Partnerships

Syllabus Objective:
Candidates should be able to:
- explain the advantages and disadvantages of forming a partnership
- outline the importance and contents of a partnership agreement
- explain the purpose of an appropriation account
- prepare income statements, appropriation accounts and statements of financial position
- record interest on partners’ loans, interest on capital, interest on drawings, partners’ salaries and the division
of the balance of profit or loss
- make adjustments to financial statements as detailed in 5.1 (sole traders)
- explain the uses of and differences between capital and current accounts
- make
draw adjustments
up partners’ to
capital
financial
and current
statements
accounts
as detailed
in ledger
in 5.1
account
(sole traders)
form and as part of a statement of financial
position

Candidates will not be required to answer questions on the admission/departure of a partner, the dissolution of a
partnership or changes to a profit sharing ratio.
Introduction
A partnership is a business in which two or more people work together as owners with a
view to making profits. Normally, there cannot be more than 20 partners in a business. However, there are
exceptions such as banks etc

A partnership business will maintain double entry records in the same way as a sole trader. At the end of the
financial year, an income statement and a statement of financial position are prepared. However, a partnership
will prepare an extra account aft er the income statement. This is known as a profit and loss appropriation
account.

Advantages/Importance of forming partnership

Partnership agreement
A partnership agreement is a document setting out the rules under which the partners will operate the business,
including profit sharing arrangements.

Although it is not legally necessary to draw up a partnership agreement when forming a partnership, it is
advisable to do so.
Importance: Drawing up an agreement can avoid misunderstandings and arguments later.

Content of Partnership Agreement

1)Amount of capital invested by each partner
2) How profits and losses are to be shared
3)Rate of interest on partners’ capital (if any)
4)Amount of partners’ salaries are to be paid (if any)
5) If an upper limit is to be placed on partners’ drawings, and if so, what amount
6)Rate of interest on partners’ drawings (if any)
7) If interest on partners’ loans is to be paid, and if so, at what rate

In the absence of a Partnership Agreement (Act 1890) (Learn by heart)

If there is no partnership agreement drawn, then the law prevails as per section 24 of the partnership Act 1980
and the rules are as follows:
1)No interest on partners' capital
2)No interest on partners' drawings
3)No salary payable to partner
4)Loan to partner will carry a 5% interest
5)Profits and losses are shared equally

Definitions
Interest on capital: Interest given to partners to encourage them to keep their capital in the business

Dr Appropriation A/c Cr Current A/c

Interest on drawings: Interest charged to partners to discourage them to withdraw money from the business

Dr Current A/c Cr Appropriation A/c

Partners’ salaries: A salary may be paid to any partner who are actively working in the partnership over and
above his share of profit and other benefits.
Annual salary: Dr Appropriation A/c Cr Current A/c
When the salary is paid: Dr Current A/c (salary paid) Cr Bank

Residual profit: Profit remaining from 'profit for the year' after taking into account all the above (interest on
capital, interest on drawings and partners' salaries). The remaining profit is the profit which is distributed among

Profit sharing ratio: It is not mandatory/necessary that profit is shared equally among all the partners. How profit
will be distributed is a decision taken by all partners together when forming the partnership. For e.g profit may be
shared based on the amount of capital invested by each partner.
Loans from partners

A partnership may borrow money from one of the partners if extra finance is required. Interest on the loan from
partner is a normal business expense and will be included in the section 'Less Expenses' of the income statement.
Format of the partnership appropriation account

Profit and loss appropriation account for the year ended 31 May 20–9
$ $
Profit for the year xxx

Add: Interest on drawings Partner A xx

Partner B xx xx
xxx
Less Appropriations :
Interest on capital Partner A xx
Partner B xx
Partner C xx

Partner’s salary Partner B xx (xxx)

Residual Profit A

Share of profit
Partner A e.g 1Τ x A xx
5
Partner B 2Τ X A
5
xx
Partner C 2Τ X A xx
5
A
Example- Appropriation Account

Sumit and Padma are in partnership. Their financial year ends on 31 May. They provide the following information:
$
Capital on 1 June 2018 Sumit 40 000
Padma 20 000

Drawings for the year ended 31 May 2019 Sumit 11 000

Padma 8 000

Profit for the year ended 31 May 2019 24 680

The partnership agreement includes the following terms:

Interest on capital is allowed at 5% per annum
Interest on drawings is charged at 3% per annum
Padma is entitled to a partnership salary of $9 500 per annum
Residual profits are shared in proportion to capital invested

Profit and loss appropriation account for the year ended 31 May 20–9
$ $
Profit for the year 24,680

Add: Interest on drawings Sumit 330

Padma 240 570
25,250

Less : Interest on capital Sumit 2,000

Padma 1,000

Partner’s salary Padma 9,500 (12,500)

Residual Profit 12,750

Share of profit
Sumit 40,000 8,500
ൗ60,000 x 12,750

Padma 20,000 4,250

ൗ60,000 x 12,750
12,750
Partners’ ledger accounts
A partnership business may keep either a fixed capital account or a floating capital account. When a fixed capital
account is kept, a current account has to be maintained.

Capital
Account

Fixed Capital Floating Capital

Account Account

Capital Current
Account Capital + Current
Account Account
combined
Fixed Capital Account
Floating Capital Account
In the floating capital account, only one account is maintained for the capital account and the current account.
 Statement of financial position as at….....
Cost Acc dep NBV
Non-current Assets $ $ $
Property/Land and building/premises xxx (xxx) xxx
Factory Equipment/Plant and
xxx (xxx) xxx
machinery
Motorvehicle xxx (xxx) xxx
xxx (xxx) xxx
Current Assets
Inventory xx
Trade receivables xx
Less pfdd (xx) xx
Other receivables : expenses prepaid xx
Cash and cash equivalent (Bank and
xx xxx
cash)
Total Assets xxx

Equity and liabilities

Equity
Capital: Partner A xx
Capital: Partner B xx

Current: Partner A (Dr Balance) negative balance (xx)

Capital: Partner B (Cr Balance) xx xxx

Non-current liabilities
Loan from A xxx

Current liabilities
Trade payables xx
Other payables: Expenses owing xx
Bank overdraft xx xxx
Total Equity and Liabilities xxx

Student Practice:
Aullybux Pg 495 No 1

Aullybux Pg 495 No 2
Trade p

Bank ov