Accounting for Partnership Firms: Unit 1

Study Notes

Profit and Loss Appropriation Account

The purpose of the Profit and Loss Appropriation Account is to distribute the firm's profits amongst the partners after deducting all expenses.
This account reflects the allocation of profits for various partner-related items, such as salaries, interest on loans, and drawings.

Sacrificing Ratio

The sacrificing ratio determines how much a partner is giving up their share of profits when a new partner enters the partnership.
It is calculated to address the loss in profit-sharing due to the admission of the new partner.

Interest on Partner's Loan - Charge against Profits

Interest on a partner's loan is treated as a charge against profits when the loan is given to the partnership firm for its operations.
It is considered a cost of capital for the firm and is deducted from the profits before the remaining profit is allocated to the partners.

Goodwill Valuation

The primary factor affecting goodwill valuation in a partnership is the firm's profitability and earning potential.
It reflects the value of the business's reputation, clientele, and any other intangible assets contributing to its earning capacity.

Revaluation Account and Balance Sheet

A revaluation account and balance sheet are prepared in a partnership firm when there are changes to the value of assets or liabilities due to events like:
- The admission of a new partner.
- The retirement or death of a partner.
- Dissolution of the partnership.

Partnership Act in the Absence of a Partnership Deed

The Partnership Act provides crucial legal framework for governing partnerships in the absence of a partnership deed.
It outlines regulations for profit sharing, partner liabilities, and other partnership-related matters.

Sacrificing Ratio

The sacrificing ratio represents the proportion of profits that existing partners surrender when a new partner joins the partnership.
The partners who are sacrificing a greater percentage of their share of profits to accommodate the new partner are said to be sacrificing in a greater ratio.

Treatment of Goodwill when a New Partner is Admitted (AS 26)

AS 26 (Accounting Standard 26) recommends the use of the following methods for accounting for goodwill when a new partner is admitted:
- Goodwill may be raised: The existing partners may decide to create goodwill in the books of the firm.
- Goodwill may already exist: The partnership may already have goodwill existing in the books. In such cases, both methods are used.
- No goodwill is to be raised: The partners decide not to raise goodwill. In this case, an adjustment for goodwill is made in the capital accounts of the partners.

Fluctuating Capital

Fluctuating capital refers to a partnership arrangement where the capital contributions of partners can vary.
In a fluctuating capital partnership, each partner's capital account may change due to profits, losses, drawings, and additional contributions made by the partners.

Revaluation of Assets and Reassessment of Liabilities

The revaluation of assets and reassessment of liabilities in a partnership involves adjusting the values of assets and liabilities in the partnership's books of accounts.
This occurs when there is a change in the market value of assets, or if the liabilities need to be updated due to changes in their carrying value.
It is typically undertaken when there is a significant change in the partnership, such as the admission of a new partner or the retirement of an existing partner.

Description

Test your understanding of the features of partnership, Partnership Deed, provisions of the Indian Partnership Act 1932, preparation of Profit and Loss Appropriation account, and past adjustments related to interest on capital, drawing, salary and profit share.