On the dissolution of a firm, the Creditors are transferred to ______.

Realization Account

The correct answer is Option (1) → Realization Account.

On the dissolution of a firm, the Creditors are transferred to  Realization Account as creditors are a third party liability.

When the firm is dissolved, its books of account are to be closed and the profit or loss arising on realisation of its assets and discharge of liabilities is to be computed. For this purpose, a Realisation Account is prepared to ascertain the net effect (profit or loss) of realisation of assets and payment of liabilities which may be is transferred to partner’s capital accounts in their profit sharing ratio. Hence, all assets (other than cash in hand bank balance and fictitious assets, if any), and all external liabilities are transferred to this account. It also records the sale of assets, and payment of liabilities and realisation expenses. The balance in this account is termed as profit or loss on realisation which is transferred to partners’ capital accounts in the profit sharing ratio.

For recording liabilities, the journal entry is passed as follows-

Liabilities A/c Dr.
    To Realisation A/c
(transfer of liability)