PARTNERSHIP

Notes By Talha Mahmood Bhatti.

Partnerships There are two other types of businesses, apart from sole

proprietors, that you are required to know. These are partnerships and limited liability companies.

A partnership is a type of business entity that is owned by a minimum of two persons and a maximum of 20.

All partnership firm's must adhere to the laws laid out in the partnership Act of 1980. When a partnership is set up, the partners usually form an agreement called a 'Partnership Agreement' or 'Deed of Partnership'.

This agreement usually contains the following

details. The total capital contributed by each partner.The rate of interest to be paid on each partner's capital.The rate of interest to be charged on Drawings.Salary (s) to be paid to a partner(s)The ratio in which profits and losses should be shared.The procedures to be followed if a partner dies, or if a

new partner wishes to enter.

The Trading and Profit and Loss account of a partnership is the same as that of a Sole Trader, as long as it is a Trading concern.

However, the profit and loss extends to another section called the appropriation account. The Net Profit is brought down in this account and is shared up among the partners. Using the horizontal format, here is an example of the appropriation account. Each item is later discussed.

Appropriation A/c for Dick and Jane Ltd for the year ended Dec 20th 2005 $ $ $Net Profit B/D xxx

Add Interest on Drawings xxx Less: Interest on Capital (xxx) Salary: Dick xxx Jane xxx (xxx) (xxx)

xxx Share of Profits: Dick 50% xxxJane 50% xxx xxx

INTEREST ON DRAWINGS

This is an amount that is charged to each partner in an effort to discourage them from withdrawing profits from the firm. The lesser the amount

withdrawn, the greater the amount that will be available for distribution.

INTEREST ON CAPITAL This represents revenue to each

partner, as sometimes they contribute different amounts of capital. The idea is that, if the partners had invested or

saved that money otherwise, they would have earned interest on it.

SALARY

A partner may be awarded an additional amount as 'salary', if he

has additional responsibilities.

The interest on Drawings is added to the Net Profit, in order to 'swell'

the firm's revenue. Interest on Capital and Salary are paid before

profits are shared up.

SHARE OF PROFITS After paying the interest on capital and salary, the balance of profits is shared up according to the 'profit

sharing ratio' decided by the partners. This ratio may vary, for

example, they may decide to share profits according to the proportion in

which capital was contributed.

Current Accounts The Current Accounts of partners is like a mirror image of the

appropriation account. On the credit side are items which represent what the partners are entitled to, that is, salaries, share

of profits and interest on capital.

The Debit side has items which represent a cost to the partners, such as "drawings" and "interest on drawings". The current account is balanced off at the end of the month.

Here is an example of the format.

Merged Current A/c

• It is also possible to merge the partners current a/c into one. As is shown in the example below:

DetailsDetails DickDick

$$

JaneJane

$$

DetailsDetails DickDick

$$

JaneJane

$$

DrawingsDrawings

Interest on Interest on drawingsdrawings

Balance c/dBalance c/d

XxxXxx

XxxXxx

XxxXxx

xxxxxx

XxxXxx

XxxXxx

XxxXxx

xxxxxx

Bal b/fBal b/f

SalarySalary

Interest on Interest on capitalcapital

XxxXxx

XxxXxx

XxxXxx

________

xxxxxx

XxxXxx

______

XxxXxx

________

xxxxxx

Problem 1Joan and John are in partnerships sharing profits and/or losses equally. The following balance were extracted from there books at 31 December 2003: Joan John

Capitals 20,000 30,000Current A/c’s 10,000 5,000Drawings 8,000 6,000Net Profit $ 40,000

The partnership agreement provides that: Interest on capital is to be paid at 10% per annumJoan is to receive a salary of $8,000Interest on drawings is 15%

Construct Joan and John’s appropriation a/c.

Draw up the merged/joint current account for the

partners showing the balances at the end.

Required: