MODULE 12

TITLE: PARTNERSHIP OPERATIONS

Introduction

The operations of a partnership are similar in most respects to those other forms of organizations
operating the same line of business. At the end of each fiscal year, when revenues and expenses
are closed out, some assignments must be made of the resulting income figure because
partnership will have two or more capital accounts rather than a single retained earnings balance,
this allocation to the capital accounts is established by the partners preferably as a part of the
Articles of Partnership.

A wide range of allocation is found in the business world. Some partnerships have
straightforward distribution plans while others have extremely complex ones. It is the
accountant's responsibility to distribute the profit or loss according to the partnership agreement
regardless of how simple or complex that agreement is. This chapter will be your guide in profit
and loss allocation among partnerships.

Unit Learning Outcomes:

1. State the items that affect the division of a partnership’s profits or losses among partners.
2. Compute for the share of a partner in the partnership’s profit or loss.

Topic 1: DIVISION OF PROFITS AND LOSSES

Time Allotment: 2 hours

Learning Objectives:

At the end of the module, you will be able to:

a. Identify the bases for dividing net income and net loss.
b. Compute for the share of a partner in the partnership’s profit or loss.
 Presentation of Content

Definition of Terms
a. Salaries — normally, an industrial partner receives salary in addition to his
share in the partnership's profits as compensation for his services to the partnership.
b. Bonuses — the managing partner may be entitled to a bonus for excellent
management performance. Unlike for salaries, a partner is entitled to a bonus only if
the partnership earns profit. The partner is not entitled to any bonus if the partnership
incurs loss.
c. Interest on capital contributions — the partnership agreement may stipulate
that capitalist partners are entitled to an annual interest on their capital contributions.

**The items above are normally provided first to the respective partners and any
remaining amount of the profit or loss is shared among the partners based on their
stipulated profit or loss ratio.
d. Industrial partner- one who contributes services to the partnership rather than
cash or other non-cash assets.
e. Capitalist partner- one who contributes cash or other non-cash assets to the
partnership
f. Capitalist-industrial partner- one who contributes both services and cash or
other non-cash assets.

Profits and Losses may be shared by the partners according to the following level of
priority:

1. Agreed proportion of profit and loss sharing;

2. In proportion to what the partners have contributed; but industrial partner shall not be
liable for the losses. If capitalist-industrial partner, he shall also receive a share in the
profits in proportion to his capital.

Level of priority:
a. original/beginning capital;
b. ending capital;
c. average capital
3. Equally among partners
EXAMPLE

JOHN CAPITAL MARTHA CAPITAL

Debit Credit Debit Credit

5/1 10,000 1/1 400,000 7/1 50,000 1/1 300,000
 10/31 50,000 7/1 160,000 4/1 200,000
9/30 150,000
NET INCOME FOR THE PERIOD –P 150,000

DIVISION OF PROFITS & LOSSES

1. Agreed ratio
a. percentage 40%:60%
b. fraction 2/5:3/5

Income Summary 150,000

John, Capital 60,000
Martha, Capital 90,000
To distribute profits to partners

2. Capital ratio

a. Beginning Capital Ratio: 400:300 or 4/7:3/7

Income Summary 150,000

John, Capital 85,714.29
Martha, Capital 64,285.71
To distribute profits to partners

b. Ending Capital Ratio 500: 600 or 5/11:6/11

Income Summary 150,000

John, Capital 68,181.82
Martha, Capital 81,818.18
To distribute profits to partners

c. Average Capital Ratio

Income Summary 150,000

John, Capital 75,202.16
Martha, Capital 74,797.84
To distribute profits to partners

3. Equally

Income Summary 150,000

John, Capital 75,000
Martha, Capital 75,000
To distribute profits to partners

COMPUTATION OF AVERAGE CAPITAL

Date Capital No. of Months Peso Months Average Capital
Balance Unchanged
John
‘Jan 1 400,000 4 P1,600,000
‘May 1 390,000 2 780,000
‘July1 550,000 4 2,200,000
 Oct 31 500,000 2 1,000,000
Average Cap. P5,580,000/12 P465,000
Martha
‘Jan 1 300,000 3 P900,000
April 1 500,000 3 1,500,000
‘July1 450,000 3 1,350,000
Sept 30 600,000 3 1,800,000
Average Cap. P5,550,000/12 462,500
Computation Share in Net Income of P150,000

Average Capital:
John P465,000 150,000 x 465000/927,500= P 75,202.16
Martha 462,500 150,000x 462,500/927,500 =P 74,797.84
P927,500
=======
4. Allowing interest on partners’ capital balances
10% interest on beginning capital, balance equally

Schedule of Distribution of Profits

John Martha Total
10% Interest on beginning Capital
John (400,000 x 10%) P40,000
Martha (300,000 x 10%) P30,000 P70,000
Balance equally (150,000-70,000) 40,000 40,000 80,000
Share in Net Income P80,000 P70,000 P150,000

Income Summary 150,000

John, Capital 80,000
Martha, Capital 70,000
To distribute profits to partners

5.Allowing salaries to partners

Salary allowance of P50,000 to John and P40,000 to Martha, balance in the ratio of 2:3

Schedule of Distribution of Profits

John Martha Total
Salary allowance P50,000 P40,000 P90,000
Balance 2:3 24,000 36,000 60,000
Share in Net Income P74,000 P76,000 P150,000

Income Summary 150,000

John, Capital 74,000
Martha, Capital 76,000
To distribute profits to partners

6.Bonus to managing partner based on net income

20% Bonus to John, the managing partner, balance equally
Schedule of Distribution of Profits
John Martha Total
20% Bonus to John P30,000 P30,000
Balance equally 60,000 60,000 120,000
Share in Net Income P90,000 P60,000 P150,000
 Income Summary 150,000
John, Capital 90,000
Martha, Capital 60,000
To distribute profits to partners

7. Allowing interest on partners’ capital balances, salaries and bonus, balance equally.

-5% interest on ending capital,

-salary allowance to John, P30,000; Martha, P40,000
-10% bonus to John
-balance equally

Schedule of Distribution of Profits

John Martha Total
5% interest on ending capital
John- 500,000 x5% P25,000
Martha- 600,000 x 5% P30,000 P55,000

Salary allowance 30,000 40,000 70,000

10% Bonus to John 15,000 15,000
Balance equally 5,000 5,000 10,000
Share in Net Income P75,000 P75,000 P150,000

Income Summary 150,000

John, Capital 75,000
Martha, Capital 75,000
To distribute profits to partners

8. Allowing interest on partners’ capital balances, salaries and bonus, balance equally. (NET INCOME IS
INSUFFICIENT)

-10% interest on ending capital,

-salary allowance to John, P50,000; Martha, P60,000
-20% bonus to John
-balance equally

Schedule of Distribution of Profits

John Martha Total
10% interest on ending capital
John- 500,000 x10% P50,000
Martha- 600,000 x 10% P60,000 P110,000

Salary allowance 50,000 60,000 110,000

20% Bonus to John 30,000 30,000
Excess equally (50,000) (50,000) (100,000)
Share in Net Income P80,000 P70,000 P150,000

Income Summary 150,000

John, Capital 80,000
 Martha, Capital 70,000
To distribute profits to partners

9. Allowing interest on partners’ capital balances, salaries and bonus, balance 4:6

NET LOSS- P150,000

-10% interest on ending capital,

-salary allowance to John, P50,000; Martha, P60,000
-20% bonus to John
-balance 4:6

Schedule of Distribution of Net Loss

John Martha Total
10% interest on ending capital
John- 500,000 x10% P50,000
Martha- 600,000 x 10% P60,000 P110,000

Salary allowance 50,000 60,000 110,000

Balance 4:6 (148,000) (222,000) (370,000)
Share in Net Income (P48,000) (P102,000) (P150,000)
 No bonus since Bonus is always based on net income.

John, Capital 48,000

Martha, Capital 102,000
Income Summary 150,000
To distribute losses to partners

10. Reconstruction of information

Partner A has a 25% participation in the profits of a partnership. During the year, A's capital account has a net
increase of P10,000. Partner A made contributions of P40,000 and capital withdrawals of P 60,000 during the
year.

Requirement: How much profit did the partnership earn during the year?

Solution:

Step 1: We will place the given information on the T-account.

A, Capital

-* Beg.
60,000 40,000

?
End 10, 000*
To show the net increase in A's capital, we assign zero as the beginning balance and the amount of net increase as
the ending balance. Thus, P10,000 ending less P 0 beginning equals P10,000 net increase from beginning to end.

2: We will squeeze for the missing amount.

-* Beg.
60,000 40,000

?
End 10, 000*

30,000 Share in profit (squeeze) end.

3. We will squeeze for the requirement of the problem:
30,000/25%= P120,000 Profit the partnership earned

Unit Summary

In this unit, we discussed:

 The partners share in the profits and losses of a partnership in accordance with their partnership
agreement.

 If only the share of each partner in the profits has been agreed upon, the share of each in the
losses shall be in the same proportion.

 In the absence of stipulation, the share of each partner in the profits and losses shall be in
proportion to what he may have contributed, but the industrial partner shall not be liable for the
losses.

 If both cannot be identified, then profit and loss shall be distributed equally among partners.

 Before allocation of profit, the following items are allocated first, if they are stipulated in the
partnership agreement: (a) salaries, (b) bonuses to partners (allocated only if there is profit), and
(c) interest on capital. After allocating these items, any remaining profit or loss is allocated based
on the stipulated P/L ratio.

References:
Millan, Zeus Vernon B. (2019). Financial Accounting and Reporting. Baguio City, Philippines:
Bandolin Enterprise Publishing and Printing