What is Accounting for Partnership?

Accounting for partnership

Concept of partnership

A sole trade does business under certain limitations like limited capital, lack of expert services, no enough skill and experience, division of labour, management problems, etc. these limitations may induce a sole trader to enter into partnership with others.

Partnership is a form of business organization in which two or more than two person can carry business family. It is an association of two or more persons who have agreed to combine their labour, property and skill or some or all of them, for the purpose of engaging in lawful business and sharing profits and losses between them. Thus, it is a combination of such persons who have different qualities and abilities. It is a business on which two or more person contributes financial and human resources under an agreement for carrying legal business to earn and share profits. The persons forming such an association and entering into partnership are individually known as partner and collectively as firm. The home in which the partnership is carried on is called firm home. The agreement between person to form a partnership business is carried on is called firm home. The agreement between persons to form a partnership business is called partnership deed.

According to L.H. Haney, "partnership is relation existing between persons competent to make content to make contracts who agree to carry on a lawful business in common with a view to private gain."

In the word of J.A. subin, "two or more individuals may from a partnership by marking a written or oral agreement that they will jointly assume full responsibility for the conduct of a business."

According to Nepal partnership Act, 2020 B.S., "partnership means any business registered in the books of Nepal Government, which is carried on by some person under one home for sharing the profit and with the agreement of participation in the transactions by all partnership or a single partner acting for all."

Thus, form the above definitions, it can be said that partnership is a relation between two or more persons who have agreed to contribute their capitals, combine their labour and skill to carry on some business which can be managed by all or any one of them and profit or loss of such business is divided among them according to their agreed rations.

1.2. Partnership Agreement

Partnership arise not form status but form an agreement. Therefore, it is essential that they must be some term and conditions agreed upon by all the partners. Such and conditions may be either written or oral, because the law does not make it compulsory to have a written agreement. However, in order to avoid all misunderstandings and disputes, it is always the best course to have a written agreement. 

Such written agreement is called "Partnership Deed", it is better, if it is written signed by the entire partner and registered.

The partnership deed should contain the following points:

1. 1.      Name and address of the partnership firm.
2. 2.      Name of address of the partners.
3. 3.      The types and nature of the partnership business
4. 4.      The capital of the firm and contribution of individual partner
5. 5.      The profit sharing ratio among the partners.
6. 6.      Remuneration i.e. salaries, commission, etc, to the partners.
7. 7.      Amount of drawing to be allowed to draw.
8. 8.      Interest on capital and interest on drawing.
9. 9.      Nature of capital i.e. fixed capital or fluctuating capital.
10. 10.   The date and place of commencement of business.
11. 11.   Duration of partnership business.
12. 12.   Rights and duties of partners.
13. 13.   Method of valuation of goodwill in different situations like admission, retirement or death of a partner.
14. 14.   Accounting period of the firm.
15. 15.   Admission and retirement of partners.

1.3 Legal status of partner in the absence of partnership Deed

If there is neither partnership deed nor even verbal agreement or if the partnership deed is silent (i.e. problem is silent). Nepal partnership Act 2020, provides the following provision, which would become effective and applicable:

1. 1.      Profit or losses are to be shared equally among partners irrespective of their capital contributions.
2. 2.      No interest shall be allowed on partners' capital. No interest shall be charged on their drawings.
3. 3.      Partner shall not be allowed any salary or commission.
4. 4.      Maximum interest @ 10% p.a. shall be allowed on any loan advanced by any partner to the firm.

1.4 Accounting for partnership form

Accounts of partnership firms are maintained in the same manner as those of sole proprietorship. There is no statutory provision in the partnership Act for keeping books of accounts as in the case of company Act for companies. But in the case of partnership firm, the special; features related to the distribution of profit and the maintained of capital accounts are applicable separately. Similarly, at the time of admission, retirement and death of a partner, dissolution of firm and amalgamation of firms, some special treatment are made.

Partner's Capital Account

In case o partnership, capital accounts of partners are prepared using the same manner as of capital account in sole proprietorship business. But there is only one capital accounts in sole proprietorship and two or more capital accounts in partnership business. Amounts contributed by the partners, where in cash or in the form of assets, are credited to their respective capital accounts.

In other words, in partnership accounts, separate capital accounts will be opened for each partner on whom capital contributed by partnership will be credited to their respective capital accounts. Thus, there will be as many capital accounts as the number of partners.

The capital accounts of different partners are maintained in two ways in the books of account of the partnership business:

1. Fixed capital accounts
2. Fluctuating capital account

1. Fixed capital accounts

When the amount of capital accounts is kept fixed form year to year, then such capital account is called fixed capital account. Under this system, the capitals of partners shall remain fixed unless same some additional capital is introduced or some amount of capital is withdrawn by an agreement between the partners. Thus, when fixed capital, system is adopted, all transactions relating partners such as share of profit or loss, interest on capital, salary, commission, interest on, drawing, etc. derived from to firm are transferred and recorded in a separate account called partners current account. Under this system, two accounts for each partner are to be maintained.

a.      Capital account: this capital account is credited with the original amount of capital introduced by the partner. If there is any addition to capital, it is again credited. But in case of withdrawn, it is credited. All other transactions relating to a partner are recorded in current account, it is debited. All other transactions relating to a partner are recorded in current account of the respective partner. Therefore, the balance of this account will remain fixed year to year. Generally, this account show a credit balance which is transferred to liabilities side of the balance sheet.

b.      Current account: a partner's current account is debited with drawings, interest on drawings, share of loss, etc. and is credited with interest on capital, partner's salary, commission, share of profit, etc. tow which the partner is entitled. The balance of this account will fluctuate from year to liabilities side of the balance sheets, while debit balance. Its credit balance goes to liabilities side of the balance sheets, while debit balance goes to assets side.

In the case of fixed capital, partner's capital and current account are prepared as under:

Partner's Current Account Table:

Fluctuating Capital Account

When the balance of capital account is allowed to fluctuate due to transactions of a partner with the firm, the capital account is called fluctuating capital account. Under this system, only one accounts i.e. capital account of each partner is maintained, it records all transactions like additional capital brought in: interest on capital account itself. As a result if these, the balance in the capital account keeping on changing year to year. A capital account under this system also shows either a debit balance or credit balance which is transferred later on assets or liabilities side or the balance sheet.

In the case of fluctuating capital, partner's capital account is maintained as under:

1.5 Accounting treatment for partner's salary, Interest, Drawing and Commission

1.  Partner's salary

In a partnership firm, te active partner may be allowed salary for their work. But it should be clearly mentioned in the partnership dead. In this situation the following two entries are made:

2. Interest on capital

Interest on capital is to be allowed to the partners, if it has been specifically provided in the partnership deed. If interest on capital is to be allowed as per agreement, it should be calculated with respect to the time, rate of interest and the amount of capital.

Interest on capital is expenses loss to the firm, but for a partner, it is income. It is show on the debit side of profit and loss appropriation account and on the credit side of partners' capital/current accounts. Generally, the following two entries are made in this respect:

3. Drawings

Each partner can withdraw either or good or both for his/her personal use according to partnership deed. For recording it, a separate drawing account for each partner is maintained. It records both cash and goods withdrawn by a partner and at the end of the year its balance is transferred to the debit side of capital/current account of respective partner. The following entries are passed in this situation:

Similarly, interest is also charged on drawings. Interest on drawing will be charged, if it is specifically mentioned in the partnership agreement. Interest on drawing is credited in profit and loss appropriation account as it is an item of income for the firm and debit in partners capital/current account as it decrease the capital two entries are made in this respect:

4. Sometimes, a partner is to be allowed commission on net profit, in order to he or she may put his or her best in the performance of his/her duties. It is a business expenses but for a partner, it is a gain. It is show on the debit side of profit and loss appropriation account and on the credit side of partners' capital or current account. For commission to partner, the following two entries are made:

1.6 partners Loan Account

Sometimes, a partner provided loan to the firm and it is called loan form a partner. Such amount of loan received from a partner should be debited to bank account. The following entry is made in this case:

1.7. Profit and Loss Appropriation Account

In case of sole proprietorship, the net profits shown by the profit and loss account belong to the sole trade. All net profit is transferred to his/her capital account. However, in case of a partnership, the net profit after adjusting partner's transaction such as interest in capital, partners' salary, commission, drawings, interest on drawings, etc. is to be shared by all the partners in the agreed profit sharing ratio. Thus, a separate account is prepared for distribution of profit between the partners and it is known as profit and loss appropriation account. In simple words, the account through which net profit or net loss determined from profit and loss account is distributed among the partners under different heads is called profit and loss appropriation account. It is nominal account in nature and prepared just like profit and loss account. It is debited with amount due to partner due from partner share of net profit, partners' salary, commission , interest etc and credited with amount due from partner such as interest on drawing etc. after that divisible profit or loss is calculated from thee account. Such profit or loss is to be distributed among the partner in there agreed profit sharing rations and their share of profit or loss should be transferred to their capital or current account. Thus, profit and loss appropriation account is an extension of profit and loss account, which is used to show the balance of profit and loss account i.e. net profit or loss is shared by the partners. The following format is used to prepare a profit and loss appropriation account.

Profit and loss appropriation account is prepared as under:

Note: in case of fixed capital, amount of profit or loss shown by profit and loss appropriation account is transferred to partners' current account. But in the case of fluctuating capital, profit or loss should be transferred to partner's capital account.

Define partnership in brief.

Partnership is a form of business organization in which two or more than tow person can carry business family. It is an association of two or more persons who have agreed to combine their labor, property and skill or some or all of them, for the purpose of engaging in lawful business and sharing profits and losses between who have different qualities and abilities. It is a business on which two or more persons contribute financial and human resources under an agreement for carrying legal business to earn and share profit. The persons forming such an association and entering into partnership are individually known as partner and collectively as firm. The home in which the partnership is carried on is called firm home. The agreement between persons to form a partnership business is called partnership deed.

What do you mean by partnership agreement?

Partnership arise not form status but form an agreement. Therefore, it is essential that there must be some terms and conditions agreed upon by all the partners. Such terms and conditions may be either written or oral, because the law does not make it compulsory to have written agreement. However, in order to avoid all misunderstandings and disputes, it is always the best course to have a written agreement. Such written agreement is called "partnership deed." It is better, if it is written signed by the entire partner and is registered.

Status of partners in the absence of partnership deed.

If there is neither partnership deed nor even verbal agreement or if the partnership deed is silent (i.e. problem is silent), Nepal partnership act, 2020, provides the following provisions, which would become effective and applicable.

1. 1.      Profit or losses are to be shared equally among partners irrespective of their capital contribution.
2. 2.      No interest shall be allowed on partners' capital. No interest shall also be charged on their drawings.
3. 3.      Partners shall not be allowed any salary or commission.
4. 4.      Maximum interest @ 10% p.a. shall be allowed on any loan advanced by any partner to the firm.

Distinguish fixed capital and fluctuating capital.

The following are the main differences between fixed capital and fluctuating capital.