Accounting for Partnership Firms - FUNDAMENTALS BY: Ajay Garg PGT- Commerce KV CRPF Rampur
commercewithag.blogspot.com Meaning of Partnership “Partnership is the relation between persons who have agreed to share the profits of a business carried on by all or any of them acting for all”. -Indian Partnership Act 1932, Sec. 4.
commercewithag.blogspot.com Related Terms When two or more persons agreed to run a legal business for profit earning purpose, it is called ‘Partnership’. The persons who have entered into partnership are called individually ‘Partners’ and collectively a ‘Firm’. The name under which their business is carried on is called the ‘Firm’s Name’.
commercewithag.blogspot.com Features of Partnership . Two or more persons Agreement Features of Legal business Partnership Sharing of profits Agency Relationship - Business carried on by all or any of them acting for all
commercewithag.blogspot.com Features of Partnership Two or more persons: There must be at least two persons to form a partnership, because one person alone can’t create a partnership. Maximum number of partners in a partnership is restricted to 50 as per ‘Rule 10’ of Companies Miscellaneous Rules 2014. Agreement: Partnership comes into existence by an agreement not by operation of law as in case of Hindu undivided family. The agreement may be oral or written. Legal business: Partnership is formed only to run a legal business. If two or more persons join hands to do a social work, it will not constitute a partnership.
commercewithag.blogspot.com Features of Partnership Sharing of profits: Partnership is created to do a business with profit earning intention. Profit will be shared by partners in an agreed ratio. Business carried on by all or any of them acting for all: Each partner can participate in management of partnership firm or it can be handed over to some of partners by other partners. Agency Relationship: There is an agency relationship among every partner and the firm. It means every partner is bound by the acts done by the firm and firm is bound by the acts of every partner.
commercewithag.blogspot.com Q. What is the maximum number of partners that a firm can have? Where is it so provided? Ans: A firm can have maximum 50 partners as per Rule 10 of the Companies (Miscellaneous) Rule, 2014 . Section 464 of the Companies Act, 2013 extends power to Government to prescribe maximum number of members upto 100. By exercising the power, the Government has prescribed the maximum number of partners at 50 in Rule 10 of the Companies (Miscellaneous) Rule, 2014.
commercewithag.blogspot.com Partnership Deed Partnership is the result of an agreement between partners. The agreement may be oral or written. A written agreement which contains all the terms and conditions of partnership is called ‘Partnership Deed’. This deed must be stamped according to stamps act, may be registered or not.
commercewithag.blogspot.com Contents of Partnership Deed 1. Name and Address of the firm 2. Name and address of the partners 3. Nature and place of business 4. Profit sharing ratio 5. Rate of interest on capital 6. Rate of interest on drawings etc.
commercewithag.blogspot.com Provisions to be followed in absence of partnership deed If there is not any partnership deed between partners or if partnership deed is silent upon certain points, then the provisions given in Indian Partnership Act, 1932 are to be followed. These are following: Profit Sharing Ratio: Equal among all partners Interest on Capital: No interest will be provided Interest on Drawings: No interest will be charged Remuneration: No remuneration to any partner Interest on Partner’s Loan to Firm: 6% p.a.
commercewithag.blogspot.com Rights of a Partner 1. Every partner has the right to inspect the books of accounts and have a copy of the same. 2. Every partner has the right to share profits or losses with others in the agreed ratio. 3. Every partner has the right to participate in the management of the business. 4. Every partner has the right to be consulted about the affairs of the partnership business.
commercewithag.blogspot.com Important: 1. If a partner derives any profit for himself/herself out of any transaction of the firm or from the use of the property or business connection of the firm, he/she shall have to surrender it to the firm. 2. If a partner carries on any business of the same nature as and competing with that of the firm, he/she shall account for and pay to the firm, all profits made by him/her in that business.
commercewithag.blogspot.com Profit & Loss Appropriation Account Profit and Loss Appropriation Account is prepared by partnership firm to distribute the net profit among partners in accordance with the partnership agreement. This account is nominal in nature.
commercewithag.blogspot.com Profit & Loss Appropriation Account for the year ending ………………. Particulars Amount Particulars Amount To Interest on Capital: By Net Profit … A… (as per P & L A/c) B … By Interest on Drawings: To Salary / Commission: A… A… B… B… To Reserve … To Profit trfd. to A’s Capital A/c … B’s Capital A/c … Xxx xxx
commercewithag.blogspot.com Exercise: Q. A and B are partners in a firm sharing profits in 3:2. their capitals were Rs. 4,00,000 and Rs. 3,00,000 respectively. During 2020-21, they earned a profit of Rs. 80,000. Prepare Profit and Loss Appropriation Account. Profit & Loss Appropriation Account Particulars Amount Particulars Amount 80,000 To Profit trfd. to By Net Profit A’s Capital A/c (3/5) 48,000 B’s Capital A/c (2/5) 32,000 80,000 80,000
commercewithag.blogspot.com Exercise: Q. A and B are partners in a firm having capitals of Rs. 60,000 and Rs. 40,000 respectively. Interest on capital is provided at 6% p.a. B is entitled a salary of Rs. 24,000. During 2020-21, they earned a profit of Rs. 80,000 before interest and salary. Prepare Profit and Loss Appropriation Account. Profit & Loss Appropriation Account Particulars Amount Particulars Amount 80,000 To Interest on Capital By Net Profit 80,000 A 3,600 B 2,400 6,000 To Salary to B 24,000 To Profit trfd. to A (3/5) 25,000 B (2/5) 25,000 50,000 80,000
commercewithag.blogspot.com Journal Entries 1. Interest on Capital: (i) Interest on Capital A/c Dr. xxx xxx To Partner’s Capital/Current A/c (for crediting interest on capital to partners' capital/current account) (ii) Profit & Loss Appropriation A/c Dr. xxx To Interest on Capital A/c xxx (for transferring interest on capital to P. & L. App. A/c)
commercewithag.blogspot.com Journal Entries 2. Partner’s Salary / Commission: xxx xxx (i) Partner’s Salary / Commission A/c Dr. To Partner’s Capital/Current A/c (for crediting salary/commission to partners' capital/current account) (ii) Profit & Loss Appropriation A/c Dr. xxx To Partner’s Salary / Commission A/c xxx (for transferring salary/commission to P. & L. App. A/c)
commercewithag.blogspot.com Journal Entries 3. Interest on Drawings: (i) Partner’s Capital/Current A/c Dr. xxx xxx To Interest on Drawings A/c (for charging interest on drawings) (ii) Interest on Drawings A/c Dr. xxx xxx To Profit & Loss Appropriation A/c (for transferring Interest on Drawings to P. & L. App. A/c) 4. For transferring amount to reserves: (ii) Profit & Loss Appropriation A/c Dr. xxx xxx To Reserves A/c (for transferring amount to reserves)
commercewithag.blogspot.com Journal Entries 5. For distribution of revaluation profits: (i) Profit & Loss Appropriation A/c Dr. xxx xxx To Partner’s Capital/Current A/c (for transferring profits to partners’ capital / current account) 6. For distribution of revaluation losses: (i) Partner’s Capital/Current A/c Dr. xxx xxx To Profit & Loss Appropriation A/c (for transferring losses to partners’ capital / current account)
Q. A and B started business on 1st April, 2020 with capitals of Rs. 3,00,000 and Rs. 2,00,000 having profit sharing ratio 3:2. B is entitled to a salary of Rs. 4,000 p.m. and interest to be allowed on capitals @ 5% p.a. The remaining profits are to be distributed between the two partners in the ratio of 5:3. During the year ending 31.03.2021, the firm earned a profit of Rs. 1,03,000 before charging salary to B and interest on the capital. Give the Journal entries relating to division of profits and prepare the Profit and Loss Appropriation Account. Date Particulars Journal Entries L.F. Debit (Rs.) Credit (Rs.) (i) Interest on Capital A/c Dr. 25,000 To A’s Capital A/c 15,000 To B’s Capital A/c 10,000 (for crediting interest on capital to partners' capital account) (ii) Profit & Loss Appropriation A/c Dr. 25,000 To Interest on Capital A/c 25,000 (for transferring interest on capital to P. & L. App. A/c) commercewithag.blogspot.com
commercewithag.blogspot.com Journal Entries (iii) Salary A/c Dr. 48,000 To B’s Capital A/c 48,000 (for crediting salary to B' capital account) (iv) Profit & Loss Appropriation A/c Dr. 48,000 To Salary A/c 48,000 (for transferring salary to P. & L. App. A/c) (v) Profit & Loss Appropriation A/c Dr. 40,000 To A’s Capital A/c 25,000 15,000 To B’s Capital A/c (for transferring profits to partners’ capital account)
commercewithag.blogspot.com Methods of Fixed Capital Capital Account maintaining Capital Method Current Account Accounts Fluctuating Capital Only Capital Method Account
commercewithag.blogspot.com Fluctuating Capital Fluctuating Capital: Under this system, only one account namely Capital Account is opened. All entries relating to capital invested by partners, interest on capitals, drawings, interest on drawings, profits etc. are recorded in this account. This is called Fluctuating Capital Account.
commercewithag.blogspot.com format of Fluctuating Capital Account Particulars Partners’ Capital Account A B To Drawings A B Particulars … … To Interest on Drawings … … By Balance c/d /Bank A/c … … To P & L A/c (Loss) … … By Bank A/c (Add. Cap.) … … To Balance c/d * … … By Interest on Capital … … … … By Salary … … … … By Commission xxx xxx By P & L App. A/c (Profit) xxx xxx * Balances may be opposite side also.
commercewithag.blogspot.com Fixed Capital Fixed Capital: Under this system, the capital invested by partners remains constant year after year unless additional capital is introduced or capital is withdrawn because details of original capital invested is maintained in Capital Account. When fixed capital method is adopted, all entries relating to drawings, interest on drawings, and interest on capitals, profits etc. are made in a newly opened account called Current Account. It may show debit or credit balance.
commercewithag.blogspot.com format of Fixed Capital Account Partners’ Capital Account (Fixed) Particulars A B Particulars A B To Bank … … … … By Balance c/d /Bank A/c … … (Capital withdrawn) To Balance c/d By Bank A/c …… (Additional Cap. introduced) xxx xxx xxx xxx
commercewithag.blogspot.com format of Partners’ Current Account Particulars Partners’ Current Account A B To Balance b/d (if any) A B Particulars … … To Drawings … … By Balance c/d /Bank A/c … … To Interest on Drawings … … By Interest on Capital … … To P & L A/c (Loss) … … By Salary … … To Balance c/d * … … By Commission … … … … By P & L App. A/c (Profit) … … xxx xxx By Interest on Capital xxx xxx * Balances may be opposite side also.
commercewithag.blogspot.com Differentiate b/w Capital A/c & Current A/c Basis Capital Account Current Account 1. Need Opened in case of fluctuating Current Account is opened only capital method as well as in fixed in case of fixed capital method. capital method. 2. Nature Balance of capital account, under Balance of current account may fixed capital method, will remain fluctuate from year to year. fixed from year to year. 3. Accounting Amount invested by partners is to Transactions such as drawings, Treatment be recorded. interest on drawings, salary etc. is to be recorded.
commercewithag.blogspot.com Differentiate b/w Drawings against Profits & Drawings against Capital Basis Drawings Against Profits Drawings Against Capital 1. Where It is debited to Drawings It is debited to Capital debited Account/ Current Account. Account. 2. Part 3. Effect It is part of expected profits. It is part of capital. 4. Interest It does not reduce capital. PartneItrsr’ eCudrurecnet As/ccapital. It is not considered while It is considered while calculating interest on calculating interest on capital. capital.
Accounting For Partnership Firms - Fundamentals INTEREST ON DRAWINGS BY: Ajay Garg PGT- Commerce KV CRPF Rampur
commercewithag.blogspot.com Interest on Drawings Interest on drawings is to be charged from partners only when it is clearly mentioned in partnership agreement. Entries: (i) Partner’s Capital/Current A/c Dr. xxx xxx To Interest on Drawings A/c xxx (for charging interest on drawings) xxx (ii) Interest on Drawings A/c Dr. To Profit & Loss Appropriation A/c (for transferring Interest on Drawings to P. & L. App. A/c)
commercewithag.blogspot.com Interest on Drawings Rules: Interest on drawings is always calculated with respect to time, rate of interest and amount of drawings. The formula is: Interest on Drawings: = Amount Withdrawn x Rate of Interest x Months 100 12
commercewithag.blogspot.com Interest on Drawings E.g. Ram & Rahim are partners in a firm. Ram withdrew Rs. 50,000 on 1st July 2019 for personal use. Calculate interest on drawings @ 6% p.a. for the year ending 31st March 2020. Interest on Ram’s Drawings: = 50,000 x 6 x 9 100 12 = Rs. 2,250
commercewithag.blogspot.com Interest on Drawings Rules: • If date of drawings is not given, then interest will be calculated for six months on whole amount. As it is assumed that the drawings were made evenly throughout the year. • When the words “p.a.” are not given with ‘rate’, then interest on drawings will be calculated without considering the time.
commercewithag.blogspot.com Interest on Drawings E.g. A & B are partners in a firm. A withdrew Rs. 50,000 during the year for personal use. Calculate interest on drawings @ 6% p.a. for the year ending 31st March 2020. Interest on A’s Drawings: = 50,000 x 6 x 6 100 12 = Rs. 1,500 (Interest on drawings is calculated for six months as date of drawings in not given)
commercewithag.blogspot.com Interest on Drawings E.g. Anil & Sunil are partners in a firm sharing profits in 3:2. Sunil withdrew Rs. 20,000 on 1st April 2019 for personal use. Calculate interest on drawings @ 6% for the year ending 31st December 2019. Interest on Sunil’s Drawings: = 20,000 x 6 100 = Rs. 1,200 (Interest on drawings is calculated without considering the time as “p.a.” words are not given with the rate)
commercewithag.blogspot.com Interest on Drawings Rules: When drawings are made for more than one time: Following methods are used to calculate interest on drawings: 1. Simple Method 2. Product Method
commercewithag.blogspot.com Interest on Drawings Simple Method: Under this method, interest on drawings is calculated separately on each drawing, from date of drawing till the date of closing of accounting period. The formula is: Interest on Drawings: = Amount Withdrawn x Rate of Interest x Months 100 12
commercewithag.blogspot.com Interest on Drawings Simple Method: e.g. Ramesh withdraws the following amounts: Date Amount of Drawings (Rs.) Jan 01, 2020 10,000 Mar 31, 2020 5,000 Oct 01, 2020 8,000 Calculate interest on drawings at 6% p.a. for year ending 31st Dec., 2019 Sol. Calculation of interest on drawings: Date Amount of Drawings (Rs.) Months Interest (Rs.) Jan 01, 2020 10000 x 6/100 x 12/12 = 600 Mar 31, 2020 10,000 12 Oct 01, 2020 5,000 x 6/100 x 9/12 = 225 5,000 9 8,000 x 6/100 x 3/12 = 120 8,000 3 = 945 Total Interest on Drawings
commercewithag.blogspot.com Interest on Drawings Productive Method: Under this method, first of all “products” are calculated by multiplying each set of drawings with its duration. Thereafter, the different products are added and interest on drawings is calculated on sum of products for one month at given rate. The formula is: Interest on Drawings: = Sum of Products x Rate x 1 100 12
commercewithag.blogspot.com Interest on Drawings Productive Method: e.g. in case of above, interest on drawings is calculated is as follows: Date Amount of Drawings (Rs.) Months Product (Amount x Months) Jan 01, 2020 10,000 12 Mar 31, 2020 1,20,000 Oct 01, 2020 5,000 9 45,000 24,000 8,000 3 = 1,89,000 Total Interest on Drawings Interest on Drawings = 1,89,000 x 6 x 1 = Rs. 945 100 12
commercewithag.blogspot.com Interest on Drawings Rules: Average Months Method (Shortcuts): When the amount of drawings is same and the time intervals is equal every time, then interest on drawings may also be calculated on “Total Drawings” at “Given Rate” for “Average Months”. The formula is: = Total Drawings x Rate of Interest x Average Months 100 12 The “Average Months” are calculated as follows: Month due for first drawing + Month due for last drawing 2
commercewithag.blogspot.com Interest on Drawings When same amount is withdrawn on same date of every month and through out the year, then average months are calculated as follows: Average Month = Month due for first drawing + Month due for last drawing 2
commercewithag.blogspot.com Average months in various cases Case Drawings made Date of Drawings Average Difference on Months b/w months 6.5 Months Beginning of each month 6 Months 0.5 Months Monthly Basis I (Throughout Middle of each month 5.5 Months Year) End of each month Quarterly Basis Beginning of each Quarter 7.5 Months II (Throughout Middle of each Quarter 6 Months 1.5 Months 0.5 Months Year) End of each Quarter 4.5 Months Monthly Basis Beginning of each month 3.5 Months 3 Months III (for Last 6 Middle of each month 2.5 Months Months of year) End of each month
commercewithag.blogspot.com Interest on Drawings Shortcuts (Average Months Method): • If the drawings are made in the beginning of each month: Interest on Drawings = Total Drawings x Rate x 6.5 100 12 • If the drawings are made in the middle of each month: Interest on Drawings = Total Drawings x Rate x 6 100 12 • If the drawings are made at the end of each month: Interest on Drawings = Total Drawings x Rate x 5.5 100 12
commercewithag.blogspot.com Interest on Drawings Example: A has withdrawn Rs. 10,000 in beginning of each month for the year ending 31st March 2021. Calculate interest on capital @ 6% p.a. Interest on Drawings = Total Drawings x Rate x 6.5 100 12 Interest on Drawings = (10,000 x 12) x 6 x 6.5 100 12 = Rs. 3,900
commercewithag.blogspot.com Interest on Drawings Example: A has withdrawn Rs. 10,000 in the middle of each month for the year ending 31st March 2021. Calculate interest on capital @ 6% p.a. Interest on Drawings = Total Drawings x Rate x 6 100 12 Interest on Drawings = (10,000 x 12) x 6 x 6 100 12 = Rs. 3,600
commercewithag.blogspot.com Interest on Drawings Example: A has withdrawn Rs. 10,000 at the end of each month for the year ending 31st March 2021. Calculate interest on capital @ 6% p.a. Interest on Drawings = Total Drawings x Rate x 5.5 100 12 Interest on Drawings = (10,000 x 12) x 6 x 5.5 100 12 = Rs. 3,300
commercewithag.blogspot.com Interest on Drawings - Summary When drawings are made for more one time: Interest on Drawings = Amount Withdrawn x Rate x Month 100 12 When drawings are made for more one time: Simple Method = Amount Withdrawn x Rate x Month 100 12 Productive Method = Sum of Products x Rate x 1 100 12 Shortcuts (Average profits Method): When amount is same and time interval is equal every time: Shortcut Method = Total Drawings x Rate x Avg. Months 100 12
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