is
no fraud; but where it is the duty of a person to speak, or his silence is equivalent to speech,
silence amounts to fraud.
4) MISREPRESENTATION : The term Misrepresentation means a false representation of fact
made innocently or non - disclosure of a material fact without any intention to deceive the
other party. The representation must relate to a fact. In oth er words, a mere option, a
statement of expression or intention does not amount to misrepresentation. A contract
which is induced by misrepresentation is voidable but the aggrieved party cannot claim
damages.
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Exception to Fraud and Misrepresentation:
1) A person who had the means of discovering the truth with ordinary diligence cannot
avoid a contract on the ground that his consent was caused by misrepresentation or silence
amounting to fraud.
2) Where a party to a contract committs fraud or misrepresentation, but the other party is
not, in fact, misled by such fraud or misrepresentation, the contract c annot be avoided by
the latter.
5) MISTAKE : A mistake is said to have occurred where the parties intending to do one th ing
by error do something else.
Mistake
Mistake of law Mistake of fact
Indian Foreign Unilateral Bilateral
Valid Same as Fact Valid Void
Legality of Object & Consideration
The consideration and object is considered unlawful if:
- I t is forbidden by law or
- I t defeats the provision s of law or
- I s fraudulent or involves or
- I mplies injury to the person or property of another or
- I s immoral or
- I s opposed to public policy.
In above cases agreement is void.
Agreement Opposed To Public Policy :
The following Agreements have been held to be opposed to public policy:
a ) A greements of trading with enemy
b ) Agreements of stifling prosecution: An agreement to stifle prosecution tends to be a
perversion or an abuse o f justice; therefore, such an agreement is void.
c) Agreements in the nature of maintenance and champerty
Maintenance is the promotion of litigation in which one had no interest and champerty is
bargain whereby one party agrees to assist the other in recov ering property, with a view to
sharing the profits of litigation. I n India, an agreement to share the subject of litigation, if
recovered in consideration of the partys supplying the funds in good faith to carry it on, is
not itself, opposed to public pol icy. But where such advances are made by way of gambling
in litigation, the agreement to share the subject of litigation is certainly opposed to public
policy and therefore void.
d ) Agreement for sale/ transf er of public offices and titles
e ) Agreements tending to create Monopoly
f ) Agreements interfering with course of justic e
g ) Agreement in restraint of marriage: Every agreement in restraint of marriage of any
person other than a minor is void.
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h) Agreement in restraint of trade: Every agreement by which anyone is restrained from
exercising a lawful profession, trade or business of any kind, is to that extent void.
But this rule is subject to the following exceptions, namely,
1) where a person sells the goodwill of a business and agrees with the bu yer to refrain from
carrying on a similar business, within specified local limits, t hen such an agreement is valid.
2) An agreement among the sellers of a particular commodity not to sell the commodity for
less than a fixed price is not an agreement in res traint of trade.
3) An agreement between partners not to carry on competing business during
the continuance of partnership is valid.
4) An agreement with an outgoing partner to not carry on competing business for a
reasonable time will be valid .
5) An agreement of service by which an employee binds himself, during the term of his
agreement, not to complete with his employer is not in restraint of trade.
6) An agreement by a manufacturer to sell during a certain period his entire production to a
wholesale merchant is not in restraint of trade.
i) Agreement in restraint of legal proceedings: It is on e by which any party thereto is
j ) Marriage brokerage contracts
k) Interest against obligation: Eg: A, who is the manager of a firm, agrees to pass a contract
to X if X pays to A Rs 2,000 privately; the agreement is void.
Illegal Agreements: Illegal agreements are those agreements which are void ab - initio i.e.
void from the very beginning and punished by the criminal law of the country or by special
legislatio n/ regulation.
The effects of illegal agreements are as under:
1) The collateral transactions to an illegal agreement also become illegal and hence cannot
be enforced.
2) No action can be taken for recovery of money paid or property transferred under illegal
agreement and for the breach of an illegal agreement.
Void A greement s
1) Agreement where Consideration is unlawful in Part: The general rule is that where the
legal part of a contract can be separated from the unlawful part, the unlawful part may be
considered void and the legal part can be considered valid. But where the unlawful part
cannot be separated, the entire contract is altogether void.
2) Uncertain Agreements: An uncertain agreement means an agreement the meaning of
which is not certain or not capable of being made certain. Such agreements are void.
3) Wagering Agreements: An Agreement between two persons under which money or
moneys worth is payable, by one pe rson to another on the happening or non -happening of
a future uncertain event is called wagering event. Agreements by way of wager are void in
India.
4) Speculative transaction: Speculative transaction is one in which mutual intention of
parties is to sett le the transaction either by actual delivery of goods or by payment of
difference in price on settlement date. Speculative transaction is generally valid. If, however
the mutual intention is only to settle the transaction by payment of difference in price on
settlement date, the transaction would be wagering agreement which would be void.
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Performance & Discharge of a Contract : A contract is said to have been performed when
the parties to a contract either perform or offer to perform their respective promises.
Types of performance of the contract:
1) Actual performance: Where a promisor has made an offer of performance to the promise
and the offer has been accepted by the promisee, it i s called an actual performance.
2) Attempted Performance (or tender ): Where a promisor has made an offer of
performance to the promise, and the offer has not been accepted by the promise, it is called
an atte mpted performance (Section 38).
BY WHOM CONTRACT MAY BE PERFORMED:
1) Promisor himself: If there is something in t he contract to show that it was the intention
of the parties that the promise should be performed by the promisor himself, such promise
must be performed by the promisor himself . This means contracts which involve the
exercise of personal skill or diligenc e, or which are founded on personal confidence between
the parties must be per formed by the promisor himself.
2) Agent: Where personal consideration is not the foundation of a contract, the promisor or
his representative may employ a competent person to perform it.
3) Representatives: A contract which involves the use of personal skill or is founded on
personal consideration comes to an end on the death of the promisor. As regards any other
contract the legal representatives of the deceased promisor are bound to perform it unless
a contrary inte ntion appears from the contract. But their liability under a contract is limited
to the value of the property they inherit from the deceased.
4 ) Joint promisors: When two or more persons have made a joint promise, then unless a
contrary intention appears from the contract, all such persons must jointly fulfill the
promise. If any of them dies, his legal representatives must, jointly with the surviving
promisors, fulfill the promise.
Time and Place for performance of the promise: [Question of Fact]
(i) If no time is specified in a contract for the performance of the promise, the promis e must
be perf ormed within a reasonable time.
(ii) If a promise is to be performed on a specified date but the hour is not mentioned, the
promisor may perform it at any time during the usual hours of business, on such day.
(iii) When no place is fixed for the performance of a promise, it is the duty of the promisor
to ask the promisee to fix a reasonable place for the performance of the promise.
Impossibility of Performance:
(i) Impossibility Existing at the time of the Contract: (Know or unknown to both parties):
Void Agreement
(ii) Impossibility Existing at the time of the Contract: (Know only to one party): Void
Agreement + Damages by party at fault
(iii) Supervening Impossibility: Contract becomes Void
Discharge of Contract by Mutual Agreement:
(a) Novation: The parties to a contract may substitute a new contract for the old. On
novation, the old contract is discharged and consequently it need not be performed. There
may be change in parties.
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(b) Rescission: When the parties to a contract agree to rescind it, the contract need not be
performed. In the case of rescission, only the old contract is cancelled and no new contract
comes to exist in its place.
(c) Alteration of contract: A contract is also discharge d by alteration. In case of alteration
the terms of the contract may be altered by mutual agreement by the contracting parties
but the parties to the contract will remain the same.
(d) Where Promisee may waive or remit performance of promise: Promisee can dispense
with performance without consideration and without a new contract or may extend the
time of performance.
Discharge of a contract:
Discharge of a contract means end of the contractual relations between the parties .
1) By Actual Performance
2) By attempted Performance or tender
3) Discharge by mutual agreement : a) Novation b) Rescission c) Alteration d) Remisssion
4) Discharge by Operation of Law: A contract may be discharged by operation of law in the
following cases: a) By death of the promisor b) By insolvency etc. if it is based on personal
skill.
5) Discharged by Impossibility of Performance: The impossibility may exist from the very
start. In that case, it would be impossibility ab initio. Alternatively, it may supervene.
6) Discharge by lapse of time: A contract should be performed within a specified period as
prescribed by the Limitation Act, 1963. If it is not peformed and if no action is taken by the
promisee within the specified period of limitation, he is deprived of remedy at law.
7) When a promisee neglects: When a promisee neglects or refuses to afford the promisor
reasonable facilities for the performance of the promise, the promisor is excu sed by such
neglect or refusal.
8) Discharge by breach of Contract:
a) Antici patory Breach of Contract: Anticipatory breach of contract occurs when the party
declares his intention of not performing the contract before the performance is due.
[Can be expressed or Implied]
b) Actual Breach of Contract: Actual breach of contract occ urs in the following two ways:
On due date of performance: If any party to a contract refuses or fails to perform his part of
the contract at the time fixed for performance, it is called an actual breach of contract on
due date of performance.
During the course of Performance: If any party has performed a part of the contract and
then refuses or fails to perform the remaining part of the contract, it is called an actual
breach of contract during the course of performance.
Consequences of Breach of contract:
The aggrieved party (i.e. the party not at fault) is discharged from his obligation and gets
rights to proceed against the party at fault. The various remedies available to an aggrieved
party have been discussed in detail in next chapter.
Extra Concepts :
1) Assignment and succession: Under succession, both benefits and burden attached to the
contract devolve upon the legal heir. However in assignment only the benefit of a contract
can be assigned and not the liabilities attached thereto.
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2) Joint Promisors: Promisee may compel any one or more of such joint promisors to
perform the whole of the promise. If one of the joint promisors is made to perform the
whole contract, he can call for a contribution from others. If any of the joint promisors make
a default in making his contribution the remaining joint promisors must bear the loss arising
from such default in equal shares. For Example , A, B and C jointly execute a promissory note
for Rs 3,000 in favour of D. A is compelled to pay the whole amount. A, in such a case would
be able to realise Rs 1,000 each from B and C and if C was unable to pay anything, then A
would be able to realise from B by way of contribution Rs 1,500 instead of Rs 1,000.
3) Time as essence of contract: Time is an essence of a contract means that it is essential for
the parties to a contract to perform their respective promises within the specified time.
Presumption as to time as essential of contract:
In commercial or mercantile contracts In non commercial contracts
Time fixed for the delivery of goods is
considered to be the essence of a
contract, but Time fixed for the payment
of the price is not considered to be the
essence of a contract
Usually the presumption is that time is not
the essence of a contract. For example: In
case of the sale of an immovable property,
time is presumed to be not the essence of a
contract.
What are the consequences of Non- performance of contract within specified time?
When time is essence of a contract When time is not the essence of a contract
The contract becomes voidable at the
option of the promise & claim damages.
The contract does not become voidable at
the option of the promisee.
If performance beyond the specified time
is accepted, the promisee cannot claim
compensation for any loss occ asioned by
the non performance of the promise at
the agreed time unless at the time of
such acceptance, he gives notice to the
promisor his intention to do so.
The promisee is entitled to claim
compensation for any loss occasioned to
him by non performance of the promise at
the agreed time.
4) Reciprocal Promises: Promises which form the consideration or part of the consideration
for each other, ar e called reciprocal promises.
a ) Regarding simultaneous performance: If a contract consists of reciprocal promises to be
simultaneously performed, then the promisor need not perform his promise unless the
promisee is ready and willing to perform his promise.
b ) Regarding order of performance: Where the order in which reciprocal promises are to be
performed is expressly fixed by the contract, they must be performed in that order and
where the order is not expressly fixed by the contract, they must be performed in the order
which the nature of the transaction requires.
c ) Effe cts of preventing the performance: When a contract contains reciprocal promises,
and one party to the contract prevents the other from performing his promise, the contract
becomes voidable at the option of the party so prevented; and he is entitled to
comp ensation from the other party for any loss which he has sustain in consequence of the
n on -performance of the contract.
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5) Appropriation of Payment: Appropriation of payment means application of payment to a
particular debt.
Case Rule
Where debt to be
discharged is indicated.
The payment, if accepted must be applied accordingly.
Where debt to be
discharged is not indicated .
The creditor has option to apply the payment to any lawful
debt due from the debtor even if it is a time barred debt.
But, he cannot apply to a disputed debt.
Where neither party
makes any appropriation.
The payment shall be applied in discharge of the debts in
order of time whether or not they are time barred. If the
debts are of equal standing, the payment shall be applied in
discharge of each, proportionately.
Remedies for Breach of Contract :
What are the optio ns available to aggrieved party: In case of anticipatory breach, the
aggrieved party has the following two options:
a) He can rescind the contract and claim damages for breach of contract without waiting
until the due date for performance, or
b) He may treat the contract as operative and wait till the due date for performance and
claim damages if the promise still remains unperformed.
Liability for damages:
(a) Liability for ordinary damages: These damages arise in the ordinary course of events
from the breach of contract. These Damages constitute the dire ct loss suffered by the
injured party. It has to be paid even if specified or not in the contract.
(b) Li ability for special damages: Where a party to a contra ct receives a notice of special
circumstances affecting the contract, he will be liable not onl y for damages arising naturally
and directly from the breach but also for special damages.
(c) Liability to pay vindictive or exemplary damages: Th ese damages may be awarded only
in two cases, viz (i) for breach of promise to marry; and (ii) wrongful dishonour by a banker
of his customers cheque.
(d) Liability to pay nominal damages: Nominal damages are awarde d where the plaintiff
has proved that there has been a breach of contract but he has not in fact suffered any real
damage. It is awarded just to establish the right to decree for the breach of contract. The
amount may be a rupee .
(e) D amages for deterioration caused by delay: In the case o f deterioration caused to goods
by delay, damages can be recovered from carrier even without notice. The word
det erioration not only implies physical damages to the goods but i t may also mean loss of
special opportunity for sale.
(f) Liquidated Damages : Fair and Genuine pre-estimate of damages specified in the contract
(g) Remote damages: Not allowed in India
Besides claiming damages as a remedy for the breach of contr act, the following remedies
are also available:
(i) R escission of contract: When a contract is broken by one party , the other party may treat
the contract as rescinded.
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(ii) Suit upon Quantum Meruit: The phrase quantum meruit literally means as much as is
earned or according to the quantity of work done. W hen a person has begun the work
and before he could complete it, the other party terminates the contract or does something
which make it impossible for the other party to complete the contract, he can claim for the
work done under the contract. The claim on quantum meruit must be brought by a party
who is not at default. However, in certain cases, the party in default may also sue for the
work don e if the contract is divisible.
Where a person does some act or delivers something to an other person with the intention
of receiving payments for the same (i.e. non -gratuitous act), in such a case, the other person
is bound to make payment if he accepts such ser vices or goods, or enjoys their benefit.
(iii) Suit for specific performance: Wh ere damages are not an adequate remedy in the case
of breach of contract, the court may in its discretion on a suit for specific performance direct
party in breach, to carry out his promise according to the terms of the contract. Eg. To sell
Antique
(iv) S uit for injunction: Where a party to a contract is negotiating the terms of a contract,
the court may by issuing an injunction order restrain him from doing what he promised not
to do.
Co ntingent Contract [section 31]: A Contingent contract is a contr act to do or not to do
something if some event, collateral to such contract, does or does not happen. Insurance
contracts provide the best e xample of contingent contracts.
RULES RELATING TO ENFORCEMENT
Contract contingent
upon happening of an
event Where a contingent contract is made to do or not to do anything if
uncertain future event happens, it cannot be enforced by law
unless and until that event has happened. If event becomes
impossible such contracts become void.
Contract contingent
upon non-happening
of an event
Where a contingent contract is made to do or not to do anything if
any uncertain future event does not happen it can be enforced only
the happening of that event becomes impossible and not before. If
such event becomes happened, such contr acts become void.
Contract contingent
upon specified event
happening within
fixed time
It becomes void if at the expiry of fixed time, such event has not
happened, or if before the time fixed, such event becomes
impossible. If event happens before the time, contract is
enforceable
Contract contingent
upon specified event
not happening within
fixed time
It may be enforced by law when the time fixed has expired and such
event has not happened or before the time expired, if it becomes
certain that such even t will not happen.
Agreement
contingent on
impossible event
A contingent agreement to do or not to do anything, if an
impossible event happens is void The impossibility of an event may
or may not be known to the parties to the agreement at the time
when they entered into it.
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QUASI CONTRACTS: Quasi contracts are based on principles of equity, justice and good
conscience. A quasi or constructive contract rests upon the maxims, No ma n must grow
rich out of another persons loss.
The salient features, of quasi contractual right, are as follows:
(a) Firstly, it does not arise from any agreement of the parties concerned, but is imposed by
the law; and
(b ) Secondly, it is a right which is available not against the entire world, but ag ainst a
particular person or persons only. (Right in Personam)
Types of quasi -contracts:
(a) C laim for necessaries supplied to persons incapable of contracting
(b) R ight to recover money paid for another person: A person who has paid a sum of
money which another is obliged to pay, is entitled to be reimburse d by that other person
provided the payment has been made by h im to protect his own interest.
(c) Obligation of a person enjoying benefits of non- gratuitous act (Section 70): Where a
person lawfully do es anything for another person, or delivers anything to him not intending
to do so gratuitously and such other person enjoys the benefit thereof, the latter is bound
to make compensation to the former in respect of, or to restore, the thing so done or
delivered .
(d) Responsibility of a finder of goods: A person who finds goods belonging to another and
takes t hem into his custody is subject to the same responsibility as a bailee. He is,
therefore, required to take proper care of things found, not to appropriate it to his own use
and, when the owner is traced, to restore it to t he owner.
(e) Liability for money paid or thing delivered by mistake or under coercion: A person to
whom money has been paid, or anything delivered, by mistake or und er coe rcion must
repay or return it.
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The Sale of Goods Act, 1930
(1
st July 1930)
- Applicable to whole of India except Jammu & Kashmir
- The Sale of Goods Act, 1930 deals with the sale but n ot with mortgage or pledge,
- Secondly, the Act deals with goods but not with all movable property, e.g., acti onable
claims and money.
Definitions:
4.8
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