Chapter 1 -Accounting for Partnership: Basic Concepts

Exam-focused notes to help you prepare:

Key Concepts of Accounting for Partnership:

1. Not-for-Profit Organisations (NPOs):
   • These are organizations established for social, educational, religious, or charitable purposes.
   • They do not aim for profit but rather serve the public.
   • Examples: Charitable hospitals, educational institutions, sports clubs, etc.
2. Main Features of NPOs:
   • Provide services, not profit.
   • Funded through subscriptions, donations, grants, and gifts.
   • Surplus is not distributed among members but reinvested for the organization’s purpose.
3. Financial Statements Prepared by NPOs:
   • Receipts and Payments Account: A summary of cash receipts and payments over a period.
   • Income and Expenditure Account: Similar to the Profit and Loss Account; it records all revenue and expenses.
   • Balance Sheet: Shows the financial position of the organization at the end of a financial period.
4. Receipts and Payments Account:
   • Cash-based accounting.
   • Shows opening and closing cash and bank balances.
   • Includes both capital and revenue items.
5. Income and Expenditure Account:
   • Accrual-based accounting.
   • Focuses on revenue receipts and expenses.
   • Excludes capital items and includes adjustments for outstanding and prepaid amounts.
   • Net result shows surplus (equivalent to profit) or deficit.
6. Balance Sheet of NPOs:
   • Prepared at the end of the accounting period.
   • Shows the financial health (assets and liabilities) of the organization.
   • Does not include the concept of owner’s equity.
7. Subscriptions:
   • A key source of income for NPOs.
   • Accounts for subscription received in advance and outstanding subscription.
8. Donations:
   • Can be of two types:
     • Specific Donations: Meant for specific purposes and shown as liabilities.
     • General Donations: Treated as revenue and shown in the Income and Expenditure Account.
9. Legacies:
   • Bequests from deceased persons.
   • Treated as capital receipts.
10. Entrance Fees:
    • Fees charged when a new member joins.
    • Can be treated as either capital or revenue based on the organization’s policy.
11. Sale of Old Assets:
    • The profit or loss on the sale of an asset is shown in the Income and Expenditure Account.
12. Distinction Between Capital and Revenue Items:
    • Revenue items are regular items that affect the income and expenditure account.
    • Capital items include large, non-regular transactions such as the purchase of fixed assets.
13. Steps for Preparing Final Accounts of NPOs:
    • Prepare the Receipts and Payments Account.
    • Prepare the Income and Expenditure Account.
    • Prepare the Balance Sheet.

Important Adjustments:

• Outstanding expenses and incomes.
• Prepaid expenses and incomes received in advance.
• Depreciation on fixed assets.

Test your Understanding – I

1. Mohan and Shyam are partners in a firm. State whether the claim is valid if the partnership agreement is silent in the following matters:
   • (i) Mohan is an active partner. He wants a salary of Rs. 10,000 per year:
     • Not valid. In the absence of a partnership agreement, no partner is entitled to a salary for their services unless specifically agreed upon.
   • (ii) Shyam had advanced a loan to the firm. He claims interest @ 10% per annum:
     • Not valid. If the partnership deed is silent, interest on a partner’s loan is to be given at the rate of 6% per annum, not 10%.
   • (iii) Mohan has contributed Rs. 20,000 and Shyam Rs. 50,000 as capital. Mohan wants an equal share in profits:
     • Valid. In the absence of an agreement, profits and losses are shared equally, irrespective of the partners’ capital contributions.
   • (iv) Shyam wants interest on capital to be credited @ 6% per annum:
     • Not valid. Unless specified in the partnership deed, no interest on capital is allowed. Interest on capital is only payable if there is a provision in the partnership agreement.
2. State whether the following statements are true or false:
   • (i) Valid partnership can be formulated even without a written agreement between the partners:
     • True. A partnership agreement can be oral or written. A valid partnership can exist even without a written agreement.
   • (ii) Each partner carrying on the business is the principal as well as the agent for all the other partners:
     • True. In a partnership, each partner acts as both principal and agent for the other partners in the business.
   • (iii) Maximum number of partners can be 50:
     • False. The maximum number of partners for a firm is 100, as per the Companies Act, 2013.
   • (iv) Methods of settlement of dispute among the partners can’t be part of the partnership deed:
     • False. The partnership deed can include provisions for the settlement of disputes among partners.
   • (v) If the deed is silent, interest at the rate of 6% p.a. would be charged on the drawings made by the partner:
     • False. No interest is charged on drawings unless mentioned in the partnership deed.
   • (vi) Interest on partner’s loan is to be given @ 12% p.a., if the deed is silent about the rate:
     • False. Interest on a partner’s loan is to be given at the rate of 6% per annum if the deed is silent.

Do it Yourself

To solve the given problem regarding the partnership between Soumya and Bimal, we need to follow these steps:

Step 1: Interest on Capital

• Soumya’s Capital = Rs. 3,00,000
  Interest on Soumya’s Capital = 6% of Rs. 3,00,000 = Rs. 18,000
• Bimal’s Capital = Rs. 2,00,000
  Interest on Bimal’s Capital = 6% of Rs. 2,00,000 = Rs. 12,000

Step 2: Salary and Commission

• Soumya’s Salary = Rs. 500 per month
  Soumya’s Annual Salary = Rs. 500 × 12 = Rs. 6,000
• Bimal’s Commission = Rs. 40,000 per year

Step 3: Interest on Drawings

• Interest on Soumya’s Drawings = Rs. 750
• Interest on Bimal’s Drawings = Rs. 250

Step 4: Net Profit Available for Appropriation

Net profit before adjustments = Rs. 2,49,000

Step 5: Profit and Loss Appropriation Account

Particulars	Amount (Rs.)	Particulars	Amount (Rs.)
To Interest on Soumya’s Drawings	750	By Net Profit before adjustments	2,49,000
To Interest on Bimal’s Drawings	250
To Soumya’s Salary	6,000
To Bimal’s Commission	40,000
To Interest on Soumya’s Capital	18,000
To Interest on Bimal’s Capital	12,000
To Profit transferred to:
– Soumya (3/5 of Rs. 1,72,000)	1,03,200
– Bimal (2/5 of Rs. 1,72,000)	68,800
Total	2,49,000	Total	2,49,000

Step 6: Partner’s Capital and Current Accounts

Partner’s Capital Accounts:

Particulars	Soumya (Rs.)	Bimal (Rs.)
Opening Balance	3,00,000	2,00,000
Interest on Capital	18,000	12,000
Total	3,18,000	2,12,000

Partner’s Current Accounts:

Particulars	Soumya (Rs.)	Bimal (Rs.)
Opening Balance	1,00,000	80,000
Salary/Commission	6,000	40,000
Profit Share	1,03,200	68,800
Interest on Drawings	(750)	(250)
Drawings	(30,000)	(10,000)
Closing Balance	1,78,450	1,78,550

This completes the solution for the problem.

2. Soniya, Charu and Smita started a partnership firm on April 1, 2019. They contributed Rs, 5,00,000, Rs. 4,00,000 and Rs. 3,00,000 respectively as their capitals and decided to share profits and losses in the ratio of 3:2:1. The partnership deed provides that Soniya is to be paid a salary of Rs. 10,000 per month and Charu a commission of Rs. 50,000. It also provides that interest on capital be allowed @6% p.a. The drawings for the year were Soniya Rs. 60,000, Charu Rs. 40,000 and Smita Rs. 20,000. Interest on drawings was charged as Rs. 2,700 on Soniya’s drawings, Rs. 1,800 on Charu’s drawings and Rs. 900 on Smita’s drawings. The net amount of profit as per Profit and Loss Account for the year 2019-2020 is Rs. 3,56,600.
   (i) Record necessary journal entries.
   (ii) Prepare profit and loss appropriation account
   (iii) Show capital accounts of the partners.

ANSWER:

(i) Journal Entries:

1. Transferring profit to Profit and Loss Appropriation Account:Profit and Loss Account is debited by ₹3,56,600, and Profit and Loss Appropriation Account is credited by ₹3,56,600.
2. Interest on capital:Profit and Loss Appropriation Account is debited by ₹72,000, and the capitals of Soniya, Charu, and Smita are credited by ₹30,000, ₹24,000, and ₹18,000 respectively.(Interest on capital is 6% of their respective capitals:
   Soniya = ₹5,00,000 × 6% = ₹30,000;
   Charu = ₹4,00,000 × 6% = ₹24,000;
   Smita = ₹3,00,000 × 6% = ₹18,000)
3. Salary to Soniya:Profit and Loss Appropriation Account is debited by ₹1,20,000, and Soniya’s Capital Account is credited by ₹1,20,000 (Soniya’s salary = ₹10,000 × 12 months).
4. Commission to Charu:Profit and Loss Appropriation Account is debited by ₹50,000, and Charu’s Capital Account is credited by ₹50,000.
5. Interest on drawings:Capitals of Soniya, Charu, and Smita are debited by ₹2,700, ₹1,800, and ₹900 respectively, and Profit and Loss Appropriation Account is credited by ₹5,400.
6. Distribution of remaining profit:Profit and Loss Appropriation Account is debited by ₹1,09,200 and the capitals of Soniya, Charu, and Smita are credited by ₹54,600, ₹36,400, and ₹18,200 respectively.

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(ii) Profit and Loss Appropriation Account:

Particulars	Amount (₹)	Particulars	Amount (₹)
To Interest on Capital:		By Profit and Loss Account	3,56,600
Soniya	30,000
Charu	24,000
Smita	18,000
To Salary to Soniya	1,20,000
To Commission to Charu	50,000
To Interest on Drawings:
Soniya	2,700
Charu	1,800
Smita	900
To Profit Transferred to:
Soniya	54,600
Charu	36,400
Smita	18,200
Total	3,56,600	Total	3,56,600

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(iii) Capital Accounts of the Partners:

Particulars	Soniya (₹)	Charu (₹)	Smita (₹)
Opening Balance of Capital	5,00,000	4,00,000	3,00,000
Add: Interest on Capital	30,000	24,000	18,000
Add: Salary (for Soniya)	1,20,000	–	–
Add: Commission (for Charu)	–	50,000	–
Add: Share of Profit	54,600	36,400	18,200
Less: Drawings	(60,000)	(40,000)	(20,000)
Less: Interest on Drawings	(2,700)	(1,800)	(900)
Closing Balance of Capital	6,41,900	4,68,600	3,15,300