Bonus Method It is used to grant a new pa rtner an additional

capital in a partnership when the person is adding

goodwill or some other intangible asset to the
partnership- any positive difference between the
capital amount granted and the tangible asset
contribution of the new partner is recorded in the
existing partners’ capital accounts while if the
capital amount granted is less than the tangible
asset contribution, the difference is allocated to
the incoming or new partner.

Capitalist-Industrial partner Contributes money, property and industry in the

partnership.

Capitalist partner Contributes money, property to the partnership.

Dormant partner Who is secret and silent partner.

General partner One whose liability extends to his separate

properties.

Goodwill Represents the excess of the cost of the business

combination over the fair value of the identifiable
net assets obtained.

Industrial partner Contributes only his skills, knowledge, industry

or personal service to the partnership.

Limited partner One whose liability for partnership obligation is

limited to his contribution.

Liquidating partner One who takes charge of the winding up of the

partnership affairs after dissolution.

Managing partner One who is appointed by the partners to take

charge of the partnership.

Nominal or Ostensible partner One who is a partner in name only by permitting

the use of his name either for accommodation or
for consideration; subject to liability by the
doctrine of estoppel.

Partnership An association of two or more persons who

contributes money, property or industry to a
common fund with the intention of dividing the
profits among themselves.

Partnership Dissolution A change in the relationship of the partners within

the partnership; occurs generally when one of the
partners ceases to be a partner of the partnership
or another an another partner is admitted.

Partnership Formation, Operation, Dissolution and Liquidation

Partnership Liquidation Means the winding up of the business by selling
the assets, paying the liabilities, and distributing
the remaining cash to the partners.

Secret Partner One who is not known to third persons as a

partner

Silent Partner One who has no active part in the management of

the partnership.

Partnership Formation, Operation, Dissolution and Liquidation

Notes:
Admission of a New Partner
1. Purchase of interest – the new partner purchases a stake in the partnership from
an existing partner. The capital account of the new partner is recorded by merely
reclassifying the capital account of the old partner.
2. By investment of additional Assets – the new adds in investment by cash, property,
or expertise into the partnership.The capital accounts in the partnership are
adjusted and recorded based on two methods namely, the Bonus Method, and the
Goodwill method.
Methods in Accounting for Partner’s Contribution
1. Bonus Method – based on the historical cost principle which states that
admittance of a new partner involves debiting cash or other assets for the Fair
Market Value of the assets contributed and crediting the new partner’s capital for
the agreed percentage of total capital.
a. Bonus granted to the old partners – when the FMV of the assets contributed by
an incoming partner exceeds the amount of ownership interest to be credited
to his capital account, the old partners recognize a bonus equal to this excess
allocated based on income distribution rates of the old partners.
b. Bonus granted to new partner – an incoming partner may contribute assets
having a FMV smaller than the partnership interest granted to that new
partner. Similarly, the new partner is therefore presumed to contribute an
intangible asset, such as managerial expertise or personal business reputation.
In this case, a bonus is granted to the new partner, and the capital accounts of
the old partners are reduced on the basis of their profit and loss ratio.
2. Goodwill Method – According to PFRS 3, Goodwill represents the excess of the cost
of the business combination over the fair value of the identifiable net assets
obtained. Therefore, the standard provides that goodwill attaches only to a
business as a whole and is recognized only when a business is acquired. This
provision of PFRS 3 outlawed the use of the Goodwill method in partnership
accounting particularly admission and retirement of a partner because there is no
business involved.
a. Bonus granted to the old partners – when the FMV of the assets contributed by
an incoming partner exceeds the amount of ownership interest to be credited
to his capital account, the old partners recognize a bonus equal to this excess
allocated based on income distribution rates of the old partners.
b. Bonus granted to new partner – an incoming partner may contribute assets
having a FMV smaller than the partnership interest granted to that new
partner. Similarly, the new partner is therefore presumed to contribute an
intangible asset, such as managerial expertise or personal business reputation.
In this case, a bonus is granted to the new partner, and the capital accounts of
the old partners are reduced on the basis of their profit and loss ratio.

Partnership Formation, Operation, Dissolution and Liquidation

 Partner’s
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Partners
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Valuation of Partner’s Contribution
Partners may contribute cash, property or industry to the partnership:
 Cash – at face value of property
 Non-Cash items – agreed value or fair market value (if no agreement)
 Industry – memorandum entry

Method
Contribution
contribute
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Partners
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Accounting for a Partnership differs from Other Forms of Business
Organizations with regard to Capital Accounts
Partner’s Capital
Debit Credit
Permanent withdrawal of Original investment by a partner,
Capital, share in partnership loss additional investment by
from operations debit balance of partner’s share in partnership
drawing account closed to profits from operations
capital

Partner’s Drawing
Debit Credit
Personal withdrawal of Capital The account originally credited
when a partner receives his/her
salary and/or share in the
partnership profits

Partnership Operations
Methods of Distributing Profits Based on Partners’ Agreement
1. Equally - simple to apply but does not give due recognition on the disparity of capital
contribution nor does it recognize the time and effort that a partner may devote in
running the firm’s business operations
2. Arbitrary Ratio - simple to apply but does not give recognition on the disparity of
capital contributions nor does it recognize the time and effort that a partner may
devote in running the firm’s business operations
3. Capital Ratio - (Original, Beginning, Ending, Average) – this method recognizes the
differences in the capital contributions but does not take into account the time and
effort that a partner may devote in running the firm’s business operations.
4. Interest on Capital and the Balance on Agreed Ratio - Interest is allowed to partners
for the use of invested capital. Interest as agreed by the partners shall be allowed in
proportion over the period such capital was actually used. Moreover, the interest
shall be provided whether the income is sufficient or insufficient or there is a net
loss unless otherwise agreed upon by the partners.

Partnership Formation, Operation, Dissolution and Liquidation

 Partnership Operations
Methods of Distributing Profits Based on Partners’ Agreement
5. Salary Allowances to Partners and the balance on Agreed Rate - Salaries are allowed
to partners as compensation for their time devoted in the business. Salaries as agreed
by the partners shall be allowed in proportion to the time the partners actually
rendered services to the firm. Such salaries shall be provided whether the profit is
sufficient or not and when there is a loss unless otherwise agreed upon by the
partners
6. Bonus to Managing Partner and the balance on Agreed Ratio - this method allows a
bonus, as an incentive, to the managing partner. It is usually a percentage of the profit.
Bonus, therefore, is allowed only when there is a profit

Statement of Liquidation
Statement of liquidation is a statement prepared to summarize the liquidation process. It
is the basis of the journal entries made to record liquidation. This statement presents in
working paper form the effect of the liquidation on the Statement of Financial Position. It
shows the conversion of assets into cash, the allocation of gain or loss on realization, and
the distribution of cash to creditors and partners.

ILLUSTRATIVE: XYZ Partnership Balance Sheet

XYZ Partnership
Balance Sheet
Cash 8,000 Liabilities 44,800
Other Assets 130,000 Y, Loan 2,000
Loan to X 6,000 Z, Loan 3,200
X, Capital 38,000
Y, Capital 24,000
Z, Capital 32,000

The partners share profit or loss in 2:2:1 ratio respectively.

The partnership incurred 3,000 liquidation expenses.

Required: Prepare a statement of liquidation using the following

assumption:
Assets were sold for 140,000

Partnership Formation, Operation, Dissolution and Liquidation

Order of priority of payment:
1. Payment of liability
2. Right of offset
3. Payment to partners

Notice also that the first step in liquidation is the realization of non-cash assets. Any
gain or loss is allocated to the partners using their profit or loss ratio. In this case, the
Gain on Realization is equal to (140,000 – 130,000) 10,000.

Doctrine of Marshalling Assets

Involves the order of creditors’ rights against the partnership’s assets and the
personal assets of the individual partners. The order in which claims against the
partnership’s assets will be marshaled is as follows:
* Partnership creditors other than partners
* Partner’s claims other than capital and profits, such as loans payable and
accrued interest payable.
* Partner’s claim to capital or profits, to the extent of credit balances in
capital accounts.

The order of claims against the personal assets of the individual partners is as
follows:
* Personal creditors of individual partners
* Partnership creditors on unpaid partnership liabilities regardless of a
partner’s capital balance in the partnership.

Partnership Formation, Operation, Dissolution and Liquidation