1. ACCOUNTING FOR PARTNERSHIPS
Lecture # 10

2. PARTNERSHIP CHARACTERISTICS
Voluntary association
Partnership Agreement
Limited Life
Mutual Agency
Unlimited Liability
Co-ownership of Partnership property
Participation in partnership Income

3. Voluntary Association
A voluntary association of individuals rather than a legal entity.
A partner is responsible for his partner’s business actions under the law.
A person must select a partner who shares his business objectives due to unlimited liability. ←

4. Partnership Agreement
Two or more competent people agree to be partners in some common business purpose.
Partnership agreement does not have to be in written form.
Good business practice calls for a written document providing details of partnership.

5. Partnership Agreement
It should include name, location and purpose of business.
Duties of partners
Investments of each partner.
Methods of distributing profits and losses ←
The admission or withdrawal of partners.
Withdrawals of assets allowed for each partner.
Procedure for dissolving or ending business.

6. LIMITED LIFE Partnership is dissolved when: A partner withdraws
A partner goes bankrupt
A partner is incapacitated
A partner dies
A new partner is admitted
A partner retires
Partnership ends according to agreement. ←

7. Participation in Partnership Income
Partnership agreement should mention the method of distributing profit and losses to each partner.
If an agreement doesn’t mention losses, they are distributed in the same way as profits.
If agreement does not mention any method, then by law, they are shared equally.

8. ACCOUNTING FOR PARTNERS’ EQUITY
separate Capital and Withdrawal accounts must be maintained for each partner.
Balance of each partner’s capital is listed separately.
Total Liabilities $28,000
Partner’s Equity:
Desmond, capital $25,000
Frank, capital $34,000
Total Partners’ Equity $59,000
Total Liabilities & Equity $87,000

9. ACCOUNTING FOR PARTNERS’ EQUITY
When assets other than cash are invested, partners must agree on their value.
Value of non cash assets should be the fair market value on the date of transferring them to partnership.
Value of assets must be entered into partnership agreement.

10. ACCOUNTING FOR PARTNERS’ EQUITY
Jerry Adcock and Rose Villa agree to combine their capital and equipment into partnership for operating a jewelry store. Adcock will invest $28000 cash & $37000 of furniture and Villa will invest $40,000 cash & $20,000 equipment.
What are the journal entries to record their initial investment??

11. ACCOUNTING FOR PARTNERS’ EQUITY
July 1 Cash ,000
Furniture ,000
Adcock, Capital 65,000
July 1 Cash ,000
Equipment ,000
Rose Villa, Capital 60,000

12. ACCOUNTING FOR PARTNERS’ EQUITY
These values may differ from those carried on partners personal books.
The equipment contributed by Villa was recorded on $12,000 in his personal book but at the time of investing it in business, market value increased. Then Villa’s investment must be recognized at the current market value of equipment.
Partnership may also assume liabilities related to investments.

13. Distribution of Profit and losses
Income of a partnership has three components:
Return to partners for the use of capital
Compensation for services provided
Further economic income for taking up business risks.

14. Distribution of Profit and losses
If partners contribute unequally, then income and losses should be shared according to:
Stated ratio
Capital Investment ratio
Salaries to partners and interest on partners capital, with the remaining income shared according to stated ratio.

15. STATED RATIO
Each partner must be given a stated ratio of the total income or losses.
Adcock and Villa had a NI of $30,000 and agreement specified stated ratio of 60 and 40 respectively.
June 30 Income Summary $30,000
Adcock, capital $18,000
Villa, capital $12,000

16. Capital Investment Ratio
If invested capital produced the most income for the business, then income and losses may be distributed according to capital investment.
Two ways to distribute income and losses:
Ratio of capital balance at the beginning of year
Or to use average capital balance of each partner during the year.

17. Capital Investment Ratio
Adcock and villa capital accounts balances at the beginning of the year were as following:
Adcock; 65,000 Villa: 60,000
NI = 140,000
Capital Capital ratio
Adcock /125,000 = %
Villa 60,000/125,000 = %

18. Capital Investment Ratio
Share of Income:
Adcock: 140,000 x 52% = $72,800
Villa: ,000 x 48% = $67,200
June30 Income Summary ,000
Adcock, Capital ,800
Villa, Capital ,200

19. Capital Investment Ratio
If partners believe their capital balances will change during year, then average capital balances should be used to distribute income and losses.
Assume that Adcock withdrew 10,000 on Jan1,19x2 and Villa withdrew 10,000 on Nov1,19x1 and invested an additional 8,000 on Feb1,19x2. Income for the year was $140,000.

20. Average capital Balances
Partner
Date
Capital x Balance
Months unchanged
Total
Avg Capital
Adcock
7/x1-12/x1 x =
390,000
1/x2-6/x2
55,000 x
330,000 12
720,000/12
60,000
Villa
7/x1-10/x1
60, x =
240,000
11/x1-1/x2
50, x =
150,000
2/x2-6/x2
58, x =
290,000
680,000/12
56,667

21. Average capital Balances
Total Average Capital:
Adcock = 60,000 + Villa = 56,667 = 116,667
Average Capital balance ratio;
Adcock = Adcock’s avg capital / Total avg capital
= 60,000 / 116,667 = %
Villa = Villa’s avg capital / Total avg capital
= 56,667 / 116,667 = %

22. Distribution of Income:
Adcock: 140,000 x 51.4% = 71,960
Villa: 140,000 x 48.6% = 68,040
Income Summary 140,000
Adcock, Capital 71,960
Villa, Capital 68,040

23. Salaries, Interest, and Stated Ratio
Salaries and interest on capital are not expenses, rather it is distribution of income among partners. They are not deducted as expenses before the income is determined.
Assume Adcock’s salary is $8000 and Villa’s salary is $7000. Any remaining income will be divided equally.

24. Salaries, and Stated Ratio
Adcock
Villa
Total Income
Total income for distribution
140,000
Distribution of salaries
8000
7000
15,000
Remaining Income
125,000
Equal distribution of remaining income
62,500
-0-
Income of Partners
70,500
69,500

25. Salaries, and Stated Ratio
Income Summary 140,000
Adcock, Capital 70,500
Villa, Capital 69,500
Salaries and interest must be allocated to partners even if income is not enough t cover these salaries and interest. Even in case of loss, these allocations must be made. The negative amount must be distributed among partners by stated ratio.

26. Salaries, Interest, and Stated Ratio
Adcock
Villa
Total Income
Total income for distribution
140,000
Distribution of salaries
70,000
60,000
130,000
Remaining Income
10,000
Distribution of Interest
6,500
6,000
12,500
(2,500)
Equal distribution of negative income
(1,250)
2,500
Income of Partners
75,250
64,750