Accounting for Partnership Firms Fundamental-Notes

NOTES

CHAPTER 2: Accounting for Partnership Firms – Fundamentals

Partnership is a separate business entity from the accounting viewpoint.

Partnership is a relationship between person who has agreed to share the profits of a business carried on by all or any of them acting for all.

Partnership Deed: The relationship between the partners may be expressed formally (oral or written) or implied by their conduct. A partnership agreement which is written and signed by all the partners and is duly stamped according to the stamp act.

Types of partners:

  1. Active partner: A partner who contributes capital and takes an active part in the management of the partnership.
  2. Sleeping partner: A partner who merely contributes capital for the business but does not take part in the management of the partnership business.

Difference between Partnership Firm and Joint Stock Company

S.No. Partnership Firm Joint Stock Company
1. It is governed by Indian partnership act, 1932. It is governed by the Indian companies act, 2013
2. Members are called partners Members are called shareholders
3. It has no separate legal existence It enjoys separate legal entity
4. It is managed by partners It is managed by board of directors
5. Registration of firm is not compulsory Registration and incorporation of a company is compulsory
6. Acts of the partners are binding on the firm Shareholders can not bind the company by their acts.

Example 1:

Sita and Geeta are partners in a firm. They have not entered into partnership deed but had agreed on following:

  1. Salary will be paid to Harry @ Rs. 10,000 per month.
  2. Geeta will get a commission @10% of Net Profit.
  3. Interest will be allowed on capitals @10% p.a.
  4. Interest will be charged on drawings @10% p.a.
  5. Partner cannot be admitted without the consent of both the partners.

How will be the following disputes resolved?

  1. Geeta demands to be paid salary as Sita is being paid because her commission is lower.
  2. Sita demands that his son sherry be admitted as partner for 25% share to be given out of his share of profits to which Geeta disagrees.

Solution:

Partnership may be written or oral. Therefore the terms agreed orally between them are a valid agreement.

  1. The demand of Geeta to be paid salary as it is paid to Sita is not valid in view of agreement of payment of commission.
  2. Sita demands to admit sherry into partnership is also not valid as both the partners have agreed to admit a new partner with the consent of both the partners.

Profit and Loss Appropriation Account: is the statement showing the utilization of profits shown in the profit and loss account.

Example 2:

X, Y and Z are partners in a firm. The balances in their capital accounts as on 1-4-2014 were Rs. 2,00,000, Rs. 1,00,000 and 60,000 respectively. They share profits and losses equally. Interest on capital is allowed at 12% p.a. On 1-10-2011, the partners decided that their capital should be Rs. 1,00,000 each. The necessary adjustments in the capital are to be made by introducing or withdrawing cash. X was also entitled to salary of Rs. 5,000 per annum. Profit for the year ended on 31-03-2012 before charging interest on capital amounts to Rs. 1,00,000.

You are required to prepare a profit & loss appropriation account showing the distribution of profit among the partners.

Solution:

Profit & Loss Appropriation Account
Dr. Cr.
Particulars Amount Particulars Amount
To interest on capital:
 X 18,000
 Y 12,000
 Z 9,600
To X (salary)
To net profit transferred to capital:
Accounts
 X 18,466
 Y 18,466
 Z 18,467
 
 
 
39,600
5,000
 
 
 
 
555400
By profit for the year 1,00,000
  1,00,000   1,00,000

Difference between Capital Account and Current Account

Basis Capital Account Current Account
Need Is maintained in all the cases whether following fixed capital account method or fluctuating capital account. Current account is maintained when fixed capital account method is followed.
Balance of account Capital account will always have a credit balance Balance of a current account may have a credit or debit balance
Nature Capital account generally remains unchanged from year to year. It changes when further capital is introduced or capital is withdrawn by a partner. Balance of the current account does not change when capital is introduced or withdrawn by a partner.
Transactions Records the amount invested by a partner in the firm. Records the transaction such as drawings, interest on capital, commission or loss etc.