Accounting for Partnership: Basic Concepts
1. Introduction to Partnership
A partnership is a form of business organization where two or more individuals come together to share the profits and losses of a business carried on by all or any one of them acting for all. Partnerships are governed by the Partnership Act of 1932 in India.
2. Features of Partnership
- Agreement: Partnership is formed by an agreement, which can be oral or written.
- Number of Partners: Minimum of 2 and a maximum of 50 partners.
- Profit Sharing: Profits and losses are shared among partners as per the agreement.
- Mutual Agency: Each partner acts as an agent and principal of the firm.
- Unlimited Liability: Partners have unlimited liability, i.e., personal assets may be used to settle the firm’s debts.
- No Separate Legal Entity: The partnership firm does not have a separate legal existence from its partners.
3. Partnership Deed
A partnership deed is a written agreement among the partners outlining the terms and conditions of the partnership. It includes:
- Name and address of the firm and partners.
- Nature of business.
- Capital contribution by each partner.
- Profit and loss sharing ratio.
- Rights, duties, and obligations of partners.
- Provisions for retirement, death, and admission of a partner.
- Method for settling disputes.
4. Basic Concepts in Partnership Accounting
4.1. Capital Accounts
- Fixed Capital Method: Capital remains constant, and changes are recorded in a separate Current Account.
- Fluctuating Capital Method: All transactions affecting partners’ capital are recorded in the capital account itself.
4.2. Profit and Loss Appropriation Account
This account shows the distribution of profits among partners. It includes:
- Net profit/loss transferred from the Profit and Loss Account.
- Interest on capital.
- Interest on drawings.
- Salary or commission to partners.
- Division of remaining profit/loss among partners.
4.3. Interest on Capital
Interest on capital is provided to partners if stated in the partnership deed. It is calculated on the opening balance of the capital accounts, considering any additional capital introduced or drawings made during the year.
4.4. Interest on Drawings
Interest on drawings is charged to partners for withdrawing funds from the business. It is usually calculated using simple or product method based on the amount and period of drawings.
4.5. Partners’ Salary/Commission
Partners may receive a salary or commission for their services to the firm, which is appropriated from the firm’s profits.
5. Preparation of Final Accounts
5.1. Trading Account
The Trading Account is prepared to ascertain the gross profit or loss of the firm:
Trading Account for the Year Ended 31st March, 20XX
Particulars Amount Particulars Amount
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Opening Stock XXX Sales XXX
Purchases XXX Less: Returns XXX
Less: Returns XXX Closing Stock XXX
Wages XXX
Carriage Inwards XXX
Gross Profit (Balancing figure) XXX5.2. Profit and Loss Account
The Profit and Loss Account is prepared to ascertain the net profit or loss of the firm:
Profit and Loss Account for the Year Ended 31st March, 20XX
Particulars Amount Particulars Amount
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Salaries XXX Gross Profit (b/d) XXX
Rent XXX Interest Received XXX
Depreciation XXX Commission Received XXX
Net Profit (Balancing figure) XXX5.3. Profit and Loss Appropriation Account
Profit and Loss Appropriation Account for the Year Ended 31st March, 20XX
Particulars Amount Particulars Amount
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Net Profit (b/d) XXX Interest on Capital XXX
Interest on Drawings XXX Partners’ Salary XXX
Partners’ Commission XXX Profit transferred to:
Partner A’s Capital a/c XXX
Partner B’s Capital a/c XXX5.4. Balance Sheet
The Balance Sheet shows the financial position of the firm:
Balance Sheet as on 31st March, 20XX
Liabilities Amount Assets Amount
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Creditors XXX Cash in Hand XXX
Bills Payable XXX Cash at Bank XXX
Outstanding Expenses XXX Debtors XXX
Capital Accounts: Less: Provision for Doubtful Debts XXX
Partner A XXX Closing Stock XXX
Partner B XXX Fixed Assets XXX6. Admission of a Partner
When a new partner is admitted, adjustments are made for:
- Revaluation of Assets and Liabilities: Revaluation Account is prepared to record the increase or decrease in the value of assets and liabilities.
- Goodwill: New partner compensates the existing partners for their share of goodwill.
- Capital Adjustment: New partner introduces capital, and old partners may adjust their capitals.
6.1. Revaluation Account
Revaluation Account
Particulars Amount Particulars Amount
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Decrease in Asset Values XXX Increase in Asset Values XXX
Increase in Liabilities XXX Decrease in Liabilities XXX
Profit transferred to: XXX Loss transferred to:
Partner A’s Capital a/c XXX Partner A’s Capital a/c XXX
Partner B’s Capital a/c XXX Partner B’s Capital a/c XXX6.2. Goodwill
Goodwill is calculated and shared among old partners in their profit-sharing ratio. The new partner compensates the old partners for their share of goodwill.
7. Retirement/Death of a Partner
Adjustments on retirement or death include:
- Revaluation of Assets and Liabilities: Similar to admission.
- Goodwill: Retiring partner is compensated for their share of goodwill.
- Settlement of Retiring/Deceased Partner’s Account: Amount due is settled from the firm.
8. Dissolution of Partnership Firm
On dissolution, all assets are sold, liabilities are paid off, and any surplus is distributed among partners. The following accounts are prepared:
- Realization Account: To record the sale of assets and payment of liabilities.
- Partner’s Capital Account: To settle the amount due to partners.
- Cash/Bank Account: To show the cash flow during dissolution.
8.1. Realization Account
Realization Account
Particulars Amount Particulars Amount
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Assets transferred XXX Liabilities transferred XXX
Expenses of Realization XXX Sale of Assets XXX
Partner’s Capital A/c XXX Partner’s Capital A/c XXX
Partner’s Capital B/c XXX Cash/Bank XXXBy understanding these basic concepts and accounting treatments, one can effectively manage and maintain the accounts of a partnership firm.
