Accounting for Partnerships

PowerPoint Authors:Susan Coomer Galbreath, Ph.D., CPACharles W. Caldwell, D.B.A., CMAJon A. Booker, Ph.D., CPA, CIACynthia J. Rooney, Ph.D., CPA

Copyright © 2011 by The McGraw-Hill Companies, Inc. All rights reserved.McGraw-Hill/Irwin

Chapter 12

ACCOUNTING FOR PARTNERSHIPS

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PARTNERSHIP FORM OF ORGANIZATION

Partnership AgreementPartnership Agreement

Voluntary AssociationVoluntary

AssociationLimited

LifeLimited

Life

TaxationTaxation

Unlimited Liability

Unlimited Liability

Mutual AgencyMutual Agency Co-

Ownership of Property

Co-Ownership of Property

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ORGANIZATIONS WITH PARTNERSHIP CHARACTERISTICS

Limited Partnerships

(LP)

Limited Partnerships

(LP)

• General partners assume management duties and unlimited liability for partnership debts.• Limited partners have no personal liability beyond invested amounts.

• General partners assume management duties and unlimited liability for partnership debts.• Limited partners have no personal liability beyond invested amounts.

Limited Liability

Partnerships(LLP)

Limited Liability

Partnerships(LLP)

• Protects innocent partners from malpractice or negligence claims.

• Most states hold all partners personally liable for partnership debts.

• Protects innocent partners from malpractice or negligence claims.

• Most states hold all partners personally liable for partnership debts.

Limited Liability

Corporations(LLC)

Limited Liability

Corporations(LLC)

• Owners have same limited liability feature as owners of a corporation.

• A limited liability corporation typically has a limited life.

• Owners have same limited liability feature as owners of a corporation.

• A limited liability corporation typically has a limited life.

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CHOOSING A BUSINESS FORM

Many factors should be considered when Many factors should be considered when choosing the proper business form.choosing the proper business form.

Many factors should be considered when Many factors should be considered when choosing the proper business form.choosing the proper business form.

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ORGANIZING A PARTNERSHIP

Partners can invest both assets and liabilities in the partnership.

Partners can invest both assets and liabilities in the partnership.

Assets and liabilities are recorded at an agreed-upon value, normally fair market value.

Assets and liabilities are recorded at an agreed-upon value, normally fair market value.

Asset contributions increase the partner’s capital account.

Asset contributions increase the partner’s capital account.

Withdrawals from the partnership decrease the partner’s capital account.

Withdrawals from the partnership decrease the partner’s capital account.

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ORGANIZING A PARTNERSHIP

In accounting for partnerships:In accounting for partnerships:1.1.Partners’ withdrawals are debited to their own separate Partners’ withdrawals are debited to their own separate withdrawals account.withdrawals account.2.2.Partners’ capital accounts are credited (or debited) for Partners’ capital accounts are credited (or debited) for their shares of net income (or net loss) when closing the their shares of net income (or net loss) when closing the accounts at the end of the period.accounts at the end of the period.3.3.Each partner’s withdrawal account is closed to that Each partner’s withdrawal account is closed to that partner’s capital account. Separate capital and withdrawals partner’s capital account. Separate capital and withdrawals accounts are kept for each partner.accounts are kept for each partner.

In accounting for partnerships:In accounting for partnerships:1.1.Partners’ withdrawals are debited to their own separate Partners’ withdrawals are debited to their own separate withdrawals account.withdrawals account.2.2.Partners’ capital accounts are credited (or debited) for Partners’ capital accounts are credited (or debited) for their shares of net income (or net loss) when closing the their shares of net income (or net loss) when closing the accounts at the end of the period.accounts at the end of the period.3.3.Each partner’s withdrawal account is closed to that Each partner’s withdrawal account is closed to that partner’s capital account. Separate capital and withdrawals partner’s capital account. Separate capital and withdrawals accounts are kept for each partner.accounts are kept for each partner.

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ORGANIZING A PARTNERSHIPOn 1/11, Kayla Zayn and Hector Perez organize a

partnership called BOARDS. Zayn’s initial investment is $7,000 cash, $33,000 in boarding facilities, and a note payable for $10,000 on the boarding facilities.

Perez’s initial investment is $10,000 cash.

Jan 11 Cash 7,000 Boarding Facilities 33,000

Notes Payable 10,000 K. Zayn, Capital 30,000

To record Zayn's initial investment.

Jan 11 Cash 10,000 H. Perez, Capital 10,000

To record Perez's initial investment.

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DIVIDING INCOME OR LOSS

Three frequently used methods to divide Three frequently used methods to divide income or loss are allocation on:income or loss are allocation on:

1.1. Stated ratios.Stated ratios.

2.2. Capital balances.Capital balances.

3.3. Services, capital and stated ratios.Services, capital and stated ratios.

Partners are not employees of the partnership but are its Partners are not employees of the partnership but are its owners. This means there are no salaries reported as owners. This means there are no salaries reported as

expense on the income statement. Profits or losses of the expense on the income statement. Profits or losses of the partnership are divided on some agreed upon ratio.partnership are divided on some agreed upon ratio.

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ALLOCATION ON STATED RATIOS

In the partnership agreement, Zayn is to receive 2/3 and Perez 1/3 of partnership income or loss. If the partnership income is $60,000, we will allocate the income to partners as follows:

In the partnership agreement, Zayn is to receive 2/3 and Perez 1/3 of partnership income or loss. If the partnership income is $60,000, we will allocate the income to partners as follows:

$60,000 × 2/3$60,000 × 2/3 = $40,000= $40,000

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ALLOCATION ON CAPITAL BALANCES

In their partnership agreement, Zayn and Perez agree In their partnership agreement, Zayn and Perez agree to allocate profits and losses on the basis of their to allocate profits and losses on the basis of their beginning capital balances.beginning capital balances.

In their partnership agreement, Zayn and Perez agree In their partnership agreement, Zayn and Perez agree to allocate profits and losses on the basis of their to allocate profits and losses on the basis of their beginning capital balances.beginning capital balances.

Balance Ratio Income AllocationK. Zayn, Capital 30,000$ 75% 60,000$ 45,000$ H. Perez, Capital 10,000 25% 60,000 15,000 Totals 40,000$ 100% 60,000$

Dec 31 Income Summary 60,000 K. Zayn, Capital 45,000 H. Perez, Capital 15,000

To allocate income to partner's capital.

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ALLOCATION ON SERVICES, CAPITAL, AND STATED RATIOS

Zayn and Perez have a partnership agreement Zayn and Perez have a partnership agreement with the following conditions:with the following conditions:

1.1.Zayn receives a $36,000 annual salary Zayn receives a $36,000 annual salary allowance and Perez receives an allowance of allowance and Perez receives an allowance of $24,000. $24,000.

2.2.Each partner is allowed an annual interest Each partner is allowed an annual interest allowance of 10% on their beginning capital allowance of 10% on their beginning capital balance.balance.

3.3.Any remaining balance of income or loss is Any remaining balance of income or loss is allocated equally.allocated equally.

Net income is Net income is $70,000$70,000..

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Zayn Perez Remainder70,000$

36,000$ 24,000$ 10,000 3,000 1,000 6,000 3,000 3,000 -

42,000 28,000 Income to each partner

Net income

Income Allocation

SalariesInterestEqual allocation


36,000$ 24,000$ 10,000 3,000 1,000 6,000 3,000 3,000 -


Net income

Income Allocation


ALLOCATION ON SERVICES, CAPITAL,

AND STATED RATIOS


36,000$ 24,000$ 10,000 3,000 1,000 6,000 3,000 3,000 -


Net income

Income Allocation



36,000$ 24,000$ 10,000 3,000 1,000 6,000 3,000 3,000 -

42,000 28,000

InterestEqual allocationIncome to each partner

Net income

Income Allocation

Salaries

$30,000 × 10% = $3,000$30,000 × 10% = $3,000

$6,000 × ½ = $3,000$6,000 × ½ = $3,000

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36,000$ 24,000$ (10,000) 3,000 1,000 (14,000) 3,000 3,000 (20,000)

42,000 28,000


Net income

Income Allocation

Salaries


36,000$ 24,000$ (10,000) 3,000 1,000 (14,000) 3,000 3,000 (20,000)

42,000 28,000


Net income

Income Allocation

Salaries

ALLOCATION ON SERVICES, CAPITAL, AND STATED RATIOS


36,000$ 24,000$ (10,000) 3,000 1,000 (14,000) 3,000 3,000 (20,000)

42,000 28,000


Net income

Income Allocation

Salaries


36,000$ 24,000$ (10,000) 3,000 1,000 (14,000)

(7,000) (7,000) - 32,000 18,000 Income to each partner

Net income

Income Allocation


($14,000) × ½ = ($7,000)($14,000) × ½ = ($7,000)

Now let’s assume that net income is only $50,000.

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PARTNERSHIP FINANCIAL STATEMENTS

TotalBeginning capital balances -$ -$ -$ Investments by owners 30,000 10,000 40,000 Net income Salary allowances 36,000$ 24,000$ Interest allowances 3,000 1,000 Balance allocated 3,000 3,000 Total net income 42,000 28,000 70,000 Less partners' withdrawals (20,000) (12,000) (32,000) Ending capital balances 52,000$ 26,000$ 78,000$

Zayn Perez

BOARDSStatement of Partners' Equity

For the Year Ended December 31, 2011

During 2009, Zayn withdrew $20,000 cash from the partnership and Perez withdrew $12,000. Net income for the year is $70,000.

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END OF CHAPTER 12

Documents

Accounting for Partnerships