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Afar 2 Module CH 1 PDF
Afar 2 Module CH 1 PDF
COURSE
1
This module is prepared by professor Venus L. Catacutan. She’s an
associate professor in the College of Business and Accountancy-
DEVELOPER AND THEIR Accountancy department at Tarlac State University . Being a Certified
BACKGROUND Accountant, in addition to her teaching profession, shes’ likewise
involve in public practice which brings to this module some
experiences on specialized accounting concerns of different industries.
CHAPTER 1
TITLE PARTNERSHIP FORMATION
This particular module covers the topics regarding partnership
formation. It discusses the concept, nature and scope of partnership in
genreral. Included in the detail discussions are the different types of
partneship, kinds of partners, features of a Partnership in general,
articles of partnership based on the New civil code of the Philippines.
I. RATIONALE
Likewise, the module provides the students what are the accounting
and financial reporting requirements for a partnership. Lastly
information concerning the accounts maintained by the partners in
accounting for partnership activities and accounting for partnership
formation were made available.
The very first topic of the course is Partnership formation, the expected
learning to be achieved by the student are properly disclosed in the
learning objectives stated below. Prior to taking this course, a
student must have already a concrete knowledge on basic
accounting concepts, and skills in preparing financial statements
otherwise the user of this module must review the basic and financial
INSTRUCTION TO THE USERS
accounting undertaken in previous courses(preparatory activities)
The developmental activities section provides the comprehensive
and vital information concerning accounting for partnership formation.
For assessment of learning,closure activities like theoretical
questions and problem solving with different degree in terms of
difficulty were provided. For evaluation , see the evaluation sectionfor
details, and lastly for activities and preparation to be undertaken for
next topic this module provides the student/s the details.
INTRODUCTION
Accounting is the language of business. It communicates business information to stakeholders needed in making
economic decision that are useful to sustain profitable business operations. There are three types of business
organizations. These are:
• Sole Proprietorship – business organization owned by one person who is generally called the proprietor.
Having one owner, a single proprietorship is easy to organize, decision making is vested to single owner,
and the owner enjoys all the profits. However, since there is only one owner, this could result to limited
investments, the owner becomes the sole trouble shooter, and in times of losses, the owner shoulders them
all. In some cases, there could be limited access to credit lines.
• Partnership – owned by two or more persons called the partners. In a partnership, more investments and
losses are shared among themselves. However, when profits are earned, these have to be distributed
among the partners.
• Corporation – owned by one or more persons called the shareholders. Ownership in a corporation is
represented by the number of shares owned.
Advantages of a Partnership
1. Over a Single Proprietorship
a. More source of capital – A partnership is able to generate more capital than a single
proprietorship in as much as there are more owners. Two or more persons form a partnership.
There is a pooling of resources from among the partners of the business.
b. Management is shared among the partners authorized to manage the business. Unlike single
proprietorship, management is vested only in one person, the owner.
c. Losses are shared among thepartners based on their agreements or provisions of law. In single
proprietorship, losses are shouldered only by the single proprietor.
d. Varied skills are available - Partners can contribute their respective skills and efforts in
accomplishing the goals of the partnership. Only one person can contribute skills in a single
proprietorship, who is the owner.
e. Partners serve as agent s of the business (mutual agency) – Each partner becomes a agent of
the business. They can promote the business undertakings in their own way that could contribute
to the success of the business. In a single proprietorship, promotion of the business is limited to the
owner.
f. Juridical Personality – The partnership acquires a juridical or legal personality under the
Philippine laws. It becomes distinct and separate from the owners. As such, it can acquire assets
and seek credit lines. The assets become property of the partnership and not of the partners.
Similarly, financial obligations of the partnership are not the financial obligations of the partners.
2. Over a Corporation
a. Ease of formation – the partnership is easier to organize than a corporation. The mere agreement
of the partners forms a partnership. Documentation for registration as well as requirements needed
to register a partnership is lesser as compared with those needed to register a corporation.
b. Profits are distributed among the partners – The profits of the partners are distributed among
themselves based on their agreements and /or provisions of the law. In a corporation, profits are
distributed only when declared by the Board of Directors.
c. Management is vested to partners – The partners are vested with the power to control and
manage the affairs of the partners. The management of a corporation is vested on the Board of
Directors.
d. Exempted from tax (General Professional Partnership) – A general professional partnership is
one which is organized for the practice of a profession, such as accountancy, engineering,
medicine and architecture. The general professional partnership is not subject to income tax.
However, the partnership has to withhold or record withholding tax on the share of the partners
over the net income of the partnership.
Tax Reform Act of 1997 requires however, that a registered partnership in trade is taxable like a
corporation except on the Improperly Accumulated Earnings Tax (IAET) imposed on a corporation.
This is so because the corporation is considered to have distributed income after tax. Whereas in
partnership, tax is deducted from the income generated before it is distributed to the partners. The
partners then pay for the tax from their share of the income after tax has been deducted.
e. Mutual trust and confidence – The relationship of the partners is governed by mutual trust and
confidence. They personally know each other as partners of the business. In a corporation,
shareholders may not know each other personally.
Disadvantages of Partnership
The following are the disadvantages of a partnership:
1. Limited Life – A partnership can be easily dissolved by a slightest change in the agreement of the partners.
The withdrawal, bankruptcy or death of any of the partners could lead to the dissolution of the partnership.
The admission of a new partner dissolves the partnership. This happens because partnership is governed
by a contract or agreement between among the partners. Any change therefore in the contract or agreement
will terminate the life of the original partnership covered by the original contract.
2. Unlimited life – General partners are liable to the partnership creditors to the extent of their personal
assets. The partnership creditors can run after the general partners and satisfy their claims against the
personal property of the latter.
3. Difficulty in transferring ownership – Since a partnership is governed by an agreement or a written
contract and that mutual trust and confidence are the foundation of partners’ relationship, any transfer of
ownership should be approved and authorized by all the partners. No partner can sell any portion of his
ownership or investments to any individual without the consent of the partners.
4. Limited capital – A partnership could raise limited capital as prospective investors would prefer investing in
a corporation than a partnership. One of the basic reasons for this is the fact that partners must know each
other personally as ownership is based on agreement, trust and confidence on each other.
5. Profits are divided among the Partners – the law provides that any profits generated by the partnership
profits are then distributed to as many partners as there are. In a single proprietorship, all of the profits
accrue to the owner.
Formation of partnership is created by agreement of partners (oral or written). The agreement should be made in
public instrument if :
✓ immovable property or real rights are contributed to the patnership
✓ the partnership total capital is P3,000 or more
A. Valuation
✓ All assets contributed to the partnership are recorded by the partnership at their agreed values. In the
absence of the agreed values, the fair values are used. For cash contribution it should be recorded at face
value or cash equivalent contributed
✓ For service/industry/intangibles -memo entry (unless service has designated value)
✓ All liabilities that the partnership will assumes are recorded at their net present values.
B. Journal Entries
CASE 1: Partnership Formation for the First Time –(Individual + Individual) Initial Investment
Procedures:
1. Debit the contribution of the partners at their agreed values. In absence of the agreed values, use their
fair values on the date of the partnership formation.
2. Credit the capital account of the partners at the amount equal to their contribution. In case a liability is
attached to the contribution of a partner that is to be assumed by the partnership, credit the appropriate
liability account and credit the capital of the partner equal to the amount of contribution after deducting
the assumed liability
Example:
a. Cash Investments
X and Y contributed P300,000 each to form a Algebra partnership.
Entry to record Investment of X and Y:
Cash 600,000
X, Capital 300,000
Y, Capital 300,000
b. Noncash Investments
Assume that aside from contributing cash P300,000 cash each, X contributed an equipment with a fair value of
P250,000 while Y contributed a building with a fair value of P750,000. The building is subject to P500,000 mortgage
loan which is to be assumed by the partnership.
Entry to record Investment of X and Y:
Cash 600,000
Equipment 250,000
Land 750,000
Mortgage Payable 500,000
X, Capital 550,000
Y, Capital 550,000
Procedures:
1. Adjust the capital of the sole proprietor based on the agreements of the parties prior to partnership
2. Close the books of the sole proprietor (adjusted balance) by debiting all accounts with credit balances and
crediting all accounts with debit balances.
3. Record the investment of the sole proprietor in the partnership books. Non-current asset accounts with
related accumulated depreciation are recorded in the new partnership books NET OF ACCUMULATED
DEPRECIATION.
4. Record the investment of the individual in the new partnership books at their fair market values. On the date
of partnership formation.
Examples:
A statement of financial position on June 30, 2020 of JJ Co. as follows:
JJ Company
Statement of Financial Position
June 30, 2020
ASSETS
Cash P 50,000
Accounts Receivable 30,000
Inventory 20,000
Equipment 200,000
Less: Accumulated Depreciation 50,000 150,000
Furniture and Fixtures 100,000
Less: Accumulated Depreciation 25,000 75,000
Building 500,000
Less: Accumulated Depreciation 100,000 400,000
Land 400,000
TOTAL 1,125,000
JJ needs additional capital to meet the increasing sales and offers KK an interest in the business. JJ and KK agree to
form JK Partnership. Also, the partners agreed on the following:
1. P5,000 of the accounts receivable is to be written off.
2. The merchandise inventory should be decreased by P5,000
3. The fair market value of the land is P500,000.
4. Furniture and fixtures is under-depreciated by P5,000.
5. The remaining assets reflect their fair market value.
6. The partnership will assume all the liabilities of JJ Co.
7. KK will invest an equipment with a fair value of P360,000 and cash amounting P500,000.
Land 100,000
JJ, Capital 100,000
To record the increase in FMV of land
SinceJJ’s Books are retained for the Partnership, no need to close the books of JJ Co. The books of JJ Co.
are now the books of the Partnership. Proceed to Step 4.
Cash 500,000
Equipment 360,000
KK, Capital 860,000
Step 1: Adjust the capital of JJ Co. based on the agreements of the parties prior to partnership.
JJ, Capital 5,000
Accounts Receivable 5,000
To record write-off of accounts
Land 100,000
JJ, Capital 100,000
To record the increase in FMV of land
Step 2: Close the books of JJ Co. (adjusted balance) by debiting all accounts with credit balances and
crediting all accounts with debit balances.
Accounts Payable 100,000
Mortgage Payable 250,000
Accumulated Depreciation – Equipment 50,000
Accumulated Depreciation – Furniture and Fixtures 30,000
Accumulated Depreciation – Building 100,000
JJ, Capital 860,000
Cash 50,000
Accounts Receivable 25,000
Inventory 15,000
Equipment 200,000
Furniture and Fixtures 100,000
Building 500,000
Land 500,000
Step 3: Record the investment of JJ in the partnership books. Non-current asset accounts with related
accumulated depreciation are recorded in the new partnership books NET OF ACCUMULATED
DEPRECIATION.
Cash 50,000
Accounts Receivable 25,000
Inventory 15,000
Equipment 150,000
Furniture and Fixtures 70,000
Building 400,000
Land 500,000
Accounts Payable 100,000
Mortgage Payable 250,000
JJ, Capital 860,000
Step 4: Record the investment of KK in the new partnership books at their fair market values on the date of
partnership formation.
Cash 500,000
Equipment 360,000
KK, Capital 860,000
After the formation, the statement of financial position of the newly formed partnership is:
JK Partnership
Statement of Financial Position
June 30, 2020
ASSETS
Cash (P50,000 + P 550,000
500,000)
Accounts Receivable 25,000
Inventory 15,000
Equipment (P150,000 + 510,000
360,000)
Furniture and Fixtures 70,000
Building 400,000
Land 500,000
TOTAL 2,070,000
Procedures:
1. Adjust the capital of the sole proprietors based on the agreement of the parties prior to partnership
formation.
2. Close the books of the sole proprietors (adjusted balances) by debiting all accounts with credit balances and
crediting all accounts with debit balances.
3. Record investment of the sole proprietors in the new partnership books. Non-current asset accounts with
related accumulated depreciation are recorded in the new partnership books NET OF ACCUMULATED
DEPRECIATION.
Examples:
ASSETS
Cash P 50,000
Accounts Receivable 30,000
Inventory 20,000
Equipment 200,000
Less: Accumulated Depreciation 50,000 150,000
Furniture and Fixtures 100,000
Less: Accumulated Depreciation 25,000 75,000
Building 500,000
Less: Accumulated Depreciation 100,000 400,000
Land 400,000
TOTAL 1,125,000
ASSETS
Cash P 50,000
Accounts Receivable 100,000
Inventory 50,000
Equipment 350,000
Less: Accumulated Depreciation 150,000 200,000
Furniture and Fixtures 150,000
Less: Accumulated Depreciation 50,000 100,000
TOTAL 500,000
JJ and KK agree to invest their own businesses to form JK Partnership. Also, the partners agreed on the following:
1. Accounts receivable of JJ and KK is to be written off amountingP5,000 and P 15,000, respectively.
2. The JJ’s inventory should be decreased by P5,000.
3. The fair market value of the land is P500,000.
4. JJ’s Furniture and fixtures was under-depreciated by P5,000 while KK’s Furniture and Fixtures was
over-depreciated by 10,000.
5. The remaining assets reflect their fair market value.
6. The partnership will assume all the liabilities of both partners.
7. KK will invest an additional equipment with a fair value of P300,000 plus cash of P100,000.
Step 1: Adjust the capital of the sole proprietors based on the agreement of the parties prior to partnership formation.
JJ’s Books
JJ, Capital 5,000
Accounts Receivable 5,000
To record write-off of accounts
Land 100,000
JJ, Capital 100,000
To record the increase in FMV of land
KK’s Books
KK, Capital 15,000
Accounts receivable 15,000
To record write-off of accounts receivable
Step2: Close the books of the sole proprietors (adjusted balances) by debiting all accounts with credit balances and
crediting all accounts with debit balances.
JJ’s Books
KK’s Books
Step 3: Record investment of the sole proprietors in the new partnership books. Non-current asset accounts with
related accumulated depreciation are recorded in the new partnership books NET OF ACCUMULATED
DEPRECIATION.
Cash 50,000
Accounts Receivable 25,000
Inventory 15,000
Equipment 150,000
Furniture and Fixtures 70,000
Building 400,000
Land 500,000
Accounts Payable 100,000
Mortgage Payable 250,000
JJ, Capital 860,000
To record investment of JJ.
Cash 150,000
Accounts Receivable 85,000
Inventory 50,000
Equipment 500,000
Furniture and Fixtures 110,000
Accounts Payable 200,000
KK, Capital 695,000
To record investment of KK.
After the formation, the statement of financial position of the newly formed partnership is:
JK Partnership
Statement of Financial Position
June 30, 2020
ASSETS
Cash (P50,000 + P 200,000
150,000)
Accounts Receivable 110,000
Inventory (P15,000 + 50,000) 65,000
Equipment (P150,000 + 650,000
500,000)
Furniture and Fixtures 180,000
Building 400,000
Land 500,000
TOTAL 2,105,000
Valuation problems exist when a partner’s capital account is credited is not equal to their net assets invested. Using
the previous example, assuming the partners agreed that the partners will share equal interest in the partnership. As
per agreement, the partners should be credited with equal capital amount of P777,500 [(860,000 + 695,000) / 2].
However, JJ’s net investment is P82,5000 greater than the agreed capital while KK’s net investment was P82,500
lesser. The partners may stipulate to withdraw (excess) or make additional investment (deficiency) in order to meet
the agreed capital. To comply with the agreement without withdrawing or making additional investment, the
partnership will decrease the capital account of JJ and increase the capital of KK. This method is called bonus
method.
JJ, Capital 82,500
KK, Capital 82,500
To record bonus to KK.
C. CLOSURE ACTIVITIES
The following work exercises intend to evaluate what the learners have learned in this topic. Write your answers in
your portfolio journal.
I. REVIEW QUESTIONS
1. What are the different types of business organization?
2. Give the definition of partnership.
3. Discuss the advantages of partnership over a single proprietorship.
4. Discuss the advantages of partnership over a corporation.
5. When is a partner’s capital account debited?
6. When is a partner’s drawing account debited?
7. When is loan to a partner account used?
8. When is a loan from a partner account used?
9. At what amount are non-cash assets invested into the partnership recorded.
10. When is bonus method used?
III. PROBLEMS
Problem 1:
On June 1, 2020, A & B agreed to form a partnership for the first time. Their investments are as follows:
A B
Cash P700,000
Land and building - P800,000
Furniture and Fixtures - 100,000
The building is subject to a mortgage loan of P400,000. The land is appraised at P200,000. The partners agreed to
share a profit and loss ratio of 6:4.
Requirements: Prepare all necessary entries under the following assumptions using net investment method, bonus
method (to reflect their capital balances equal to their P/L ratio) and asset revaluation method (to reflect their
capital balances equal to their P/L ratio):
1. The partnership did not assume the mortgage loan.
2. The partnership assumed the mortgage loan.
3. A is a sole proprietor and instead of contributing a cash of P700,000, A agreed to invest his business. The
balance sheet of A as of June 1, 2020 is as follows:
A
Balance Sheet
As of June 1, 2020
Problem 2: On July 1, 2020, OO and PP decided to form a partnership. The firm is to take over business assets and
assume liabilities, and capitals are to be based on net assets transferred after the following adjustments:
a. OO and PP’s inventory is to be valued at P31,000 and P22,000, respectively.
b. Accounts receivable of P2,000 in OO books and P1,000 in BB’s books are uncollectible.
c. Accrued salaries of P4,000 for OO and P5,000 for BB are still to be recognized.
d. Unused office supplies of OO amounted to P5,000 while that of PP amounted to P1,500.
e. Unrecorded patent of P7,000 and prepaid rent of P4,500 are to be recognized in the books of OO and
PP, respectively.
f. OO is to invest or withdrew cash necessary to have a 40% interest in the firm.
Balance sheets for OO and PP on July 1, 2020 before adjustments are given below:
OO PP
Cash P31,000 P50,000
Accounts Receivable 26,000 20,000
Inventory 32,000 24,000
Office Supplies 5,000
Equipment 20,000 24,000
Accumulated Depreciation (9,000) (3,000)
TOTAL ASSETS P100,000 P120,000
Problem 3:
On June 1, 2019, Clavis and Cularlus formed a partnership. Clavis is to invest assets at a fair value which are yet to
be agreed upon. She is to transfer her liabilities and is to contribute sufficient cash to bring her total capital to P210
000 which is 70% of the total capital of the partnership.
Details regarding the book values of Clavis’ business assets and liabilities and their corresponding valuations are:
Book Values Fair Values Agreed Values
Accounts Receivables P 58,000 P58,000 P58,000
Allow. For Doubt. Accts. 4,200 4,600 5,000
Merchandise Inventory 98,400 102,300 107,000
Store Equipment 32,000 32,000 32,000
Acc. Depre. – Store Eqmt. 19,000 15,300 16,400
Office Equipment 27,000 27,000 27,000
Acc. Depre. – Office Eqmt. 14,200 7,600 8,600
Accounts Payable 56,000 56,000 56,000
Cularlus agrees to invest cash of P42,000 and merchandise valued at current market price. The value of the
merchandise to be invested by Cularlus and the cash to be invested by Clavis are:
Problem 4:
On January 1, 2020, Ari and Janco formed a partnership. Ari, who has many years of experience in this line of
business, contributed P100,000 in cash. Janco contributed assets having the following book values and fair market
values:
Book Value Market Value
Merchandise P15,000 P25,000
Building 40,000 150,000
Equipment 60,000 85,000
The partnership assumed a mortgage of P40,000 on the building. Capital accounts are set equal to net assets
invested.
What is the Capital balances of each after formation using: (1) Net investment method and (2)Bonus method
Problem 5:
On January 15, 2020 JJ, the sole proprietor of JJ company, expands the company and establish a partnership with
MM and DD. The partners plan to share profits and losses as follows: JJ 50%; MM 25% DD 25%. They also agree
that the beginning capital balances of the partnership will reflect this same relationship.
JJ asked MM to join the partnership due to his connections. MM is also contributing P56,000 cash. DD is contributing
P 22,000 cash and marketable securities costing P84,000 to DD but are currently worth P115,000.
JJ investment in the partnership is the JJ company. He plans to pay off the notes with his personal assets. The other
partners have agreed that the partnership will assume the accounts payable. The statement of financial position for
the JJ company shown below:
JJ Company
Statement of Financial Position
January 15, 2020
Assets Liabilities and Equity
Cash P20,000 Accounts Payable P 106,,000
Accounts Receivable (net) 96 ,000 Notes Payable 124,000
Merchandise Inventory 144,000 DD Capital 170,000
Equipment (Net of A. Depr’n) 140,000
Total assets P400,000 Total Liab and Equity 400,000
The partners agree that the inventory is worth 170,000, and the equipment is worth half its original cost, and the
allowance established for doubtful account is correct.
Requirement: Prepare the statement of financial position of the partnership on January 15, 2020 under Bonus
Method and Asset Revaluation Method.
CHAPTER SUMMARY:
• There are three types of business organizations. These are: (a) Sole Proprietorship; (b) Partnership; and (c)
Corporation.
• The major considerations in accounting for the equity of partnerships are: (a) formation; (b) Operations; (c)
Dissolutions, (d) Liquidation.
• The contributions of the partners to the partnership are measured at fair value.
• A partner’s capital balance is normally credited for the fair value of his net contribution to the partnership. If
a partner’s capital balance is credited for a greater amount than or less than the fair value of his net
contribution, there is bonus.
• Under bonus method, any increase (or decrease) in the capital credits of the other partners. The total
partnership capital remains equal to the fair value of the partners’ net contributions to the partnership.
V. EVALUATION
The student’s performance will be evaluated as follows:
END OF CHAPTER 1