De La Salle University

ACTBFAR – Basic Financial Accounting and Reporting

Accounting for Partnership

The following are the major considerations in the accounting for the equity of a partnership:
1. Formation – accounting for initial investments to the partnership
2. Operation – division of profits or losses
3. Dissolution – admission of a new partner and withdrawal, retirement or death of a
partner
4. Liquidation – winding-up of affairs

Introduction to Partnership

What is a partnership?
By the contract of partnership two or more persons bind themselves to contribute money, property,
or industry to a common fund, with the intention of dividing the profits among themselves. Two or
more persons may also form a partnership for the exercise of a profession.
Contract - signifies intention to make the agreement legally binding, whether written or spoken
initially.
Money may be physical cash, cash in banks, or any other things that can be considered as legal
tender.
Properties can be sub-classified further: Real and Personal. Real properties are land and buildings,
and any other immovable properties that you can think of. Personal properties are any movable
properties. It could be a thing, animal, or anything that can be considered as a property.
Industry is hard work. A person can contribute his or her skills to be a partner. Any work such as
accounting, auditing, marketing, advertising, drawing, clerical work, other specialized skills
depending on the business being formed by the partnership, anything.

Characteristics of a Partnership
1. Mutual agency: Partners are agents for the partnership. Each partner may legally bind the
partnership to a contract or agreement provided it is within expressed or implied authority.
2. Limited life: Partnerships are easily dissolved. Dissolution is the change in the relation of
partners caused by any partner's ceasing to be associated in the carrying on of the business.
3. Unlimited liability: Each partner, except the limited partner, may be called on to use his or her
personal assets, even beyond the amount of his or her investment, to satisfy partnership debts
when the partnership cannot meet its obligations.
4. Co-ownership of contributed assets: The moment an asset is invested into the partnership, it
ceases to be the contributor’s property. All partners become co-owners of partnership assets.
5. Mutual participation in profits: Since the primary intention of a partnership is to earn profits,
each partner shares in the partnership profits. Any profit or loss from operations is divided among
the partners according to their agreement.
6. Income taxation: Partnerships, except general professional partnerships, are subject to 30%
income tax. As to general professional partnerships as taxpayers, their income is not taxable. Only
the distributable income to the partners declared in the individual income tax returns are subject to
tax.
Advantages of a Partnership :
1. It is protected and regulated by law.
2. It is easy to get started and inexpensive to organize. The partners can agree to create the
partnership verbally or in writing. A written agreement is required when partnership capital is P
3,000 or more in money or in property.
3. More partners, more capital - Higher amount of capital may be raised coming from the
combined existing resources (through assets) and potential resources (from creditors) of the
partners than in a sole proprietorship.
4. Better in decision making - There is relative freedom, flexibility, and efficiency in decision-
making. Decisions can be made easily and changes can be effected immediately with less
formalities provided that they are within the confines of the agreement and the partnership law.
5. Access to knowledge, skills, experience and contacts - It is assumed to have better
management and supervision resulting from the participation, combined experience, and ability
of partners than in a sole proprietorship.
6. Sharing Burden - The unlimited liability of the partners may be viewed by the creditors positively
thereby granting higher credit limit to the partnership thinking that, in the event of liquidation,
they can always run after the personal assets of any solvent general partner.

Disadvantages of a Partnership
1. It has more regulatory requirements than a sole proprietorship.
2. Easily Dissolved - Admission of a new partner and withdrawal, death, retirement, bankruptcy,
and incapacity of an existing partner dissolve the partnership. Thus, it is less stable than a
corporation.
3. Limited access to capital- Partnerships cannot raise large amounts of capital from public
sources through sale of securities unlike corporation. Capitalization is limited to what may be
invested by the partners.
4. More difficult decision making - As it entails mutual consent, transferring ownership interest
requires approval of all the partners. This is not true in sole proprietorships and corporations.
Moreover, a partner may be subject to personal liability for the misdeeds, wrongdoings, or
omissions of fellow partners.
5. Potential for differences and conflict - It can be expected that several partners participate in
business operations. When that happens, the likelihood of dissension and disagreement will be
higher especially when the partners involved have similar levels of authority in the
management of the partnership.
6. Unlimited Liability - The partners are personally liable for debts and losses incurred. So if the
business runs into trouble, the personal assets may be at risk of being seized by creditors,
which would generally not be the case if the business was a limited company.
7. Profits must be shared - While a sole proprietor retains all the profits of their business, those
of a partnership are shared amongst the partners. Sharing profits equitably can raise difficult
questions. What happens when one partner is seen to be putting in less time and effort into the
partnership, but still taking their share of the profits? It’s easy for resentment to occur if there
doesn’t appear to be a fair balance between effort and reward.
Classifications of Partnership

1. As to activities or purpose:
• Trading partnership: This is a partnership whose main activity is manufacturing (buy, make,
and sell) or merchandising (buy and sell) of goods.
• Non-trading partnership: This is a partnership whose main activity is rendering services.
Examples include public accounting firms, law and notarial offices, and diagnostic and
medical clinics.

2. As to liability of partners
• General partnership: This is a partnership wherein all partners may publicly act on behalf
of the partnership and each partner can be held individually liable, pro-rata and sometimes
solidarily with their personal property, for the obligations of the partnership. All partners are
general partners who are liable even with their own properties
• Limited partnership: This is a partnership wherein one or more but not all the partners
have a limited liability. Since a limited partner is answerable for partnership debts only up
to the extent of his or her contribution, the law requires that a limited partnership should
have at least one general partner to protect the interest of the creditors. At least has one
general partner with other limited partners who are only liable to the extent of their
contributions.

3. As to duration
• Partnership at will: This is a partnership wherein no fixed term for which the partnership is
to exist is agreed-upon or no particular undertaking for which the partnership is to end is
specified. It may be terminated anytime upon the desire of at least one partner or mutual
agreement of partners.
• Partnership with a fixed term: This is a partnership wherein a fixed term for which the
partnership is to exist is agreed upon or a particular undertaking for which the partnership
is to end is specified. Partnership is considered dissolved when the fixed term expires or
when particular undertaking is completed unless partners decide to continue.

4. As to legality of existence
• De jure partnership: This is a partnership which has complied with all the legal
requirements for its existence.
• De facto partnership: This is a partnership which failed to comply with all the legal
requirements for its existence.

5. As to representation to others
• Ordinary or real partnership: This is a partnership which actually exists as to partners
and third persons.
• Partnership by estoppel: This is a partnership which only exists as to partners. In reality, it
is not a partnership but is considered as one only in relation to those who, by their
conduct or omission, are precluded to deny or disprove the existence of the partnership.
Example: If A & B say PUBLICLY that they are not partners, if they told C that they are and
C enters into a contract of partnership with them, then A and B are in a PARTNERSHIP OF
ESTOPPEL.
6. As to object
• Universal partnership
o Universal partnership of all present property: a partnership that in which the
partners contribute all the property which actually belongs to them to a common
 fund, with the intention of dividing the same among themselves, as well as the profits
which they may acquire therewith.

Property owned at the time of contribution will become common

property of the partnership eventually because only the profits
acquired through the contribution will become common property,
unless there was a stipulation that says otherwise. This is not common
in the Philippines.

Example: A and B form a Universal Partnership of All Present Property

and stipulate that property and profits that are acquired during
business operations will become common property even if these were
not due to their contributions and that if anyone inherits property, it will
become common property as well. A acquires land as part of his
compensation package from AyalaLand and B inherits land from his
parents. Whose property will become common property? Only A’s land
will become common property because it was essentially PAYMENT
while B’s was inherited. The article prohibits donations to become
common property, only fruits of such can become common property.

o Universal partnership of all profits: This partnership comprises all that the partners
may acquire by their industry or work during the existence of the partnership.
Movable or immovable property which each of the partners may possess at the time
of the celebration of the contract shall continue to pertain exclusively to each, only
the usufruct passing to the partnership.

Example: Suppose A and B form a Universal Partnership of All Profits

and A wins in the lotto, P200,000.00. B tries to share in 50% citing the
existence of their partnership and that A used the partnership’s money
to purchase the lottery ticket. Can B really share in the lotto winnings?
No, B cannot since it came from CHANCE, not WORK. If the
P200,000.00 instead came from A’s work in DLSU, can B share in the
profits of A? Yes, because it came from WORK. As long as it is PROFIT,
the profit becomes common property to the partners UNLESS there
was a stipulation in their agreement.

Note: Persons who are prohibited from giving each other any donation or advantage cannot enter
into a universal partnership. So a husband and wife cannot join a universal partnership. They are
not allowed to donate to each other and a universal partnership essentially requires that the
partners donate to each other. They can join a particular partnership instead.

• Particular partnership: This partnership has for its object determinate things, their use or
fruits, or specific undertaking, or the exercise of a profession or vocation. Examples:
Example: Those that are formed for the acquisition and sale of property, Accounting
Firms, Law Firms, etc.
Classification of Partners
1. As to contribution:
• Capitalist partner: A partner who contributes money (cash) or property
• Industrial partner: A partner who contributes industry (labor, skill, talent, service, or
expertise). An industrial partner is not liable for losses.
• Capitalist-industrial partner: A partner who contributes money or property and industry
2. As to liability
• General partner: A partner whose liability to third persons extends to personal assets or
property
• Limited partner: A partner whose liability to third persons is limited only to the extent of
capital contributed to the partnership
3. As to management
• Managing partner: A partner who actively manages the operations and affairs of the
partnership
• Silent partner: A partner who does not participate in the management of operations and
affairs of the partnership
4. Other classifications
• Liquidating partner: partner who takes charge of winding up the operations and affairs of
the partnership upon dissolution
• Nominal partner: one who is not really a partner and not a party to the partnership
agreement but is made liable as a partner for the protection of innocent third persons
• Ostensible partner: partner who takes an active part in the management of the
partnership and is known to the public as a partner
• Secret partner: partner who takes an active part in the management of the partnership
but is unknown to the public as a partner
• Dormant partner: partner who does not take an active part in the management of the
partnership and is not known to the public as a partner. He or she is both a silent and a
secret partner.
• Continuing partner: partner who continues business after dissolution
• Surviving partner: partner who remains after the death of the partner
• Sub-partner: partner who enters into contracts with partners
• Original partner: partner who is a partner at the time of organization
• Incoming partner: partner who is about to become a partner
• Retiring partner: partner who is about to withdraw as a partner

REFERENCES:
Dela Cruz, A.L.C., Rabo, J.S., & Tugas, F.C. (2019). Basic financial accounting and
reporting.

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