INTERMEDIATE ACCOUNTING 2 MODULE

Chapter 1: 2. If the partners agreed on the profit ratio but silent as

PARTNERSHIP ACCOUNTING – Part 1 to the loss ratio, Article 1797 of the civil code
provides that losses shall be in proportion with profit.
3. In the absence of stipulation, same article provides
Learning Objectives:
that profits and losses shall generally be divided in
 Differentiate the accounting between partnerships, sole
proportion to the partner’s respective contribution.
proprietorship and corporations.
 State the valuation of contributions of partners.
3. Dissolution: (Part 3)
 Account for the initial investments of the partners to the
A. By Retirement of a partner/s
partnership.
B. By Admission of a partner/s
 State the peculiar accounts used in a partnership and identify
C. By Incorporation
the transactions that affect these accounts.
D. By Death of a partner/s

4. Liquidation: (Part 4)
Start of Discussion A. Lump Sum
B. Installment:
1. Using Cash Priority Program
 DEFINITION OF PARTNERSHIP
2. Using Schedule of Safe Payments
By the contract of partnership, two or more persons bind
3. Using Adjustment Technique
themselves to contribute money, property or industry into a
common fund for purpose of having profit and dividing profit
among themselves. (Article 1767 of the New Civil Code of the
 FORMATION:
Philippines)
Capital Accounts
 CHARACTERISTICS OF A PARTNERSHIP
The initial investments by each partner is recorded by debiting the
a. Separate Legal Personality
assets contributed, crediting any liabilities assumed by the firm, and
- The partnership has a juridical personality separate and
crediting the partner’s capital account at the fair value of the net
distinct from the partners.
assets (assets minus liabilities) contributed.
b. Ease of formation
- As compared to corporations, the formation of a
 Partner’s equity is increased by additional investments at fair
partnership requires less formality.
value at the time of investment and any share of net income.
c. Co-ownership of Partnership Property and Profits
- Each partner is a co-owner of the properties invested in
The entry for such investment is:
the partnership and each has an equal right with his
Cash xxx
partners to possess specific partnership property for
Non-cash Assets (FV) xxx
partnership purposes. Each partner is entitled to his share
A, Capital xxx
in the partnership profit.
B, Capital xxx
d. Limited Life
- The creation of a partnership is basically consensual.
 Partner’s equity is decreased by withdrawal of cash or other
e. Mutual Agency
assets and share of net losses. Withdrawals of large and
- The partners are agents of the partnership for the
irregular accounts are ordinarily charged directly to the
purpose of its business. As such, a partner may legally
withdrawing partner’s capital account.
bind the partnership to a contract or agreement that is in
line with the partnership’s operations.
The entry for such a withdrawal is:
f. Unlimited Liability
A, Capital xxx
- Each partner may be held personally liable for all the
Cash xxx
debts of the partnership. All of his business and personal
properties may be used for the settlement of partnership
If non-cash assets are invested, the following should be the basis for
liabilities.
valuation according to level of priority:
g. Transfer of Ownership
1. Agreed Value of the property at the time of investment
- In case of dissolution, the transfer of ownership, whether
because partnership is a contract.
to a new or existing partner, requires the approval of
2. Fair Market Value of the property at the time of
remaining partners.
investment. Theoretically, the agreed value should be
equivalent to the fair market value.
 Stages of Partnership:
3. Book Value or Carrying Value in case no available fair
1. Formation: (Part 1)
market value
A. Net Investment
4. Cost of the property in rare instances
B. Bonus
C. Goodwill *(no longer applicable due to PFRS 3)
At the end of each accounting period, the net income or loss in the
partnership’s Income Summary ledger account is transferred to the
2. Operations: (Part 2)
partner’s capital accounts in accordance with the partnership
1. Sharing of partnership income or loss based on
contract.
agreement as regards Salaries; Interest; Bonus and
Remainder.
INTERMEDIATE ACCOUNTING 2 MODULE
If the Income Summary account has: -End of Discussion-
 Credit Balance – it means that partnership earns profit. Hence,
there is an increase in capital account of the partners.
 Debit Balance – it means that partnership incurs losses. Hence,
there is a decrease in capital account of the partners.

On occasion, a partner’s capital account may have a debit balance,

called a deficiency or sometimes called a deficit, which occurs
when the capital accounts debit balance is greater than the credit
balance. A deficiency is usually eliminated by additional capital
contributions.

Accounting entries to record the formation will depend upon how the
partnership is formed. A partnership may be formed in several ways:
1. Formation of a partnership for the first time
2. Conversion of a sole proprietorship to a partnership[
a. A sole proprietor allows another individual, who has no
business if his own to join the business
b. Two or more sole proprietors form a partnership
3. Admission of a new partner (Partnership Dissolution)

Methods in accounting for the capital accounts of the

partners
1. Net Investment Method (NIM)
- Under this method, the capital accounts of each partner shall
be equivalent to the amount contributed by them. In case a
partner is required to either invest or withdraw in order to
conform with the agreed capital ratio, there is change in the
original contribution in order to comply with the agreement.
- The total contributed capital is always equal to the agreed
capital since the amount contributed by a partner is always
equal to his capital credit.

2. Bonus Method (BM)

- This method provides that there is transfer of capital from
one partner to another. Moreover, there is no need for
additional investment or withdrawal in order to conform with
the agreed capital ratio.
- The total contributed capital is also equal to the agreed
capital but the amount contributed by the partner shall not
be equal to his capital credit.

3. Goodwill Method (GM)

- Under this method, the equalization of capital balance to
agree with capital interests will require recognition of
goodwill as an asset.
- The total contributed capital shall not be equal to the agreed
capital of the partners.

A decision to use one method over the other is dependent on the

agreement of the partners. In the absence of any agreement, the
bonus method is preferred.

The bonus method is preferred because the goodwill method differs

accepted accounting treatment of PAS 38 and PFRS 3 which
prohibits entities from recognizing goodwill that has not been
acquired by purchase or what is termed as “ internally generated
goodwill”.