1. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Prepared by: Debbie Musil Kwantlen Polytechnic University Chapter 12 Accounting for Partnerships Chapter 12 Accounting for Partnerships

2. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Partnership Accounting Partnership form of organization Partnership form of organization CharacteristicsCharacteristics Advantages and disadvantagesAdvantages and disadvantages Partnership agreementPartnership agreement Basic partnership accounting Basic partnership accounting Forming a partnershipForming a partnership Dividing partnership profit or lossDividing partnership profit or loss Partnership financial statementsPartnership financial statements Admission and withdrawal of partners Admission and withdrawal of partners Liquidation of a partnership Liquidation of a partnership

3. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Characteristics of Partnerships

4. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Characteristics of Partnerships 2 Association of individuals Association of individuals Usually based on a written agreementUsually based on a written agreement A legal and accounting entity, but not taxedA legal and accounting entity, but not taxed Co-ownership of property Co-ownership of property Assets are jointly owned by partnersAssets are jointly owned by partners Division of profit Division of profit Partners determine how profit or loss is to be dividedPartners determine how profit or loss is to be divided Otherwise shared equallyOtherwise shared equally Limited life Limited life Partnership ends when change in ownershipPartnership ends when change in ownership New partnership can be formed to continue businessNew partnership can be formed to continue business

5. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Characteristics of Partnerships 3 Mutual agency Mutual agency Each partner acts for (binds) the partnershipEach partner acts for (binds) the partnership Unlimited liability Unlimited liability Each partner is liable for all partnership liabilitiesEach partner is liable for all partnership liabilities Special types of partnerships created to limit liabilitySpecial types of partnerships created to limit liability Limited partnership (LP)Limited partnership (LP) Limited liability partnership (LLP)Limited liability partnership (LLP)

6. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Partnership Agreement Written contract between two or more parties to form a partnership Written contract between two or more parties to form a partnership Contains basic information: Contains basic information: Name and location of firmName and location of firm Purpose of the businessPurpose of the business Date of inceptionDate of inception Specifies relationship of partners: Specifies relationship of partners: Names and capital contributions of partnersNames and capital contributions of partners Rights and duties of partnersRights and duties of partners Basis for sharing profit or lossBasis for sharing profit or loss Procedures for admission, withdrawal, death of partner, resolving disputes, liquidation of partnershipProcedures for admission, withdrawal, death of partner, resolving disputes, liquidation of partnership

7. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Basic Partnership Accounting: Forming a Partnership Partner’s initial investment is recorded at fair value of assets contributed Partner’s initial investment is recorded at fair value of assets contributed As at date of transfer into partnershipAs at date of transfer into partnership Values assigned are agreed to by all partners Values assigned are agreed to by all partners After partnership formed, accounting for transactions is similar to other types of business organizations After partnership formed, accounting for transactions is similar to other types of business organizations

8. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Basic Partnership Accounting: Dividing Profit or Loss Partnership profit/loss is shared equally Partnership profit/loss is shared equally Unless partnership agreement indicates otherwiseUnless partnership agreement indicates otherwise The same basis of division applies to profit and losses The same basis of division applies to profit and losses Called the profit ratio or profit and loss ratioCalled the profit ratio or profit and loss ratio Partners’ share of profit or loss is recognized through closing entries Partners’ share of profit or loss is recognized through closing entries

9. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Partnership Accounting: Closing Entries Four closing entries for partnership: Four closing entries for partnership: 1.Close revenue accounts to income summary 2.Close expense accounts to income summary 3.Close income summary to partners’ capital accounts If profit: Dr. Income summary (= total profit) Cr. Each partner’s capital account (= their share)If profit: Dr. Income summary (= total profit) Cr. Each partner’s capital account (= their share) If loss: Dr. Each partner’s capital account (= their share of loss) Cr. Income summary (= total loss)If loss: Dr. Each partner’s capital account (= their share of loss) Cr. Income summary (= total loss) 4.Close each partner’s drawings account to their respective capital accounts

10. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Partnership Accounting: Profit and Loss Ratios Typical ratios used to share profit or loss: Typical ratios used to share profit or loss: Fixed ratio: a proportion (2:1), percentage (67%) or fraction (2/3)Fixed ratio: a proportion (2:1), percentage (67%) or fraction (2/3) A ratio based on capital balances at beginning or end of year or on average capital balances during the yearA ratio based on capital balances at beginning or end of year or on average capital balances during the year Salaries to partners and the remainder in a fixed ratioSalaries to partners and the remainder in a fixed ratio Interest on partners’ capital balances, remainder in a fixed ratioInterest on partners’ capital balances, remainder in a fixed ratio Salaries to partners, interest on partners’ capital balances, remainder in a fixed ratioSalaries to partners, interest on partners’ capital balances, remainder in a fixed ratio Salaries and interest are allocated first even if greater than profit or if partnership incurred a loss for the year Salaries and interest are allocated first even if greater than profit or if partnership incurred a loss for the year

11. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Partnership Financial Statements: Statement of Partners’ Equity The equity statement for a partnership is the statement of partners' equity The equity statement for a partnership is the statement of partners' equity Explains changes in each partner’s capital account and total partnership equity during the yearExplains changes in each partner’s capital account and total partnership equity during the year

12. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Partnership Financial Statements: Balance Sheet Capital balances of each partner are shown on the balance sheet in section called partners’ equity: Capital balances of each partner are shown on the balance sheet in section called partners’ equity:

13. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Admission of a Partner Causes the legal dissolution of the existing partnership and the beginning of a new partnership Causes the legal dissolution of the existing partnership and the beginning of a new partnership A new partner may be admitted either by: A new partner may be admitted either by: Purchasing the interest of one or more existing partnersPurchasing the interest of one or more existing partners Investing assets in the partnershipInvesting assets in the partnership

14. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Admission of a Partner: Purchase of a Partner’s Interest A personal transaction between one or more existing partners and the new partner A personal transaction between one or more existing partners and the new partner Consideration exchanged is personal property of the partners involved and not property of the partnershipConsideration exchanged is personal property of the partners involved and not property of the partnership In the partnership, only the transfer of the partnership interest is recorded: In the partnership, only the transfer of the partnership interest is recorded: Existing partners’ equity is decreased by the amount of equity given to the new partnerExisting partners’ equity is decreased by the amount of equity given to the new partner New partner’s equity is increased by same amountNew partner’s equity is increased by same amount

15. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Admission of a Partner: Investment of Assets in Partnership A transaction between the new partner and the partnership: A transaction between the new partner and the partnership: Partnership receives assets from the new partner in exchange for an interest in the partnershipPartnership receives assets from the new partner in exchange for an interest in the partnership Both net assets and total partners’ equity of the partnership will increase Both net assets and total partners’ equity of the partnership will increase Complications occur when the new partner’s investment differs from the capital equity acquired: Complications occur when the new partner’s investment differs from the capital equity acquired: The difference is considered a bonus either to the existing (old) partners or to the new partnerThe difference is considered a bonus either to the existing (old) partners or to the new partner

16. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Admission of a Partner: Bonus to Existing (Old) Partners Bonus to old partners may be necessary: Bonus to old partners may be necessary: Fair value of partnership assets may be greater than their carrying valueFair value of partnership assets may be greater than their carrying value Goodwill may exist that has not been recordedGoodwill may exist that has not been recorded Bonus to old partners occurs when: Bonus to old partners occurs when: New partner’s investment > capital credit on the date of admission to partnershipNew partner’s investment > capital credit on the date of admission to partnership Amount of bonus = differenceAmount of bonus = difference

17. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Admission of a Partner: Bonus to New Partner Bonus to new partner may be necessary: Bonus to new partner may be necessary: New partner has resources or attributes that the partnership wants (cash, expertise)New partner has resources or attributes that the partnership wants (cash, expertise) Carrying amount of partnership assets is greater than their fair valueCarrying amount of partnership assets is greater than their fair value Bonus to new partner occurs when: Bonus to new partner occurs when: New partner’s investment < capital credit on the date of admission to partnershipNew partner’s investment < capital credit on the date of admission to partnership Amount of bonus = differenceAmount of bonus = difference

18. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Admission of a Partner: Determining Amount of Bonus 1. Determine the total capital of partnership = Capital of old partnership + new partner’s investment 2. Determine new partner’s capital credit = Total capital determined above × new partner’s ownership interest 3. Determine the amount of the bonus = New partner’s investment ± new partner’s capital credit If investment > capital credit: bonus to new partnerIf investment > capital credit: bonus to new partner If investment < capital credit: bonus to old partnersIf investment < capital credit: bonus to old partners 4. Allocate the bonus to/from old partners Based on profit ratios of old partnersBased on profit ratios of old partners

19. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Admission of a Partner: Example Calculation of Bonus Old partners’ capital balance = $120,000 Old partners’ capital balance = $120,000 Peart $72,000 and Sampson $48,000Peart $72,000 and Sampson $48,000 Old partners’ income ratios: Old partners’ income ratios: Peart 60% and Sampson 40%Peart 60% and Sampson 40% Trent purchases 25% share: Trent purchases 25% share: Scenario 1: for $80,000Scenario 1: for $80,000 Scenario 2: for $20,000Scenario 2: for $20,000

20. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Admission of a Partner: Bonus Calculation – Scenario 1 1. Total capital of new partnership: $120,000 + $80,000 = $200,000$120,000 + $80,000 = $200,000 2. New partner’s capital credit: $200,000 × 25% = $50,000$200,000 × 25% = $50,000 3. Amount of bonus to old partners: $80,000 − $50,000 = $30,000$80,000 − $50,000 = $30,000 4. Allocation of bonus to old partners: To Peart: $30,000 × 60% = $18,000To Peart: $30,000 × 60% = $18,000 To Sampson: $30,000 × 40% = $12,000To Sampson: $30,000 × 40% = $12,000

21. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Admission of a Partner: Bonus Calculation – Scenario 2 1. Total capital of new partnership: $120,000 + $20,000 = $140,000$120,000 + $20,000 = $140,000 2. New partner’s capital credit: $140,000 × 25% = $35,000$140,000 × 25% = $35,000 3. Amount of bonus to new partner: $20,000 − $35,000 = $(15,000)$20,000 − $35,000 = $(15,000) 4. Allocate bonus from old partners: From Peart: $15,000 × 60% = $9,000From Peart: $15,000 × 60% = $9,000 From Sampson: $15,000 × 40% = $6,000From Sampson: $15,000 × 40% = $6,000

22. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Withdrawal of a Partner Voluntary withdrawal: Partner sells their equity in the firm Voluntary withdrawal: Partner sells their equity in the firm Involuntary withdrawal: Partner reaches mandatory retirement age, dies or is expelled Involuntary withdrawal: Partner reaches mandatory retirement age, dies or is expelled Withdrawal may be accomplished by: Withdrawal may be accomplished by: Payment from remaining partners’ personal assetsPayment from remaining partners’ personal assets Payment from partnership assetsPayment from partnership assets

23. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Withdrawal of a Partner: Payment from Partners’ Personal Assets A personal transaction between partners A personal transaction between partners Payment is from remaining partners’ personal assetsPayment is from remaining partners’ personal assets Partnership assets are not involved and total capital of partnership does not changePartnership assets are not involved and total capital of partnership does not change In the partnership, only the transfer of the partnership interest is recorded: In the partnership, only the transfer of the partnership interest is recorded: Departing partner’s equity is eliminatedDeparting partner’s equity is eliminated Remaining partners’ equity increased by same amountRemaining partners’ equity increased by same amount Amount is split between remaining parties on same basis as they paid departing partyAmount is split between remaining parties on same basis as they paid departing party

24. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Withdrawal of a Partner: Payment from Partnership Assets A transaction between the withdrawing partner and the partnership: A transaction between the withdrawing partner and the partnership: Partnership pays assets in exchange for the withdrawing partner’s interest in the partnershipPartnership pays assets in exchange for the withdrawing partner’s interest in the partnership Both net assets and total partners’ equity of the partnership will decrease Both net assets and total partners’ equity of the partnership will decrease Complications occur when amount paid differs from withdrawing partner’s capital balance: Complications occur when amount paid differs from withdrawing partner’s capital balance: The difference is considered a bonus either to the departing partner or to the remaining partnersThe difference is considered a bonus either to the departing partner or to the remaining partners

25. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Withdrawal of a Partner: Bonus to Withdrawing Partner Bonus to withdrawing partner may be necessary: Bonus to withdrawing partner may be necessary: Fair value of partnership assets may be greater than their carrying amountFair value of partnership assets may be greater than their carrying amount Goodwill may exist that has not been recordedGoodwill may exist that has not been recorded Remaining partners wish to remove partner from firmRemaining partners wish to remove partner from firm Bonus to withdrawing partner occurs when: Bonus to withdrawing partner occurs when: Payment to departing partner > departing partner’s capital balance on the date of departurePayment to departing partner > departing partner’s capital balance on the date of departure Amount of bonus = differenceAmount of bonus = difference

26. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Withdrawal of a Partner: Bonus to Remaining Partners Bonus to remaining partners may be necessary: Bonus to remaining partners may be necessary: Recorded assets are overvaluedRecorded assets are overvalued Partnership has a poor earnings recordPartnership has a poor earnings record Partner wishes to leave partnershipPartner wishes to leave partnership Bonus to remaining partners occurs when: Bonus to remaining partners occurs when: Payment to departing partner < departing partner’s capital balance on departure datePayment to departing partner < departing partner’s capital balance on departure date Amount of bonus = differenceAmount of bonus = difference

27. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Withdrawal of a Partner: Determining Amount of Bonus 1. Determine the amount of the bonus = Payment from partnership to departing partner ± departing partner’s capital balance If payment > capital balance: bonus to departing partnerIf payment > capital balance: bonus to departing partner If payment < capital balance: bonus to remaining partnersIf payment < capital balance: bonus to remaining partners 2. Allocate payment of bonus to remaining partners based on their profit ratios Amount allocated to each remaining partner = bonus × profit ratio for each partnerAmount allocated to each remaining partner = bonus × profit ratio for each partner

28. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Withdrawal of a Partner: Example Calculation of Bonus Partners’ capital balance: Partners’ capital balance: Roman $50,000; Sand $30,000; Terk $20,000Roman $50,000; Sand $30,000; Terk $20,000 Partners’ income ratio: Partners’ income ratio: Roman, Sand, Terk: 3:2:1Roman, Sand, Terk: 3:2:1 Terk retires and is paid: Terk retires and is paid: Scenario 1: $25,000Scenario 1: $25,000 Scenario 2: $16,000Scenario 2: $16,000

29. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Withdrawal of a Partner: Bonus Calculation Scenario 1: 1. Amount of bonus: $25,000 - $20,000 = $5,000$25,000 - $20,000 = $5,000 2. Allocate payment of bonus by remaining partners: From Roman: $5,000 × 3/5 = $3,000From Roman: $5,000 × 3/5 = $3,000 From Sand: $5,000 × 2/5 = $2,000From Sand: $5,000 × 2/5 = $2,000 Scenario 2: 1. Amount of bonus: $16,000 − $20,000 = $(4,000)$16,000 − $20,000 = $(4,000) 2. Allocate payment of bonus to remaining partners: To Roman: $4,000 × 3/5 = $2,400To Roman: $4,000 × 3/5 = $2,400 To Sand: $4,000 × 2/5 = $1,600To Sand: $4,000 × 2/5 = $1,600

30. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Liquidation of a Partnership Liquidation ends the business Liquidation ends the business Steps in liquidating a partnership: Steps in liquidating a partnership: 1. Sell non-cash assets for cash 2. Allocate any gain or loss from sale to partners’ capital accounts based on profit and loss ratios 3. Pay partnership liabilities 4. Distribute remaining cash to partners based on their capital balances (not their profit ratios)

31. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Liquidation of a Partnership: No Capital Deficiency Capital deficiency: if one or more partners’ capital account is in a debit balance Capital deficiency: if one or more partners’ capital account is in a debit balance If no capital deficiency: If no capital deficiency: Remaining cash after all assets sold and liabilities paid is distributed to partnersRemaining cash after all assets sold and liabilities paid is distributed to partners Distribution is based on partners’ capital balancesDistribution is based on partners’ capital balances Since this is the final distribution to partners all account will have zero balances afterwardsSince this is the final distribution to partners all account will have zero balances afterwards

32. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Liquidation of Partnership: Capital Deficiency Capital deficiency may be caused by: Capital deficiency may be caused by: Recurring lossesRecurring losses Excessive drawings by one or more partnersExcessive drawings by one or more partners Losses from sale of assets during liquidationLosses from sale of assets during liquidation Partners having a capital deficiency immediately before final distribution: Partners having a capital deficiency immediately before final distribution: May or may not be able to pay the deficiency from personal fundsMay or may not be able to pay the deficiency from personal funds This will affect the amount of funds available for distribution to other partnersThis will affect the amount of funds available for distribution to other partners

33. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Liquidation of Partnership: Payment of Capital Deficiency Partnership has a legally enforceable claim against partners with a capital deficiency Partnership has a legally enforceable claim against partners with a capital deficiency If partner repays deficiency to partnership: If partner repays deficiency to partnership: Amount repaid is added to cash available for distributionAmount repaid is added to cash available for distribution Total cash after repayment is distributed to partners with credit balances in their capital accountsTotal cash after repayment is distributed to partners with credit balances in their capital accounts

34. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. Liquidation of Partnership: Nonpayment of Deficiency If partner does not repay deficiency to partnership: If partner does not repay deficiency to partnership: Amount of deficiency is considered a lossAmount of deficiency is considered a loss Loss is allocated between partners with credit balances based on their profit ratiosLoss is allocated between partners with credit balances based on their profit ratios Allocation of loss will affect remaining partners capital accountsAllocation of loss will affect remaining partners capital accounts Final distribution of remaining cash is to partners with credit balances in capital accountsFinal distribution of remaining cash is to partners with credit balances in capital accounts

35. Weygandt, Kieso, Kimmel, Trenholm, Kinnear Accounting Principles, Fifth Canadian Edition © 2010 John Wiley & Sons Canada, Ltd. COPYRIGHT Copyright © 2010 John Wiley & Sons Canada, Ltd. All rights reserved. Reproduction or translation of this work beyond that permitted by Access Copyright (The Canadian Copyright Licensing Agency) is unlawful. Requests for further information should be addressed to the Permissions Department, John Wiley & Sons Canada, Ltd. The purchaser may make back-up copies for his or her own use only and not for distribution or resale. The author and the publisher assume no responsibility for errors, omissions, or damages caused by the use of these programs or from the use of the information contained herein.