The compilation of these Accounting for Partnership Notes makes students exam preparation simpler and organised.
Special Aspects of Partnership Accounts and its Maintenance
A Partnership Firm is a very special form of business organization. There are a few differences which are: Maintenance of Partner’s Capital Accounts, Distribution of Profit and Loss among the partners, Adjustments for the wrong appropriation profits etc. Now, let’s discuss the maintenance of various Special Aspects of the Partnership Accounts.
Maintenance of Partner’s Capital Accounts
Most of the transactions relating to the partners of the firm are recorded in the books of the firm through their capital accounts. This includes various transactions like money brought in by the partner, withdrawal of the capital, the share of profit, interest on drawings, interest on capital, etc.
There are 2 methods by which the capital of the partners is maintained. These special aspects accounts are:
- Fixed Capital Method
- Fluctuating Capital Method.
1. Fixed Capital Method
Under this method, a firm maintains 2 capital accounts in order to keep the capital account balance stable from regular capital-related transactions. These 2 accounts are as follows: (a) Capital Account and (b) Current Account. Capital Account only includes transactions like Initial investment, an addition of capital, and permanent withdrawal of capital.
2. Fluctuating Capital Method
Under this method, a firm records all the capital-related transactions (Permanent as well as Non-Permanent) under a single account and that is Capital Account.
Distribution of Profits among Partners
Profit is not a new term under the Partnership form of business organization but its distribution becomes a new thing. It is very special as well as very important for the firm to distribute the profits carefully as there is more than one owner of the firm who will share the benefit/profit arising from the firm. Hence, there is a Special Account which is prepared for it which is known as the Profit and Loss Appropriation Account.
Profit and Loss Appropriation A/c
Adjustments for the Wrong Appropriation of Profit
It is one of the Special Aspects of Partnership accounts. Adjustments in the account of the Partnership firm are needed whenever something related to the past has to be corrected or adjusted. Sometimes, a firm by mistake distributes the profits in the wrong ratio or in a wrongful manner. Under such a case, a firm does some adjustment entries to rectify such an error.
Reconstitution of Partnership Firm
A partnership is an agreement between two or more partners with some definite agreement. Sometimes, a partnership firm goes through a reconstitution either intentionally or due to an issue. Reconstitution means a change in the terms of the agreement of the partners or the ‘Partnership Deed’. Thus, the old agreement between the partners comes to an end and a new existence comes into existence.
Reconstitution of partnership firm takes place when there is a change in the profit-sharing ratio of the partners, admission of the partners, retirement or death of a partner, insolvency of a partner, etc. Although most of these are similar in nature, they have their special transaction features too which makes them different from each other in accounting nature.
Admission of a Partner
Admission of a partner has some Special Aspects too. When a firm requires additional capital or managerial help it can admit a new partner in its business. As per the Partnership Act, 1932, a new partner can only be admitted unanimously unless otherwise provided in the partnership deed. When a new partner is admitted a new agreement is formed and thus the firm is reconstituted.
Retirement or Death of a Partner
Although retirement and death of a partner are two totally different events, in accounting most of the treatment is similar in nature. A partner may decide to retire or withdraw from the firm due to reasons such as his age, his bad health, change in the firm’s nature of a business, etc.
In the case of Partnership at Will, a partner may retire at any time. Death or insolvency of a partner also results in the reconstitution of the firm when the remaining partners wish to continue the firm. In case of the death of a partner, the firm pays the due amount to the partner’s legal heir.
Dissolution of Partnership Firm
Dissolution of a partnership merely involves a change in the relation of partners; whereas the dissolution of a firm amounts to a complete closure of the business. Dissolution of partnership changes the mutual relations of the partners. But in the case of dissolution of a firm, all the relations and the business of the firm come to an end.
Hence, there is a need for a Special Account for settling down all the assets of the partners. This Special Account with Special Aspects is known as ‘Realisation Account’.
Realization Account
Example:
Question:
P and Q are two partners in a firm sharing profits/losses in the ratio 3 : 1. The firm admits a new partner R with a 1/4 share in the profits. Calculate the new profit sharing ratio between P, Q, and R.
Solution:
Existing Profit Sharing ratio = 3 : 1
R’s share = 1/4 of profits
Remaining share after R’s share = 1 – 1/4 = 3/4
P’s new share = 3/4 × 3/4 = 9/16
R’s new share = 1/4 × 3/4 = 3/16
Comparing all the 3 ratios, we get 9/16 : 3/16 : 1/4 or 4/16
So the ratio between P, Q, and R is 9 : 3 : 4