In order to form the partnership, partners have to invest in the entity. The investment may be in the form of fixed assets which is taken in the partnership business at the value as mutually decided among the partners. The investment may be in the form of cash as well.
Reasons for Partnership Formation
There are many reasons for building a partnership firm. Most common are:
- larger amount of capital can be raised because more than one persons invest in the business,
- it is very easy to form a partnership, even you can set it up in a day.
- partners contribute diverse skills, expertise and ideas into the business.
- workload is shared among partners, so each partner can focus on its specific areas.
Essential Features of Partnership Agreement
- Though, partnership can be created orally. But, in order to protect the interest of each partner, it is always good to have the agreement in writing.
- Agreement among partners is called Partnership Deed.
- the deed must mention the way of distributing profits and losses among partners. They can decide to share equally or in other agreed ratio.
- Interest on profits may be shared among existing partners according to the ratio of capital invested by each of them. Such amount is called Interest on Capital.Usually, this interest rate is decided and mutually agreed among partners is written in the deed document.
- Whenever a partner draws funds from the partnership, it is referred to as drawing. Partners may decide to charge interest on drawing amount. Such interest is mentioned in the partnership deed on per annum basis. It is a penalty amount which reduces the profit share of the individuals in the firm.
- If some of the partners take lead role or active role in managing the business, then he or she may be allowed to take reward which is called Partnership Salary.
Partnership accounting problems with answers
Example
Adam, Boon and Chelsey decided to form the partnership firm. They contributed as follows:
Adam – computers $500,000 and cash $300,000
Boon – cash 700,000 and stock 100,000
Chelsay – plant 280,000 and cash $520,000
Required:
Calculate the initial capital of each partner,
Pass journal entries for the above transaction in the books of partnership firm,
Prepare the statement of financial position/ balance sheet on the formation of the partnership.
Solution
Initial Capital Calculation
Adam – Cash 300,000 + computers 500,000 = $800,000
Boon – Cash 700,000 + stock 100,000 = $800,000
Chelsey – Cash 520,000 + plant 280,000 = $800,000
Journal Entries
| Description | Debit | Credit |
| Cash | 300,000 | |
| Computers | 500,000 | |
| Adam’s capital | 800,000 | |
| Cash | 700,000 | |
| Stock | 100,000 | |
| Boon’s capital | 800,000 | |
| Cash | 520,000 | |
| Plant | 280,000 | |
| Chelsey’s capital | 800,000 |
Example 2
Ryan and Smith were the main competitors in the shoe industry. Due to unhealthy competition between them, On May 15, 2014, they decided to form a new partnership entity with the name of RS & Co by merging out their businesses. On 15th May, 2014, their accounts balances are as follows:
| Mr Ryan | Mr Smith | |
| Cash | 16,000 | 24,000 |
| Account receivable | 80,000 | 96,000 |
| Inventory | 64,000 | 40,000 |
| Machinery – cost | 120,000 | 96,000 |
| Factory equipment – cost | 56,000 | 64,000 |
| Accumulated depreciation – machinery | 64,000 | 32,000 |
| Accumulated depreciation – factory equipment | 24,000 | 40,000 |
| Allowance for doubtful debts | 5,600 | 3200 |
| Accounts payable | 64,000 | 76,000 |
In order to complete the formation of a new partnership, the following valuations were agreed upon between Ryan and Smith as follows:
Ryan:
Accounts receivable: $ 51,000, inventory at: $ 56,000 & machinery at: 30,000.
Smith:
Accounts receivable: $16,000, factory equipment: $10,000
Required
- Record the journal entries to form the new partnership,
- Make initial balance sheet of the newly established firm.
Solution
RS & Co.
Partnership Accounting Journal Entries
| Particulars | Debit | Credit |
| In order to record the investment of Mr. Ryan, the following entry would be recorded: Cash Accounts receivable Inventory Machinery Factory equipment Accumulated depreciation – factory equipment Accounts payable Ryan capital | 16,000 51,000 56,000 30,000 56,000 | 24,000 64,000 121,000 |
| In order to record the investment of Mr. Smith, the following entry would be recorded: Cash Accounts receivable Inventory Machinery Factory equipment Accumulated depreciation – machinery Accounts payable Smith capital | 24,000 16,000 40,000 96,000 10,000 | 32,000 76,000 78,000 |
RS & Co.
Balance Sheet
As at May 15, 2014
| ASSETS | CAPITAL & LIABILITIES | ||
| Cash Accounts receivable Inventory Machinery Less: acc dep Factory equipment Less: acc dep | 40,000 67,000 96,000 126,000 (32,000) 66,000 (24,000) | Accounts payable Capital Ryan Smith | 140,000 121,000 78,000 |
| 339,000 | 339,000 |
Partnership Question Partnership Formation
Mr Alan, Mr Bond and Mr Charlie created a partnership business with equal amount of capital as follows:
Mr Alan – cash 300,000, office equipment worth INR 500,000.
Mr Bond – cash 700,000 and merchandise for the balance amount.
Mr Charlie – machinery worth INR 560,000 and cash for the balance amount.
As per their partnership deed, the capital of each partner would be equal to the capital of Mr Alan.
Required:
a. calculate the capital of each partner.
b. record entries in the general journal of the partnership firm for the above mentioned transactions.
c. prepare balance sheet on the formation of the partnership firm in the classifed form.
Solution
a. Calculation of initial amount of capital
Initial capital of Mr Alan
Cash 300,000
Office equipment 500,000
Total capital 800,000
Initial capital of Mr Bond
Cash 700,000
Office equipment 100,000
Total capital 800,000
Initial capital of Mr Charlie
Machinery 560,000
Cash 240,000
Total capital 800,000
b. General Journal Entries
| Date | Particulars | Debit | Credit |
Cash Office equipment Mr. Alan’s Capital (To record investment in partnership business by Mr. Alan) | 300,000 500,000 | 800,000 | |
Cash Merchandise Mr. Bond’s Capital (To record investment in partnership business by Mr. Bond) | 700,000 100,000 | 800,000 | |
| Cash Machinery Mr. Charlie’s Capital (To record investment in partnership business by Mr. Charlie) | 240,000 560,000 | 800,000 |
b. Balance Sheet
As on
| Assets | Capital & Liabilities | ||
| Cash Merchandise Office equipments machinery | 1,240,000 100,000 500,000 560,000 | Mr. Alan’s Capital Mr. Bond’s Capital Mr. Charlie’s Capital | 800,000 800,000 800,000 |
| 2,400,000 | 2,400,000 |
Partnership Accounting Example On Jan 1, 2017 Raju, Sanjay and Tendulkar formed a shoe manufacturing partnership. Each of the partners have strong reputation in the shoe industry and as a result, their venture could bring about significant benefits for every partner. They agreed to share profit & loss in the ratio of 1:2:3 respectively. The said ratio is based on the basis of capital contribution of each partner.
Raju, who is the oldest among all partners contributed with a cash money of INR 60,000 and machinery costing INR 120,000.
Sanjay who has vast experience in supply chain management contributed with furniture of INR 100,000 and with cash.
On the other hand, Tendulkar just contributed with cash balance.
Required
a. record entries in the general journal of the partnership.
Solution
First, we need to calculate capital of each partner.
Raju’s capital (60,000 + 120,000) 180,000
As Raju’s shae of capital is 1/6th, so we can calculate total capital of the firm as follows:
Total capital of the partnership firm (6×180,000) 10,80,000
Now, we can easily calculate Sanjay and Tendulkar’s capital a s follows:
Sanjay’s capital (10,80,000 x 2/6) 360,000
Tendulkar’s capital (10,80,000 x 3/6) 540,000
Raju, Sanjay & Tendulkar Partnership
Journal Entries
| Date | Particulars | Debit | Credit |
Cash Machine Raju’s capital (To record the contribution of raju in the partnership firm) | 60,000 120,000 | 180,000 | |
Cash Furniture Sanjay’s capital (To record the contribution of Sanjay in the partnership firm) | 260,000 100,000 | 360,000 | |
Cash Tendulkar’s capital (To record the contribution of Tendulkar in the partnership firm) | 540,000 | 540,000 |
Point to be noted: It should be noted that the value at which assets and liabilities are taken into the partnership are important for us. It does not matter what are their original value. The relevant value for partnership formation is the agreed value among the partners. So, simply ignore the actual value of the assets or liabilities.
Question: Aiman and Fazila fomed a retial outlet for grocery named “Savers” with a capital investment of 1,000,000 of which Aiman has 40 % share while Fazila has 60 % shares.
Aiman contributed with furniture which costs INR 400,000 at an agreed value of 325,000. On the other hand, Fazila contributed in the partnership with equipment costing 350,000 but at an agreed value of 450,000. Apart from this, each partner invested necessary cash to meet the capital requirement.
Required
i. prepare journal entries to record the capital investment of Aiman and Fazila.
ii. prepare the balance sheet of the newly formed partnership.
Solution
Savers Partnership
General Journal Entries
| Date | Particular | Debit | Credit |
Cash Furniture Aiman capital (To record the investment of Aiman) | 75,000 325,000 | 400,000 | |
Cash Equipment Fazila capital (To record the investment of Fazila) | 150,000 450,000 | 600,000 |
Savers Partnership
Balance Sheet
As on ………..
| Assets | Equities | ||
| Cash | 225,000 | Aiman capital | 400,000 |
| Furniture | 325,000 | Fazila capital | 600,000 |
| Equipment | 450,000 | ||
| 1,000,000 | 1,000,000 |
Example:
Alex and Albert were conducting a business of selling high brand shoes in the major cities of UK. On June 05, they taken a big decision of merge their business and form a partnership under the name of AA & Co. On this date, the status of assets and liabilities were as under:
| Alan | Albert | |
| Cash Other assets Accounts payable | 80,000 400,000 100,000 | 120,000 480,000 160,000 |
The assets and liabilities of the Alan and Albert were taken at the book value in the newly established partnership firm. At the time of making a partnership deed, they mutually decided that the capital of each partner would be 420,000. In case of any deficiency, they will contribute from their private fund.
Required
As chief accountant of the partnership firm, you are required to prepare journal entries to record formation of the firm.
Solution
AA & Co.
Journal Entries
| Date | Particulars | Debit | Credit |
Cash Other assets Accounts payable Alan capital (To record investment from Alan) | 80,000 400,000 | 100,000 380,000 | |
Cash Other assets Accounts payable Albert capital (To record investment from Albert) | 120,000 480,000 | 160,000 440,000 | |
| Cash Alan capital | 40,000 | 40,000 | |
| Albert capital Cash | 20,000 | 20,000 |