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Accounting For Partnership Firms: Fundamentals
Nature of partnership firms:Partnership is a relation of mutual trust and faith. Partnership accounts should present a
true and fair picture of the partnership business.
Definition:It is a relationship between persons who have agreed to share the profit of a business.
Carried on by all or any of them acting for all (Sec.4 of Indian Partnership Act, 1932) .
Characteristics of partnership
1.
20.
Rules to be followed while settling the accounts on retirement.
21.
In case of dispute among the partners. How the dispute will be solved?
Importance of Partnership Deed
1.
It regulates the rights, duties and liabilities of each partner.
2.
It helps to avoid any misunderstanding amongst the partners.
3.
Any dispute amongst the partners may be settled easily as the partnership deed may be
readily referred to.
Rules Applicable in the Absence of Partnership Deed
1.
Profits and Losses are to be shared equally irrespective of their capital contribution.
2.
No interest in capitals shall be allowed to the partners.
3.
No interest is to be charged on drawings.
4.
Interest at the rate of 6% per annum is to be allowed on a partners loan to the firm.
5.
No entitlement of salary to any partners.
6.
Without the consent of all existing partners, No new partner can be admitted to the firm.
7.
Each partner can participate in the conduct of business.
8.
Each partner can inspect the books of firm and can take a copy of the same.
The journal entries that are passed for various items Shown in the profit and loss
appropriation account are as follows:
1.
(1)
(2)
Dr
(2)
Dr
(2)
Dr
5. Entry for transfer of credit balance of profit & loss appropriation A/c (being profit)
Profit & loss appropriation A/c
Dr
To partners capital or current A/c
6. Entry for Transfer of debit balance of profit & loss appropriation A/c (being loss)
Partners capital or current a/c
Dr
To profit & loss appropriation A/c
Profit and Loss Appropriation Account
Dr.
Particulars
To Salary to Partners : X
Y
To Commission to Partners : X
Y
To Interest on Partners Capital : X
Y
To Reserve A/c
To Profit transferred to Partners
Capital or Current A/c : X
Y
Cr.
Rs
Particulars
By Profit & Loss A/c
By Interest on Drawingss : X
Y
By Loss Transferred to Partners
Capital or current a/c. : X
Y
Rs
X number of months
12
To Cash /
Bank a/c
(permanent
withdrawn of
capital)
By balance b/d
(opening
balance )
By case / bank
A/c (additional
capital)
To balance c/d
(closing
balance)
Particulars
By Balance B/d
(In case of credit opening
balance )
By Interest on Capital
By Salary
By Commission
By P&L Appropriation
a/c
(Share of Profit, in case
of profit)
To Drawingss
To Interest on
Drawingss
To Profit and
Loss A/c (In case
of loss, share of
loss )
To Balance c/d
By Balance B/d
(opening balance)
By Cash / Bank a/c
(Additional capital)
By Interest on Capital
By Salary
By Commission
By P&Lappropriation
(share of profit )
Rate of Commission
100 + Rate of Commission
If there is no agreement for the rate of interest, then charge interest on loan
@ 6% per annum.
Nature of Interest:
interest against partners loan allowed whether there are profit or not.
Accounting Treatment:
(1)
(2)
1.
2.
3.
Product Method:
Interest on drawings
Total of products
X Rate of Interest
100
X
Rate of Interest
100
Months
12
X 1
12
3.
Average Method:
Case (1):
Average period = Time left after first drawings + Time left after last drawings
2
= 12 Months + 1 Month
= 6 Months
2
Case (2):
When Drawings are made at the end of every month:
Average period = Time left after first drawings + Time left after last drawings
2
= 11 Months + 0 Month
= 5 Months
2
Case (3):
When Drawings are made in middle or at any time during the month:
(middle)
Average period = Time left after first drawings + time left after last drawings
2
= 11.5 Months + 0.5 Month = 6 Months
2
Case (4):
When drawings of equal amount are made in the beginning of each quarter:
Average period = Time left after first drawings + Time left after last drawings
2
= 12 Month + 3 month = 7 Months
2
Case (5) When drawings of equal amount are made at the end of each quarter:
Average period = Time left after first drawings + Time left after last drawings
2
= 9 Months + 0 Month =4 Months
2
Case (6): When drawings of equal amount are made during the middle of each quarter:
Average period = Time left after first drawings + Time left after last drawings
2
= 10.5 Months + 1.5 Months = 6 Months
2
Case (7): When drawings of equal amount are made only during a period of 6 Months:
(i) In the beginning of each month:
Average period = 6 Months + 1 Month = 3 Months
2
Average period = Time left after first drawings + Time left after last drawings
2
= 9 Months + 1 Month
= 5 Months
2
(ii) At the end of each month
Average period = Time left after first drawings + Time left after last drawings
2
= 8 Months + 0 Month = 4 Months
2
(iii) In the middle of each month
Average period = Time left after first drawings + Time left after last drawings
2
= 8.5 Months + 0.5 Month
= 4.5 Months
2
Case (9):
When the rate of interest is given without the word per annum interest will
be charged without considering time or date of drawings.
1.
Interest on Drawings is charged @ 10% per anum
2.
1.
2.
When profits and losses have been distributed among the partner in a wrong proportion.
3.
When profit sharing ratio has been altered with effect from some past date.
4.
ADMISSION OF A PARTNER
Reconstitution of a Partnership Firm:
Admission of a Partner
A new partner is needed into the business due to the following reasons:1. When more capital is needed for the expansion of the business.
2. When a competent and experienced person is needed for the efficient running of the
business.
3. To increase the goodwill and reputation of the business by taking a reputed and renowned
person into the partnership.
4. To encourage a capable employee by taking him into the partnership.
Following Adjustments are needed at the time of the admission of a new partner :1. Calculation of new profit sharing ratio.
2. Accounting treatment of goodwill.
3. Accounting treatment for revaluation of Assets and Liabilities.
4. Accounting treatment of reserves and accumulated profits.
5. Adjustment of capitals on the basis of new profit sharing ratio.
Calculation of New Profit Sharing Ratio:
1.
When only the ratio of new partner is given in the question, then in the absence of any
instructions. It is presumed that the old partner will continue to share the remaining profits in the
same ratio in which they were sharing before the admission of a new partner.
2.
The new partner purchases his share of profit from the old partners equally. In such
cases the new profit sharing ratios of the old partners will be as certained by deducting the
sacrifice made by them from their existing share of profits.
New Profit Ratio = Old Ratio - Sacrifice
3.
The new partner purchases his share of profit from the old partners in particular ratio. In
such cases the new profit sharing ratio of the old partners will be calculated after deducting the
sacrifice made by a partner from his existing share of profit.
New Profit Ratio = Old Ratio - Sacrifice
4. When the old partners surrender a particular fraction of their share in favour of the new
Partner then:
Surrendering Share =
Surrendered Share X Old Ratio.
New Ratio
=
Old Ratio - Surrendering Share.
Sacrifice Ratio
=
Old Ratio - New Ratio.
Accounting Treatment of Goodwill on the Admission of a Partner:
1. When the amount of goodwill (premium) is paid privately.
:No Entry
2. When the new partner brings his share of goodwill (premium) in cash:
a.)
When the amount of goodwill/ premium brought in by the new partner is retained
in the business:i.)
Cash/ Bank A/c
Dr.
To goodwill A/c
ii.)
b.)
Goodwill A/c
Dr (in sacrifice ratio)
To Old partners capital A/c
When goodwill already appears in the books and new partners brings his share of
goodwill/premium in cash:First of all the existing goodwill account will have to be written off. For this purpose old
partners capital accounts are debited in old ratio and goodwill account is credited.
Old partners capital A/c
To goodwill A/c
Dr.
(in old ratio)
* When goodwill already appears in the books and new partner does not bring his share of
goodwill/premium in cash:i.)
ii.)
Cash/bank A/c
To goodwill A/c
Dr.
ii.)
Goodwill A/c
Dr.
New partners current A/c
Dr.
To Old partners capital A/c (in sacrifice ratio)
Revaluation of assets & liabilities :Revaluation account :Account which is prepared to record changes in the value of assets & liabilities at time of
admission, retirement, death and change in profit ratio of existing partners. Proforma of
Revaluation Account is given below :Revaluation Account
Particulars
To Decrease in value of assets
To Increase in value of liabilities
To Unrecorded liabilities
To Profit on revaluation
transferred to partners capital
accounts (in old ratio)
Amoun
t
Particulars
By Increase in value of assets
By Decrease in value of liabilities
By unrecorded assets
By loss on revaluation
transferred to partners capital
accounts (in old ratio)
Amount
Particulars
To drawings
To interest on
drawings
To profit & loss (Share
of loss)
To revaluation A/c
(share of loss)
To balance c/d
i.) For decrease in the value of assets & increase in the value of Assets / unrecorded Assets:1.
2.
3.
Revaluation A/c
To assets A/c
Dr.
(decrease )
Assets A/c
To revaluation A/c
Dr.
Dr.
(increase)
Revaluation A/c.
To liabilities A/c
Dr.
Liabilities A/c
Dr.
To Revaluation A/c
(increase )
(decrease)
Revaluation A/c
Dr
To unrecorded liabilities A/c
Revaluation A/c.
Dr.
To Old partners capital A/c
2.
(in profit)
(in old ratio)
(in loss)
(in old ratio)
For distributing reserves and accumulated profits among old partners in old ratio General reserve A/c
Dr.
Reserve A/c
Dr.
P&L A/c {cr. Balance} Dr.
To old partners capital a/c / current a/c.
ii.)
For distributing accumulated losses among old partners in old ratioOld partners capital A/c Dr.
To P&L A/c { Dr. balance}