Let's analyze the provided information regarding the balance sheet extract and additional information at the time of reconstitution of the firm. Reconstitution often involves the revaluation of assets and liabilities to their current values. Any increase or decrease in the value of assets and liabilities is recorded through a Revaluation Account.

Understanding the Revaluation Account in Firm Reconstitution

The Revaluation Account is a nominal account prepared to ascertain the net effect (profit or loss) of revaluing assets and reassessing liabilities at the time of firm reconstitution (like admission, retirement, death of a partner, or change in profit-sharing ratio). Gains on revaluation (increase in asset value, decrease in liability) are credited to this account, while losses (decrease in asset value, increase in liability) are debited.

Calculating Revaluation Changes for Assets and Liabilities

We need to determine the change in the value of Premises and the provision for legal damages based on the additional information.

Revaluation of Premises

The balance sheet shows Premises at ₹85,000. The additional information states that Premises are "under-valued by 15%". This means the current value (₹85,000) represents 100% - 15% = 85% of the actual correct value.

• Book Value of Premises = ₹85,000
• Book Value represents 85% of Correct Value.
• Let the Correct Value be \(X\). So, \(85\% \text{ of } X = ₹85,000\).
• \(0.85 \times X = ₹85,000\)
• \(X = \frac{₹85,000}{0.85}\)
• \(X = ₹100,000\)

The correct value of Premises is ₹100,000. The increase in the value of Premises is the difference between the correct value and the book value.

• Increase in Premises Value = Correct Value - Book Value
• Increase in Premises Value = ₹100,000 - ₹85,000 = ₹15,000

An increase in the value of an asset is a gain on revaluation. Assets have debit balances, so increasing an asset requires a debit. The gain is credited to the Revaluation Account.

Reassessment of Provision for Legal Damages

The balance sheet shows a Provision for legal damages of ₹4,800. The additional information states that the provision is "to be created up to ₹6,000". This means the required provision is ₹6,000.

• Existing Provision = ₹4,800
• Required Provision = ₹6,000
• Increase in Provision = Required Provision - Existing Provision
• Increase in Provision = ₹6,000 - ₹4,800 = ₹1,200

An increase in a provision (which is a type of liability) is a loss on revaluation. Liabilities have credit balances, so increasing a liability requires a credit. The loss is debited to the Revaluation Account.

Journal Entries for Revaluation at Reconstitution

Based on the calculations, we need to pass journal entries for the increase in the value of Premises and the increase in the provision for legal damages.

Journal Entry for Increase in Premises Value

When an asset's value increases, the asset account is debited, and the Revaluation Account is credited.

• Premises A/c Dr. ₹15,000
•    To Revaluation A/c ₹15,000
• (Being increase in the value of Premises on revaluation)

Journal Entry for Increase in Provision for Legal Damages

When a liability or provision increases, the Revaluation Account is debited, and the liability/provision account is credited.

• Revaluation A/c Dr. ₹1,200
•     To Provision for legal damages A/c ₹1,200
• (Being increase in provision for legal damages on revaluation)

The journal entry at the time of reconstitution combining these effects is:

• Premises A/c Dr ₹15,000
• To Revaluation A/c ₹15,000
• Revaluation A/c Dr ₹1,200
• To Provision for legal damages A/c ₹1,200

This set of journal entries separately records the gain on asset revaluation and the loss on liability reassessment using the Revaluation Account.

Revision Table: Revaluation of Assets and Liabilities

Additional Information: Reconstitution of a Firm

Reconstitution of a firm means any change in the agreement of partnership. This results in a change in the existing relationship between partners but the firm continues. Examples include:

• Change in the profit-sharing ratio among existing partners.
• Admission of a new partner.
• Retirement of an existing partner.
• Death of a partner.
• Amalgamation of two or more firms.

At the time of reconstitution, it is common practice to revalue assets and reassess liabilities so that the new partnership arrangement starts with the current fair values of assets and liabilities. This helps in ensuring that the benefits or losses arising from changes in the value of assets and liabilities up to the date of reconstitution are shared by the partners in their old profit-sharing ratio, before the change takes effect.

The Revaluation Account balance (profit or loss) is ultimately transferred to the partners' capital accounts in their old profit-sharing ratio.