Chapter 18

True-False Statements
1. The ability of partners to withdraw resources from the partnership is controlled
exclusively by the laws of the state where the partnership resides.
2. The articles of partnership often control the size of withdrawals partners are allowed to
make.

3. If a partnership makes a payment on behalf of a partner, a withdrawal has occurred.

4. Partnerships are required to indicate the manner in which profits and losses are to be
allocated among the partners.

5. With the exception of the residual profit and loss ratio, partners can agree to apply profit
and loss allocation components in any order.

6. The interest component of partnership profit and loss allocation rewards the partner for
labor and expertise brought into the partnership.

7. The purpose of the interest on capital balances component of partnership profit and loss
allocation is to reward partners for contributing economic resources to the partnership.

8. The interest on capital balances component of partnership profit and loss allocation is
always based on each partner’s beginning or period capital balance.

9. The interest on capital balances component of partnership profit and loss allocation is
generally stated as a percentage of the capital balance.

10. The salary portion of the profit and loss allocation is set in the articles of partnership and
will not change over time.

11. The salary portion of the partnership profit and loss allocation is not included in the
partnership’s income statement.

12. The salary portion of the partnership profit and loss allocation is used to compensate
partners for the time and effort expected in the business.

13. Partnerships are required to have bonus clauses in the articles of partnership.

14. Bonus to partners can be based on any criteria on which the partners agree.

15. Partnership bonus arrangements must consider net income as part of the bonus
calculation.

16. A residual interest is always a component of partnership profit and loss allocation.
17. Partnership profit and loss residual percentages must be equal.

18. Partnership profit and loss residual percentages must be the same for profits as they are
for losses.
19. Partnership profit and loss residual percentages are used to allocate any remaining profit
or loss to partners after all other allocation components have been considered.

20. Partnership residual profit and loss percentages may be changed by agreement of the
partners.

21. Partnership residual profit and loss percentages do not have to be the last component
applied in the profit and loss allocation process.

22. When partnership profit and loss ratios are changed, the difference between market and
book values should be determined and allocated to partners based on the currently
existing profit and loss ratios.

23. Partnerships must revalue assets up and/or down when the profit and loss ratios are
adjusted.

Answers:
1. F, While states may have laws indicating that the partners cannot withdraw resources and
make the partnership insolvent, withdrawals are typically controlled by the articles of
partnership.
2. T,
3. T
4. F, If the partnership agreement is silent with regard to profit and loss allocation, profits
and losses are shared according to capital account.
5. T
6. F, The interest component of partnership profit and loss allocation rewards partners for
capital contributions.
7. T
8. F, The interest on capital balances component of partnership profit and loss allocation
may be based on the beginning, ending, simple average capital balance, or weighted
average capital balance.
9. T
10. F, The salary component of the partnership profit and loss allocation would be expected
to be renegotiated periodically as the duties of the partners change.
11. T
12. T
13. F, Partnerships can offer bonuses to anyone. The choice is up to the partners. On the
other hand, there is no requirement to ever offer a bonus.
14. T
15. F, While many bonuses are based on a measure of income, it is not required. Bonus can
be based on other criteria such as market share, revenue, or average cost per unit.
16. T
17. F, Residual interests may be equal but they are not required to be equal.
18. F, While profit residual ratios and loss residual ratios are generally the same, they can
differ.
19. T
20. T
21. F, Residual profit and loss percentages are the last component of the profit and loss
allocation process applied because they are designed to allocate any remaining amount to
the partners.
22. T
23. F, There are several ways that the difference between market and book value of assets
can be addressed when the profit and loss ratios are changed. Revaluing the assets is one
of the possibilities along with maintaining a record of assets with market and book value
differences as well as directly adjusting capital accounts while leaving asset values
unchanged.

Problems
1. Chris is a partner in a local partnership. The profit and loss sharing agreement includes an interest allocation of
7 percent on the invested capital. The capital account of Chris reveals that he had a beginning capital account
balance of P50,000. He withdrew P10,000 on May 1 and invested P25,000 on October 31. Rounded to the
nearest peso, what is Chris’ weighted average capital balance?

2. Richard is a partner in a local partnership. The profit and loss sharing agreement includes an interest allocation
of 8 percent on the invested capital. Richard had a beginning capital balance of P60,000. He invested P30,000
on March 1, withdrew P20,000 on August 1, and invested P40,000 on December 1. Rounded to the nearest
dollar, what dollar amount is allocated to Richard as interest on capital balance if the weighted average capital
balance is used as the basis of the computation?

3. Shawn is a managing partner in a local business. Part of his profit allocation is a bonus based on the store’s
operating income. The bonus is 8 percent of operating income in excess of P200,000 after deducting the bonus.
If operating income for the year is P250,000, what is Shawn’s bonus (rounded to the nearest dollar)?

4. Norman, Sarah, and Taylor are partners. The partnership income for the period is P130,000. The partnership
agreement assigns salaries to the partners of P10,000, P15,000, and P18,000, respectively. In addition, the
partners have profit and loss residual ratios of 30%, 45%, and 25%. What is the amount of profit and loss
allocated to Sarah as a result of applying the residual ratios?

5. Nick, Joe, and Mike are partners. The company has P150,000 net income for the period. How is this income
divided to the partners if the following profit and loss allocation process is followed?
Nick Joe Mike
Weighted average capital P200,000 P350,000 P180,000
Salary 25,000 15,000 35,000
Bonus .1 (NI - P100,000)
Residual profit/loss ratios .25 .45 .30
Return on invested capital 9%

6. Harriet, Bob, and Tim are partners. Income for the current year is P500,000. The profit and loss agreement
states that salaries are P35,000, P50,000, and P40,000, respectively. In addition, the residual profit and loss
ratios are 40%, 30%, and 30%, respectively. How much of the profit is allocated to Harriet?

7. Suzanne, Thomas, and Vicky are partners. They have average capital account balances of P200,000, P250,000,
and P400,000, respectively. In addition, they have residual profit and loss ratios of 15%, 25%, and 60%,
respectively. If income for the year is P300,000 and the partners earn 8 percent return on invested capital, how
much will be allocated to Thomas?
8. Johnson and Pritchard are partners. They are changing the profit and loss ratios from the current 60/40 to
70/30. At the date of the change, vacant land owned by the partnership has a book value of P50,000 and a
market value of P60,000. The partners choose to prepare an itemized list of assets with market values different
from book values. If the land is sold in the future for P80,000, how much of the gain will be assigned to
Pritchard?

9. Karen and Andrea are currently changing their partnership profit and loss ratios from 75/25 to 60/40. They
have created a list of assets that have market and book value differences. One of the assets is a building with a
P300,000 market value and P200,000 book value. Two years after changing the profit and loss ratios, the
building is sold for P380,000. How much of the profit is allocated to Andrea?

10. Peter and Ronald are partners. They have shared profits and losses 65/35 for a number of years. Peter has
indicated that he is going to reduce his involvement in the partnership so the profit and loss ratio is being
modified to 45/55. At the date of the change in the profit and loss ratio, the partnership own vacant land with a
market value of P300,000 and a book value of P100,000. Peter and Ronald compile a list of assets with market
and book value differences. Two years after the change in the profit and loss ratios, the land is sold for
P450,000. How much of the gain is allocated to Peter?

11. Jennifer and Robert are partners who are changing their profit and loss ratios from 60/40 to 45/55. At the date
of the change, the partners choose to revalue assets with market value different from book value. One asset
revalued is land with a book value of P50,000 and a market value of P120,000. Two years after the profit and
loss ratio is changed, the land is sold for P200,000. What is the amount of change to Jennifer’s capital account
at the date the land is revalued?

12. The same information in No. 11, what is the amount of change to Jennifer’s capital account at the date the land is
sold?

13. James and Bruce are partners. They have shared profits and losses 70/30 for several years. The partnership
profit allocation agreement is currently being modified to 60/40. At the date of the change, the partners choose
to revalue assets with market value different from book value. One asset revalued is a building with a book
value of P370,000 and a market value of P520,000. One year after the profit and loss ratio is changed the
building is sold for P650,000. What is the amount of change to James’ capital account at the date the building
is revalued?

14. The same information in No. 13, what is the amount of change to James’ capital account at the date the building
is sold?

15. Theresa and Craig are partners. Their current profit and loss ratios (70/30) are being changed to (60/40). The
partners decide to adjust their capital accounts at the date of the change in the profit and loss ratios to reflect the
difference between market value and book value of assets and liabilities. At the date of the change, land has a
market value of P250,000 and a book value of P120,000. How much will Theresa’s capital account be adjusted
at the date of the change in the profit and loss ratios (indicate increase or decrease)?

16. Eric and Phillip have been partners for several years. During that time they have shared profits and losses
(60/40). They are currently revising the profit and loss ratios to (70/30). Eric and Phillip decide to adjust the
capital accounts at the date of the change to reflect the difference between market value and book value of
assets and liabilities. At the date of the change, the partnership owns a building with a book value of P350,000
and a market value of P600,000. How much will Eric’s capital account be adjusted at the date of the change in
the profit and loss ratios (indicate increase or decrease)?

17. Garlic, Pepper, and Salt are partners in a plumbing service. The business reported net income of P108,000 for
20x4. The partnership agreement provides that profits and losses are to be divided equally after Pepper receives
a P60,000 salary, Salt receives a P24,000 salary, and each partner receives 10% interest on his beginning capital
balance. Beginning capital balances were P40,000 for Garlic, P48,000 for Pepper, and P32,000 for Salt.
Pepper’s share of partnership income for 20x4 is:
18. Maxwell is trying to decide whether to accept a salary of P60,000 or a salary of P25,000 plus a bonus of 20%
of net income after salaries and bonus as a means of allocating profit among the partners. Salaries traceable to
the other partners are estimated to be P75,000. What amount of income would be necessary so that Maxwell
would consider the choices to be equal?

19. James, Keller and Rivers have the following capital balances; P48,000, P70,000 and P90,000 respectively.
Because of a cash shortage James invests an additional P12,000 on June 1st. Each partner withdraws P1,000 per
month. James, Keller and Rivers receive a salary of P13,000, P15,000 and P20,000, respectively, for work done
during the year. Each partner receives interest of 8% on their weighted average capital balance without regard to
normal drawings. Any remaining profits are split 20%, 30% and 50% respectively. The net income for the year
is P30,000. What are the ending capital balances for each partner?

20. The partnership agreement of JJ, KK, and LL provides for the annual allocation of the business’s profit or loss in
the following sequence:

 JJ, the managing partner, receives a bonus equal to 20 percent of the business’s profit.
 Each partner receives 15 percent interest on average capital investment.
 Any residual profit or loss is divided equally.

The average capital investments for 20x4 were as follows: JJ, P100,000; KK, P200,000, and LL, P300,000.
How much of the P90,000 partnership profit for 20x4 should be assigned to each partner?

21. PP, SS, and TT have operated a bookstore for a number of years as a partnership. At the beginning of 20x4,
capital balances were as follows: PP, P60,000; SS, P40,000 and TT, P20,000. Due to a cash shortage, PP invests
an additional P8,000 in the business on April 1, 20x4. Each partner is allowed to withdraw P1,000 cash each
month. The partners have used the same method of allocating profits and losses since the business’ inception:

 Each partner is given the following compensation allowance for work done in the business: PP,
P18,000; SS, P25,000; and TT, P8,000.
 Each partner is credited with interest equal to 10 percent of the average monthly capital balance for the
year without regard for normal drawings.
 Any remaining profit or loss is allocated 4:2:4 to PP, SS, and TT, respectively. The net income for
20x4 is P23,600. Each partner withdraws the allotted amount each month.

What are the ending capital balances for 20x4?

22. On January 1,20x4, the dental partnership of LL, CC, and RR was formed when the partners contributed
P20,000, P60,000, and P50,000, respectively. Over the next three years, the business reported net income and
(loss) as follows: 20x4, P (30,000); 20x5, P20,000 and 20x6, P40,000. During this period, each partner
withdrew cash of P10,000 per year. RR invested an additional 12,000 in cash on February 9, 20x5. At the time
that the partnership was created, the three partners agreed to allocate all profits and losses according to a
specified plan written as follows:

 Each partner is entitled to interest computed at the rate of 12 percent per year based on the individual
capital balances at the beginning of that year.
 Because of prior work experience, LL is entitled to an annual salary allowance of P12,000, and CC is
credited with P8,000 per year.
 Any remaining profit will be split as follows: LL, 20 percent; CC, 40 percent; and RR, 40 percent. If a
loss remains, the balance will be allocated: LL, 30 percent; CC, 50 percent; and RR, 20 percent.

Determine the ending capital balance for each partner as of the end of each of these three years.

23. In 20x5, the partners of Julio & Fong Partnership shared net income and losses equally, but in 20x6 the income-
sharing ratio was changed to 60% for Julio and 40% for Fong. On December 31, 20x5, inventories were
 understated by P12,000. On December 31, 20x6, employees' salaries payable in the amount of P5,400 and short-
term prepayments of P2,700 had not been recognized in the accounting records. Net corrections to partners'
capital accounts for Julio and Fong indicate increase or (decrease):

Answers:
1. P47,500 = [(P0,000 x 4) + (P40,000 x 6) + (P65,000 x 2)]/12
2. P6,400 = [(P60,000 x 2) + (P90,000 x 5) + (P70,000 x 4) + P110,000] (.08)
3. P3,703 - B = .08(P250,000 - P200,000 - B)
4. P39,150 = (P130,000 - P10,000 - P15,000 - P18,000) .45
5. Nick, P44,075; Joe, P48,435; Mike, P57,490
Nick Joe Mike Total
Interest on capital
P200,000 x .09 P18,000
P350,000 x .09 P31,500
P180,000 x .09 P16,200 P65,700
Salary 25,000 15,000 35,000 75,000
Bonus .1(P150,000 - P100,000) 5,000 5,000
Residual
P4,300 x .25 1,075
P4,300 x .45 1,935
P4,500 x .30 ______ _______ 1,290 4,300
Totals P44,075 P48,435 P57,490 P150,000

6. P185,000 = P35,000 + (P500,000 - P35,000 - P50,000 - P40,000) .4

7. P78,000 = (P250,000 x .08) + [P300,000 - (P200,000 + P250,000 + P400,000)(.08)] .25
8. P10,000 = (P60,000 - P50,000)(.40) + (P80,000 - P60,000)(.30)
9. P57,000 = (P300,000 - P200,000)(.25) + (P380,000 - P300,000)(.40)
10. P197,500 = (P300,000 - P100,000)(.65) + (P450,000 - P300,000)(.45)
11. P42,000 = (P120,000 - P50,000)(.60)
12. P36,000 = (P200,000 - P120,000)(.45)
13. P105,000 = (P520,000 - P370,000)(.70)
14. P78,000 = (P650,000 - P520,000)(.60)
15. P13,000 increase = (P250,000 - P120,000)(.70 - .60)
16. P25,000 decrease = (P600,000 - P350,000)(.70 - .60)

17. P68,800
Garlic Pepper Salt Total
Salary 60,000 24,000 84,000
Interests – 10% on beginning 4,000 4,800 3,200 12,000
Equally 4,000 4,000 4,000 12,000
Total 8,000 68,800 108,000

18. P310,000
Using bonus formula to solve for income:
Bonus = .20 (NI – Bonus – Salary)
35,000 = .20 NI – [.20 x P35,000] – [.20 x P100,000*]
62,000 = .2Income
P310,000 = income

*salaries 25,000 + 75,000

19. James, P58,360; Keller, P68,040; Rivers, P87,600

James Keller Rivers Total
Interest – 8% 4,400 5,600 7,200 17,200
Salary 13,000 15,000 20,000 48,000
 2:3:5 (7,040) (10,560) (17,600) (35,200)
Total 10,360 10,040 9,600 30,000

Interest:
James: P48,000 x 5 = P240,000
P60,000 x 7 = 420,000 P660,000/12 = P55,000 x 8% = P4,400

Capital, beginning 48,000 70,000 90,000 208,000

Additional investments 12,000 12,000
Net income (loss) 10,360 10,040 9,600 30,000
Withdrawals – P1,000 per month (12,000) (12,000) (12,000) (36,000)
Capital, ending 58,360 68,040 87,600 214,000

20. JJ, P27,000; KK, P24,000; LL, P39,000

JJ KK LL Total
Bonus (20%) .......................................... P18,000 P -0- P -0- P18,000
Interest (15% of average capital) ...........15,000 30,000 45,000 90,000
Remaining loss ($18,000) ..................... (6,000) (6,000) (6,000) (18,000)
Income assignment ................................ P27,000 P24,000 P39,000 P90,000

21. PP, P64,600; SS, P49,000; TT, P2,000

PP SS TT Totals
Interest (10%) 6,600 (below) 4,000 2,000 12,600
Salary 18,000 25,000 8,000 51,000
Remaining income (loss) (16,000) ( 8,000) (16,000) (40,000)
Totals 8,600 21,000 (6,000) 23,600

CALCULATION OF PURKERSON'S INTEREST ALLOCATION

Balance, January 1—April 1 (P60,000 × 3) P180,000
Balance, April 1—December 31 (P68,000 × 9) 612,000
Total ......................................................................................................... P792,000
Months......................................................................................................  12
Average monthly capital balance ............................................................. P 66,000
Interest rate ............................................................................................... × 10%
Interest allocation (above) ........................................................................ P 6,600

STATEMENT OF PARTNERS' CAPITAL

PP SS TT Totals
Beginning balances ..............................60,000 40,000 20,000 120,000
Additional contribution ........................... 8,000 -0- -0- 8,000
Income (above) ..............................8,600 21,000 (6,000) 23,600
Drawings (P1,000 per month) ................. (12,000) (12,000) (12,000) (36,000)
Ending capital balances............................ 64,600 49,000 2,000 115,600

22. Ending capital balances:

20x4 .............................................. 4,720 32,400 32,880 70,000
20x5 .............................................. 4,766 30,088 37,146 72,000
20x6 ……………………………. 9,610 36,243 36,147 82,000
INCOME ALLOCATION—20x4
LL CC RR Total
Interest (12% of beginning capital) 2,400 7,200 6,000 15,600
Salary 12,000 8,000 -0- 20,000
Remaining income/loss (19,680) (32,800) (13,120) (65,600)
Totals (5,280) (17,600) (7,120) (30,000)
STATEMENT OF PARTNERS' CAPITAL—DECEMBER 31, 20x4
 LL CC RR Total
Beginning balances .............................. 20,000 60,000 50,000 130,000
Income allocation ................................. (5,280) (17,600) (7,120) (30,000)
Drawings .............................................. (10,000) (10,000) (10,000) (30,000)
Ending balances ............................ 4,720 32,400 32,880 70,000
INCOME ALLOCATION—20x5
LL CC RR Total
Interest(12% of beginning capital above) *566 3,888 3,946 8,400
Salary ................................................ 12,000 8,000 -0- 20,000
Remaining income/loss: (2,520) (4,200) (1,680) (8,400)
Totals......................... 10,046 7,688 2,266 20,000
*Rounded
STATEMENT OF PARTNERS' CAPITAL—DECEMBER 31, 20x6
LL CC RR Total
Beginning balances (above) 4,720 32,400 32,880 70,000
Additional investment .......................... -0- -0- 12,000 12,000
Income allocation ................................. 10,046 7,688 2,266 20,000
Drawings .............................................. (10,000) (10,000) (10,000) (30,000)
Ending balances ............................ 4,766 30,088 37,146 72,000

INCOME ALLOCATION—20x6
LL CC RR Total
Interest (12% of beginning capital
above)* ......................................... 572 3,611 4,457 8,640
Salary ................................................ 12,000 8,000 -0- 20,000
Remaining income................................ 2,272 4,544 4,544 11,360
Totals...................................... 14,844 16,155 9,001 40,000
*Rounded

STATEMENT OF PARTNERS' CAPITAL—DECEMBER 31, 20x6

LL CC RR Total
Beginning balances (above) 4,766 30,088 37,146 72,000
Income allocation 14,844 16,155 9,001 40,000
Drawings (10,000) (10,000) (10,000) (30,000)
Ending balances 9,610 36,243 36,147 82,000

23. Julio, P2,820 decrease; Fong, P120 increase

Short-term prepayments 2,700
Julio, Capital 2,820
Fong, Capital 120
Salaries Payable 5,400
The correction to partners' capital accounts is
computed as follows:
Julio Fong
Inventories understated by P12,000,
Dec. 31, 20x5 P 6,000 P 6,000
Inventories understated by P12,000,
Jan. 1, 20x6 (7,200) (4,800)
Accrued salaries of P5,400 not recorded,
Dec. 31, 20x6 (3,240) (2,160)
Short-term prepayments of P2,700
not recorded, Dec. 31, 20x6 1,620 1,080
Net corrections to partners' capital
accounts P(2,820) P 120