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A Capital Account is a regular ledger account that demonstrates a few special transactions like the proprietor’s investment in his own business, the cumulative amount of earning, expenditures of companies, etc. In addition, several other transactions impact the capital like Interest on Capital, Salaries to the Partners, Commission for the Partners, Interest on Drawings, etc. These costs are placed in the Profit and Loss Appropriation Account and at the same time credited or debited to their relevant Capital Accounts.
Schemes of Capital Account Creation
- Fixed Capital Account Method
- Fluctuating Capital Account Method
Fixed Capital Account Method
As per this method, the firm makes two accounts that illustrate different transactions associated with the partners’ capital. These two accounts are:
(a) Fixed Capital Account
A firm makes Fixed Accounts with very fundamental capital-related transactions. Dissimilar to the Capital account, these recurring capital-related transactions do not influence the Capital balance. For example, the salary of employees, commission for employees, interest on capital, interest on drawings, etc.
The firm prepares the account in the name of “Fixed Capital Account”. Direct investment will be placed on the credit side as the preliminary entry. Just 2 sorts of capital-related transactions can impact its balance:
(1) Inclusion of Capital
(2) Permanent Removal of Capital
(b) Current Account
It comprises all the capital-related transactions except the initial capital investment, adding capital, and extraction of capital. Therefore, it mostly includes items for instance:
- Interest on Capital
- Interest on Drawings
- Salaries and additional remuneration to employees
- Commission to employees and extra.
Therefore, by making this account, we can allow the main capital of the business to be “fixed”. Consequently, there is no instability at all. That’s why; the firm will be proficient at finding out the exact reasons behind the alteration.
Fluctuating Capital Account Method
To start with, fluctuating implies anything having changeable ups and downs. Therefore, as per this method, each Partner’s Capital keeps on altering from time to time. There is only one account in the name “Capital” in a firm, which holds all the essential information about the different transactions associated with the capital. It generally begins with a credit amount of the capital invested by the partner in the preliminary time of the business.
All the adjustments leading to a reduction in the capital are put on the Debit side of the Capital Account. For instance, Drawings by Partners and interest is placed on the debit side of the Capital account. Conversely, all the adjustments leading to a rise in the capital are put on the Credit side.
Points | Fixed Capital Method | Fluctuating Capital Method |
|---|---|---|
1. The number of Accounts | There are two accounts in the Fixed Capital method, i.e. capital and current accounts | There is only one account in a Fluctuating Capital Method, i.e. capital account |
2. Nature of Account / Balance | The nature of account in a Fixed Capital Method remains unchanged | The nature of account in a Fluctuating Capital Method changes |
3. Adjustments | There are adjustments in the Fixed Capital Method such as interest on capital, drawings, drawings, etc., that are completed in the current accounts | Adjustments in the Fluctuating Capital Method are completed in the capital account itself |
4. Presentation in the balance sheet | Both capital and current accounts are shown in the Fixed Account Method | Just a capital account appears in the Fluctuating Account Method |
5. Particular mention | The Fixed Account Method should be particularly stated in the partnership deed | It is not essential to mention the Fluctuating Account Method in the partnership deed |
6. Credit / Debit balance | Fixed capital accounts constantly demonstrate a credit balance | Fluctuating capital might sometimes illustrate a debit balance |
Conclusion
The firm partners will have divided capital accounts. The capital accounts of every partner will be credited with the preliminary capital investment made separately by them and any additional capital investment done by them during the accounting period. Hence, the Difference between Fixed Capital Account and Fluctuating Capital Account clarifies how a Capital Account is maintained in a partnership in a business organization.
