ACCOUNTING FOR PARTNERSHIP-FORMATION WEEK 1

Partnership
❑ a contract whereby two or more persons bind themselves to contribute money, property or
industry into a common fund with the intention of dividing the profit among themselves (Article 1767 of
the Civil Code of the Philippines). The persons are usually individuals.
❑ Any natural person who possesses the right to enter into a contract
can become a partner. Partnerships must attempt to make a profit.
Non-profit organizations may not be partnerships.
5 Essential features of Partnership
1. Valid contract
2. Legal capacity
3. Mutual contribution – money, property and industry
4. Lawful
5. Purpose to obtain profits
Partnership Life Cycle
1. Formations – establishment of partnership
2. Operations – allocation of profit/loss
3. Dissolutions – admission new partner, withdrawal, retirement
4. Liquidation – termination of partnership
Characteristics of a Partnership
1. Mutual agency – any partner may act as an agent of the partnership in conducting its affairs.
Each partner has an equal right to act for the partnership and to enter into contracts binding upon it, as
long as he acts within the normal scope of business
operations.
2. Limited life – a partnership may be dissolved at any time by action of the partners or by
operation of law. The withdrawal, death, retirement, bankruptcy, incapacity of a partner and the
admission of a new partner dissolves the partnership.
3. Unlimited liability – the personal assets of a general partner may be used to satisfy the claims
of the creditors of the partnership if the partnership assets are not enough to settle the
liabilities to outsiders upon liquidation.
4. Co-ownership of property – properties contributed to the partnership are owned by the
partnership. Properties invested by a partner cease to be his own personal property.
5. Co-ownership of profit – a partner has the right to share in partnership profits. The partners
are entitled to share in the firm’s profits as a return on their investment.
6. Legal entity – a partnership has a legal personality separate and distinct from that of each of
the partners. A partnership may, therefore, acquire property in its own name and may enter into
contracts.
7. Income Taxes – partnership, except general professional partnership, are subject to tax at the
rate of 30% (per R.A. 9337) of taxable income.
 8. Partner’s Equity Accounts – Accounting for partnership are much like accounting for sole
proprietorship. The difference lies in the numbers of partner’s equity accounts. Each partner has a capital
account and a withdrawal account that serves similar
functions as the related accounts for sole proprietorship.
Advantages of a Partnership
1. It is easy to form and to dissolve. A partnership is ended whenever there are changes in the
ownership structure such as withdrawal of a partner or admission of a new partner.
2. Greater amount of capital may be raised compared to a sole proprietorship. The source of
capital investment comes from 2 or more persons.
3. There is relative freedom and flexibility in decision-making compared to a corporation.
Decisions are effected simply by agreement among the partners without the formalities necessary under a
corporation.
4. It is better managed because business affairs are supervised by more than one person. Better
management results from the combined experience and ability of several individuals.
5. The unlimited liability of a general partner makes it reliable from the point of view of creditors.
Disadvantages of a Partnership
1. The unlimited liability of a partnership deters many from investing in a partnership.
2. There is lack of business continuity because it can be easily dissolved.
3. There is difficulty in transferring ownership interest because ownership interest in the
partnership cannot be transferred without the consent of all the partners.
4. Limited amount of capital may be raised compared to a corporation.
5. There is likelihood of dissension and disagreement when each of the partners has the same
authority in the management of the firm.
Classifications of Partnership According to object
a. Universal partnership of all present property – all contribution become part of partnership
fund.
b. Universal partnership of profits - one which comprises all that the partners may acquire by
their industry or work during the existence of the partnership and the usufruct of movable or immovable
property which each of the partners may possess at the time of the institution of the contract.
c. Particular partnership – one which has for its object determinate things, their use or fruits or a
specific undertaking or the exercise of a profession of vocation.

Classifications of Partnership According to Liability

a. General – one whose liability to third persons extends to his private property
b. Limited – one whose liability to third persons is limited only to
the extent of his capital contribution to the partnership.
Classifications of Partnership According to duration:
a. Partnership with a fixed term or for a particular undertaking.
b. Partnership at will – nor term and is not formed for any particular undertaking.
According to purpose:
a. Commercial or trading partnership
b. Professional or non-trading partnership
Classifications of Partnership According to legal existence:
a. De jure partnership – one who complied with all the legal requirements for its establishment.
b. De facto partnership – one which has failed to comply with all the legal requirements for its
partnership.
Kinds of Partners
1. General Partner – liable to the extent of his/her personal property after all the
assets of the partnership are exhausted.
2. Limited Partner – Liable only to the extent of his/her contribution.
3. Capital Partner – contributes money or property
4. Industrial Partner – contributes knowledge, expertise or service
5. Managing Partner – appointed as the manager of the partnership.
6. Liquidating Partner – designated to wind up or settle the affairs of the partnership after
dissolution.
7. Dormant Partner – no active part in the partnership and does not known as a partner but
provides contribution.
8. Silent Partner – no active part in the partnership but is know to be a partner and provides
contribution.
9. Secret Partner – actively working in the partnership but is not known to be a partner
10. Nominal Partner or Partner by estoppel – not a partner but represent himself as one.
Articles of Partnership
1. The name of the partnership;
2. The names, addresses of the partners, classes of partners stating whether
the partner is a general or a limited partner;
3. The effective date of the contract;
4. The purpose and principal place of business of the business;
5. The capital of the partnership stating the contributions of each of the
partners;
6. The rights and duties of each of the partners;
7. The manner of dividing profit or loss among the partners;
8. The conditions under which the partners may withdraw money or other assets;
9. The manner of keeping the books of accounts;
10. The causes for dissolution and the provision for arbitration in settling disputes.
SEC Registration
1. Have a proposed name verified by SEC.
2. Submit and Complete the following document.
a. Articles of Partnership
b. Verification Slip for the Business Name
c. Written undertaking to change business name if required
d. TIN of each partner and that of the partnership
e. Registration data sheet
3. Pay the registration filing and the miscellaneous.
4. Forward the application to SEC Commissioner for signature.
Features of Partnership Accounting
1. Plurality of capital and drawing accounts – there will be as many capital accounts and as many
drawing accounts as there are partners
2. Partner’s loans – partners may advance money to the partnership in the form of loans when the
business is in need of additional funds.
3. Partner’s borrowings – the partnership may advance money to partners other than withdrawals
in the form of loans.
4. Partner’s salaries – partners are paid salaries for services rendered in the conduct of
partnership business.
5. Interest on investment – interest is allowed to earn on the asset investment of the partners.
6. Division of profit and losses – net profit or net loss is to be divided among the partners based
on their agreement.
Formation
❑ The establishment of the partnership
❑ Conversion of a sole proprietorship to a partnership.
a. a sole proprietor allows another person, who has no business of his own to join his business.
b. two or more sole proprietors form a partnership.
❑ Valuation of the formation – book value to fair market value

PARTNERSHIP FORMATION WEEK 2

Formation
❑ establishment of the partnership – formed through a contractValuation of Contributions of
Partners
1. Agreed value
2. Fair market value – current price at the market
Fair value - is the price that would be received to sell an asset or paid to transfer a liability in an
orderly transaction between market participants at the measurement date. (PFRS 13)When the capital or a
part thereof which a partner is bound to contribute consists of goods, their appraisal must be made in the
manner prescribed in the contract of partnership, and in the absence of stipulation, it shall be made by
experts chosen by the partners, and according to current prices, the subsequent changes thereof being for
the account of the partnership.” (Civil Code, Art. 1787) Appraisal - as used in the Civil Code, suggests
valuation of capital contributions at fair value.

Types of Contribution and its Measurement

Contribution
● Cash investment
● Non-cash assets
▪ Plant, Property and Equipment
▪ Inventory
▪ Stocks and mutual funds
▪ Insurance policy
▪ Patents and Copyrights
 ▪ Goodwill
Measurement
~Recorded as fair market value most often known as face value as far as cash valuation is concern.
~Foreign currency – current exchange rate
~Recorded at the agreed value which is normally the fair market value.
Note; if there is conflict between agreed value and market value, agreed value prevails.
Contribution
● Service
▪ Expertise
▪ Industry
▪ Labor
● Liabilities
▪ Loans from the bank
▪ Mortgages
▪ Notes payables
▪ Income tax payables
▪ Accounts payables
▪ Bonds payables
Measurement
~Memorandum entry is enough if there is no value agreed upon, otherwise a journal entry would
be required.
~Liabilities assumed by the partnership should be at the present value (fair market value) of the
remaining cash flows.
Remember!
❑ Each partner’s capital account is credited for the fair value of his net contribution (i.e.,
asset contribution less any liability assumed by the partnership / A-L= Capital account).
❑ No contribution shall be valued at an amount greater than its fair value. A partner’s
subsequent share in profits (losses) shall also be credited (debited) to his capital account.
❑ Permanent withdrawals of capital are debited to the partner’s capital account.
❑ Temporary withdrawals may be debited to the partner’s drawings account.
❑ The sum of the balances in the partners’ individual accounts represents the total
equity of the partnership.
1. Capital Accounts
▪ each partner’s capital account is credited for the fair value of his net contribution (i.e.,asset
contribution less any liability assumed by the partnership / A-L= Capital account).
▪ each partner has his/her own capital account – real account and has normal credit balance
▪ these accounts are equity accounts and are used to record following transaction:
2. Drawings accounts
▪ Each partner has his or her own drawings account.
▪ This account is a nominal account that is closed to the related capital account at the end of the
period.
▪ It is a contra equity account and has a normal debit balance .
3. Receivable from or Payable to a Partner
▪ In some instances, a partner may enter a loan transaction with a partner.-
● Receivable from a partner - It is the loan extended by the partnership to a partner.-
● Payable to a partner - It is the loan obtained by the partnership from a partner
Who can form a partnership business?
1. Individuals with no existing business
▪ First time business owners
▪ Since they never had a previous business, journal entries and general ledger will be recorded in
new set of books
▪ They will both contribute assets or liabilities.
2. A sole proprietorship and another individual
▪ An individual who has no business of his own may join another individual who is already
operating his own business.
▪ Both the assets and liabilities of the sole proprietor are transferred to the newly formed
partnership. Normally, the partners agree on the revaluation of some of the assets before the transfer.
▪ The journal entries to record this type of formation will depend on whether the books of the sole
proprietorship are to be used for the newly formed partnership or new books are to be opened.
3. Two or more sole proprietors
▪ The accounting procedures described in the preceding section are also applicable when two or
more businesses join together to form a partnership.
▪ There should be an agreement on the determination of the partners' interest in the partnership.
▪ It is also important that the partners agree on the values of the assets to be assigned and the
liabilities to be assumed by the partnership.
▪ Books of one of the sole proprietorships may be used for the newly formed partnership or a new
set of books may be opened.

PARTNERSHIP FORMATION WEEK 3-4

Division of Profits and Losses
● The partnership law provides that profits and losses are to be divided
in accordance with the partners agreement.
● If no agreement is made between and among the partners, profits and
losses are to be divided according to their original capital
contributions.
● Should the partners agree to divide the profits only, losses, if any are to
be divided in the same manner as that of dividing the profits.
● Should the partners agree to divide the losses only, profits, if any shall be divided by the partners
according to their original capital contributions.
● Industrial partners shall not be liable for losses because he cannot withdraw the work or labor
already done by him, unlike the capitalist partner who can withdraw their capital.
Methods of dividing Profit/Loss
1. Equally (50/50 sharing)
2. In an unequal or arbitrary ratio (60:40)
 3. In the ratio of capital balances:
a. Original capital balances – upon formation
b. Beginning capital balances
c. Ending capital balances
d .Average capital balances
4. Allowing capital interest on capital balances and dividing the remaining
income/loss.
5. Allowing salaries to partner and dividing the remaining income/loss.
6. Bonus to managing partners.

PARTNERSHIP DISSOLUTION Week 5

DISSOLUTION
- One of the characteristics of a partnership is “limited life” – can be easily dissolved.
- Winding up of the partnership or to close down.
- Change in the relation of the partners.
- Different from Liquidation (termination of business Operations).
~ The dissolution of a partnership is the change in the relation of the partners caused by any
partner ceasing to be associated in the carrying on the business – Civil Code of
the Philippines, Art. 1828
DISSOLUTION AND LIQUIDATION
Dissolution - stops the partner’s original association.
Liquidation - converts all noncash assets into cash to pay all claims against the partnership as a
consequence of partnership dissolution.
REASONS OF DISSOLUTION
Major Considerations in Dissolution
1. Admission of a new partner
2. Withdrawal
3. Retirement
4. Death of a partner
5. Incorporation of a partnership
6. Insolvency
VALUATION
1. Revaluation approach (usually referred to as goodwill procedure- Non-GAAP).
Under this approach, the use of fair value provides an equitable measure of each
partner’s capital interest in the partnership.
2. Absence of Revaluation (usually referred to as the bonus procedure/book value
approach- GAAP). Proponents of this approach would retain the historical cost or
carrying value.
DISSOLUTION BY ADMISSION OF A NEW PARTNER
- Requires consent of all existing partners
- May be effected either through:
- Purchase of interest in the partnership
 - A new partner may be admitted when he/she purchases part or all of the
interest of one or more of the existing partners.
- Is a personal transaction-Any consideration paid or received by a partner is
not recorded in the books.
- Only the transfer of equity is recorded, a new capital account is
established- No gain or loss.
- Partnership capital remains the same
DISSOLUTION BY ADMISSION OF A NEW PARTNER
- Investment in the partnership
- A transaction between the new partner and the partnership
- Incoming partner’s contribution recorded
- Consideration paid by the incoming partner is recorded
Following scenarios may occur:
● Investment < Capital Credit (bonus to new partner)
● Investment > Capital Credit (bonus to old partners)
● Investment = Capital Credit
- No gain or loss
DISSOLUTION BY ADMISSION OF A NEW PARTNER
Withdrawal
~ The withdrawal of a partner requires a determination of the fair value of the
partnership-entity and a measurement of partnership income to the date of withdrawal.
When a partner withdraws, the partnership agreement should be consulted to determine
whether or not any guidelines have been established that would influence the
procedure.

DISSOLUTION BY RETIREMENT OF A PARTNER

Retirement
- The retiring partner may elect to sell his interest to an outside party.
- The retiring partner may elect to sell his interest to one or more of the remaining
partners.
- The partners may mutually agree to transfer partnership assets (payment from
partnership funds) to the retiring partner for his interest in the firm. Settlement may
either be:
- Payment in cash.
- Transfer on non-cash assets.
- Recognition of liability for the full or balance of the unpaid total interest of the
retiring partner
DISSOLUTION BY DEATH OF A PARTNER
- In the absence of specific provisions to the contrary, profit and loss should be
summarized, the partnership assets should be appraised, and the descendant’s interest
in the partnership should be established as of the date of death.
- The change in asset values arising from revaluation is likewise carried in the capital
accounts in the profit and loss ratio.
- It is then the obligation of the partners to wind up the business.
- Assets are sold, liabilities are paid-off, and settlement is made with the partner’s
estate and surviving partners.
DISSOLUTION BY INCORPORATION OF A PARTNERSHIP
- Partners may evaluate the possible advantages to be gained by incorporating a partnership.
- Among such advantages are limited liability of stockholders, case of attracting additional
capital, and possible income tax advantages.
- Partners may decide to incorporate in order to secure the advantages in the corporate form of
organization. When a charter is granted recognizing a corporation, the corporation will act to acquire
the net assets of the partnership for its shares of stock.
- To ensure that each partner receives an equitable portion of the capital stock issued by the new
corporation, the assets of the partnership must be adjusted to current fair value before being
transferred to the corporation.
DISSOLUTION BY INSOLVENCY
- Insolvency – in-ability to pay debts or obligations.
- Involuntary dissolution.
- If a partnership firm can't pay its debts, it might have to file for bankruptcy.
- This means the business must sell everything they own. And divide the money
among their creditors.
STEPS IN DISSOLUTION
1. Closing of temporary accounts to a partner's prospective capital account must be made.
2. According to their respective profit and loss ratio.