Title: Accounting for Partnerships and Limited Liability Companies
1 12 Accounting for Partnerships and Limited Liability Companies 2 Learning Objective 1 Learning Objective 1 Accounting for Partnerships and Limited Liability Companies 3-1 3-1 After studying this chapter you should be able to Insert Chapter Objectives Describe the nature of the adjusting process. Describe the nature of the adjusting process. 9-2 12-2 3 Accounting for Partnerships and Limited Liability Companies (continued) 12-3 4 1 Describe the characteristics of proprietorships partnerships and limited liability companies. 12-4 5 1 Four Most Common Legal Forms of Business
Limited liability company
6 1 Proprietorship A proprietorship is a company owned by a single individual.
7 1 Characteristics of a Proprietorship
Simple to form
No limitation on legal liability
Limited ability to raise capital (funds)
8 1 Partnership A partnership is an association of two or more individuals who own and manage a company for profit. Less widely used than proprietorships. 9 1 Characteristics of a Partnership
Moderate to form
No limitation on legal liability
Limited ability to raise capital (funds)
(continued) 10 1 Characteristics of a Partnership (continued)
Co-ownership of partnership property
Participation in income
11 1 Limited Partnership A variant of the regular partnership is a limited partnership. This form of partnership allows partners who are not involved in the operations of the partnership to retain limited liability. 12 1 Limited Liability Companies A limited liability company (LLC) is a form of legal entity that provides limited liability to its owners but is treated as a partnership for tax purposes. 13 1 Characteristics of a Limited Liability Partnership
Moderate to form
Limited legal liability
Moderate ability to raise capital (funds)
14 1 Characteristics of Proprietorships Partnerships and Limited Liability Companies Ease of Formation Proprietorship Simple Partnership Moderate LLC Moderate (continued) 15 Characteristics of Proprietorships Partnerships and Limited Liability Companies (continued) Legal Liability Proprietorship No limitation Partnership No limitation LLC Limited liability (continued) 16 1 Characteristics of Proprietorships Partnerships and Limited Liability Companies (continued) Taxation Proprietorship Nontaxable Partnership Nontaxable LLC Nontaxable Pass-through entity Pass-through entity by election (continued) 17 1 Characteristics of Proprietorships Partnerships and Limited Liability Companies (continued) Limitation on Life of Entity Proprietorship Limited Partnership Limited LLC Unlimited (continued) 18 1 Characteristics of Proprietorships Partnerships and Limited Liability Companies (concluded) Access to Capital Proprietorship Limited Partnership Limited LLC Moderate 19 2 Describe and illustrate the accounting for forming a partnership and for dividing the net income and net loss of a partnership. 12-19 20 2 Forming a Partnership Joseph Stevens and Earl Foster agree to combine their hardware businesses in a partnership. Each is to contribute certain amounts of cash and other assets. They also agree that the partnership is to assume the liabilities of the separate businesses. 21 2 The entry to record the assets and liabilities contributed by Stevens is as follows 22 2 A similar entry would record the assets contributed and the liabilities transferred by Foster. In each entry the noncash assets are recorded at values agreed upon by the partners. These values normally represent current market values. 23 2 If a limited liability company is formed the following entry is made 24 2 Example Exercise 12-1 Journalize Partners Original Investment Reese Howell contributed equipment inventory and 34000 cash to a partnership. The equipment had a book value of 23000 and market value of 29000. The inventory had a book value of 60000 but only had a market value of 15000 due to obsolescence. The partnership also assumed a 12000 note payable owed by Howell that was used originally to purchase the equipment. Provide the journal entry for Howells contribution to the partnership. 12-24 25 2 Example Exercise 12-1 (continued) Cash. 34000 Inventory.. 15 000 Equipment 29000 Notes Payable. 12000 Reese Howell Capital 66000 12-25 26 2 Dividing IncomeServices of Partners The partnership agreement of Jennifer Stone and Crystal Mills provides for Stone to receive a monthly allowance of 5000 (60000 annually) and Mills is to receive 4000 a month (48000 annually). If there is any remaining net income it is to be divided equally. The firm had a net income of 150000 for the year. 27 2 Division of Net Income J. Stone C. Mills Total Annual salary allowance 60000 48000 108000 R emaining income 21000 21000 42000 28 2 Division of Net Income J. Stone C. Mills Total Annual salary allowance 60000 48000 108000 R emaining income 21000 21000 42000 29 2 Dividing IncomeServices of Partners and Investments The partnership agreement for Stone and Mills divides income as follows
Monthly salary allowance of 5000 for Stone and 4000 for Mills.
Interest of 12 on each partners capital balance on January 1.
If there is any remaining net income it is to be divided equally between the partners.
30 2 Each partners annual salary is calculated. J. Stone C. Mills Total Salary allowance 60000 48000 108000 31 2 Interest on each partners January 1 capital balance is determined. J. Stone C. Mills Total Salary allowance 60000 48000 108000 Interest allowance 19200 12 Stones capital account balance on Jan. 1 of 160000 32 2 Interest on each partners January 1 capital balance is determined. J. Stone C. Mills Total Salary allowance 60000 48000 108000 Interest allowance 19200 14400 12 Mills capital account balance on Jan. 1 of 120000 33 2 Interest on each partners January 1 capital balance is determined. J. Stone C. Mills Total Salary allowance 60000 48000 108000 Interest allowance 19200 14400 33600 34 2 The remaining income is divided equally. J. Stone C. Mills Total Salary allowance 60000 48000 108000 Interest allowance 19200 14400 33600 Remaining income 4200 4200 8400 35 2 36 2 Dividing IncomeAllowances Exceed Net Income Assume the same facts as before except that the net income is only 100000. In this case the total of the allowance exceeds the net income by 41600 (100000 141600). 37 2 Net income of 100000 is divided. J. Stone C. Mills Total Salary allowance 60000 48000 108000 Interest allowance 19200 14400 33600 Total 79200 62400 141600 This amount exceeds net income by 41600. 38 2 Net income of 100000 is divided. J. Stone C. Mills Total Salary allowance 60000 48000 108000 Interest allowance 19200 14400 33600 Total 79200 62400 141600 Deduct excess of allowance over income 20800 20800
39 2 Example Exercise 12-2 Dividing Partnership Net Income Steve Prince and Chelsy Bernard formed a partnership dividing income as follows
Annual salary allowance to Prince of 42000.
Interest of 9 on each partners capital balance on January 1.
Any remaining net income divided equally.
Prince and Bernard had 20000 and 150000 in their January 1 capital balances respectively. Net income for the year was 240000. How much net income should be distributed to Prince 12-39 40 2 Example Exercise 12-2 (continued) Monthly salary 42000 Interest (9 20000) 1800 Remaining income 91350 Total distributed to Prince 135150 240000 42000 1800 13500 (150000 9) 50 12-40 41 3 Describe and illustrate the accounting for partner admission and withdrawal. 12-41 42 3 Admitting a Partner A person may be admitted to a partnership only with the consent of all the current partners by
Purchasing an interest from one or more of the current partners.
Contributing assets to the partnership.
43 3 Two Methods of Admitting a Partner (continued) 44 Two Methods of Admitting a Partner (continued) 45 3 Purchasing an Interest in a Partnership Partners Tom Andrews and Nathan Bell have capital balances of 50000 each. On June 1 each sells one-fifth of his equity to Joe Canter for 10000 in cash. 46 3 The only entry required in the partnership accounts is as follows 47 3 The effect of the transaction on the partnership accounts is presented in the following diagram 48 3 Contributing Assets to a Partnership Partners Tom Andrews and Nathan Bell each have capital balances of 50000. On June 1 Joe Canter contributes 20000 cash to Bring It Consulting for ownership equity of 20000. 49 3 The entry to record this transaction is as follows 50 3 The effect of the transaction on the partnership accounts is presented in the following diagram 51 3 Revaluation of Assets If the asset accounts do not reflect approximate current market values when a new partner is admitted the accounts should be adjusted (increased or decreased) before the new partner is admitted. 52 3 Partners Andrews and Bell each have capital balances of 50000. The balance in Merchandise Inventory is 14000 and the current replacement value is 17000. The partners share net income equally. 53 3 The entry to record this transaction is as follows 54 3 Example Exercise 12-3 Revaluing and Contributing Assets to a Partnership Blake Nelson invested 45000 in the Lawrence Kerry partnership for ownership equity of 45000. Prior to the investment land was revalued to a market value of 260000 from a book value of 200000. Lynne Lawrence and Tim Kerry share net income in a 12 ratio.
Provide the journal entry for the revaluation of land.
Provide the journal entry to admit Nelson.
12-54 55 3 Example Exercise 12-3 (continued)
Blake Nelson Capital... 45000
12-55 56 3 Partner Bonuses Exhibit 3 57 3 Partner Bonuses On March 1 the partnership of Marsha Jenkins and Helen Kramer admit Alex Diaz as a new partner. The assets of the old partnership are adjusted to current market values and the resulting capital balances for Jenkins and Kramer are 20000 and 24000 respectively. 58 3 Jenkins and Kramer agree to admit Diaz as a partner for 31000. In return Diaz will receive a one-third equity in the partnership and will share income and losses equally with Jenkins and Kramer. 59 3 Equity of Jenkins 20000 Equity of Kramer 24000 Diazs Contribution 31000 Total equity after admitting Diaz 75000 Diazs interest (1/3 75000) 25000 60 3 The entry to record this transaction is as follows (1/2 of 6000) (1/2 of 6000) 61 3 Paying the New Partner a Bonus After adjusting the market values the capital balance of Janice Cowen is 80000 and the capital balance of Steve Dodd is 40000. Ellen Chou receives a one-fourth interest in the partnership for a contribution of 30000. Before admitting Chou Cowen and Dodd shared net income using a 21 ratio. 62 3 The bonus is computed as follows Equity of Cowen 80000 Equity of Dodd 40000 Chous Contribution 30000 Total equity after admitting Chou 150000 Chous equity interest after admission 25 Chous equity after admission 37500 Chous contribution 30000 Bonus paid to Chou 7500 63 3 The entry to record this transaction is as follows ¹7500 2/3 ²7500 1/3 For a limited liability company the following entry is required 64 3 Example Exercise 12-4 Partner Bonus Lowman has a capital balance of 45000 after adjusting assets to fair market value. Conrad contributes 26000 to receive a 30 interest in a new partnership with Lowman. Determine the amount and recipient of the partner bonus. 12-64 65 3 Example Exercise 12-4 (continued) Equity of Lowman 45000 Conrad contribution 26000 Total equity after admitting Conrad 71000 Conrads equity interest 30 Conrads equity after admission 21300 12-65 66 3 Withdrawal of a Partner If the existing partners purchase the withdrawing partners interest the purchase and sale of the partnership interest is between the parties as individuals. 67 3 Death of a Partner When a partner dies the partnership accounts should be closed as of the date of death. The net income for the current period should then be determined and divided among the partners capital accounts. 68 4 Describe and illustrate the accounting for liquidating a partnership. 12-68 69 4 Liquidating Partnerships When a partnership goes out of business the winding-up process is called the liquidation of a partnership. 70 4 Liquidation Process
Sell the partnership assets. This step is called realization.
Distribute any gains or losses from realization to the partners based upon their income-sharing ratio.
Pay the claims of creditors using the cash from step 1 realization.
Distribute the remaining cash to the partners based on the balances in their capital accounts.
71 4 Steps in Liquidating a Partnership Exhibit 4 72 4 Liquidation Process Farley Green and Hall share income and losses in a ratio of 532. On April 9 after discontinuing operations the firm had the following trial balance. Cash 11000 Noncash Assets 64000 Liabilities 9000 Jean Farley Capital 22000 Brad Green Capital 22000 Alice Hall Capital 22000 Total 75000 75000 73 4 Gain on Realization Between April 10 and April 30 Farley Green and Hall sell all noncash assets for 72000. Thus a gain of 8000 (72000 64000) is realized. 74 4 Statement of Partnership Liquidation Gain on Realization Exhibit 5 75 4 Sale of assets (Step 1) 76 4 Division of the gain (Step 2) 77 4 Payment of liabilities (Step 3) 78 4 Distribution of cash to partners (Step 4) 79 4 Loss on Realization Farley Green and Hall sell all noncash assets for 44000. A loss of 20000 (64000 44000) is realized. The loss is distributed to Farley Green and Hall in the income-sharing ratio of 532. 80 4 Statement of Partnership Liquidation Loss on Realization Exhibit 6 81 4 Sale of assets (Step 1) 82 4 Division of the loss (Step 2) 83 4 Payment of liabilities (Step 3) 84 4 Distribution of cash to partners (Step 4) 85 4 Example Exercise 12-5 Liquidating PartnershipGain Prior to liquidating their partnership Todd and Gentry had capital accounts of 50000 and 100000 respectively. The partnership assets were sold for 220000. The partnership had 20000 of liabilities. Todd and Gentry share income and losses equally. Determine the amount received by Gentry as a final distribution from liquidation of the partnership. 12-85 86 4 Example Exercise 12-5 (continued) Gentrys equity prior to liquidation 100000 Realization of asset sale 220000 Book value of assets (50000 100000 20000) 170000 Gain on liquidation 50000 Gentrys share of gain (50 50000) 25000 Gentrys cash distribution 125000 12-86 87 4 Loss on RealizationCapital Deficiency Farley Green and Hall sell all of the noncash assets for 10000. A loss of 54000 (64000 10000) is realized. The share of the loss allocated to Farley 27000 (50 of 54000) exceeds the 22000 balance in her capital account. Farley contributes 5000 to the partnership. 88 4 Statement of Partnership Liquidation Loss on RealizationCapital Deficiency Exhibit 7 89 4 Sale of assets (Step 1) 90 4 Division of the loss (Step 2) 91 4 Payment of liabilities (Step 3) 92 4 Receipt of deficiency (Step 4) 93 4 Distribution of cash to partners (Step 5) 94 4 Partner Does Not Pay Deficiency If Farley does not pay her deficiency the deficiency would be allocated to Green and Hall based on their income-sharing ratio of 32. The remaining cash would be distributed to Green and Hall as shown below Capital Balance After Deficiency and Cash Distributed to Partners Capital Balances Before (Deficiency) Allocated (Deficiency) Farley (5000) 5000 0 Green 5800 (3000) 2800 Hall 11200 (2000) 9200 Total 12000 120 00 3000 5000 (3/5) or (5000 60) 2000 5000 (2/5) or (5000 40) 95 4 Allocation of deficiency 96 4 Distribution of cash to partners 97 4 Example Exercise 12-6 Liquidating PartnershipGain Prior to liquidating their partnership Short and Bain had capital accounts of 20000 and 80000 respectively. The partnership assets were sold for 40000. The partnership had no liabilities. Short and Bain share income and losses equally.
Determine the amount of Shorts deficiency.
Determine the amount distributed to Bain assuming Short is unable to satisfy the deficiency.
12-97 98 4 Example Exercise 12-6 (continued)
Shorts equity prior to liquidation 20000
Realization of asset sale 40000
Book value of assets 100000
Loss on liquidation 60000
Shorts share of loss (50 60000) 30000
Shorts deficiency (10000)
b. 40000 80000 30000 share of loss 10000. Shorts deficiency also equals the amount realized from asset sales. 12-98 99 5 Prepare the statement of partnership equity. 12-99 100 5 Statement of Partnership Equity The change in the owners capital accounts for a period of time is reported in a statement of partnership equity. 101 5 Statement of Partnership Equity Exhibit 8 102 5 Financial Analysis and Interpretation Washburn Lovett CPAs had the following information for the last two years 2011 2010 Revenues 220000000 180000000 Number of employees 1600 1500 103 5 Financial Analysis and Interpretation The revenues per employee showed improvement in 2011. Thus each employee is producing more revenues in 2011 than in 2010 which may indicate improved productivity. Overall it appears the firm is properly managing the growth in staff. 104 (No Transcript)
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