Unit 5

5.1 Forms of Business Organization

These are the basic forms of business ownership:

1. Sole Proprietorship

A sole proprietorship is a business owned by only one person. It is easy to set-up and is the least costly among all forms of ownership.

The owner faces unlimited liability; meaning, the creditors of the business may go after the personal assets of the owner if the business cannot pay them.

The sole proprietorship form is usually adopted by small business entities.

2. Partnership

A partnership is a business owned by two or more persons who contribute resources into the entity. The partners divide the profits of the business among
themselves.

In general partnerships, all partners have unlimited liability. In limited partnerships, creditors cannot go after the personal assets of the limited partners.

3. Corporation

A corporation is a business organization that has a separate legal personality from its owners. Ownership in a stock corporation is represented by shares of stock.

The owners (stockholders) enjoy limited liability but have limited involvement in the company's operations. The board of directors, an elected group from the
stockholders, controls the activities of the corporation.

In addition to those basic forms of business ownership, these are some other types of organizations that are common today:

Limited Liability Company

Limited liability companies (LLCs) in the USA, are hybrid forms of business that have characteristics of both a corporation and a partnership. An LLC is not
incorporated; hence, it is not considered a corporation.

Nonetheless, the owners enjoy limited liability like in a corporation. An LLC may elect to be taxed as a sole proprietorship, a partnership, or a corporation.

Cooperative

A cooperative is a business organization owned by a group of individuals and is operated for their mutual benefit. The persons making up the group are called
members. Cooperatives may be incorporated or unincorporated.

Some examples of cooperatives are: water and electricity (utility) cooperatives, cooperative banking, credit unions, and housing cooperatives.

5.3 A Computerised Accounting Information System Information Technology Essay

Accounting information system (AIS) is a system that collects and stores data and processes the data into information for decision making. In the past, AIS was
done manually, but today, it becomes computer-oriented. Most companies use AIS to keep track of accounting activities using information technology.

The shift from manual to computerized accounting information system will make an impact to the organization. The impacts are the time, accuracy, cost of
disbursement and the internal control.

Time is important to the organization. The staffs will be able to perform tasks faster using computer. They are able to get the information at a quickly and this
aspect of time is a most important advantage. On the other hand, the company needs to spend a large amount time plan and set up the infrastructure, especially a
large company that may need to implement change periodically. The company also needs to spend time to train the staffs and considers the time lost when there is
any system failure.

Computerized accounting information system can increase the accuracy of the information. A computer is able to spell check any misspells error or find out any
missing data when staffs forget to input the data. With the increase in accuracy, the staffs will be able to process the information more efficiently and effectively.
The company needs to plan the monetary cost of the equipments, data storage system and technical support for the upgrades. They also need to plan the cost for
training the staffs. An efficient computerized accounting information system can reduce the size of the accounting department, thus saving the labour and benefits
cost. They also can reduce costs associated with stationeries and paper-related documents.

Internal control is an essential practice in accounting information system as it helps to ensure that the business and transaction is conducted in an orderly manner. It
also ensure that the stability of the company’s asset and able to minimize the lost of information and errors when the problems occur. The internal control gets
more complicated with the introduction of computerized accounting. Internal control consists of control environment, risk assessment, monitoring, and information
and communication element. New hardware and software will be introduced and the company is required to equip the staffs with computerized accounting skills to
make sure that the staffs will carry out their work effectively. The staffs are required to adapt to the changes in the new working environment. The methods used
for retrieving, processing and storing of data will be computerized.

Control environment refers to the way the company handles their employees. The company must set up an effectively policies and regulation for the staffs to
follow to meet their target. The management and the staffs also need to understand their roles in the internal control process to facilitate the flow of the work
process. Having effective control environment helps the company to manage the staffs and their target’s performance.

Risk assessment means to find out all the potential threats, the causes of it, probabilities of encountering them and build-up counter-measures to evade or handle
the problems. Poor risk assignment could adversely affect the achievement of the organizations. The senior management are required to determine and review the
risks regularly. The risks include legal risks, market risks, operations risks, reputational risks, liquidity risks, corruption risks, financial risks and etc.

Monitoring refers to keeping track of the quality control of organization's operations and employee activities. Monitoring can also help to determine the key risks
of daily operations. Effective monitoring will help the business to be carried out effectively.

Information and communication element refers to the control of information that passed effectively and accurately in the organization. The main goal is to prevent
or minimize miscommunication and the loss of information. Having accurate information on time helps to enhance the productivity rate of the employee and helps
the company to meet their target.

The accounting information systems contain confidential data that should be kept safe all the times. The consequences of the security threats can be devastating as
it can disturb the workflow in the department. It will lead to a delay or stoppage of work. The security threats of computerized accounting information system are
also associated with the use of information technology. The security hazards, ranging from internal to external threats, include power failure, computer’s
component failure, computer viruses, data corruption, hostile acts, such as arson, theft and vandalism , natural disasters ,such as floods, lightning, earthquakes,
landslides, tornadoes and tsunami. Company must set up properly preventive measures to prevent or minimize the problems when it occurs.

The accounting staffs and auditors must employ a high ethical standard when working with financial data. The staffs must also understand the confidentiality of
the data. The company is required to select the most trustworthy staffs to handle these data. This will prevent or reduce the number of internal threats.

The company must make sure that the accounting equipment is kept securely and limit the access of the staff. The cables connecting to the equipments are to be
kept away from people to prevent them from being destroyed. The Company needs to set up door locks and invasion detection devices. These could prevent
unauthorized access to the key places or damaging of accounting equipments.

The system in the company must authenticate the users with username and password. Only authorized users are allowed to use the computer. The staffs must not
share their passwords and required to change them regularly. The password should be long and difficult to guess. A good password contains upper and lower case
letters, numbers and special characters. Individual rights are to be given according to their roles in the organization. Restrict users is necessary as they will not be
able to obtain confidential data. Random personal information checks should be conducted to identify staffs and unauthorized users. This will prevent or minimize
the unauthorized access or use of data.

The computer system is vulnerable to viruses and malware attacks. Some viruses enable hackers to get inside the system and create troubles for the organization.
Some others can cause the entire system to malfunction and even make it. With the use of internet, the threats of viruses and malware increases. The company is
required to make sure of anti-virus software, firewalls and other security devices to minimize the threats. The software is to be fully updated on regularly basis.

Backup of data refer to saving the data in a storage devices especially the data of accounting system. It is important as it can restore data when something happen
to the system. It should be conducted in an isolated place, where unauthorized user is not able to access the premises. Important data such as financial data should
be backed up daily, weekly or monthly according to how critical is the data. A good backup procedure takes place overnight so that the user will not disrupt the
performance of it. In the event of a threat, restoring of entire data may take some time but it can minimize the organization’s liquidity loss.

Fire suppression equipments are also important to the company as fire is the most common threat. Company could gone out of business because the loss of key
data such as financial reports. To effectively implement a fire-suppression system, the company needs to consult the specialists. The company are required to
install the alarms at a strategic locations and connected to a fire-fighting station. Automated fire-extinguishing system must be able to dispenses suitable type of
suppressant such water, foam, dry chemical, carbon dioxide, Halomethane, vaporising liquid and wet chemical at different situation. For example, extinguish fire
with water will

These internal control procedures help to safeguard the organizations’ assets and maximize the effectiveness and efficient rate of the organization. It is the
responsibility of management to ensure that the staffs carry out their roles properly.

5.2 Introduction to Accounting Information Systems – AIS

An accounting information system (AIS) is a structure that a business uses to collect, store, manage, process, retrieve and report its financial data so it can be used
by accountants, consultants, business analysts, managers, chief financial officers (CFOs), auditors, regulators, and tax agencies.

Specially trained accountants work in-depth with AIS to ensure the highest level of accuracy in a company's financial transactions and record-keeping, as well
as make financial data easily available to those who legitimately need access to it—all while keeping data intact and secure.

Introduction To Accounting Information Systems

1. AIS People
The people in an AIS are simply the system users. Professionals who may need to use an organization's AIS include accountants, consultants, business analysts,
managers, chief financial officers, and auditors. An AIS helps the different departments within a company work together.

For example, management can establish sales goals for which staff can then order the appropriate amount of inventory. The inventory order notifies the accounting
department of a new payable. When sales are made, salespeople can enter customer orders, accounting can invoice customers, the warehouse can assemble the
order, the shipping department can send it off, and the accounting department gets notified of a new receivable. The customer service department can then track
customer shipments and the system can create sales reports for management. Managers can also see inventory costs, shipping costs, manufacturing costs and so on.

With a well-designed AIS, everyone within an organization who is authorized to do so can access the same system and get the same information. An AIS also
simplifies getting information to people outside of the organization, when necessary.

For example, consultants might use the information in an AIS to analyze the effectiveness of the company's pricing structure by looking at cost data, sales data,
and revenue. Also, auditors can use the data to assess a company's internal controls, financial condition and compliance with the Sarbanes-Oxley Act (SOX).

The AIS should be designed to meet the needs of the people who will be using it. The system should also be easy to use and should improve, not hinder efficiency.

2. Procedures and Instructions

The procedure and instructions of an AIS are the methods it uses for collecting, storing, retrieving and processing data. These methods are both manual and
automated. The data can come from both internal sources (e.g., employees) and external sources (e.g., customers' online orders). Procedures and instructions will
be coded into AIS software—they should also be "coded" into employees through documentation and training. To be effective, procedures and instructions must
be followed consistently.

3. AIS Data
To store information, an AIS must have a database structure such as structured query language (SQL), a computer language commonly used for databases. The
AIS will also need various input screens for the different types of system users and data entry, as well as different output formats to meet the needs of different
users and various types of information.

The data contained in an AIS is all the financial information pertinent to the organization's business practices. Any business data that impact the company's
finances should go into an AIS.

The type of data included in an AIS will depend on the nature of the business, but it may consist of the following:

 sales orders
 customer billing statements
 sales analysis reports
 purchase requisitions
 vendor invoices
 check registers
 general ledger
 inventory data
 payroll information
 timekeeping
 tax information

This data can then be used to prepare accounting statements and reports, such as accounts receivable aging, depreciation/amortization schedules, trial balance,
profit and loss, and so on. Having all this data in one place—in the AIS—facilitates a business's record-keeping, reporting, analysis, auditing, and decision-making
activities. For the data to be useful, it must be complete, correct and relevant.

On the other hand, examples of data that would not go into an AIS include memos, correspondence, presentations, and manuals. These documents might have a
tangential relationship to the company's finances, but, excluding the standard footnotes, they are not really part of the company's financial record-keeping.

4. AIS Software
The software component of an AIS is the computer programs used to store, retrieve, process, and analyze the company's financial data. Before there were
computers, an AIS was a manual, paper-based system, but today, most companies are using computer software as the basis of the AIS. Small businesses might use
Intuit's Quickbooks or Sage's Sage 50 Accounting, but there are others. Small to mid-sized businesses might use SAP's Business One. Mid-sized and large
businesses might use Microsoft's Dynamics GP, Sage Group's MAS 90 or MAS 200, Oracle's PeopleSoft or Epicor Financial Management.

Quality, reliability, and security are key components of effective AIS software. Managers rely on the information it outputs to make decisions for the company,
and they need high-quality information to make sound decisions.

AIS software programs can be customized to meet the unique needs of different types of businesses. If an existing program does not meet a company's needs, the
software can also be developed in-house with substantial input from end users or can be developed by a third-party company specifically for the organization. The
system could even be outsourced to a specialized company.

For publicly-traded companies, no matter what software program and customization options the business chooses, Sarbanes-Oxley regulations will dictate the
structure of the AIS to some extent. This is because SOX regulations establish internal controlsand auditing procedures with which public companies must comply.

5. IT Infrastructure
Information technology infrastructure is just a fancy name for the hardware used to operate the accounting information system. Most of these hardware items a
business would need to have anyway, including computers, mobile devices, servers, printers, surge protectors, routers, storage media, and possibly back-up power
supply. In addition to cost, factors to consider in selecting hardware include speed, storage capability and whether it can be expanded and upgraded.
Perhaps most importantly, the hardware selected for an AIS must be compatible with the intended software. Ideally, it would be not just compatible, but optimal—
a clunky system will be much less helpful than a speedy one. One way businesses can easily meet hardware and software compatibility requirements is by
purchasing a turnkey system that includes both the hardware and the software that the business needs. Purchasing a turnkey system means, theoretically, that the
business will get an optimal combination of hardware and software for its AIS.

A good AIS should also include a plan for maintaining, servicing, replacing and upgrading components of the hardware system, as well as a plan for the disposal
of broken and outdated hardware so that sensitive data is completely destroyed.

6. Internal Controls
The internal controls of an AIS are the security measures it contains to protect sensitive data. These can be as simple as passwords or as complex as biometric
identification. An AIS must have internal controls to protect against unauthorized computer access and to limit access to authorized users, which includes some
users inside the company. It must also prevent unauthorized file access by individuals who are allowed to access only select parts of the system.

An AIS contains confidential information belonging not just to the company but also to its employees and customers. This data may include Social Security
numbers, salary information, credit card numbers, and so on. All of the data in an AIS should be encrypted, and access to the system should be logged and
surveilled. System activity should be traceable as well.

An AIS also needs internal controls that protect it from computer viruses, hackers and other internal and external threats to network security. It must also be
protected from natural disasters and power surges that can cause data loss.

How an AIS Works In Real Life

We've seen how a well-designed AIS allows a business to run smoothly on a day-to-day basis or hinders its operation if the system is poorly designed. The third
use for an AIS is that, when a business is in trouble, the data in its AIS can be used to uncover the story of what went wrong.

The cases of WorldCom and Lehman Brothers provide two examples.

In 2002, WorldCom internal auditors Eugene Morse and Cynthia Cooper used the company's AIS to uncover $4 billion in fraudulent expense allocations and other
accounting entries. Their investigation led to the termination of CFO Scott Sullivan, as well as new legislation — section 404 of the Sarbanes-Oxley Act, which
regulates companies' internal financial controls and procedures.

When investigating the causes of Lehman's collapse, a review of its AIS and other data systems was a key component, along with document collection and review,
plus witness interviews. The search for the causes of the company's failure "required an extensive investigation and review of Lehman's operating,
trading, valuation, financial, accounting and other data systems," according to the 2,200-page, nine-volume examiner's report.

Lehman's systems provide an example of how an AIS should not be structured. Examiner Anton R. Valukas' report states, "At the time of its bankruptcy filing,
Lehman maintained a patchwork of over 2,600 software systems and applications... Many of Lehman's systems were arcane, outdated or non-standard."

The examiner decided to focus his efforts on the 96 systems that appeared most relevant. This examination required training, study, and trial and error just to learn
how to use the systems.

Valukas' report also noted, "Lehman's systems were highly interdependent, but their relationships were difficult to decipher and not well-documented. It took
extraordinary effort to untangle these systems to obtain the necessary information."

(Also, check out Case Study: The Collapse of Lehman Brothers.)

The Bottom Line

The six components of an AIS all work together to help key employees collect, store, manage, process, retrieve, and report their financial data. Having a well-
developed and maintained accounting information system that is efficient and accurate is an indispensable component of a successful business.

5.6 WHAT ARE THE COMPONENTS OF GOOD ACCOUNTING INFORMATION SYSTEM?

People: people are the main component of any system. Systems cannot operate itself, not even the most automated system. A lot of people think that AIS is all
computerised based. No, the system can be either manual or automated. Having good people to manage other components of the accounting system is very
important. The human resourceteam flex their muscle in hiring and retaining the best of breeds in a company. People are the only asset that a company has that
cannot be included in either the asset register or the statement of financial position.

Way of doing things: procedures, policies, instructions and rules all make up good chunk of AIS. People that pilot the accounting system will surely be confused
if there are no instructions and procedures to follow. For example, the budgetary control system which is within the AIS will not function properly if there is no
procedure to follow through when implementing the functions of budgeting.

Data: this is in the form of information asset. Accounting information system will not be complete without having data that runs through the system. What is the
need of having other features and infrastructures without having the data to make sense out of it? An accounting information system will not be complete without
having one form of data or the other.

Date management and enhancement software: data management and enhancement tools which come in the form of accounting software and other resources
work from the soft side of the system as a whole. The importance of accounting softwarefor example cannot be overemphasised when it comes to developing
and designing a company’s financial accounting systems as a whole. You will find out that the whole system will be inefficient and prone to errors and mistake if
there are no software that does the routine and mundane part of the system that does not require much input from human beings. It will be suicidal to subject
an accounting clerk to the torture of manually perform the calculation aspects of ratio analysis.

Governance and internal control: governance and internal controls are vital operational element of any successfully run organization. For a system to be
effective, it has to be imbibed into the overall cultural atmosphere of the organization. These are perfectly captured in the way a business is controlled and
 managed. Corporate governancewhich is the system that describes how resources are managed and controlled is a corner stone that an accounting information
system cannot deal without.

IT infrastructure: these are the hardware platform that acts as medium through which other components of accounting information system operates. Things like;
computers, servers, networking devices (hubs, bridges, routers, and switches), printers, scanners, copier, etc all fall under this category of components.

It the part of the management functions to manage all the above components of accounting information system is an efficient and profitable way in order to
achieve the overall goal of an organization. One of the main characteristic of a manager is to have the managerial skill needed in making these components run
smoothly.

5.7 Development Of Accounting Information Systems

Developing Accounting Information Systems (AIS) includes five basic steps that include planning, analysis, design, implementation, and support. The time period
associated with each of these steps can be as short as a few weeks or as long as several years depending on the objectives.
Planning – project management objectives and techniques – The very first phase of a AccountingInformation System Development is planning the project.
This involves determination of the scope and objectives of the project, the definition of project responsibilities, control requirements, project phases, budgets, and
final products.
Analysis – The analysis phase is used to determine and document the accounting and business processes used by the company. These accounting processes are
usually redesigned to take advantage of the operating characteristics of modern system solutions.
Data Analysis is a review of the accounting information that is currently being collected by a company. Current data are then compared to the data that the
organization should be using for managerial purposes. This method is used primarily when designing accounting transaction processing systems.

Decision Analysis is a review of the decisions that a manager is responsible for making. The primary decisions that managers are responsible for are identified on
an individual basis. Then models are created to support the manager in gathering financial and related information to develop and design alternatives, and to make
actionable choices. This method is valuable when the primary objective of the system is decision support.
Process Analysis is a review of the company business processes. The organizational processes are identified and segmented into a series of events that are able to
either add or change data. These processes can then be modified or reengineered to improve the organization’s operations in terms of lowering cost, improving
service, quality, or management information. This accounting method is used when automation or reengineering is the system’s primary objective.

5.8 What is a special journal?

Definition of a Special Journal

A special journal (also known as a specialized journal) is useful in a manual accounting or bookkeeping system to reduce the tedious task of recording both
the debit and credit general ledger account names and amounts in a general journal.
Example of a Special Journal
One example of a special journal is the sales journal which is used exclusively for a company’s sales of merchandise to customers that are allowed to pay at a
future date. The sales journal will have only one column in which to enter the amount of each sales invoice. At the end of the month the total of the column is
debited to Accounts Receivable and credited to Sales. Throughout the month, the individual sales invoices will be posted to each customer’s record found in the
company’s subsidiary ledger for Accounts Receivable.
The benefits of using a special journal instead of the general journal for the repetitive transactions have been eliminated with today’s inexpensive yet powerful
accounting software. For example, when a sales invoice is prepared by using accounting software, both the general ledger and subsidiary accounts will be updated
instantly and accurately.

More Examples of Special Journals

In addition to the sales journal (used for recording sales on credit), there are other special journals which were popular in manual accounting systems. The
following special journals were more efficient than recording all transactions in the general journal:

 Cash disbursement journal for recording checks written.

 Cash receipts journal for recording cash sales and other money received.
 Purchases journal for recording purchases on credit of goods to be resold. (Cash purchases are recorded in the cash disbursement journal. Purchases of items
such as equipment are recorded in the general journal.)
5.9 A subsidiary ledger stores the details for a general ledger control account. Once information has been recorded in a subsidiary ledger, it is
periodically summarized and posted to a control account in the general ledger, which in turn is used to construct the financial statements of a company.
Most accounts in the general ledger are not control accounts; instead, individual transactions are recorded directly into them. Subsidiary ledgers are
used when there is a large amount of transaction information that would clutter up the general ledger. This situation typically arises in companies with
significant sales volume. Thus, there is no need for a subsidiary ledger in a small company.

A subsidiary ledger can be set up for virtually any general ledger account. However, they are usually only created for areas in which there are high
transaction volumes, which limits their use to a few areas. Examples of subsidiary ledgers are:

 Accounts payable ledger

 Accounts receivable ledger

 Fixed assets ledger

 Inventory ledger

 Purchases ledger

As an example of the information in a subsidiary ledger, the inventory ledger may contain transactions about receipts into st ock, movements of stock to
the production floor, conversion into finished goods, scrap and rework reporting, write-offs for obsolete inventory, and sales to customers.
Part of the period-end closing process is to post the information in a subsidiary ledger to the general ledger. Posting is usually a manual proc essing
step, so you need to verify that all subsidiary ledgers have been appropriately completed and closed before posting their summarized total s to the
general ledger. Otherwise, some late transactions may not be posted into the general ledger until the next reporting period.

In order to research accounting information when a subsidiary ledger is used, you need to drill down from the general ledger to the appropriate
subsidiary ledger, where the detailed information is stored.

There is no need to set up subsidiary ledgers from a control or data access perspective, since you can usually restrict acces s to individual accounts in
better accounting software packages.

Similar Terms

A subsidiary ledger is also known as a subledger or a subaccount.

Unit 7
7.1 The Pros of Partnerships…

Now that you have a better idea of how a partnership works, let’s now discuss some of the benefits of starting up one of thes e types of businesses.

 More Capital: As you probably already know, it takes money, a lot of money, to start up a business. Once of the downfalls of the sole
proprietorship, in which one person is responsible for a business, the partnership benefits from the presence of several wall ets. The more money
that is poured into a company in the beginning, the better its chances are in growing and expanding in the future. More capital in the beginning of
the business is sort of a gift that keeps on giving in that, if the well-funded company is profitable down the line, that translates to more money for
the owners in the future.
 Flexibility and Ease: There is all kinds of flexibility inherent in a partnership. First off, they’re usually much easier to get off the ground, and
once started, they’re generally easier than other types of businesses to operate and manage. In regards to daily operations, decisions are relat ively
easily made, especially compared to a publicly owned corporation, assuming the partners can come to an agreement. Laws and re gulations also
tend to be the easiest on partnerships.
 Decision Making: Sometimes a source of dissension, but more often than not, the source of inspiration, having several people pitch in ideas as to
how the business should run is great way to find a fantastic idea that one person alone may not have thought of.
 Shared Responsibility: Though there may sometimes be hiccups in the decision-making process, the fact that the owners can delegate managerial
responsibilities in several ways is a much bigger advantage. They may choose to break things up equally, or they may decide that it’s a better idea
to delegate by skills, having people do the things they’re good at. This course on managing up will show those in power how to deal with other
managers, as well as those under you.

…And Now the Cons

 Taxes: The partners of a company must each pay taxes on their earnings, and each must submit a tax return each year. If the business is successful,
and the partners end up earning above a certain amount for the year, then they are responsible for a higher level of taxation.
 Sharing of Profits: Unless otherwise noted in the agreement, each of the owners in a partnership take home an equal amount of the profits,
assuming the company is making money. While this is all well and good if each of the owners are contributing equally to the success of the
business, if there are issues with some owners working harder or contributing more to the business than others, conflicts may arise due to the fact
that everyone is making the same while some are working less.
 Disagreements: Probably the biggest source of conflict in a partnership, disagreements may arise due to any number of potential issues. Thes e
conflicts may range in matters of importance, but even the smallest issue can lead to a rupturing of the partners’ relationships, resulting in damage
to the overall integrity of the company, not to mention any personal friendships. If you’re not at your best when dealing wit h conflict, this course
on conflict resolution will teach you how handle yourself properly, and make everyone happy.
 Compromises: Because all partners must agree for a decision to be made, this may lead to an idea being changed so much due to compromise that
it no longer resembles the idea it was at its inception.
 Liability: Each partner involved in a partnership is both individually and jointly responsible for the financial burdens of the company, also known
as unlimited liability. While this may be an issue for some people, they may wan to consider the prospect of starting a limit ed liability partnership.
 Limited Lifespan: Though not always the situation, a partnership will normally last until one of the partners withdraws their interest, or passes
away.

The partnership seems like a pretty sweet deal, doesn’t it? It’s perfect for those intrepid entrepreneurs out there that want to start a business, but lack either the
funds, experience, or know-how to go it alone. If you have that rare combination of business-savvy, but also are able to compromise and get along well with
people, maybe the partnership is right for you. If you have the former, but lack the latter, this course on working with difficult people will show you how to
deal with tough coworkers.

7.2 Partnership Deed

Now a partnership is when two persons form an association to carry out a business with the motive to earn profits. They share the profits from such a business. Such an
association will be voluntarily entered into by the partners based on an agreement between them.

Such an agreement between partners can be written or can even be oral. However, it is strongly advised for legal and practical purposes that such an agreement or contract
be in the written form. And this written agreement between partners to form a partnership firm is what we call a Partnership Deed.
Contents of Partnership Deed

This partnership deed will contain all the conditions and the legalities of the partnership deed. It will provide a guiding basis for all future activities. And in case of a
dispute or legal proceedings, it can also be used as evidence. A general partnership deed will contain the following information,

 The agreed name of the Partnership Firm. Please note that such a name cannot have the words “company” or “private company” in it.

 The nature of the business will also be mentioned in the deed

 Date of commencement of such business

 The place of business, i.e addresses of main office or branch offices if any, where communication can be sent

 The duration of a partnership if it is a partnership for a specific purpose or time. If it is a partnership at will then no such duration will be mentioned

 Contribution to the capital of all the partners

 Profit sharing ratio. However, if no ratio is given it is assumed that the profit is shared by all the partners equally.

 Salary of all active partners

 Interest on contribution and the interest on drawings (must be according to the provisions of the Indian Partnership Act 1932)

 Terms and conditions of the retirement or expulsion of a partner, and the terms to continue the partnership after such an incident

 The day-to-day functioning of the firm and the distribution of the managerial duties among the partners

 Preparation of the firm’s accounts and the provisions for internal and statutory audit

 Procedure for voluntary or forced dissolution of the firm

 Guidelines for solving any disputes and arbitration process to be followed

7.7 Accounting Procedure of Dissolution of Partnership Firm!

The dissolution of partnership among all the partners of a firm is called the Dissolution of the Firm (Sec. 39 of the Partnership Act, 1932). Dissolution of
Partnership involves a change in the relation of partnership business, if the remaining partners resolve to continue the concern. In such cases there will be a new
partnership but the firm will continue in a reconstituted form.

Dissolution:
Dissolution of firm means complete breakdown of the relation of partnership among all the partners. When all the partners resolve to dissolve the partnership, the
dissolution of firm occurs, i.e. the firm is wound up.

If the business comes to an end, it is said that the firm has been dissolved. Dissolution of firm means the closing down of the business. Firm’s dissolution implies
partnership dissolution but not vice versa.

That is dissolution of partnership does not mean dissolution of firm, but the dissolution of firm will be dissolved on any one of the following ways:
(A) Dissolution by Agreement (Sec. 40):
A firm may be dissolved at any time with the consent of all partners. For instance, when a firm does not expect good prospects in the future, a firm can be
dissolved by mutual consent of all partners.

(B) Compulsory Dissolution (Sec. 41):

A firm is compulsorily dissolved by operation of law when all the partners except one become insolvent or when all the partners become insolvent or when
business becomes illegal or when the number of partners exceeds twenty in case of ordinary business or ten in case of banking.

(C) Dissolution on the Happening of Certain Contingencies (Sec. 42):

A firm is dissolved, in the absence of contrary, in the event of any of the following circumstances:
(i) The expiry of the term for which it was formed.

(ii) The completion of the venture for which the partnership was constituted.

(iii) The death of a partner.

(iv) The adjudication of a partner as an insolvent.

(D) Dissolution by Notice of Partnership at Will (Sec. 43):

Where a partnership is at will, the firm may be dissolved by any partner giving notice in writing to all the other partners of his intention to dissolve the firm.

(E) Dissolution by the Court (Sec. 44):

The court is empowered to order the dissolution of a firm consequent on a suit by a partner in the following cases:
(i) When a partner becomes insane or unsound of mind.

(ii) When a partner becomes permanently incapable of performing his duties, be it mental or physical.

(iii) When a partner is proved guilty of misconduct which is likely to affect adversely the business of the firm.

(iv) When a partner conduct himself in such a way that it is not possible for the other partners to carry on partnership with him.

(v) When a partner transfers his interest or share to third party.

(vi) When the business cannot be carried out except at a loss. (It must be remembered that the object of partnership is to earn profits and if that object is not
fulfilled, the firm can be dissolved).

(vii) When it appears to be just and equitable. For instance, continued quarrelling, deadlock in the management, refusal to attend matters of business, absence of
cooperation etc. among the partners. (The court has wide discretionary powers).

7.8 A partnership starts with an agreement between two or more people who want to go into business together. When a partnership ends, the partners begin
a complicated process of fulfilling financial obligations to creditors and each other. The assistance of legal and accounting professionals can help smooth this
process.

Definition
A liquidation marks the official ending of a partnership agreement. To end the partnership, the parties involved sell the property the business owns, and each
partner receives a share of the remaining money. Each partner's share depends on the amount of money in the partner's capital account, which is a record of the
amount the partner invested and his current level of ownership in the business. The company's bookkeeping record includes a total of the amount in this account
adjusted for distributions the partner received, additional investments, and the partner's share of company losses.

Order of Liquidation
The liquidation of a partnership starts with a review of the company's assets, including property and cash, and its debts. The partners then sell the company's assets,
which can result in a gain or a loss. The money received from selling the assets goes to pay the debts the company owes, even if the company sells the assets for
less then their worth. The partners receive money from the liquidation of the business last, after the debts have been paid off.
Division of Funds
The amount of money each partner receives after paying the company's debts depends on the amount left in his capital account. For example, if partner A has
$25,000 in his capital account and partner B has $30,000 after company debt repayments, partner A will receive $25,000 and partner B will receive $30,000. If
partner A also loaned the business $15,000, though, he will receive repayment after the company pays its debts, but before the partners receive the money
remaining in their capital accounts.
Debt Balance
Sometimes the sale of a company's assets doesn't provide enough money to pay off all the company's debts. In such a case, the rest of the money comes from the
capital accounts of each partner. The percentage of the losses for which a partner is responsible depends on the partnership agreement. For example, partner A may
be responsible for 60 percent of a $10,000 debt. In such a case, $6,000 may come from that partner's capital account to pay that debt, while the remaining amount
owed comes from partner B's capital account. If either partner's capital account has too little money to pay the appropriate share, that partner usually pays the
balance from personal funds. When one of several partners cannot pay the owed share of the money, the other partners pay that partner's share, splitting the
remaining balance based on agreed-upon loss-sharing percentages. The partners who did fulfill their obligations can later sue the partner who failed to pay for the
money owed if desired.

Insolvent Partnership
If the company's debts after selling assets are more than the funds in all the partners' capital accounts combined, and none of the partners can pay from personal
funds, creditors do have recourse for getting the money owed. In such a case, creditors can usually claim and resell personal assets that belong to the partners. In
addition, each partner is personally liable for the entire debt owed, even if any given partner had only a small partnership interest in the business.
7.6 As we know a partnership is where two or more persons work together and distribute among themselves all profits and losses. But how exactly will this
distribution of profit take place? Let us see the accounting entries and effects of the distribution of profit.

Distribution of Profit among Partners

In accordance with the provisions of the partnership deed, the profits and losses made by the firm are distributed among the partners. However, sharing of profit and losses
is equal among the partners, if the partnership deed is silent.

However, certain adjustments such as interest on drawings & capital, salary & commission to partners are required to be made. For this purpose, it is customary to prepare
a Profit and Loss Appropriation Account of the firm. The final figure of profit and loss to be distributed among the partners is ascertained by Profit and LossAppropriation
Account.

Profit and Loss Appropriation Account

After the Profit and Loss Account, Profit and Loss Account Appropriation is prepared for the firm. In this account how the profit or loss among the partners of the firm is
distributed is shown. Through this account, all adjustments in respect of partner’s salary, partner’s commission, interest on capital, interest on drawings, etc. are made.

It starts with the net profit/net loss as per Profit and Loss Account is transferred to this account. The journal entries for preparation of Profit and Loss Appropriation
Account and making various adjustments through it are given as follows:
Journal Entries for Distribution of Profit

1] Transfer of the balance of Profit and Loss Account to Profit and Loss Appropriation Account

 If Profit and Loss Account shows a credit balance (net profit):

Profit and Loss A/c Dr.

To Profit and Loss Appropriation A/c

 If Profit and Loss Account shows a debit balance (net loss)

Profit and Loss Appropriation A/c Dr.

To Profit and Loss A/c

2] Interest on Capital

 For crediting interest on capital to partners’ capital account:

Interest on Capital A/c Dr.

To Partner’s Capital/ Current A/c(individually)

 For transferring interest on capital to Profit and Loss Appropriation Account:

Profit and Loss Appropriation A/c Dr.

To Interest on Capital A/c

3] Interest on Drawings

 For charging interest on drawings to partners’ capital accounts:

Partners Capital/Current A/c’s (individually) Dr.

 To Interest on Drawings A/c

 For transferring interest on drawings to Profit and Loss Appropriation Account:

Interest on Drawings A/c Dr.

To Profit and Loss Appropriation A/c

4] Partner’s Salary

 For crediting partner’s salary to partner’s capital account:

Salary to Partner A/c Dr.

To Partner’s Capital/ Current A/c (individually)

 For transferring partner’s salary to Profit and Loss Appropriation Account:

Profit and Loss Appropriation A/c Dr.

To Salary to Partner A/c

5] Partner’s Commission

 For crediting the commission to a partner, to partner’s capital account:

Commission to Partner A/c Dr.

To Partner’s Capital/ Current A/c (individually)

 For transferring commission paid to partners to Profit and Loss Appropriation Account.

Profit and Loss Appropriation A/c Dr.

 To Commission to Partner A/c

6] The share of Profit or Loss after appropriations

 If Profit:

Profit and Loss Appropriation A/c Dr.

To Partner’s Capital/ Current A/c’s (individually)

 If Loss:

Partner’s Capital/Current A/c’s (individually) Dr.

To Profit and Loss Appropriation A/c

The Performa of Profit and Loss Appropriation Account is given as follows:

Profit and Loss Appropriation Account

Dr. Cr.

Particulars Amount (Rs.) Particulars Amount (Rs

Profit and Loss (if there is a loss) xxx Profit and Loss (if there is profit) xxx

Interest on capital xxx Interest on drawings xxx

Salary to Partner xxx Partners’ Capital a/c (distribution of loss) xxx

Commission to Partner xxx

 Interest on Partner’s Loan xxx

Partners’ Capital a/c (distribution of profit) xxx

Total xxx Total xxx

Solved Example for You

Example 1:

Avi, Bob, and Charles set up a partnership firm on April 1, 2018. They contributed Rs. 50,000, Rs. 30,000 and Rs. 20,000, respectively as their capitals and agreed to share
profits and losses in the ratio of 5:3:2. Salary of Avi is Rs. 1,000 per month and Bob, a Commission of Rs. 10,000. Interest on capital at 10% p.a.

The drawings for the year were Avi Rs. 10,000, Bob Rs. 5,000 and Charles Rs. 2,000. Interest on drawings of Rs. 1000 was charged on Avi’s drawings, Rs. 500 on Bob’s
drawings and Rs. 200, on Charles’s drawings. The net profit as per Profit and Loss Account for the year ending March 31, 2018, was Rs. 36300.

Prepare the Profit and Loss Appropriation Account to show the distribution of profit among the partners.

Solution:

Profit and Loss Appropriation Account

Dr. Cr.

Particulars Amount (Rs.) Particulars Amo

Salary to Avi 12000 Profit and Loss a/c 3630

Interest on capital: Interest on drawings:

Avi 5000 Avi 1000

Bob 3000 Bob 500

Charles 2000 Charles 200

Commission to Bob 10000

The share of profit transferred to Capital accounts :

Avi 3000

Bob 1800

Charles 1200

Total 38000 Total 3800