ACCY112 S1 2013 Partnership (1) Tutorial SOLUTIONS

5.

The accounting treatment of a partners drawings differs when separate Retained Earnings accounts are kept for each partner as opposed to not having Retained Earnings accounts. Choice of method is immaterial. Discuss. If each partners capital account is used to reflect his or her share of profits or losses, and no retained earnings account is kept (Method 1 as in the book), any withdrawals are recorded by debiting the drawings account of the partner concerned and crediting cash at bank . The drawings account is then closed to capital at the end of the period. Under Method 2 (as in the book), which consists of capital accounts with fixed balances and retained earnings accounts, after the initial capital contribution very few entries are made to the fixed capital account. Withdrawals in anticipation of profits are debited to the drawings account which is eventually closed off to the retained earnings account. Only withdrawals of capital are debited to the capital account. Method 2 closely follows company accounting procedures and is in line with relevant accounting standards. The choice of accounting treatment is influenced by how partners want equity and changes in equity recorded and disclosed and, particularly, whether they wish to maintain fixed capital accounts which only reflect capital invested unaffected by profit share, interest on capital, drawings, and salary arrangements for partners. However, although there is greater disclosure under Method 2, the total of each partners equity interest is ultimately the same under either method.

EXERCISE SOLUTIONS
Exercise 15 .1 Partnership formation

SUDJAI AND SUTRIN

Required: A. Assuming that Sudjai and Sutrin agree that their capitals should be equal to the fair value of the net assets contributed, prepare general journal entries to record the formation of the partnership. B. B. If Sudjai and Sutrin agree that their respective capitals should be $220 000, show the general journal entries to establish the partnership.

A.

2009 July 1 Cash at Bank

Accounts Receivable Inventory Plant and Equipment Accounts Payable Sudjai, Capital Cash at Bank Accounts Receivable Inventory Plant and Equipment Accounts Payable H Hogart, Capital

$80 000 12 000 45 000 90 000 12 500 214 500 90 000 7 500 40 000 70 000 8 000 199 500

B. 2009 July 1 Cash at Bank

Accounts Receivable Inventory Plant and Equipment Goodwill Accounts Payable L Lewin, Capital Cash at Bank Accounts Receivable Inventory Plant and Equipment Goodwill Accounts Payable H Hogart, Capital

$80 000 12 000 45 000 90 000 5 500 12 500 220 000 90 000 7 500 40 000 70 000 20 500 8 000 220 000

Exercise 15.8

Interest on capital and drawings

DARSHIL AND DALE

Required: Prepare journal entries to account for interest on capital and on drawings, and any necessary closing entries using: 1. method 1 variable capital balances 2. method 2 fixed capital balances.

Profit and Loss Summary Profit Distribution Transfer profit to distribution a/c Profit Distribution Darshil, Capital Dale, Capital Darshil, Retained Earnings Dale, Retained Earnings Interest on capital Darshil, Capital Dale, Capital Darshil, Retained Earnings Dale, Retained Earnings Profit Distribution Interest on drawings Profit distribution Darshil, Capital Dale, Capital Darshil, Retained Earnings Dale, Retained Earnings Darshil, Capital Dale, Capital Darshil, Retained Earnings Dale, Retained Earnings Darshil, Drawings Dale, Drawings Close entry for drawings.

Darshil Method 1 Variable capital balances Debit Credit $32 000 $32 000

Dale Method 2 Fixed capital balances Debit Credit $32 000 $32 000

10 560 5 760 4 800 -

10 560 5 760 4 800

2 160 1 920

2 160 1 920 4 080 4 080

25 520 12 760 12 760 18 000 16 000

25 520 12 760 12 760

18 000 16 000 18 000 16 000 18 000 16 000

Problem 15.3

Allocation of profit and loss

JONG AND JOY

Required: A. Determine the division of the profit or loss assuming a profit of $120 000. B. Determine the division of the profit or loss assuming a profit of $60 000. C. Determine the division of the profit or loss assuming a loss of $6000.

A. Jong Profit of $120 000 Plan (a) Ratio of 50:50 Plan (b) Salaries Remainder 6:4 $60 000 20 000 42 000 $62 000 7 200 41 500 $48 700 $72 000 Joy $60 000 30 000 28 000 $58 000 25 000 4 800 41 500 $71 300 $48 000

Plan (c) Salary Interest at 8% on original investment Remainder equally

Plan (d) Ratio of initial investments (9 : 6) 15 15 B.

Jong Profit of $60 000 Plan (a) Ratio of 50:50 Plan (b) Salaries Excess allocation 6:4 $30 000 20 000 6 000 $26 000 7 200 7 200 11 500

Joy $30 000 30 000 4 000 $34 000 25 000 4 800 29 800 11 500

Plan (c) Salary Interest at 8% on original investment Total salary and interest Remainder equally

$18 700 Plan (d) Ratio of initial investment (9 : 6) 15 15 C. Jong Loss of $6 000 Plan (a) Ratio of 50:50 Plan (b) Salaries Excess allocation 6:4 $(3 000) 20 000 (33 600) $(13 600) 7 200 7 200 (21 500) $(14 300) $(3 600) $36 000

$41 300 $24 000

Joy $(3 000) 30 000 (22 400) $ 7 600 25 000 4 800 29 800 (21 500) $8 300 $(2 400)

Plan (c) Salary Interest at 8% on original investment Total salary and interest Excess allocation equally

Plan (d) Ratio of initial investment (9 : 6) 15 15

Decision Case

A partnership without a partnership agreement

OMALLEY AND OREILLY Required: A. Calculate the amount of profit distribution to each partner under each scenario. Which scenario is most favourable to OMalley? to OReilly? B. Given the capital commitments and expertise of each partner, decide which scenario is the most appropriate for the partnership agreement. C. What recommendations would you make for any proposed partnership agreement in the event that the partnership incurs a loss for the year? A. If there are no suggested arrangements to distribute the profit then the provisions of the partnership act apply, i.e. that the profit be divided between the partners equally. (a) OMalley OReilly 50% 50% $60 000 $60 000 $120 000

(b)

OMalley OReilly

400 000 $120 000 x 760 000 1 360 000 $120 000 x 760 000 1

= =

$63 158 $56 842 $120 000

(c)

OMalley Salary 5% interest on ending capital ($400 000 + 40 000) Residual loss 50% OReilly Salary 5% interest on ending capital ($360 000) Residual loss 50%

$40 000 22 000 (10 000) $52 000

$60 000 18 000 (10 000) $68 000 $120 000

Scenario (b) is the most favourable to OMalley Scenario (c) is the most favourable to OReilly. B. As scenario (c) takes into account the capital commitments and expertise of both parties, it is the most appropriate to recommend. Losses should be shared in the same manner as profits.

C.