Partnership Accounts - Appropriation of Profit and Loss

 

Partnership Accounts −

Appropriation of Profit and Loss

 

Part A: Discussion of relevant accounting theories including different formulae, formats and tables

Part B: 5 Illustrations with Solutions

Part A

Introduction

Partnership is a form of business where two or more persons agree to share the profits or losses of the business carried on by all or any of them acting for all. U/s 4 of The Indian Partnership Act, 1932 partnership is defined as “the relationship between persons who have agreed to share the profits of a business carried on by all or any of them acting for all”. Persons who enter into a partnership are individually called partners, and collectively, a firm.

 

The following are the important features of partnership:

1.  There should be two or more persons to form a partnership. But the number of partners must not exceed 20, and in case of banking business, it must not exceed 10. It should be noted that if the number of persons exceeds the above limit, the partnership becomes illegal and it cannot enter into a contract with a third party or file a legal suit.

2.  The persons must agree to share the profits or losses of the business.

3.  The business must be carried on by all or any of them acting for all. Each partner is a co-owner of the partnership assets and liabilities. Each partner is considered as an agent of the partnership firm capable of transacting business in the name of the partnership. In effect, any partner can bind the other partners when acting within the scope of the partnership activities.

4.  The liability of the partners is unlimited. A partner is both jointly and severally liable to third parties. At any point of time, if the assets of a partnership firm are not sufficient to pay its liabilities, creditors may take action against the personal assets of any or all of the partners.

5.  A partnership legally terminates as a business entity each time there is a change in the constitution for example, change in the profit sharing ratio, admission, retirement or death of a partner.

 

Partnership deed

Partnership deed is an agreement between the partners showing the terms and conditions of the partnership. It is signed by all the partners. Though the Partnership Act does not make it obligatory that a firm must have a partnership deed, yet it is better to have it in black and white to avoid confusion in future. A partnership deed, generally, includes the following:

1.  The name of the partners;

2.  The name of the firm;

3.  The nature of business to be carried on by the firm;

4.  The amount of capital to be contributed by each partner;

5.  The methods of division of profits or losses (i.e. profit sharing ratio);

6.  Interest on capital payable to the partners;

7.  Interest on drawings to be charged on withdrawals by the partners;

8.  Salary and commission payable to the partners;

9.  Interest on loan payable to the partners;

10. The method of valuation of goodwill when there is a change in the constitution of the firm.

 

In the absence of a partnership deed, net profit will be distributed between the partners as per the provisions u/s 13 of The Indian Partnership Act, 1932. The main provisions of this section are:

1.  Profits or losses will be shared by the partners equally;

2.  No interest on capital shall be payable to the partners;

3.  No interest on drawings shall be charged on withdrawals by the partners;

4.  No salary or commission shall be allowed to the partners;

5.  Interest on loan shall be payable to the partners @ 6% per annum.

 

Profit and loss appropriation account

Partners become entitled to receive Salary/Commission/Interests/Share of Profit, etc., and also to be charged with Interest on Drawings/Share of loss, etc. especially by virtue of their becoming partners. So at the time of preparing the final accounts of a partnership business, the net profit before making adjustments for the above items is found out. These adjustments are made through the Profit & Loss Appropriation Account. This Account may be separately opened or may be shown as the concluding part of the Profit & Loss Account itself. In any case it shows special entitlements of partners and distribution of profit or loss among them. But before going through illustrations, a student is advised to note the following:

 

(a) Interest on Capital: If the Partnership Deed says, provide it at the prescribed rate. If nothing is stated, do not provide it. If Partnership Deed provides for charging full amount of interest irrespective of profit/loss, P/L Appropriation A/c may show loss. Please remember that as per Section 13(c) of the Partnership Act, Interest on Capitals should be provided only up to the amount of available profits where such profits are inadequate to cover up the payment of full amount of interest on capital. Interest on Capital should be calculated on time basis. Dates of further capital investment or withdrawal of capitals should be given effect. For interests on Capital, P/L Appropriation A/c is debited and Partners’ Capital or Current Accounts are credited.

 

(b) Interest on Drawings: Where the partners withdraw money from the business in anticipation of profits and the Partnership Deed provides, Interest on Drawings is charged at a fixed rate (of percentage) from the date of drawings to the closing date of the financial period. Such interest is credited to P/L Appropriation A/c and debited to Partners’ Capital/Current Account. Latter we discuss detail about the Interest on Drawings.

 

(c) Interest on Loan: If the Partnership Deed clearly mentions it, provide interest on loan on time basis at the given rate. If the Deed does not mention it, provide interest at 6% p.a. Interest on loan is a general expense of a firm. The Partnership Act considers any payment to any partner, other than rent, as an appropriation of Profits. By implication the Income Tax Act also treats interest on partner’s loan at par with Interest on Partner’s Capital. So it should be debited to P/L Appropriation A/c and credited to Partner’s Current A/c (if any) or to Partner’s Loan A/c.

 

(d) Partners Salaries & Commission: These are to be allowed only if the Deed specifically provides for these. These are paid to partners for special service rendered by them and are different from staff salaries or commission. These should be debited to P/L Appropriation A/c and Credited to Partners’ Capital or Current Accounts.

 

Profit and loss appropriation account is prepared after the profit and loss account. This account is prepared to show how the net profit of the business is distributed among the partners. A specimen of the profit and loss appropriation account is as under:

Profit and loss appropriation account for the year ended…………

Particulars	Rs	Rs	Particulars	Rs	Rs
To Reserves A/c  (transfer to reserve)		×××	By Net profit b/d		×××
To Partners’ cap. A/c (interest on capital)     A     B     C	××× ××× ×××	×××	By Partners’ capA/c (int. on drawings)     A     B     C	××× ××× ×××	×××
To Partners’ loan A/c (interest on partner’s loan)      A		×××
To Partners’ cap. A/c (partner’s salary)   B		×××
To Partners’ cap. A/c (partner’s commission) C		×××
To Partners’ cap. A/c (share of div. profit)     A     B     C	××× ××× ×××	×××
		×××			×××

Note:

Above profit and loss appropriation account has been prepared on the assumption that partners’ capital is maintained under fluctuating capital method. If on the other hand, partners’ capital is maintained under fixed capital method, “Partners’ capital A/c” in the above profit and loss account will be replaced by “Partners’ current A/c”.

 

Fixed and fluctuating capital methods

Under fixed capital method, for each partner two accounts are opened. The first account, known as Partners’ Capital Account, shows the partners’ original contribution to the business as capital. This method is adopted when it is desired to keep Partners’ Capital Account at the original figures. The balance of this account is changed only when there is a change in the constitution of the partnership firm or when a partner draws money from the business against his capital or when a partner introduces fresh capital into the business. The other account, known as Partners’ Current Account, is opened to record the transactions between the partners and the firm, i.e. partners’ salary, interest on capital, drawings, interest on drawings, interest on loan payable to partners, partners’ commission, share of divisible profit, etc.

Under fluctuating capital method, all the entries in regard to the transactions between the partners and the firm, i.e. partners’ salary, interest on capital, drawings, interest on drawings, interest on loan payable to partners, partners’ commission, share of divisible profit, etc. are passed through the Partners’ Capital Account. In this case, balance of Partners’ Capital Account keeps on fluctuating and no Partners’ Current Account is opened in the books of accounts.

The pro forma of capital accounts under fluctuating capital method is shown as under:

Capital Account

Particulars	X (Rs)	Y (Rs)	Particulars	X (Rs)	Y (Rs)
To Drawings	×××	×××	By Balance b/d	×××	×××
To Interest on Drawings	×××	×××	By Interest on Capital	×××	×××
To Balance c/d		×××	By Salaries	×××	×××
			By Commission	×××	×××
			By Share of profit	×××	×××
	×××	×××		×××	×××
			By Balance b/d	×××	×××

 

Computation of Interest on capital

Interest on capital is usually calculated on the opening balance of capital with respect to each of the partners. But if there are further introductions of capital and/or withdrawals from capital during the year by the partners, total interest on capital with respect to each of the partners will be calculated using the product method. The necessary format in this case for applying the product method may be as follows:

 

Date of introduction	Amount introduced (A) Rs	Time (in months) from the date of introduction to the date of closing of accounts (T)	(A x T) Rs
	×××	×××	×××
	×××	×××	×××
	×××	×××	×××
	×××	×××	×××
Total			∑ (A x T)

    

     Effective capital, EC = [∑ (A × T)] ÷ 12

     Interest on capital = EC × Rate of interest on capital

 

Note: Amount withdrawn from capital, may be treated as negative introduction of capital.

 

ACCOUNTING TREATMENT OF INTEREST ON CAPITAL

I.    If the partnership agreement is silent as to interest on capital, no interest on capital will be allowed.

II.  If the partnership agreement provides for interest on capital but is silent as to the treatment of interest as a charge or appropriation, u/s 13(c) of the Partnership Act, 1932  interest on capital will be allowed only if there are profits.

III. In case of loss – no interest on capital will be allowed.

IV. In case profit before interest is equal to or more than the interest – full interest on capital will be allowed.

V.   In case profit before interest is less than the interest – profit will be distributed in the ratio of interest on capital of each partner.

VI. If the partnership agreement provides for interest on capital as a charge (i.e. to be allowed whether there are profits or losses), full interest on capital will be allowed whether there are profits or losses.

    Journal Entries

Particulars	L. F.	Debit (Rs)	Credit (Rs)
A. Adjusting Entry to adjust Interest on Capital Interest on Capital A/c……………………………Dr.       To Partner’s Capital A/c       (In case of Fluctuating Capitals)                                       OR       To Partner’s Current A/c       (In case of Fixed Capitals)
B. Closing Entry to close the Interest on Capital A/c Profit & Loss Appropriation A/c………………Dr.       To Interest on capital A/c

Interest on drawings

1.  If a fixed sum is withdrawn at the beginning of each month for 12 months −

     Interest on total drawings = P x i x 6.5 [where, P = the fixed sum withdrawn each month, i = r/100 and r = rate of interest on drawings].

2.  If a fixed sum is withdrawn at the end of each month for 12 months −

     Interest on total drawings = P x i x 5.5 [where, P = the fixed sum withdrawn each month, i = r/100 and r = rate of interest on drawings].

3.  If a fixed sum is withdrawn at the middle of each month for 12 months −

     Interest on total drawings = P x i x 6 [where, P = the fixed sum withdrawn each month, i = r/100 and r = rate of interest on drawings].

4.  If a fixed sum is withdrawn at the beginning of each quarter during the year –

    Interest on total drawings = P x i x 2.5 [where, P = the fixed sum withdrawn each quarter, i = r/100 and r = rate of interest on drawings].

5.  If a fixed sum is withdrawn at the end of each quarter during the year −

     Interest on total drawings = P x i x 1.5 [where, P = the fixed sum withdrawn each quarter, i = r/100 and r = rate of interest on drawings].

6.  If a fixed sum is withdrawn at the middle of each quarter during the year −

     Interest on total drawings = P x i x 2 [where, P = the fixed sum withdrawn each quarter, i = r/100 and r = rate of interest on drawings].

7.  If different sums are withdrawn at different times during the year (not necessarily following any particular pattern), interest on total drawings will be calculated using the product method. The necessary format for applying the product method may be as follows:

 

Date of withdrawal	Amount withdrawn (A) Rs	Time (in months) from the date of drawing to the date of closing of accounts (T)	(A x T) Rs
	×××		×××
	×××		×××
	×××		×××
	×××		×××
	×××		×××
TOTAL			∑ (A x T)

     Total interest on drawings = [∑ (A x T)] x i x (1 ÷ 12)

     [i = r ÷ 100, r = Rate of interest per cent per annum]

 

8.  If the dates of drawings are not given and the interest is to be charged on withdrawals by the partners at an agreed rate per annum, interest will be calculated for 6 months.

 

Interest on capital (when divisible profit before interest on capital < interest on capital)

When divisible profit before interest on capital < interest on capital, in the absence of any special provision in this regard in the partnership deed, −

(a) Partners will not get the interest on their respective capitals; and

(b) The divisible profit before interest on capital will be distributed among the partners in the ratio of their respective capitals.

 

However, if there is an agreement in this regard among the partners, the partners may waive the above limitations and in such a case, the resultant loss, after providing the total interest on capital, would be shared by the partners in the profit sharing ratio.

 

Guarantee of profits to a partner by the firm or by one of the other partners

There are three types of guarantees of profits given to a partner either by the firm or by one of the other partners as follows:

i.   Guarantee by the firm of minimum profit to a partner.

ii.  Guarantee by one partner of minimum profit to another partner.

iii. Guarantee by one partner to bear any excess of share of profit as per the profit sharing ratio over a certain minimum profit payable to another partner as per the agreement.

 

Guarantee by the firm of minimum profit to a partner

STEP: 1

Calculate the amount of profit as per the profit sharing ratio payable to the guaranteed partner.

STEP: 2

Compare the share of profit as calculated above with the guaranteed minimum amount.

IF THE AMOUNT OF PROFIT AS PER THE PROFIT SHARING RATIO > THE GUARANTEED AMOUNT:

Distribute the entire divisible profit among all the partners including the guaranteed partner in the profit sharing ratio.

IF THE AMOUNT OF PROFIT AS PER THE PROFIT SHARING RATIO < THE GUARANTEED AMOUNT:

First, give credit to the guaranteed partner with the guaranteed amount. The balance of the divisible profit (total divisible profit minus the guaranteed amount credited to the guaranteed partner) will be shared by the remaining partners in their profit sharing ratio.

 

Guarantee by one partner of minimum profit to another partner

STEP: 1

Calculate the amount of profit as per the profit sharing ratio payable to the guaranteed partner.

STEP: 2

Compare the share of profit as calculated above with the guaranteed minimum amount.

IF THE AMOUNT OF PROFIT AS PER THE PROFIT SHARING RATIO > THE GUARANTEED AMOUNT:

Distribute the entire divisible profit among all the partners including the guaranteed partner in the profit sharing ratio.

IF THE AMOUNT OF PROFIT AS PER THE PROFIT SHARING RATIO < THE GUARANTEED AMOUNT:

First, distribute the entire divisible profit among all the partners including the guaranteed partner in the profit sharing ratio. The difference between the share of profit of the guaranteed partner as per the profit sharing ratio and the guaranteed amount will be deducted from the original share of profit (as per the profit sharing ratio) of the partner giving the guarantee and will be added with the original share of profit (as per the profit sharing ratio) of the guaranteed partner.

 

Guarantee by one partner to bear any excess of share of profit as per the profit sharing ratio over a certain minimum profit payable to another partner as per the agreement

STEP: 1

Give credit to the partner who has not given the guarantee with the amount of share of profit as per the profit sharing ratio, assuming that the guaranteed partner gets only the minimum profit as his share of profit as per the guarantee.

STEP: 2

Give credit to the guaranteed partner with the amount of share of profit as per the profit sharing ratio.

STEP: 3

The partner who has given the guarantee will be credited with the balance of the divisible profit [total divisible profit minus share of profit of the partner who has not given the guarantee (as shown in STEP: 1) minus share of profit of the guaranteed partner (as shown in STEP: 2)].

 

Past adjustments of partnership net profit

A partnership firm may, from time to time, discover errors made in the past in measuring the net profits of any of the past accounting years. Examples of such errors are as follows:

(a)   Errors in computation of depreciation,

(b)   Errors in valuation of inventories,

(c)   Errors in computation of divisible profits,

(d)   Errors in distribution of divisible profits,

(e)   Omission of outstanding and prepaid expenses,

(f)    Omission of accrued and pre-received incomes, etc.

 

When such errors are discovered, corrections are not generally treated as part of the process of measuring the net profit for the current accounting year. Instead, adjustments in the profits of the respective past accounting years are made through the partners’ capital accounts by making a single journal entry.

Part B

 

Illustration: 1

A, B and C started a partnership firm on 1.1.2019. Partner A introduced Rs 10,000 on 1.1.2019 and further introduced Rs 4,000 on 1.7.2019. B introduced Rs 25,000 at first on 1.1.2019 but withdraw Rs 5,000 from the business on 31.9.2019. C introduced Rs 15,000 at the beginning on 1.1.2019, increased it by Rs 5,000 on 1.4.2019 and reduced it to Rs 10,000 on 1.11.2019.

 

During the year 2019 they made a net profit of Rs 75,500. The partners decided to provide interest on their capitals at 10% p.a. and to divide the balance of profit in their effective capital contribution ratio.

 

Prepare the Profit and Loss Appropriation Account for the year ended 31.12.2019.

 

Solution: 1

     Computation of Effective Capital and Interest on Capital of Partner A

Date of introduction	Amount introduced (A) Rs	Time (in months) from the date of introduction to the date of closing of accounts (T)	(A x T) Rs
1.1.2019	10,000	12	1,20,000
1.7.2019	4,000	6	24,000
Total			1,44,000

 

Effective capital (EC)	= [∑ (A × T)] ÷ 12 = 1, 44,000 ÷ 12 = 12,000
Interest on capital	= EC × Rate of interest on capital = Rs 12,000 × 10% = Rs 1,200

     Computation of Effective Capital and Interest on Capital of Partner B

Date of introduction	Amount introduced (A) Rs	Time (in months) from the date of introduction to the date of closing of accounts (T)	(A x T) Rs
1.1.2019	25,000	12	3,00,000
31.9.2019	(5,000)	3	(15,000)
Total			2,85,000

 

Effective capital (EC)	= [∑ (A × T)] ÷ 12 = 2, 85,000 ÷ 12 = 23,750
Interest on capital	= EC × Rate of interest on capital = Rs 23,750 × 10% = Rs 2,375

     Computation of Effective Capital and Interest on Capital of Partner C

Date of introduction	Amount introduced (A) Rs	Time (in months) from the date of introduction to the date of closing of accounts (T)	(A x T) Rs
1.1.2019	15,000	12	1,80,000
1.4.2019	5,000	9	45,000
1.11.2019	(10,000)	2	(20,000)
Total			2,05,000

 

Effective capital (EC)	= [∑ (A × T)] ÷ 12 = 2, 05,000 ÷ 12 = 17,083.33
Interest on capital	= EC × Rate of interest on capital = Rs 17,083.33 × 10% = Rs 1,708

    Profit and Loss Appropriation Account for the year ended 31.12.2019

Particulars	Rs	Rs	Particulars	Rs	Rs
To Interest on capital:			By Profit and loss A/c		75,500
A –	1,200
B –	2,375
C –	1,708	5,283
To Share of profit:
A – 70,217 × 144/634	15,948
B – 70,217 × 285/634	31,565
C – 70,217 × 205/634	22,704	70,217
		75,500			75,500

  Working note:

Effective Capital Ratio of A, B and C	= 12,000: 23,750: 17,083.33
	= 1,44,000: 2,85,000: 2,05,000                                                [Multiplying by 12]
	= 144: 285: 205      [Dividing by 1,000]

 

Illustration: 2

Partners A and B were in partnership sharing profits and losses in the ratio of 3: 2. In appreciation of the service of clerk C, who was in receipt of a salary of Rs 2,400 p.a. and a commission of 5% on the net profit after charging such salary and commission, they took him into partnership as from 1.4.2019, giving him ¹/₈^th share of profits.

 

The agreement provided that any excess over his former remuneration to which C becomes entitled will be borne by partners A and B in the ratio of 2: 3. The profit for the year ended 31.3.2020 amounted to Rs 44,400.

 

Prepare a Profit and Loss Appropriation Account showing the distribution of profit amongst all the partners.

 

Solution: 2

               Computation of excess amount payable to C as a partner

Particulars	Rs	Rs
Amount payable to C as a partner (Rs 44,400 × 1/8)		5,550
Amount payable to C as a clerk:
Salary	2,400
Commission [(44,400 – 2,400) × 5/105]	2,000	4,400
Excess amount payable to C as a partner [To be borne by A and B in the ratio of 2: 3]		1,150

 

      Profit and Loss Appropriation Account for the year ended 31.3.2020

Particulars	Rs	Rs	Particulars	Rs	Rs
To Share of profit:			By Profit and loss A/c		44,400
A: [(44,400 – 4,400) × 3/5]	24,000
Less: 1,150 × 2/5	460	23,540
B: [(44,400 – 4,400) × 2/5]	16,000
Less: 1,150 × 3/5	690	15,310
C: 4,400 + 460 + 690		5,550
		44,400			44,400

 

Illustration: 3

         Following is the Profit and Loss Appropriation A/c of Abhijeet & Co.

                                 for the year ended 31.12.2019:

Particulars	Rs	Rs	Particulars	Rs	Rs
To Interest on capital:			By Profit and loss A/c		50,000
X – 6% on Rs 50,000	3,000		By Int. on drawings:
Y – 6% on Rs 30,000	1,800	4,800	X – 5% on Rs 12,000	600
To Partners’ salary – X		3,600	Y – 5% on Rs 10,000	500	1,100
To Share of profit:
X –	25,620
Y –	17,080	42,700
		51,100			51,100

The entries were duly passed in the books of accounts but the following discrepancies were subsequently discovered:

1.  Interest on capital should be charged at 5% and that on drawings at 6% p.a.;

2.  X was not entitled to any partnership salary but Y was entitled to a salary of Rs 200 p.m. which is not yet drawn by him;

3.  Profits to be shared in capital ratio; and

4.  A loan of Rs 10,000 stood in the books of accounts in the name of ‘A’ carrying 6% interest p.a.

 

Pass a single journal entry to set the above discrepancies right.

 

Solution: 3

                         Statement showing the required adjustments

Particulars	X’s Cap	Y’s Cap	O/s Interest On Loan
For wrong share of divisible profit to be written back	(25,620)	(17,080)
For 1% interest on capital to be received back	(500)	(300)
For 1% interest on drawings to be charged further	(120)	(100)
For salary of Rs 3,600 to be received back from X	(3,600)
For salary of Rs 2,400 to be paid to Y		2,400
For outstanding interest on loan Rs 600			600
For share of adjusted divisible profit to be credited to the Partners [42,700 + 800 + 220 + 3,600 – 2,400 – 600 = 44,320] in Profit Sharing Ratio of 5: 3	27,700	16,620
Total	(2,140)	1,540	600

 

                              Required journal entry for adjustment

Particulars	L. F.	Debit (Rs)	Credit (Rs)
X’s Capital A/c….......Dr       To Y’s Capital A/c       To Outstanding interest on loan A/c		2,140	1,540 600

 

Illustration: 4

A, and B are partners in a firm with capital balances of Rs 40,000 and Rs 20,000 respectively as on 1.1.2019. They share profits and losses in proportion to their capitals after charging interest on capital @ 5% and a partners’ salary of Rs 30,000 p.a. to B. From 1.1.2019 A decides to retire from the firm’s full active work in the partnership and accordingly it is agreed that:

i.      B shall in future be entitled to a partnership salary of Rs 50,000 p.a.;

ii.     Interest is to be allowed on capital @ 5% p.a.;

iii.    C, the manager of the firm, shall be introduced as a partner, without capital, as and from 1.1.2019, with a salary of Rs 75,000 p.a. The excess of over Rs 40,000 (his previous salary as manager) being chargeable against A;

iv.   C shall be entitled to ¹/₁₀^th of the profits after charging interest on capital and partnership salary;

v.    The balance of the profit is to be divided as ³/₅^th to A and ²/₅^th to B.

 

The profits during the year 2019 were Rs 2, 50,000. Show the Profit and Loss Appropriation Account and the Partners’ Capital Accounts assuming that the salaries have been drawn during the year. Drawings of the partners (excluding salaries) were: A – Rs 50,000; B – Rs 30,000; and C – Rs 10,000.

 

Solution: 4

    Profit and Loss Appropriation Account for the year ended 31.12.2019

Particulars	Rs	Particulars	Rs
To Interest on capital A – Rs 2,000, B – Rs 1,000	3,000	By Net Profit	2,50,000
To Partners’ salaries B – Rs 50,000, C – Rs 40,000	90,000
To Share of profit A – 1,41,300 × 3/5  = 84,780 B – 1,41,300 × 2/5  = 56,520 C – 1,57,000 × 1/10 = 15,700	1,57,000
	2,50,000		2,50,000

 

                                     Partners’ Capital Accounts

Particulars	A	B	C	Particulars	A	B	C
To C’s Capital	35,000			By Bal b/d	40,000	20,000
To Drawings   [Drawings of B & C include their Salaries]	50,000	80,000	85,000	By Interest on cap	2,000	1,000
To Bal c/d	41,780	47,520	5,700	By Salaries		50,000	40,000
				By Share of profit	84,780	56,520	15,700
				By A’s Capital			35,000
	1,26,780	1,27,520	90,700		1,26,780	1,27,520	90,700

 

Working note:

C will get salary of Rs 75,000, but only Rs 40,000 is to be charged to the partnership firm and the balance is to be adjusted against A’s Capital Account.

 

Illustration: 5

A, B, and C are partners in a firm with capital balances of Rs 50,000, Rs 40,000 and Rs 30,000 respectively as on 1.1.2019. Their partnership agreement provides for the following:

i.      Interest on capitals and drawings are to be charged @ 10% p.a.;

ii.     B and C are to be paid salaries @ Rs 500 p.m. each;

iii.    Interest on partners’ loan is to be allowed @ 10% p.a.

iv.   The remaining profits are to be divided –

  40% to A; 30% to B; 20% to C; and 10% transferred to a Reserve Account.

 

The net profit for the year ended 31.12.2019 was Rs 50,000. A withdrew Rs 1,000 p.m. at the beginning of each month, B withdrew Rs 1,000 p.m. at the middle of each month, and C withdrew Rs 1,000 p.m. at the end of each month.

 

No entries had been made in the books of account to record the following:

1.    The partners commenced business on 1.1.2018 on which date A provided in addition to capital, Rs 10,000 as loan to the firm. Interest on that loan is outstanding till 31.12.2019. This has to be paid now at compound rate of interest.

2.    The firm has made a recovery of bad debts of Rs 18,000. The amount has already been withdrawn by the partners in their profit sharing ratio.

 

Prepare the Profit and Loss Appropriation Account for the year ended 31.12.2019 and the Partners’ Capital Accounts.

 

Solution: 5

    Profit and Loss Appropriation Account for the year ended 31.12.2019

Particulars	Rs	Particulars	Rs
To Interest on capital A – Rs 5,000, B – Rs 4,000, C – Rs 3,000	12,000	By Net Profit	50,000
To Partners’ salaries B – Rs 6,000, C – Rs 6,000	12,000	By Interest on drawings  A – 1,000 × 0.1 × 6.5 = 650  B – 1,000 × 0.1 × 6    = 600  C – 1,000 × 0.1 × 5.5 = 550	1,800
To Interest on loan A – [10,000 × 0.1 +       10,000 × 1.1 × 0.1]	2,100
To Reserve [(51,800 – 26,100) × 10%]	2,570
To Share of profit  A – 23,130 × 4/9 = 10,280  B – 23,130 × 3/9 =   7,710  C – 23,130 × 2/9 =   5,140	23,130
	51,800		51,800

 

                                     Partners’ Capital Accounts

Particulars	A	B	C	Particulars	A	B	C
To Drawings - Incl. Share of B/D recovered	20,000	18,000	16,000	By Balance b/d	50,000	40,000	30,000
To Int. On drawings	650	600	550	By Interest on capital	5,000	4,000	3,000
To Balance c/d	54,730	45,110	31,590	By Salaries		6,000	6,000
				By Interest on loan	2,100
				By Share of profit	10,280	7,710	5,140
				By Recovery of B/D [In PSR 4: 3: 2]	8,000	6,000	4,000
	75,380	63,710	48,140		75,380	63,710	48,140