FORMATION ILLUSTRATION 2

The initial investments of the partners are recognized at IN CONTINUATION OF THE SAME ILLUSTRATIVE CASE:
FAIR VALUES and credited to the partners capital Partner A invested additional capital on May 1, 2018 for
accounts in the agreed INTEREST RATIO. Partnership P30,000 cash; contributed merchandise with a fair value
goodwill is no longer recognized under IFRS. Therefore, of P24,000 on September 1, 2018; and withdrew
the total of the contributions of the partners is deemed permanently cash of P12,000 on December 1, 2018.
be also the total agreed capital, to be allocated to Partner B had no additional investments nor permanent
individual partners’ CAPITAL ACCOUNTS per their withdrawals during 2018.
agreement.
They agreed to divide profits and losses as follows:
ILLUSTRATION 1: a. Interest 6% on average capital for each partner
A and B formed a partnership on January 2, 2018 by b. Salaries of P4,000 each month to both partners
contributing the ff net assets from their respective c. Bonus to A of 10% of net income after interests and
proprietorships: salaries; and
d. The balance is agreed to be divided equally.
A B e. Both partners withdrew temporarily 60% of their
Cash P30,000 P20,000 respective salaries.
Non-cash assets 620,000 730,000
Liabilities (450,000) (530,000) The reported profit for 2018 amounted to P150,000
Net Assets P200,000 P220,000 Compute the following:
1. Interests
The non-cash assets of A is overstated by P24,500 while 2. Salaries
the liabilities of B is understated by P5,500. They agreed 3. Bonuses
on an interest/capital ratio of 48:52 to A and B, 4. Total share for each partner
respectively.
The financial statements prepared for partnerships are
1. Compound Journal Entry similar to those prepared for corporations, except for
2. Bonus resulted from agreed ratio the following basic differences:
3. If no bonus is to be recognized, what is the a. In the balance sheet, ownership equity for a
contributions ratio? partnership will be partners’ capital balances; in a
4. Refer to question 3, what method is used? corporation, capital stock, additional paid-in capital,
and retained earnings. In lieu of a statement of
OPERATIONS retained earnings done for corporations,
During the operations of the partnership, loan by a partnerships present a statement of partners’
partner to the partnership (Loans Payable) or by the capital in support of its ownership equity on the
partnership to a partner (Loans Receivable) may be balance sheet.
recognized; temporary drawings in anticipation of b. a statement of partners’ capital balances will show
profits may occur; additional investments may also be initial or beginning balances, additional
made by the partners; and the result of operations investments, withdrawal of capital, temporary
during the period is reported. drawings, share of net income or net loss, and
partners’ compensation treated as operating
Partnership income or loss is allocated to partners in expenses.
many ways. Generally, agreement items for income or c. per GAAP, partners’ compensation items such as
loss allocation conform to the following remunerations: interests, salaries, and bonuses are simply items
a. income allocations on the basis of capital balances selected by the partners to make the profit
to reward partners in proportion to their respective distribution fair. Nevertheless, in some cases,
investment through interests. partners’ remuneration items are treated as
b. income allocations on the basis of service operating expenses and accordingly included in the
contributions to reward partners for their income statement. This latter case requires
respective service to the partnership through additional accounting procedures and the profit
salaries; agreement will then apply to the decreased net
c. income allocations on the basis of effective income as a consequence of the increased
management of the partnership through bonuses; operating expenses.
and
d. any numerical ratio, e.g. [Link] will apply to the
residual profit or loss after allocations made for (a),
(b), and (c) as above-mentioned.

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ADMISSION OF A NEW PARTNER ILLUSTRATION 5
Any major change in ownership, such as admission of a IN CONTINUATION OF ILLUSTRATIVE CASE 3:
new partner, or withdrawal of a partner from an Assuming partner A died due to head injuries from a car
existing partnership dissolves the entity, dissolution of a accident a day after C’s admission by investment.
partnership entity does not however imply liquidation,  What is the journal entry to be recorded by the
for oftentimes the business entity continues its partnership if the heirs of A sold the partnership
operations undisturbed. equity to D (with B and C’s permission) for
P300,000?
Two ways a new partner can get admitted into
partnerships: b. Payment to the withdrawing partner will come
a. Admission by investment is one in which the new from partnership assets
partner transfers net assets into the partnerships. Under this arrangement, one of three situations
Thus, the net assets of the partnerships increase by can occur:
the amount contributed and also increase total 1. Payment is equal to the interest withdrawn, which is
capital by the same amount. Capital credits to all easily recorded by a debit to the capital account of
partners upon admission of a new partner will the withdrawing partner and a credit for the
depend upon the agreement. payment made, since both amounts are equal.
2. Payment is less than the interest withdrawn, which is
ILLUSTRATION 3 recorded with bonus to the remaining partners
IN CONTINUATION OF ILLUSTRATIVE CASE 2: divided in the remaining profit and loss ratio.
Assume C was admitted as a partner in the AB 3. Payment is more than the interest withdrawn, the
Partnerships by investing P200,000 for a 40% interest in excess is recorded as bonus to the retiring partner
capital and in profits. and charged to the remaining partners in the
remaining profit or loss ratio.
The total contributions by the partners will be P724,400
(P277,191 + 247,209 + 200,000). The acquired interest is ILLUSTRATION 6
P289,760 at 40%, resulting in P89,760 excess credit over IN CONTINUATION OF ILLUSTRATIVE CASE 3:
the amount contributed. This time, payment to A’s heirs will be P240,109 from
partnership assets.
b. Admission by purchased interest is one in which the a. Provide the journal entry to record A’s withdrawal by
new partner transfers assets directly to one or more death.
partners (NOT TO THE PARTNERSHIP) in b. Total capital of each remaining partner.
consideration for the purchased interest. Thus the
net assets of the partnerships remain the same LIQUIDATION OF A PARTNERSHIP
even after the admission of the new partner. A liquidation winds up all operations of the
partnerships, converts all partnerships assets into cash
ILLUSTRATION 4 and distributes to creditors of the partnerships, then to
IN CONTINUATION OF ILLUSTRATIVE CASE 2: accounts with partners.
Assuming the old partner sells 40% of their respective
interests for a total consideration of P200,000. Statement of Liquidation
1. How much is the total capital after admission of Summarizes all liquidation activities, including payments
Partner C? to partners. There are two types of distribution in
2. Provide the journal entry to be recorded upon C’s partnerships liquidation, as follows:
admission a. Liquidations in which all distributions are made in a
single time following the sale of all non-cash assets
WITHDRAWAL or RETIREMENT of a PARTNER (LUMP-SUM or TOTAL LIQUIDATION). It is a
If a partner withdraws from the partnership, the summary of the entire liquidation process upon its
partnership must liquidate the withdrawing partner’s completion. It is one in which at the time cash is
ownership equity, as follows: distributed to partners’ non-cash assets had been
a. Payment to withdrawing partner will not come already disposed and the full loss or gain on
from partnership assets realization reflected in partners’ capital balances.
The withdrawing partner may just sell his/her b. Liquidations in which there are several distributions
interest to the remaining partners or to an outsider with during the course of liquidation, oftentimes at
the permission of the remaining partners. In this case points when there are unrealized non-cash assets
the entry required to be recorded in the books of the and unpaid third-party creditors. (INSTALLMENT
partnership is simply the transfer of interest from the LIQUIDATION)
withdrawing partner to the buying partner(s)
account(s).

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ILLUSTRATION 7 prepared. This statement is prepared just before the
AB Partnerships is to be liquidated on September 30, start of liquidation, i.e. before any realization of assets
2018. On this date, its balance sheets is as follows: and replaces the safe-payment calculations by the use
Cash P185,000 of just one schedule for the numerous distributions to
Non-cash assets 645,000 partners normally occurring in liquidation.
A, loan 20,000
Accounts payable (96,000) INCORPORATION OF A PARTNERSHIP
B, loan (12,000) When a partnership is converted into a corporation, the
A, Capital (386,000)
corporation acquires and assumes the assets and
B, Capital (356,000)
liabilities of the partnership in exchange for shares of
stocks which shall be issued in settlement of the
AB divide profits and losses on a 3:4 ratio to A and B,
partners’ respective interests.
respectively.

On date of incorporation:
The following are liquidation transactions:
a. The partners’ capital balances are adjusted for
their respective shares in any profits and loss
In October 2018:
and revaluation gains or losses as at the date of
10/1-31/2018
incorporation. The adjusted capital balances
Realized cash P285,000 from a sale of non-cash
may be used in determining the number of
assets of P300,000
shares to be issued to each partner.
10/10/2018
b. Usually, the books of the partnership are closed
Paid liquidation expenses P4,000
and new books are set-up for the corporation.
10/15/2018
Paid third-party creditors of P50,000
ILLUSTRATION 8
10/31/2018
On January 1, 2018, the partners of XYZ Partnership
Paid partners cash of P370,000
decide to admit other investors. As a result, the
partnership shall be converted to a corporation. The
In November 2018:
following information was provided:
11/02/2018
Realized P312,000 from the sale of the
CA FV Inc (Dec)
remaining non-cash assets
Cash P20,000 20,000 -
11/15/2018
Receivables 60,000 40,000 (20,000)
Paid liquidation expenses of P6,000
Inventory 80,000 70,000 (10,000)
11/25/2018 Equipment 540,000 670,000 130,000
Paid third-party creditors in full Payables 50,000 50,000 -
11/30/2018 X, Cap (20%) 150,000 N/A -
Paid partners cash of P306,000 in final Y, Cap (30%) 200,000 N/A -
settlement. Z, Cap (50%) 300,000 N/A -
---OoO---
The corporation has an authorized capitalization of
Distribution of partnership cash in liquidation must be P2,000,000 divided into 200,000 ordinary shares with
made to creditors first, and then to partners’ accounts par value of P10 per share.
which are always based on free-interest computations.
Loan accounts are prioritized over capital balances only Case 1:
if they belong to the same partner and only after the Assume that the adjusted capital balances of the
amount payable to that partner has been established by partners are used in determining the number of shares
the free interest calculations. to be issued to each partner.
a. What is the aggregate par value of the shares
Safe-payment computations is required for every issued to X,Y, and Z?
distribution to partners when non-cash assets remain b. How many shares are issued to each partner?
unsold (and the profit and loss ratio and the interest c. Provide the necessary journal entries.
ratio at that point are not identical). The purpose of this
calculation is to determine who among the partners Case 2:
have the free-interests to deserve the payment from Assume that partners X,Y, and Z agreed to be issued
the partnerships. 14,000, 21,000, and 35,000 shares, respectively. How
much I the credit to the share premium account?
Cash Distribution Program
An alternate method to avoid preparing the calculation
for safe-payment every time there is an installment
distribution, a cash distribution program to partners is
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Case 3: 14. It is highly unusual to find profit and loss sharing
Assume that the corporation was authorized to issue agreement that would include salary allocations and
P100 par preference shares and P10 par ordinary bonus payments all in the same agreement. FALSE
shares. The partners agreed to receive 1,000 ordinary 15. If Partner A invested twice as much a Partner B, and
shares each, plus even multiples of 10 shares for their there are only two partners, the income must be
remaining interest. How many ordinary and preference divided in a ratio of 2:1, respectively. TRUE
shares did each partner receive?
MULTIPLE CHOICE
1. Partnership capital and drawings accounts are similar
TRUE OR FALSE to the corporate
1. Salary and interest allowances in a partnership a. Paid in capital, retained earnings, and dividends
agreement do not affect the measurement of total accounts.
partnership income. TRUE b. Retained earnings account.
2. Partnership drawings are withdrawals of the c. Paid in capital and retained earnings account.
partners that are closed to the capital accounts at d. Preferred and common stock accounts.
the end of the period. TRUE
3. When non-cash property is contributed to a 2. Under the bonus method,
partnership, it is recorded in the books of the a. Total partnership capital is equal to the fair
partnership at its fair market value. TRUE value of the net contributions to the
4. All property brought into the partnership or acquired partnership.
by the partnership is partnership property. TRUE b. Total partnership capital is less than the fair
5. If an asset is contributed to the partnership subject value of the net contributions to the partnership.
to the liability, the amount credited to the c. Total partnership capital is greater than the fair
contributing partner’s capital account is still equal to value of the net contributions to the partnership.
the full fair market value of the asset. FALSE d. Total partnership capital is less than the fair
6. It is possible to admit a new partner into the value of the net contributions to the partnership,
partnership without said partner investing any assets if the bonus is given to the incoming partner.
into the partnership. TRUE – PURCHASE OF
INTEREST 3. If only the share of each partner in the profits has
7. If salary and interest allocation methods are being been agreed upon, the share of each in the losses
used to allocate partnership profits, such methods shall be
would not be applied in accounting periods when a. In accordance with the partnership agreement.
there is a partnership loss. FALSE b. Equally
8. All dissolutions are liquidations but not all c. A determined in accordance with the Partnership
liquidations are dissolutions. FALSE – CHANGES IN Code of the Philippines.
MGT d. In the same proportion.
9. It is illegal for a partnership to pay a partner’s
personal expenses out of partnership assets. FALSE – 4. If the partnership agreement does not specify how
NOT ILLEGAL BUT SHOULD BE PERMITTED BY THE income is to be allocated, profits and loss should be
OTHER PARTNERS allocated
10. When an incoming partner purchases a partnership a. Equally.
interest by making a payment directly to the current b. In proportion to the weighted average of capital
partner, no entry will be needed on the partnership invested during the period.
books. FALSE – CASH WILL BE RECEIVED BY THE c. Equitably so that the partners are compensated
SELLING PARTNER (TRANFER OF CAPITAL AS for the time and effort expensed on behalf of the
JOURNAL ENTRY) partnership.
11. A partnership interest is considered a personal asset d. In accordance with their capital contributions.
of the partner and may be sold or gifted or conveyed
to others in any manner that is legal and acceptable 5. Before allocation of loss, which of the following
to other partners. TRUE items are allocated first?
12. Drawing accounts are debited for partner’s a. Salaries
withdrawal and for the partners’ personal expenses b. Bonuses to partners
paid by the partnership. TRUE c. Interest on the capital of an industrial partner
13. The amount of partnership profits and losses that d. All of these
are allocated to the partners using salary and
interest allocation procedures also produce
deductions to the partnership for salary and interest
expense. FALSE

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 6. When property other than cash is invested in a 11. State the proper order of liquidation
partnership, at what amount should the noncash I. Outside creditors
property be credited to the contributing partner’s II. Owners’ interests
capital account? III. Inside creditors
a. Fair value at the date of contribution a. I,III,II
b. Contributing partner’s original cost b. I,II,III
c. Assessed valuation for property tax purposes. c. III,II,I
d. Contributing partner’s tax basis. d. II,I,III

7. In all cases of dissolution, the partnership assets 12. Under the cash priority program, when all of the
and liabilities at date of dissolution may need to be priorities are paid, any remaining cash distribution
revalued to their fair values. Any revaluation is
increase or decrease is a. Allocated to the partners based on their
a. Allocated to all of the existing partners as at the respective profit or loss ratio.
date of dissolution. b. Allocated to the partners based on the balances
b. Allocated only to the partners exiting after the in their capital accounts after allocation of
dissolution. losses.
c. Allocated only to the partner ceasing to be c. Allocated to the partners based on their pre-
associated with the partnership. computed priorities.
d. No revaluation shall be made. d. Allocated to the partner based on the relative
values of their capital balances.
8. The admission of a new partner effected through
purchase of interest in the partnership is 13. When A retired from the partnership of A, B, and C,
a. Recorded in the partnership books as a debit to the final settlement of A’s interest exceeded A’s
cash or other asset and credit to the incoming capital balance. Under the bonus method, the
partner’s capital account. excess
b. Recorded in the partnership books as a transfer a. Was recorded as goodwill
within equity. b. Was recorded as an expense
c. Recorded in the partnership books as a transfer c. Reduced the capital balances of B and C.
from equity to liability. d. Had no effect on the capital balances of B and C.
d. Not recorded in its entirety.
14. The following are reasons for incorporating a
9. After the admission of a new partner, the total partnership except:
partnership capital increased by the fair value of the a. Non-transferability of ownership
new partner’s net contributions to the partnership. b. Limited liability of shareholders
The admission was accounted for c. Ease of raising additional capital
a. Under the goodwill method d. Dispersion of risk
b. Under the bonus method
c. As a purchase of interest 15. This schedule determines which partner shall be
d. As an investment in the partnership paid first and which partner shall be paid last, after
all liabilities are settled. This schedule can be
10. In the AB Partnership, A and B had a capital ratio of prepared even prior to the sale of any asset.
3:1 and a profit and loss ratio of 2:1, respectively. a. Cash priority program
The bonus method was used to record C’s b. Safe payment schedule
admittance as a new partner. What ratio would be c. Statement of liquidation
used to allocate, to A and B, the excess of C’s d. Marshalling of assets
contribution over the amount credited to C’s capital
account?
a. A and B’s new relative capital ratio
b. A and B’s new relative capital profit and loss
ratio
c. A and B’s old capital ratio
d. A and B’s old profit and loss ratio