Accounting for partnership firms – Fundamentals

After  studying this chapter the student will be confident to:
Ø  Understand and explain the meaning of partnership
Ø  Understand the characteristics of Partnership
Ø  Explain the meaning and contents of partnership deed.
Ø  Apply their provisions of Partnership Act,1932 in the absence of partnership deed.
Ø  Prepare partners’ Fixed and fluctuating capital Accounts.
Ø  Calculate interest on Capital and Drawings.
Ø   Distribute profit among partners and prepare Profit and Loss Appropriation A/c.
Ø  Make the accounting treatment of past adjustment.
v Partnership deed : It is a document which contains the terms and conditions of Partnership agreement either oral or written.
v Profit and Loss Appropriation Account : After the preparation of Profit and Loss account, entries pertaining to Interest on Capital, Drawings , Salaries among the partners are shown separately in a newly opened Profit and Loss Appropriation Account.
v Rules applicable in the absence of Partnership Deed :
a) Profit sharing ratio will be equal
b) No Interest on Capital and Drawings
c) No Remuneration or Salary to the partners.
d) Interest on Loan advanced by the partner @6% p.a.
v Fixed and Fluctuating Capital Accounts :
When the Capitals are fixed, the Current account of the partners will be maintained.

1 and 3 Mark Questions
Q1     Define partnership.
                 When two or more persons enter into an agreement to carry on business and share its profit and losses, it is a case of partnership.  The Indian partnership Act, 1031, defines Partnership as follows :
               "Partnership is the relation between persons and who have agreed to share the profits of a business carried on by all or any of them acting for all.
Q.2         What do you understand by 'partners', 'firm' and 'firms' name ?
The persons who have entered in to a Partnership with one another are individually called 'Partners' and collectively 'a firm' and the name under which the business is carried is called 'the firm's name'.
Q.3         Write any four main features of partnership.
               Essential elements or main features of Partnership:
               i)    Two or more persons: Partnership is an association of two or more persons.
               ii)   Agreement: The Partnership is established by an agreement either oral or in        writing.
               iii)  Lawful Business: A Partnership formed for the purpose of carrying a business, it must be a legal business.
               iv)   Profit sharing: Profit of the firm is share by the partners in an agreed ration, if the ratio is not agreed then equally. Profit also includes loss.
Q.4         What is the minimum and maximum number of partners in all partnership?
               There should be at least two persons to form a Partnership.  The maximum number of Partners in a firm carrying an banking business should not exceed ten and in any other business should not exceed ten and in any other business it should not exceed twenty.
Q.5         What is the status of partnership from an accounting viewpoint?
               From an accounting viewpoint, partnership is a separate business entity.  From legal viewpoints, however, a Partnership, like a sole proprietorship, is not separate from the owners.

Q.6         What is meant by partnership deed?
               Partnership deed is a written agreement containing the terms and conditions agreed by the Partners.
Q.7         State any four contents of a partnership deed.
              i)      The date of formation and the duration of the Partnership
               ii)   Name and address of the Partners
               iii)  Name of the firm.
iv)           Interest on Partners capital and drawings
               v)    Ratio in which profit or losses shall be shared
Q.8         In the absence of a partnership deed, how are mutual relations of partners governed?
Ans. In the absence of Partnership deed, mutual relations are governed by the Partnership Act, 1932.
Q.9         Give any two reason in favour of having a partnership deed.
Ans. i)    In case of any dispute or doubt, Partnership deed is the guiding document.
               ii)   It can specify the duties and powers of each Partner.
Q.10       State the provision of 'Indian partnership Act 1932'  relating to sharing of profits in absence of any provision in the partnership deed.
             In the absence of any provision in the Partnership deed, profit or losses are share by the Partners equally.
Q.11       Why is it important to have a partnership deed in writing ?
             Partnership deed is important Since it is a document defining relationship of among Partners, thus is a assistance in settlement of disputes, if any and also avoid possible disputes : it is a good evidence in the court.

Q.12       What do you understand by fixed capital of partners?
          Partners' capital is said to be fixed when the capital of Partners remain unaltered except in the case where further capital is introduced or capital is withdrawn permanently.
Q.13       What do you understand by fluctuating capital of partners ?
Partners capital is said to be fluctuating when capital alters with every transaction in the capital account. For example, drawing, credit of interest, etc
Q.14       Give two circumstances in which the fixed capital of partners may change.
            Two circumstances in which the fixed capital of Partners may change are :
               i)    When additional capital is introduced by the Partners.
               ii)   When a part of the capital is permanently withdrawn by the Partners.
Q.15       List the items that may appear on the debit side and credit side of a partner's fluctuating capital account.
              On debit side : Drawing, interest on drawing, share of loss, closing credit balance of the capital.
               On credit side   :      Opening credit balance of capital, additional capital introduced, share of profit, interest on capital, salary to a Partner, commission to a Partner.

Q.16       How will you show the following in case the capitals are                         
               i) Fixed and ii)  Fluctuating
.              a)    Additional capital introduced
               b)    Drawings
               c)    Withdrawal of capital
               d)    Interest on capital and
               e)    Interest on loan by a partners ?
               i)    In case, capitals are fixed :
                      a)        on credit side of capital (b) on debit side of current A/c (c) on debit side of capital A/c  (d) on credit side of current A/c (e) on credit side of loan from partner's A/c
Q.17       If the partners capital accounts are fixed, where will you record the following items :
               i)     Salary to a partners
               ii)    Drawing by a partners
               iii)  Interest on capital and
               iv)   Share of profit earned by a partner ?
Ans.17    i)    Credit side of Partner's current A/c
               ii)   Debit side of Partner's current A/c
               iii)  Credit side of Partners current A/c
               iv)  Credit side of Partners current A/c
Q.18       How would you calculate interest on drawings of equal amounts drawn on the Last day of every month ?
Ans.18    When a partners draws a fixed amount at the beginning of each month, interest on total drawing would be on the amount withdraw for 6.5 months at the agreed rate of interest per annum.   Apply the following formula. 
               Interest on drawing = total drawing x 
Q.19       How would you calculate interest on drawing of equal amounts drawn on the last day of every month ?
Ans.        When drawing of fixed amounts are made at regular monthly intervals on the day of every month, Interest would be charged on the amount withdrawn at the agreed rate of interest for 5.5 months.  Apply the following formula. :
               Interest on drawing = Total drawing x 
Q.20       How would you calculate interest on drawing of equal amount drawn in the middle of every month ?

Q.21       Ramesh, a partner in the firm has advanced a loan of a Rs. 1,00,000 to the firm and has demanded on interest @ 9% per annum.  The partnership deed is silent on the matter.  How will you deal with it ?
Ans.        Since the Partnership deed is silent on payment of interest, the provisions of the Partnership Act, 1932 will apply.  Accordingly, Ramesh is entitled to interest @ 6% p.a.
Q.22       The partnership deed provides that Anjali, the partner will get Rs. 10,000 per month as salary.  But, the remaining partners object to it.  How will this matter be resolved?
Ans.22    No, he is not entitled to the salary because it is not so, Provided in the Partnership deed and according to the Partnership act, 1932 if the Partnership deed does not provided for payment of salary to Partners, he will not be entitled to it.
Q.23       Distinction between Profit and loss and profit and loss appropriation account :


Q.  1 A, B and c  were partners in a firm having no partnership agreement. A,B and C contributed Rs.2,00,000, Rs.3,00,000 and 1,00,000 respectively. A and B desire that the profits should be divided in the ratio of capital contribution. C does not agree to this. How will the dispute be settled.

ANS:  C is correct because in the absence of Partnership deed the profits are  to be shared equally.

Q2     A and B are partners sharing profits in the ratio of 3 : 2 with capitals of Rs. 5,00,000 and Rs. 3,00,000 respectively. Interest on capital is agreed @ 6% p.a. B is to be allowed an annual salary of Rs. 25000. During 2006, the profits of the year prior to calculation of interest on capital but after charging B's salary amounted to Rs. 125000. A provision of 5% of the profits is to be made in respect of Manager's commission.
         Prepare an account showing the allocation of profits and partners' capital accounts.
Solution:2                    Profit and Loss  Appropriation Account
         Particulars                                      Amount    Particulars                                        Amount
                                                                       Rs.                                                                    Rs.
         To Interest on Capital                                     By Profit after B's
Salary but before 
                                                                                other adjustments                              125000
             A                                  30000                                                                            
             B                                  18000       48000                                                           
         To Prov. Manager's
 Commission                                                3850                                                           
         (5% of Rs.77000*)
         To Profit transferred to :                                                                                       
             A's Capital A/c            43890                                                                            
             B's Capital A/c            29260       73150                                                           
                                                                      12500                                             125000

         Provision is made on profit after charging interest on capitals, i.e. 125000-48,000 Rs. 77,000 .
Partners capital Accounts
         Particulars                         A              B        Particulars                                       A         B
         To Balance c/d         573890     372260        By Balance b/d                      500000                                 300000
                                                                               By interest on capital               30000 18000
                                                                               By salary                                          - 25000
                                                                               By P and L
                                                                     Appropriation A/c                              43890 29260
                                           573890     372260                                                      573890                                 372260
Q.3 X and Y are partners sharing profits and losses in the ratio of 3 : 2 with capitals of Rs. 50,000 and Rs. 30,000 respectively. Each partner is entitled to 6% interest on his capital. X is entitled to a salary of Rs. 800 per month together with a commission of 10% of net 'Profit remaining after deducting interest on capitals and salary but before charging any commission. Y is entitled to a salary of Rs. 600 per month together I. with-a commission of 10% of Net profit remaining after deducting interest on capitals and salary and after charging all commissions. The profits for the year prior to calculation of interest on capital but after charging salary of partners amounted to Rs. 40,000. Prepare partners' Capital Accounts :.-
         (i)           When capitals are fixed , and
         (ii)         when capitals are. fluctuating.
         Note: (1) Calculation of interest on Capital:  Interest for 3 months i.e. from 1st April to 30th June, 2004
                                                                                                A                     B
         A on Rs. 5,00,000 @ 10% p.a.                                  12500     
         B on Rs. 3,00,000 @ 10% p.a.                                                              7500
         Interest for 9 months i.e. from 1st July, 2004 to 31st March, 2005 :
         A on Rs. 3,50,000 @ 10% p.a.                                  26250                 
         B on Rs. 3,50,000 @ 10% p.a.                                                              26250
Q 4 Give the answer to the following:
(1)P and Q are partners sharing profits and losses in the ratio of 3:2. On 1st April 2009 their capital balances were Rs.50,000 and 40,000 respectively. On 1st July 2009 P brought Rs.10,000 as his additional capital whereas Q brought Rs.20,000 as additional capital on 1st October 2009. Interest on capital was provided @ 5% p.a. Calculate the interest on capital of P and Q on 31st March 2010.
(2)A and B are partners sharing profits and losses in the ratio of 2:1. A withdraws Rs.1500 at the beginning of each month  and B withdrew Rs. 2000 at the end of each month for 12 months.  Interest on drawings was charged  @ 6% p.a. Calculate the interest on drawings of A and B  for the year ended 31st December 2009.
Ans.  1 Interest on Capital  For P
1-4-2009 TO 31-3-10
1-7-2009 TO 31-3-10


Interest on capital for P will be = 6,90,000 x 5/100 x 1/12
                                                   =   2,875

         For    Q

1-4-2009 to 31-3-10
1-10-2009 to31-3-10


       Interest on capital for Q will be  =  6,00,000 x 5/100 x 1/12
                                                            =  2,500

Ans.  2 Interest on Drawings
 For A = Total drawings of the year x rate/100 x Average calculated
 =   18,000x6/100 x 13/2 x1/12
 =    585

  For  B    =  24,000 x 6/100 x 11/2  x1/12
              =   660

Q.5   A, B and C are partners in a firm sharing profits and losses in the ratio of 2:3:5.   Their fixed capitals were 15,00,000, Rs.30,00,000 and Rs.6,00,000 respectively. For the year 2009  interest on capital was credited to them @ 12%  instead of 10%. Pass the necessary adjustment entry.

Ans:                         TABLE SHOWING ADJUSTMENT

Interest that should have been credited @ 10%                   




Interest already credited @ 12%
Excess credit in partners account
By recovering the extra amount paid the share of profits will increase and it will be credited in the ratio of 2:3:5




Net effect

Adjustment Entry:

C’s  current A/c                                   Dr.          15,000
    To A’s  Current  A/c                                               12,000
    To B’s  Current  A/c                                                     3,000
( For interest less charged on capital, now rectified)

Q.6    From the following balance sheet of X and Y, calculate interest on capitals @ 10% p.a. payable to X and Y for the year ended 31st December, 2008.
         Liabilities                                       Amount    Assets                                              Amount
         X's Capital                                       50,000    Sundry Assets                                          1,00,000
         Y's capital                                       40,000    Drawings X                                       10,000
         P & L appropriation A/c (1998)                     20,000                                                         
                                                               1,10,000                                                                     1,10,000
         During the year 2008, X's drawings were Rs. 10,000 and Y's Drawing were Rs. , 3,000. Profit during the year, 2008 was Rs.30,000.
Ans : 6 Calculation of Opening Capitals                                                     X                         Y
                                                                                                                 Rs.                       Rs.
         Capitals as on 31st Dec., 2008                                                  50,000                 40,000
         Add : Drawings (Previously deducted) .                                            -                  3,000
                                                                                                            50,000                 43,000
         Less: Profit distributed (30,000- 20,000' equally                        5,000                   5,000
         Opening Capitals                                                                       45,000                 38,000
         Interest on 'capitals: @ 10% p.a;                                                 4,500                   3,800
         Working Notes:
         (1)          As X’s drawings are shown in the Balance Sheet, it means his drawings are not deducted. From his .capital till now, so his drawings are not included back.
         (2)          Profits for 2008 were Rs. 30,000 and profits of Rs. 20,000· are, shown in the             Balance Sheet, which means only Rs. 10,000 profits were distributed between the partners.

Q.7    A, B and C entered into partnership on 1st April, 2008 to share profits & losses in the ratio of 4:3:3. A, however, personally guaranteed that C's share of profit after charging interest on Capital @ 5% p.a. would not be less than Rs. 40,000 in any year. The Capital contributions were:
         A, Rs. 3,00,000; B, Rs. 2,00,000 and C, Rs. 1,50,000.
         The profit for the year ended on 31st March, '2008 amounted to Rs. 1,60,000. show the Profit & Loss Appropriation Account. .
Solution:7                                Profit and Loss Appropriation Account
                                                ( for the year ending on 31st March 2008)
         Particulars                                      Amount    Particulars                                        Amount
         To Interest on Capital:                                    By Profit before adjustments 1,60,000
             A                                 15,000                           
             B                                 10,000                           
             C                                   7,500      32,500          
         To net Profit transferred                                       
             A. (51,000-1,750)       49,250                           
             B. (1,27,500x3/10)     38,250                           
             C. (38,250+1,750)      40,000   1,27,500          
                                                               1,60,000                                                                     1,60,000

         Q 8 A, and C are partners with fixed capitals of Rs. 2,00,000, Rs. 1,50,000 and Rs. 1,00,000 respectively. The balance of current accounts on 1st January, 2004 were A Rs. 10,000 (Cr.); B Rs. 4,000 (Cr.) and C Rs. 3,000 (Dr.). A gave a loan to the firm of Rs. 25,000 on 1st July, 2004. The Partnership deed provided for the following:-
         (i)           Interest on Capital at 6%.
         (ii)         Interest on drawings at 9%. Each partner drew Rs. 12,000 on 1st July, 2004.
         (iii)        Rs. 25,000 is to be transferred in a Reserve Account.
         (iv)         Profit sharing ratio is 5:3: 2 upto Rs. 80,000 and above Rs. 80,000 equally. Net             Profit of the firm before above adjustments was Rs. 1,98,360.
         From the above information prepare Profit and Loss Appropriation Account, Capital and Current Accounts of the partners.

Solution: 8      
Profit and Loss Appropriation Account
for the year ended 31st December, 2004
         Particulars                                      Amount    Particulars                                        Amount
To Interest on Capital at 6% :                                  By profit and Loss A/c                     198360                                                         A       12000
         Less: interest on A's Loan @ 6% p.a.                        on Rs 25,000 for six months       750         197610
            A                                  12000
            B                                     9000                     By interest on drawings @ 9% p.a.                                                                                                             for 6 months on Rs 12,000                     
             C                                    6000       27000           A                                        540                         
         To reserve A/c                                 25000           B                                        540            
         To profit                                                                C                                        540     1620
             A's current A/c             62410                                                                            
             B's current A/c             46410                                                                            
             C's current A/c             38410     147230          
                                                                 199230                                                             199230

Capital Accounts
         Particulars                       A             B            C    Particulars                  A              B      C
         To balance b/d     2,00,000  1,50,000 1,00,000    By balance c/d 2,00,000  1,50,000                             1,00,000

         Current accounts
         Particulars                       A             B            C    Particulars                  A              B      C
         To balance b/d                 -               -      3000    By balance b/d    10000         4000       -
         To drawings             12000      12000    12000    By interest on capi 12000      9000 6000
         To interest on               540          540        540    By P&L  A/c       62410       46410                                 38410
         To balance c/d         71870      46870    28870
                                                         84,410   59,410    44,410                                 84,410                                59,410     44,410

         Calculation of Distribution of Profits :
            Upto Rs. 80000  in the ratio of 5:3:2
            Above  Rs. 80,000   equally
Q.9    Ram  and Shyam started a partnership business on 1st January, 2007. Their capital contributions were Rs. 2,00,000 and Rs. 10,0000 respectively. The partnership deed provided:
         i.            Interest on capitals @10% p.a.
         ii.           Ram, to get a salary of Rs. 2,000 p.m. and Shyam Rs. 3,000 p.m.
         iii.          Profits are to be shared in the ratio of 3:2.
         The profits for the year ended 31st December, 2007 before making above appropriations were Rs. 2,16,000. Interest on Drawings amounted to Rs. 2,200 for Ram and Rs. 2,500 for Shyam. Prepare Profit and Loss Appropriation Account.

Ans:9                                       Profit and Loss Appropriation Account
                                                 for the year ending on 31st Dec., 2007
         Particulars                                      Amount    Particulars                          Amount
         To Interest on Capital:          Rs.                     By Profit                            2,16,000
                                                                                By Interest on Drawings                 
         Ram                                  2,000                     Rs. 
         Shyam                               1,500      35,000           Amit                                2,200                         
To Salary                                                                        Vijay                               2,500    4,700
         Ram                                24,000                           
         Shyam                             36,000      60,000          
         To Net profit transferred                                       
         Ram Capital A/c             75,420                           
         Shyam  Capital A/c         50,280   1,25,700          
                                                               2,20,700                                                                    2,20,700
[Q.10 P and Q are partners with capitals of Rs. 6,00,000 and Rs. 4,00,000 respectively. The profit and Loss Account of the firm showed a net Profit of Rs. 4, 26,800 for the year. Prepare Profit and Loss account after taking the following into consideration:-
         (i)           Interest on P's Loan of Rs. 2,00,000 to the firm
         (ii)         Interest on 'capital to be allowed @ 6% p.a.
         (iii)        Interest on Drawings @ 8% p.a. Drawings were ; P Rs 80,000 and Q Rs. 1000,000.
         (iv)         Q is to be allowed a commission on sales @ 3%. Sales for the year was Rs. 1000000
         (v)          10% of the divisible profits is to be kept in a Reserve Account.
[Solution:10                 Profit and Loss Account for the year ended

         Particulars                                      Amount    Particulars                                        Amount
         To Interest on P's Loan A/c              12000    By profit before interest                   426800
         To Profit transferred to
         P&L Appropriation A/c                  414800   
                                                                 426800                                                             426800

Profit and Loss Appropriation Account for the year ended.

         Particulars                                      Amount    Particulars                                        Amount
         To interest on Capital                                     By profit and Loss A/c (Profit)        414800
             P                                   36000                     By interest on drawings                               
             Q                                  24000       60000           P                                      3200            
         To Q's commission                           60000           Q                                      2000     5200
         To reserve A/c                                 30000                                                           
         To profit                                                                                                                
         P's Capital                     135000                                                                            
         Q's capital                     135000     270000                                                           
                                                                 420000                                                             420000

         (i)           If the rate of interest on Partners' Loan is not given in the question, it is to be wed @ 6% p.a. according to the Partnership Act.
         (ii)         Interest on Partners' Loan is treated as a charge against Profit, so it is shown in the debit of Profit and Loss A/c.
         (iii)        If the date of Drawings is not given in the question, interest on drawings will be charged and average period of 6 months. .
         (iv)         Reserve Fund is calculated at 10% on Rs. 3,00,000 (i.e. Rs. 4,26,800 + Rs. 5,200-  12,000 - Rs. 60,000 - Rs. 60,000.