copyright © 2007 prentice-hall. all rights reserved 1 partnershipspartnerships chapter 12

Copyright © 2007 Prentice-Hall. All rights reserved 1

PartnershipsPartnershipsPartnershipsPartnerships

Chapter 12


Objective 1Objective 1Objective 1Objective 1

Identify the characteristics

of a partnership


PartnershipPartnershipPartnershipPartnership

• Association of two or more persons who co-own a business for a profit

• Combines– Capital– Talent – Experience


Partnership AgreementPartnership AgreementPartnership AgreementPartnership Agreement

• Contract between partners should specify1. Name, location, and nature of business

2. Name, investment, and duties of each partner

3. How new partners are admitted

4. How profits and losses are divided up

5. Withdrawals of assets by the partners

6. How to settle up with a withdrawing partner

7. How to liquidate the partnership


Characteristics of a PartnershipCharacteristics of a PartnershipCharacteristics of a PartnershipCharacteristics of a Partnership

• Limited life

• Mutual agency

• Unlimited liability

• Co-ownership of property

• No partnership income taxes

• Partners’ capital accounts


Types of PartnershipsTypes of PartnershipsTypes of PartnershipsTypes of Partnerships

• General partnership – basic form

• Limited partnership – two classes of partners


Limited Liability Company (LLC)Limited Liability Company (LLC)Limited Liability Company (LLC)Limited Liability Company (LLC)

• Its own form of business organization– Owners are called members– Limited liability– Members can participate in management– Can elect not to pay business income tax


S CorporationsS CorporationsS CorporationsS Corporations

• Corporation taxed as a partnership– Limited liability of owners– No corporate income tax– Stockholders pay personal income tax on

their share of income



Account for partner investments


The Partnership Start-UpThe Partnership Start-UpThe Partnership Start-UpThe Partnership Start-Up

• Record assets invested by partners at fair market values

• Record liabilities assumed at fair market values

• Each partner has his/her own capital and withdrawals account


ExampleExampleExampleExampleGENERAL JOURNAL

DATE DESCRIPTION REF DEBIT CREDIT

Jun 1 Cash 10,000

Inventory 40,000

Computer Equipment 450,000

Accounts Payable 80,000

Lane, Capital 420,000

To record Lane’s Investment

Jun 1 Cash 5,000

Computer Software 100,000

Reed, Capital 105,000

To record Reed’s Investment



Allocate profits and losses

to the partners


Sharing Profits and LossesSharing Profits and LossesSharing Profits and LossesSharing Profits and Losses

• Stated fraction for each partner

• Based on percent of capital balances of the partners

• Based on each partner’s service

• Combination


Sharing Profits and LossesSharing Profits and LossesSharing Profits and LossesSharing Profits and Losses

• If no partnership agreement, the law states earnings will be divided equally

• If agreement specifies how to share profits, but not losses – losses are shared the same way as profits


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Net income

$60,000

Cruz (2/3) x 60,000

40,000

Moore (1/3) x 60,000

20,000

GENERAL JOURNALDATE DESCRIPTION REF DEBIT CREDIT

Income Summary 60,000

Cruz, Capital 40,000

Moore, Capital 20,000


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Net loss

($15,000)

Cruz

10,000

Moore

5,000


Cruz, Capital 10,000

Moore, Capital 5,000

Income Summary 15,000

When there is no written agreement,

partners share profits and losses equally.

Remember, a debit to Capital decreases it


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Net income to be distributed

Hilton Lee $125,000

Capital Bal.

Service

Remainder

Total

$30,000 $20,000 50,000

24,000 36,000 60,000

7,500 7,500 0

$61,500 $63,500


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Dec 31 Income Summary 125,000

Hilton, Capital 61,500

Lee, Capital 63,500


Partner DrawingsPartner Drawings

• Reduces capital• Debit Drawing and credit Cash• At period end, close drawing to capital



Account for the admission of a new partner


Purchasing a Partner’s InterestPurchasing a Partner’s InterestPurchasing a Partner’s InterestPurchasing a Partner’s Interest

• Equity is transferred from retiring partner to new partner– Debit retiring partner’s capital– Credit new partner’s capital

• Partnership assets are not affected


Purchasing A Partner’s InterestPurchasing A Partner’s Interest

Purchasing A Partner’s InterestPurchasing A Partner’s Interest

Fisher, Capital

$170,000

Garcia, Capital

110,000

Total

$280,000


Fisher, Capital 170,000

Holt, Capital 170,000

Notice, this is an agreement between two individuals. No new assets are acquired by the partnership


Purchasing A Partner’s InterestPurchasing A Partner’s InterestPurchasing A Partner’s InterestPurchasing A Partner’s Interest

Balances:

Holt, Capital $170,000

Garcia, Capital 110,000

Total $280,000


Investing in the PartnershipInvesting in the PartnershipInvesting in the PartnershipInvesting in the Partnership

• New partner contributes assets to the partnership in exchange for a share of the business


Investing in the Partnership Investing in the Partnership at Book Valueat Book Value

Investing in the Partnership Investing in the Partnership at Book Valueat Book Value

• New partner invests assets equal to his/her interest in the new partnership– Debit assets– Credit new partner’s capital


Investing in Partnership at Book ValueInvesting in Partnership at Book Value

Investing in Partnership at Book ValueInvesting in Partnership at Book Value

Ingel, Capital $70,000

Jay, Capital 90,000

Total before admitting $160,000

Kaska investment 80,000

Total after admitting $240,000

1/3 interest = $80,000


Investing in Partnership at Book ValueInvesting in Partnership at Book ValueInvesting in Partnership at Book ValueInvesting in Partnership at Book Value


Other Assets 80,000

Kaska, Capital 80,000


Investing in Partnership at Book ValueInvesting in Partnership at Book ValueInvesting in Partnership at Book ValueInvesting in Partnership at Book Value

Balances

Ingel, Capital $70,000

Jay, Capital 90,000

Kaska, Capital 80,000

$240,000


Investing in the Partnership - Investing in the Partnership - Bonus to the Old PartnersBonus to the Old Partners

Investing in the Partnership - Investing in the Partnership - Bonus to the Old PartnersBonus to the Old Partners

• New partner invests assets greater than his/her equity in the new partnership

• Bonus increases old partner’s capital in profit-and-loss sharing ratio– Debit assets– Credit new partner’s capital for his/her share– Credit each old partners’ capital for his/her

share of the bonus


Investing in Partnership Bonus to Existing Investing in Partnership Bonus to Existing PartnersPartners


Kaga, Capital $70,000Opper, Capital 80,000 Total before admitting $150,000Fry investment 90,000 Total after admitting $240,000

¼ interest = $60,000Bonus of $30,000 paid to existing partners

Fry contributed $90,000. The credit to her capital account is $60,000. The extra $30,000 is considered a bonus to the existing partners




Distribution of bonus:

Kaga, Capital (30,000 x 1/2)

$15,000

Opper, Capital (30,000 x 1/2)

15,000





Cash 90,000

Fry, Capital 60,000

Kaga, Capital 15,000Opper, Capital 15,000




Balances:

Kaga, Capital $85,000

Opper, Capital 95,000

Fry, Capital 60,000

$240,000


Investing in the Partnership - Investing in the Partnership - Bonus to New PartnersBonus to New Partners


• New partner invests assets less than his/her equity in the new partnership

• Bonus decreases old partner’s capital in profit-and-loss sharing ratio– Debit assets– Debit each old partners’ capital for his/her

share of the bonus to the new partner– Credit new partner’s capital for his/her share




Page, Capital $230,000Franco, Capital 150,000 Total before admitting $380,000Jones investment 100,000 Total after admitting $480,000

1/3 interest = $160,000Bonus of $60,000 paid to new partner

Jones contributed $100,000. The credit to his capital account is $160,000. The extra $60,000 is considered a bonus to the new partners and will be donated by the other partners




Distribution of bonus:

Page, Capital (60,000 x 2/3)

$40,000

Franco, Capital (60,000 x 1/2)

20,000





Cash 100,000

Page, Capital 40,000

Franco, Capital 20,000 Jones, Capital 160,000




Balances:

Page, Capital $190,000

Franco, Capital 130,000

Jones, Capital 160,000

$480,000



Account for a partner’s withdrawal from the firm


Withdrawal of a PartnerWithdrawal of a PartnerWithdrawal of a PartnerWithdrawal of a Partner

• Assets may be revalued

• Any gain or loss is allocated among the partners based on their profit- and-loss ratios


Partner Sells Interest to Existing Partner Sells Interest to Existing PartnerPartner

Partner Sells Interest to Existing Partner Sells Interest to Existing PartnerPartner

• Transfer equity from the withdrawing partner to the purchaser

• No assets flows through the partnership

• Debit withdrawing partner’s capital

• Credit purchaser’s capital


Withdrawal at Book ValueWithdrawal at Book ValueWithdrawal at Book ValueWithdrawal at Book Value

• Partner takes assets with value equal to his capital account (equal to book value)


• Credit assets taken


Withdrawal at Withdrawal at Less Than Book ValueLess Than Book Value

Withdrawal at Withdrawal at Less Than Book ValueLess Than Book Value

• Remaining partners share the difference (bonus) based on their profit-and loss-sharing ratio.


• Credit assets and remaining partners’ capital based on agreed upon ratios


Withdrawal at Withdrawal at More Than Book ValueMore Than Book Value

Withdrawal at Withdrawal at More Than Book ValueMore Than Book Value

• Bonus to the withdrawing partner reduces the remaining partners’ capital balances based on their profit-and-loss ratio


• Debit remaining partners’ capital

• Credit assets


ExampleExampleExampleExample

Distribute gain on land to partners based on profit-loss ratio

Green (50,000 x 1/4) $12,500

Henry (50,000 x 1/2) 25,000

Jackson (50,000 x 1/4) 12,500




Jul 31 Land 50,000

Green, Capital 12,500

Henry, Capital 25,000

Jackson, Capital 12,500



Distribute loss on inventory to partners based on profit-loss ratio

Green (6,000 x 1/4) $1,500

Henry (6,000 x 1/2) 3,000

Jackson (6,000 x 1/4) 1,500




Jul 31 Green, Capital 1,500



Inventory 6,000



Green, Capital Jackson, CapitalHenry, Capital50,000 20,00040,00012,500 25,000 12,500

61,000 62,000 31,0001,500 3,000 1,500

Jackson is getting $40,000 cash so he receives a bonus of $9,000 ($40,000 - $31,000)



Distribute bonus to withdrawing partner based on profit-loss ratio

Green (9,000 x 1/2)

$4,500

Henry (9,000 x 1/2)

4,500




Jul 31 Green, Capital 4,500



Cash 40,000



Account for the liquidation of a partnership


Death of a PartnerDeath of a PartnerDeath of a PartnerDeath of a Partner

• Dissolves partnership

• Settlement with the deceased partner’s estate - based on partnership agreement

• Or, a remaining partner may buy the deceased partner’s equity


Liquidation of a PartnershipLiquidation of a PartnershipLiquidation of a PartnershipLiquidation of a Partnership

• Adjust and close books

• Sell the noncash assets, allocate gains and losses to the partners based on their profit-and-loss-sharing ratio

• Pay all the liabilities

• Distribute the remaining cash based on the partners’ capital balances


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Cash

Noncash Assets Liabilitie

s

Dodd, Capital

Gage, Capital

Hamm, Capital

$6,000 $126,000 $77,000 $12,000 $37,000 $6,000

140,000 (126,000)GENERAL JOURNAL


Cash 140,000

Noncash Assets 126,000

Gain on Sale of Assets 14,000

Sell off the noncash assets


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Distribute Gain on Sale of Assets:

Dodd ($14,000 x 20%)

$2,800

Gage ($14,000 x 30%)

4,200

Hamm ($14,000 x 50%)

7,000


Gain on Sale of Assets 14,000

Dodd, Capital 2,800

Gage, Capital 4,200

Hamm, Capital 7,000

Distribute gain based on profit and loss ratio


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Cash


s

Dodd, Capital

Gage, Capital

Hamm, Capital

$6,000 $126,000 $77,000 $12,000 $37,000 $6,000

140,000 (126,000) 2,800 4,200 7,000

$146,000 0 $77,000 $14,800 $41,200 $13,000GENERAL JOURNAL


Liabilities 77,000

Cash 77,000

Pay off the liabilities


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Cash


s

Dodd, Capital

Gage, Capital

Hamm, Capital

$6,000 $126,000 $77,000 $12,000 $37,000 $6,000

140,000 (126,000) 2,800 4,200 7,000

$146,000 0 $77,000 $14,800 $41,200 $13,000

(77,000) (77,000)

$69,000 0 0 $14,800 $41,200 $13,000

$69,000

Distribute the cash to the partners and close out their accounts as well


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Dodd, Capital 14,800

Gage, Capital 41,200

Hamm, Capital 13,000

Cash 69,000


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Cash


s

Dodd, Capital

Gage, Capital

Hamm, Capital

$6,000 $126,000 $77,000 $12,000 $37,000 $6,000

140,000 (126,000) 2,800 4,200 7,000

$146,000 0 $77,000 $14,800 $41,200 $13,000

(77,000) (77,000)

$69,000 0 0 $14,800 $41,200 $13,000

(69,000) (14,800) (41,200) (13,000)

0 0 0 0 0 0


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1. Cash $80,000

Ray, capital $33,000

Scott, capital 28,000

Van, capital 19,000

80,000

Each partner receives cash equal to his capital balance because cash equals total partnership capital


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2. Cash $50,000 Ray, capital $33,000 Scott, capital 28,000 Van, capital 19,000 80,000

Loss $30,000

Each partner gets $10,000 ($30,000 / 3) less than his capital balance


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2. Ray $23,000

Scott 18,000

Van 9,000

$50,000



Prepare partnership financial statements


Financial StatementsFinancial StatementsFinancial StatementsFinancial Statements

• Much like those of a proprietorship

• Income statement - section showing division of net income to the partners

• Balance sheet - capital of each partner in owners’ equity section

• Statement of Owners’ Equity shows changes to each partner’s capital account


S12-13S12-13S12-13S12-13

Bush and Carter

Income Statement

Year Ended September 30, 2007

Service revenue $145,000

Total expenses 85,000

Net income $60,000

Allocation of net income:

To Bush ($60,000 .60) $36,000

To Carter ($60,000 .40) 24,000 $60,000


End of Chapter 12End of Chapter 12End of Chapter 12End of Chapter 12

copyright © 2007 prentice-hall. all rights reserved 1 partnershipspartnerships chapter 12

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