Partnership accounting

1. Definition of Partnership
1.Types of Partnership
2.Essential Feature of Partnership
3.Partnership Deeds
4.Partner Capital Account under Fixed &Fluctuating Method
5.Distribution of Profit
6.Past Adjustment
7.Changing in Profit Sharing ration
8.SWOT analysis
9.Conclusion

Definition of Partnership :
The Partnership Act, 1932 defines partnership as "the relation between
persons who have agreed to share the profits of a business carried on by
all or any of them acting for all“.
Types of Partnership :
1-General Partnership
2-Limited Partnership
3-Limited Liability Partnership
1-General Partnership:
A general partnership involves two or more owners carrying out a business
purpose. General partners share equal rights and responsibilities in connection
with management of the business, and any individual partner can bind the entire
group to a legal obligation.
2- Limited Partnership:
A limited partnership allows each partner to restrict his / her personal liability to the amount of
his or her business investment. Not every partner can benefit from this limitation at least one
participant must accept general partnership status, exposing him or herself to full personal
liability for the business's debts and obligations. The general partner retains the right to control
the business, while the limited partner does not participate in management decisions. Both
general and limited partners benefit from business profits.

3- Limited Liability Partnership:

Limited liability partnerships (LLP) retain the tax advantages of the general partnership
form, but offer some personal liability protection to the participants. Individual partners
in a limited liability partnership are not personally responsible for the wrongful acts of
other partners, or for the debts or obligations of the business

The Partnership Act, 1932 defines partnership as "the relation between persons who have
agreed to share the profits of a business carried on by all or any of them acting for all". Based
on this definition, the essential features of partnership are as follows:

1-Two or more persons
2- Agreement between the partners
3- Business
4- Sharing of profits
5- Business carried on by all or any of them acting for all.

1-Two or more persons:

To form a partnership, there must be at least two persons. There is, however, a limit on the
maximum number of persons who constitute a partnership firm. It should not exceed 10 if the
firm is carrying on a banking business and 20 if it is engaged in any other business.

2-Agreement between the partners:
A partnership is created by an agreement. It is neither created by operation of law as in the
case of Hindu Undivided Family nor by status. The agreement forms the basis of economic
relationship amongst the partners. The agreement can be written or oral.

3- Business:
The agreement should be for carrying on some legal business. A joint ownership of some
property by itself does not constitute partnership. However, the joint ownership of the
property may be used for forming the partnership in order to pursue the business
objectives for which the partnership is formed.

4- Sharing of profits:
The agreement should be to share the profits of the business. If some persons join hands
to carry on some charitable activity, it will not be termed as partnership. Of course, the
ratio in which the partners will share the profits is determined by the agreement or in
the absence of the agreement; it is shared equally amongst the partners.

5- Business carried on by all or any of them acting for all.
The firm's business may be carried on by all the partners or any one of them acting for
all. This means that partnership is based on the concept of mutual agency relationship. A
partner is both an agent (he can, by his acts, bind the other partners) and a principal (he
is bound by the acts of other partners). The implication of this is that partner binds
others and others bind him in the same way

Partnership Deed:
1-Meaning
2-Contents of Partnership Deed
3-Provisions Affecting Accounting Treatment
Meaning:
A partnership is formed by an agreement. This agreement may be written or oral.
Though the law does not expressly require that there should be an agreement in writing
but the absence of a written agreement may be a source of trouble in managing the
affairs of the partnership firm. Therefore, a Partnership deed should be written, assented
and signed by all the partners.
Contents of Partnership Deed:
The partnership deed usually contains the following particulars:
• Name of the firm;
•Names and addresses of all partners;
•Nature and place of the business;
•Date of commencement of partnership;
•Duration of partnership, if any;
•Amount of capital contributed or to be contributed by each partner;
•Rules regarding operation of bank accounts;
•Ratio in which profits are to be shared;

• Interest, if any, on partners' capital and drawings:
• Interest on loan by the partners(s) to the firm;
• Salaries, commissions, etc. if payable to any partner(s);
• The safe custody of the books of accounts and other documents of the firm;
• Mode of auditor's appointment, if any;
• Rules to be followed in case of admission, retirement, death, of a partner;
• Settlement of accounts on dissolution of the firm;
• Mode of settlement of disputes among the partners.

Normally, a partnership deed covers all matters relating to the mutual relationship
amongst the partners. But if the deed is silent on certain matters or in the absence of
any deed or an express agreement, the relevant provisions of the Partnership Act shall
become applicable. It is, therefore, necessary to know the provisions of the Act, which
have a direct bearing on the accounting treatment of certain items. These are as follows:

1. Profit Sharing

2. Interest on Capital

3. Interest on Loan

4. Interest on Drawings

5. Remuneration to Partners

1-Profit Sharing:

The partners shall share the profits of the firm equally irrespective of their capital
contribution

Interest on Capital:

No interest is allowed to partners on the capital contributed by them. Where, however,
the agreement provides for interest on capital, such interest is payable only out of the
profits of the business. In other words, if there are losses, interest on capital will not be
allowed even if the agreement so provides.

3-Interest on Loan:

If any partner, apart from his share of capital, advances money to the firm as a loan, he is
entitled to interest on such amount at the rate of 6 per cent per annum. Such interest
shall be paid even out of the assets of the firm. This means that interest on loan shall be
paid even if there are losses. Implying, thereby, that it is a charge against the revenues.

4- Interest on
Drawings:
No interest will be charged on drawings made by the partners.

5-Remuneration to Partners

No partner is entitled to any salary or commission for participating in the
business of the firm.
It should be remembered that the above rules are applicable only in the absence
of any provision to the contrary in the partnership agreement.

Partner Capital Account

In case of partnership firm, the transactions relating to partners are recorded in their
respective capital accounts. Normally, each partner's capital account is prepared
separately. two methods by which the capital accounts of partners can be maintained
There are

1- Fluctuating Capital Method
2- Fixed Capital Method.
Fluctuating Capital Method

Under the fluctuating capital method, only one account, the capital account for each
partner is maintained. It records all items affecting partner's account like interest on
capital, drawings, interest on drawings, salary, commission, and share of profit or loss
in the capital account itself. As a result of these, the balance in the capital account
keeps on fluctuating.

Partner Capital Account:
Dr.
Cr.
Date Particulars J.F Amount Date Particular J.F Amount
.
Drawings *** Opening balance ***

Interest on Drawings *** Addition to capital ***
Share of loss Interest on capital
*** ***
Withdrawal of capital Salary
Closing balance *** Commission/Bonus ***

***
Share of profit ***

Total *** Total ***

2-Fixed Capital Method

Under the fixed capital method, the capitals of the partners shall remain fixed unless
some additional capital is introduced or some amount of capital is withdrawn by an
agreement among the partners. Hence, all items like interesting capital, drawings,
interest on drawings, salary, commission, and share of profit or loss are not to be
shown in the capital accounts. For all these transactions, a separate account called
'Partner's Current Account' is opened.

Dr. Cr.

Date Particulars J.F Amount Date Particular J.F Amount
.
Withdrawal of capital *** Opening balance ***

Closing balance *** Addition to ***
capital

Total *** Total ***

Dr. Cr.
Date Particulars J.F Amount Date Particular J.F Amount.
Drawings *** Opening balance ***

Interest on Drawings *** Addition to capital ***
Share of loss Interest on capital
*** ***
Withdrawal of capital Salary
Closing balance *** Commission/Bonus ***

***
Share of profit ***

Total *** Total ***

In case of partnership firm, the net profit (after charging the interest on capital,
partners' salary and commission and after taking into account the interest on drawings)
is to be shared by all the partners in the agreed profit sharing ratio. As stated earlier, in
the absence of any specific agreement to this effect, the profit is to be distributed
equally among the various partners.

Profit and Loss Appropriation Account

Dr. Cr.
Date Particular J.F Amount Date Particular J.F Amount

Net Loss (If Loss) *** Net Profit (if Profit) ***
Interest on Capital *** Interest on Drawing ***
Partner’s Salary *** Share of Loss (if loss) ***
Partner’s Commission ***
Reserve (Transfer)
***
Share of Profit (If Profit)
***

Total *** Total ***

If the partnership agreement specifically provides for the payment of the interest on
the capital contributed by the partners, the same has to be allowed. Interest to be
allowed on capital is to be calculated with respect to the time, rate and amount.
Partners' Capital (individually) A/ Dr.
Profit and Loss Adjustment A/C (Cr.)
For Example:
Ali and Hamza are partners in a firm. Their capital accounts showed the balance on Jan 1, 2008 as Rs.
20,000 and Rs. 15,000 respectively. During the year, Ali introduced additional capital of Rs.10,000 on
May 1,2000 and Hamza brought in further capital of Rs.15,000 on July 1, 2008. Hamza withdrew Rs.
5,000 from her capital on October 1, 2000. Interests allowed @ 6% p.a. on the capitals. Calculate the
interest to be paid on the capital.
Particular Ali Hamza
1. Interest on capital balance on Jan 1, 2008 1200
               Ali – (20,000×6/100)

         Hamza –(15,000×6/100) 900
2-Add : Interest on additional capital:
          Ali-(10,000×6/100×8/12) 400
         Hamza –(15,000×6/100×6/12) 450
3-Less: Interest on capital withdrawn
          Hamza – (5000×3/12×6/100) (75)

Total Interest Payable 16,00 1,275

Calculation of Interest on Drawings:
Interest on drawings is to be charged from the partners, if the same has been specifically provided in
the partnership deed. Interest on drawings is to be calculated with reference to the time period for
which the money was withdrawn.
Example:
Suppose, Assad is a partner who withdrew Rs. 20,000 on October 1, 2008. Interest on drawings is
charged @ 10% per annum. The calculation of interest will be as follows:

20,000 x 10/100 x 3/12 = Rs.500

Past Adjustments:
Sometimes, after the final accounts have been prepared and the partners' capital account are closed, it
is found that certain items have been omitted by mistake or have been wrongly treated. Such
omissions and commissions usually relate to the interest on capital, interest on drawings, salary to
partners, etc. In such a situation, necessary adjustments have to be made in the partners' capital
account through an account called Profit and Loss Adjustment Account.
The following procedure may be helpful in recording necessary adjustments:.
1-Adjusting entries Interest on Capital:

Profit and Loss Adjustment a/c (Dr.)
Partners' Capital a/c (individually) (Cr.)

Partners' Capital (individually) a/c Dr.
Profit and Loss Adjustment a/c (Cr.)
Example (Past adjustments)
Irfan and Rizwan are partners in a firm sharing profits equally. Their capital accounts as on December 31, 2000
showed balances of Rs. 60,000 and Rs. 50,000 respectively. After taking into account the profits of the year 2000,
which amounted to Rs 20,000, it was subsequently found that the following items have been left out while preparing
the final account of the year ended 2000
(i) The partners were entitled to interest on capitals @ 6% p.a.
(ii) The drawings of Irfan and Rizwan for the year 2000 were Rs.8,000 and Rs.6,000 respectively. The interest on
drawings was also to be charged @ 5% p.a.
(iii) Irfan was entitled to salary of Rs.5,000 and Rizwan, a commission of Rs.2,000 for the whole year. It was decided
to make the necessary adjustments to record the above omissions. Give the necessary journal entries and prepare
the profit and loss adjustment account and Partners' capital accounts.
Partners’ capital at the beginning:
Irfan Rizwan
Capital at the end 60,000 50,000
Less: Share of Profit (10,000) (10,000)
Total Before Drawing 50,000 40,000
Add: Drawings 8,000 6,000
Capital at the beginning 58,000 46,000

Interest on Capital Interest on Drawings
Irfan : 58,000 × 6/100 = Rs. 3,480 Irfan: 8,000 x 5/100 x 6/12 = Rs.200 (5% P.a for 6th Month)
Rizwan : 46,000 × 6/100 = Rs. 2,760 Rizwan: 6,000 x 5/100 x 6/12 = Rs.150 (5% P.a for 6th Month)

Adjusting Entries
Date Particular L.F Amount (Dr.) Amount (Cr.)
Dec,31 Profit and Loss Adjustment a/c 6240
Irfan Capital a/c 3840
Rizwan Capital a/c 2760
(Amount of interest on capital )
    //
Irfan Capital a/c 200

Rizwan Capital a/c 150

Profit and Loss Adjustment a/c 350

(Amount of interest on drawings )
      //
Profit and Loss Adjustment a/c 5,000

Irfan Capital a/c 5,000

(Amount of salary )
      //

Rizwan Capital a/c 2,000

Amount of Interest)
      // Irfan Capital a/c 6,445
Rizwan Capital a/c 6,445
(Amount of Loss on Adjustment )

Profit and Loss Adjustment Account
for the year ended December 31, 2000
Particular Amount Particular Amount
Capital (Interest on capital) Capital (Interest on Drawing)
Irfan       3480 Irfan 200
Rizwan   2760 6,240 Rizwan 150 350
Irfan Capital (Salary) 5,000 Capital (Loss on adjustments)
Rizwan capital (Commission ) 2,000 Irfan 6,445 12,890
Rizwan 6,445
Total 13240 Total 13,240

Sometimes, the partners of a firm may agree to change their existing profit sharing ratio.
As a result of this, some partners will gain in future profits while others will lose. In such
a situation, the partner who gains by the change in the profit sharing ratio must
compensate the partner who has made the sacrifice because this effectively amounts to
one partner buying the share of profits from another partner.

Introduction:

Global Business Network was established in 1999, deals with cellular phone. There are
two partners, have equal capital investment and profit ratio.

Strength:

1-Number of Partner is limited

2-Easy Monitoring

3-Vision, goal and objectives can defined easily

4-Less paper work

5-Tax Advantage

Weakness:

1-Limited Capital

2-Legal Liability for paying firm debts

Threat:

1-Risks to the partners for dissolution of firm

Conclusion:

By this we conclude that certain rights and duties are specified in a Indian
partnership act 1932 which regulate the proper functioning of firm and without
which a firm cannot be run.

Partnership accounting

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