hin oman L Chapter 1 Partnership Formation Tearing Objectives 1. Differentiate between the accounting for partnerships, sole proprietrships and corporations. 22 State the valuation of contibutions of partners. 3 Account for the initial investments of the partners to the partnership, 44 State the peculiar accounts wsed in a partnership and identify the transactions that affect these accounts Introduetion [A partnership is an usincoeporated association of two oF more lndividuals to carry on, as co-owners, a business, with the Intention of dividing the profits among themselves. ‘The following distinguish 2 partnership from other types of entities: 1A partnerships owned by two oF more individuals while a sole proprietorship is owned by only one individual A partnership is created by agreement betiveen the partners ‘while a corporation or cooperative is reated by the operation of Taw. eA partnership i formed for a business undertaking that is romally of continuing mature while a joint venture may or ray not be formed for an undertsking that is to be cantinved ‘over several years Characteristics of a partnership 1, Ease of formation ~ a3 compared to corporations the formation, ofa partnership requires less formality.tte yl plitet ee 4 sete ol ply Ph 3 a spot a he sian the pre a rece = dae DPS sunny tapes ame’ tng se arto wipes cay ee Sn ee eat an on 4. conmeri of peg ~ each pane is a co-owner of te pros tvese nthe partnership and each has an ogee Tan withoprnerto poses pec partnership pone im perneip purpose Hower,» parmer has hie yom oul propery fray cher prpost steed Gamaslothispeteenr eee © Couunerip of profs a partnership is created as a business {pottonente en as such each partner is ened t bis stare the partnership profit A stipulation which ‘uesoneormare partes rom any share in he profit e i. D8 eC Cat ft Pied 4 thied We = rin il te ean of pnp tal ‘ suc, partnership may be caslved & brtcexpes llorany pater "y the termination of a definite contact Hoy ay event . ae ‘hich makes it unlawful to carry oat the 2 2c thing which « partner had promised term stipulated in the cent tthe od ian ans 2M Barership perishes before the del © epson Beaty > inlveney or cul interdiction of ® 1 Unlimited laity ~ each parse, may be held personally parinership assets have be personally insolvent, his sha sumed by the other solvent 3A pastnership in which a Transfer of exes sip ~ in case of dissolution, the transfer of vinerchip whether too new oF existing partner, requires the veal le esi pares nding india oes Beier purer dob feral eich. a parte i nthe prep debt sal be Ponrrsaeividaly ble (eee generat parr eee kip im wich tat one partner i personaly es tl perdi itd partnership wees a ieat one. pour! pater who maintains wre bye or cled line porters m8 Mita tty p tothe ent oi combos 0 panera Aled ity partner wally as “iLPinisnane. Advantages and disadvantages ofa partnership “Advanta Disadoantage nse of formation + Enaly dissolved! limited ‘Shared responsbiliy of ited Habit anming the business Fleniblity in decision = Conic among partners TTesser capital compared to ‘comparedto [> corporation sole proprietorship ‘A parnership (other than a {general professional partnership) is taxed like 2 Relative lack of regulation» by the government as compared to corporations LL corporation.uper Accou the applic ‘nga types ng for partnerships ta Framework for Fania Reporting al the PFRSs ane eto all porting entities regardless of the type or on. ‘Thus, most accounting procedures used foF ether fof business onganizations ane ako applicable [irtnerships. The main distinction Hes on the accounting, fer ‘equity. In adltion. the accounting for parinerships shold alos comply with relevant provisions of the Civil Cade of the Phitippires The following are the major considerations. in the accounting forthe equity ofa partnership: a Formation ~ accounting. for initial investments to the partnership 1b. Operations - division of profits or losses & Disoation ~ admission of a new partner and withdrawal, retirement or death of a partner Linton = winding-up of alfaes Formation AA contract of partnership is consensial. It is created by the agreement ofthe partners which may be constituted in any form, suchas oral or written, However, Anicios 1771 and 1772 of the Phi Code requires that a partnership agreement must be made in 8 Public instrument and recorded in the office of the Securities and Exchange Commission (SEC) when: inmoble property oF eal rights are contributed 10 the partnership (eg, PPE), or . the parinership has a capital of P5000 oF more, pine Civil Ant 1773 of the Givil Code further requires that an inventory of any immovable property contributed to the Partnership should be made, signed by the parties, and atached Yo the public instrument, otherwise the partnership shall be deemed void. — fuemeip Fermi ‘A partnership's legal existence begins from dhe moment the contract is executed, unless itis otherise stipalated, Valuation of contnbutions of partners ‘Ar, 1747 of the Civil Code sates that “when the capital or part thereof which a partner is bound to contribute consists of goods, their appraisal must be made in the manner prescribed in the contract of partnership. and inthe absence of stipulation, it shall he made by experts chosen by the partners, and according to ‘current prices, the subsaquent changes thereof being. for the secount ofthe partnership.” ‘The term “appraisal” as used in the Civil Code, whether in accordance with the contact of partnership or in the absence ‘hereot, suggests valuation of capital conteibuions a tr value ‘alihough there are no. speci financial reporting standards that address the accounting for partnerships, a smile provision under PFRS 2/Stare-based Paymentswhich states that equity nstromods sued for non-cash ites shold be tle othe fir ale of the noncas itens recived may be construed to be in sccordance wth the provision of Art. 1787. > An equity instrament is any contract that evidences a residual interest in the assets of an entity after deducting ll ofits liabilities. The meaning of equity interest is not limited to ‘corporations. An interest in a partnership or an association of Persons in the nature of ownership interests an uty ‘Therefore, all assets contributed to (and related liabilities assumed by) the partnership ae initially measured at far valu. > Fair value is “the price tha would be received to el an asset ot eid to transfer a lability in an orderly transaction between ‘market participants tthe measurement dat.” res),‘ ‘ bape When measuring the contributions of partners, the following additonal guidance fom the PERS shal be observed Tipe of contribution Measurement (Cash and cash equowents [Face amount of cash or cash equivalent contributed. ras Treentory | Net elizable value estimated seing | price ess costs to complete and sell) if | lower than cost. Pas} Each partner's capital account is credited forthe fir value ‘of his net contribution (ie, far value of contribution less any Tisility assumed by the partnership). No contribution shall be valued at an amcunt that exceeds the contribution’s recoverable amount. Fach partner's contsibution shall be adjusted accordingly before recognition in the partnership's baoks. > Recoerable amount —is "the higher between an asses sir value less cost to sell and valuein use" rasseayensi a A partner's subsequent share in profits (losses) shall also be crodited (debited) to his capital acount. Likewise, permanent ‘withdrawals of capital are debited to the partner's capital account “Temporary withdrawals may be debited to the partner's drawings scout, The sum ofthe balances inthe partners” individual capital accounts represens the total equity ofthe partnership. Partners ledger accounts ‘The partners’ ledger accounts ate: ‘2 Capital accounts b. Drawings accounts Receivable from Payable toa partner 7 Capital and Drawings accounte Each partner hae his or her own capital and drawings ccount, eg “Juan dela Cruz, Capital” and “Juan dela Cruz, Drawings.” “These accounts are equity accounts and are used to record the following transactions: ont Copa + Permanent sx + Additional withdrawals of capita Investments 4+ Share in foses sx | ax + Sharein profits 2 ekt lance of = rowing count ‘The partner's eapital account is vel account and has a ‘normal credit blane ua, dele Cruz Draw De] Cr + Temporary withdrawals ox | ax + Recurring ting te pried reimbursable ‘costs pid by the partner ‘+ Temporary finds helt x beremited tthe partnership ‘The drawings accounts a nominal acount that ie closed to (he related capital account at the end of the perio. This account is contra euty acount and has a norma debit ble ‘The partners’ capital and drawings accounts ae similar to ‘he corporate pall in capital, retuned earings, and. divends accounts.rt Receivable from Payable to a partner ‘The partnership may enter inte aloan transaction witha partner, ‘A loan extended by the parinership to a partner is recorded as receivable from the partner while 2 loan oblained by the partnership from a pariner is recorded asa payable tothe partner. Mlustration: Formation of partnership - Valuation of capital ‘A and B formed » partnership. The following ate their contributions: Cah Accounts receivable ° Inventory - Land 50,000 Building 120000 Tou 230,000 170,000 Note payable 60,000 Acapital 170,000 Beapital 170,000 Total 230,000 170,000, Additional information ‘Included in accounts receivable is an account amounting t0 1720.00 which i deemed uncolectible. +The inventory has an estimated selling price of 100,000 and estimaied costs to sll of P10,000. ‘+ An unpaid mortgage of P10,000 on the land is assumed by the partnership. ‘+ Thebuilding is under-depreciated by P25,000. 1+ The building also has an unpaid mortgage amounting 10 15,000, but the mortgage isnot assumed by the partnership. Bagroed to site the mortgage using his personal funds + Thenote payable is stated at face amount. A proper valuation requires the recognition ofa P15,000 discount on note payable. Parsi Frain ° + Avand B shall share in profite and losses 60% and 40%, respectively Requirement (al: Compute for the adjusted balances of the partners’ capita accounts Solution 7 a B__Partuersip cash 700.000 = 100.0 ‘Accounts receivable 60K-20K) 30,000 = 30,000 Iaventory 10,000, 0.000 Land soo 50.000 Building 20K 254) 35000 ___95000 Tal 710,000 145,000 355,000 [Note payable net ox 18k) (45,000) (45,000) Morigage payable land fa.000) (16,000), ‘Aajusted capital balances 165,000 135,000 300000 ‘The unpaid mortgage on the building is not included ‘because it snot assumed by the partnership. ‘Tho compound entry to record the ini investments of the nor in the partnership's ooka is a fallow: ‘we | Casi ‘Account receivable Inventory and Duthing Discount on note payable ‘Note payable Mortgage payable A Capital 5, Capital 135,00 Requirement (Assume thata partners capital shal be increased accordingly by covtibuting additional cash to bring the partners’0 chopie tae copita balances proportionate to their profit oF los ratio. Which partner should provide additional cash and. how much is te, additional cash contribution? Using frst &’s capital, let us determine if B's capital contribution has any deficiency. capital 165,000 Divide by: Profi (os) sharing ratiof A 60% Tote! 73,000 lltiply by: Bs profit (loss) sharing ratio __40% Minimum capital required of B 1103000 Bs capital 135,000 efciency on B's capital contribution Bis contribution has no deficiency. [Now using B's capital, let us determine if A's capital contribution has any deficiency capital 135,000 Divideby: Profit (oss) sharing ratio of A 40% Total, 337,500 ‘Multiply by: A's profit oss) sharing ratio 60% Minimum capital required of A 202500 Aseapital 165,000 Deficiency on A's capital contribution 37500, Partner A should provide additional cash contribution of P3700 ‘tormake bis contribution proportionate to his profit or loss rato, Bonus on initial investments ‘An accounting problem exits when a pariner’sextal account is relied for an amount greater than the fair valve of hié contibutions For instance, a partership agreement may allow acetin Partner who Is bringing in expertise oF special ski t0 the Peta 1 cinerea ership to havea capital eter than he fai vale of parton, In ach ete atonal ced 10 the soc epitl eke bonus) accounted for a9 deduction the capt of tear pater. Tie econ method fa (Gitte “bone mao hough the ee othe pare’ capital may vary de bon the coespeing do the ase account mst Rint the fr ele ofthe contbuton. The cilrence foccen the amounls credited and debited is treated as sSjstment to dn capital counts of he lke partes. Iustration 1: Bonus method ‘A and B agreed to form a partnership, A contributed P40,000 cash ‘while B contibuted equipment with fair value of PI00,000. However due to the expertise that A will be bringing to the porinership, the partners agreed that they should intially have an ‘qual intrest inthe pactoweship capital Resuiremont: Provide the journal entry 10 record the initial investments ofthe partners. Solution ‘tual contributions Blomus method x "40,000 Tan aoox50)—70,000" B 100,000 (140,000.50) 70,000 Toul 140,000 740,000 Date | Cash 00 Equipment 100,000 ‘A, Capital (4600+ 20000 torus) 70,000 Capital 1,000-30.000%on48) 70,000, aes: "The bonus given to A, ie, ¥30,000 (P70,000 capital credit — 40,000 actual contribution) is treated as a reduction to the capital credit of B.arte 7 Atter applying the bors seth. the tt capital of the Farnership 18 still equal to the fit valve of the paren contributions, The debits to "Cash" and “Equipment” cx sous credited tothe Partners capital acounts have varied Variations tothe bonus method A partnership agreement may stipulate 9 certain ratio ‘maintained by the partners representing their specific: the equty of the partnership. This stipulation may give tee tg Adjustments to the initial contributions of the partners Sine technically there is no “bons” being given to 9 certain partner, any increase oF decrease to the capital credit of « partnet is not deducted from his co-portners’ capital accounts” Instead, the B Regarements 2 Which porters) shall cceve cash payment from the other portnerts? ‘5. Provide the entry to record the contibutions of the partners Solutions: _Regutement (as _ A 8c Partner tome oo Toon irons sa gape a ‘capital adjustment is accounted for as either: & a - = Canc omg paren : 1b. Additional investment or withdrawal of investment of eer anver _Repronent = yo mao] —] The long atta ition tothe bes me a ae |_| Pipes prte zo | Metaton 1: Canhstlement between pines wena uno A Baal C formed a paren Thar contusions ae as | Bcaptal bos io ec man a7 Cash 40,000 10,000 100,000 Sian ol Es 7 The ch slopes amg the prs nt cna nthe fee ane pie parvum fe Additional nfrmation ‘The equipment has an unpaid mortgage of 20,000, which the partnership assumes to repay The partners agreed to equalize their interests. Cash Settlements among the partners are to be made outside te partnership. Partnership but rather 3 transaction among the partners themselves ‘The parinership's capital of ¥210,00 remains the same alter the cash settlement. Again, what varied are only the credits to the partner! eapital accountstastzation 2 Additional investment (Withdeaws ‘Aand B apreod to form a partnership. The partnership agreemen, stipulates the following: 4 Intl capt of P8000, + A6OsOinterestin the equity ofthe partnership, contributed PIO 100 cash while B contributed P40,000 cash, Regurement: Which partner should provi dalitionalfnvestment (or w of his investment) in order 40 bring the partners capital endits ual to their respective interest inthe ‘eit the partnership? nS Sutin ‘Agreed initial epi 130000 As eequlted capital balance (140K x60) 84,000 DBs request espa lance (140K x 40%) 54000 eee A ‘Atal contributions Teno 0.00 140,007 Reguited xptal balance siao 56.000 147.00 Additional Withdraceall (06,000) 16000, : Answer: A shall withdraw #16000 from his initial contebution| ‘whileB hull make an additional investient of P1600, ‘Chapter 1: Summary | ‘The major considerations in the accounting for the equlty of pattoerships are: (a) Foret: (8) Operations; (c) Dsl: nd (d Ligue The contsbutons of the partners to the parnership 2 ‘essured a fair value 4 perne’s capil balance is normally credited for the Ht) ‘alee of his net contribution to the partnership. Ifa patne’® nr Fert i, capital balance is cette fr an amount greater thao Tess | than the fsisakueofhis net contribution there s bom. 1+ Under the bomus method, any incrase (or decrease) i the capital credit ofa partner is deducted rom (or added t) the | pial credits of the otber partners The tts partnership | ‘opial remains equal to the fir value of the partner” net ontibations to the patinership. PROBLEMS PROBLEM 1:TRUE OR FALSE 1. The assets contributed to (and related Habilites assumed by) the partnership are measured in the partnership books at fait value 2A bonus essts when the capital account of a partner is credited for an amount greater than orks than the fe value of his contbutions, 3. A bonus given toa partner Is teated 38 a adjustment tothe aptal accounts! the wther partners. ner A contributed cash of PLOO and lard with carrying amount of F300 and fir value of PAN to a partnership. The ‘credit fo Partner A's capital account in the partnership books ‘sPsa0, aries B contributed land with carrying amount of PICO and {air value of P200 toa partnership. Is the partners Books, land is debited for P200 but Partner B's capital account i credited for PIO, Partner C contributed inventory costing #500 and with a net realizable value of P40 to a partnership. The elated sctounts payable of P10D wil be assumed by the partnership. The net ‘edit to Partner C's eapial account inthe partnership books, mon. Frat patter Mang and Ming agred to form a partnership. The partnership sgreement supslaes that Mang shall contribute a roncash asset