Scheme of Accounting for Internal Reconstruction

The scheme of accounting for internal reconstruction refers to the accounting process followed when a company is reconstructed or reorganized from within its existing structure. This process involves a series of steps that aim to realign the company’s financial and capital structure by modifying its internal arrangements.

The objective of the scheme of accounting for internal reconstruction is to bring about financial stability and to facilitate the growth and development of the company by restructuring its internal financial arrangements. This can be achieved through various means, including the cancellation or reduction of shares, the creation of new classes of shares, or the writing off of liabilities or assets.

The scheme of accounting for internal reconstruction helps in maintaining transparency in the accounting process and ensures that all transactions related to the reconstruction are recorded accurately and in a timely manner. It also ensures compliance with the applicable laws and regulations governing the reconstruction process.

The scheme of accounting for internal reconstruction may involve complex accounting and legal issues, and companies should seek professional advice to ensure compliance with the relevant laws and regulations.

The scheme of accounting for internal reconstruction involves the following steps:

• Writing off the existing assets and liabilities: The first step in the scheme of accounting for internal reconstruction is to write off the existing assets and liabilities of the company in the books of accounts. This is done to start afresh and to reflect the new financial position of the company.
• Creating a reconstruction reserve: The next step is to create a reconstruction reserve by transferring the required amount from the profits of the company to this reserve. This reserve is created to absorb the losses arising from the reconstruction and to provide for any future contingencies.
• Cancelling the existing shares: The next step is to cancel the existing shares of the company and to issue new shares in their place. This is done to adjust the capital structure of the company and to reflect the new financial position.
• Issuing new shares: The new shares are issued in the place of the old shares and are allotted to the shareholders in proportion to their existing holdings. The new shares may be of a different class or denomination, depending on the requirements of the reconstruction.
• Adjusting the capital accounts: The final step is to adjust the capital accounts of the shareholders in the books of accounts. This is done to reflect the new financial position of the company and to ensure that the shareholders’ rights are protected.

Examples:

ABC Ltd. has the following balance sheet as on March 31, 2023:

ABC Ltd. decides to reconstruct the capital and the following scheme is proposed:

• Equity shares of Rs. 10 each to be cancelled
• New shares of Rs. 5 each to be issued in their place
• Premium of Rs. 2.50 per share to be transferred to a capital redemption reserve
• The balance of the securities premium account to be transferred to the profit and loss account
• Plant and Machinery to be written down by 20%
• Furniture to be written down by 25%
• Investments to be written down by 30%

The following entries are recorded in the books of ABC Ltd. for the above scheme of reconstruction:

1. Cancellation of old equity shares

2. Issue of new equity shares

3. Transfer to capital redemption reserve

4. Transfer to profit and loss account

5. Writing down of plant and machinery

Original cost of furniture: Rs. 1,00,000

Accumulated depreciation till date: Rs. 50,000

Net book value (NBV) of furniture before the write-down: Rs. 50,000

After the write-down of Rs. 10,000, the NBV of furniture would become Rs. 40,000.

6. The table format for the journal entry of this transaction would be:

7. Investments to be written down by 30%

As per the step 6, investments need to be written down by 30%. Here is the updated table with the new values: