11-112-1 Accounting for Partnerships and Limited Liability Companies 12.

11-112-1

Accounting for Partnerships and Limited Liability

Companies

12

11-212-2

Learning Objective 13-1

Describe the nature of the adjusting process.

Learning Objective 13-1

Describe the nature of the adjusting process.

9-2

Insert Chapter Objectives

Accounting for Partnerships and Limited Liability Companies

1 Describe the characteristics of proprietorships, partnerships, and limited liability companies.

2 Describe and illustrate the accounting for forming a partnership and for dividing the net income and net loss of a partnership.

After studying this chapter, you should be able to:

12-2

3 Describe and illustrate the accounting for partnership admission and withdrawal.

11-312-3

4 Describe and illustrate the accounting for liquidating a partnership.

5 Prepare the statement of partnership equity.

12-3

Accounting for Partnerships and Limited Liability Companies (continued)

11-412-4

Describe the characteristics of proprietorships, partnerships, and limited liability companies.

1

12-4

11-512-5

1

Four Most Common Legal Forms of Business

1. Proprietorship

2. Corporation

3. Partnership

4. Limited liability company

11-612-6

A proprietorship is a company owned by a single individual.

Proprietorship

• Lawyers

• Architects

• Realtors

• Physicians

1

11-712-7

Characteristics of a Proprietorship

1. Simple to form

2. No limitation on legal liability

3. Not taxable

4. Limited life

5. Limited ability to raise capital (funds)

1

11-812-8

A partnership is an association of two or more individuals who own and manage a company for profit.

Partnership

Less widely used than proprietorships.

1

11-912-9

Characteristics of a Partnership

1. Moderate to form

2. No limitation on legal liability

3. Not taxable

4. Limited life

5. Limited ability to raise capital (funds)

(continued)

1

11-1012-10

Characteristics of a Partnership (continued)

6. Co-ownership of partnership property

7. Mutual agency

8. Participation in income

1

11-1112-11

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.

1

11-1212-12

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.

1

11-1312-13

Characteristics of a Limited Liability Partnership

1. Moderate to form

2. Limited legal liability

3. Not taxable

4. Unlimited life

5. Moderate ability to raise capital (funds)

1

11-1412-14

Ease of Formation

Proprietorship SimplePartnership Moderate

LLC Moderate

Characteristics of Proprietorships, Partnerships, and Limited Liability Companies

(continued)

1

Exhibit 1

11-1512-15

Legal Liability

Proprietorship No limitationPartnership No limitation

LLC Limited liability

(continued)

Characteristics of Proprietorships, Partnerships, and Limited Liability Companies (continued)

Exhibit 1

11-1612-16

Taxation

Proprietorship Nontaxable*Partnership Nontaxable*

LLC Nontaxable**

*Pass-through entity**Pass-through entity by election

(continued)

1


Exhibit 1

11-1712-17

(continued)

Limitation on Life of Entity

Proprietorship LimitedPartnership Limited

LLC Unlimited

1


Exhibit 1

11-1812-18

Access to Capital

Proprietorship LimitedPartnership Limited

LLC Moderate

1

Characteristics of Proprietorships, Partnerships, and Limited Liability Companies (concluded)

Exhibit 1

11-1912-19

Describe and illustrate the accounting for forming a partnership and for dividing the net income and net loss of a partnership.

2

12-19

11-2012-20

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.

2

11-2112-21

The entry to record the assets and liabilities contributed by Stevens is as follows:

2

11-2212-22

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.

2

11-2312-23

If a limited liability company is formed the following entry is made:

2

11-2412-24

Example Exercise 12-12

Journalize Partner’s Original Investment

Reese Howell contributed equipment, inventory, and $34,000 cash to a partnership. The equipment had a book value of $23,000 and market value of $29,000. The inventory had a book value of $60,000, but only had a market value of $15,000, due to obsolescence. The partnership also assumed a $12,000 note payable owed by Howell that was used originally to purchase the equipment.

Provide the journal entry for Howell’s contribution to the partnership.

12-24

11-2512-25

Cash………………………………. 34,000Inventory………………………….. 15,000Equipment………………………… 29,000

Notes Payable…………………. 12,000Reese Howell, Capital………… 66,000

Example Exercise 12-1 (continued) 2

12-25

For Practice: PE 12-1A, PE 12-1B

Follow My Example 12-1

11-2612-26

The partnership agreement of Jennifer Stone and Crystal Mills provides for Stone to receive a monthly allowance of $5,000 ($60,000 annually) and Mills is to receive $4,000 a month ($48,000 annually). If there is any remaining net income, it is to be divided equally. The firm had a net income of $150,000 for the year.

Dividing Income—Services of Partners

2

11-2712-27

J. Stone C. Mills Total

Annual salary allowance $60,000 $48,000 $108,000Remaining income 21,000 21,000 42,000

Division of net income $81,000 $69,000$150,000

Division of Net Income

2

11-2812-28

Division of Net Income

2


Annual salary allowance $60,000 $48,000 $108,000Remaining income 21,000 21,000 42,000

Division of net income $81,000 $69,000$150,000

11-2912-29

Dividing Income—Services of Partners and Investments

The partnership agreement for Stone and Mills divides income as follows:1. Monthly salary allowance of $5,000 for Stone

and $4,000 for Mills.2. Interest of 12% on each partner’s capital

balance on January 1.3. If there is any remaining net income, it is to be

divided equally between the partners.

2

11-3012-30

Salary allowance $60,000 $48,000 $108,000

Each partners’ annual salary is calculated.


2

$5,000 × 12 $4,000 × 12

11-3112-31


Interest allowance 19,200

Interest on each partner’s January 1 capital balance is determined.


12% × Stone’s capital account balance on Jan.

1 of $160,000

2

11-3212-32


Interest allowance 19,200 14,400



12% × Mill’s capital account balance on Jan.

1 of $120,000

2

11-3312-33


Interest allowance 19,200 14,400 33,600



2

11-3412-34


Interest allowance 19,200 14,400 33,600

Remaining income 4,200 4,200 8,400

The remaining income is divided equally.


Net income $83,400 $66,600 $150,000

2

11-3512-35

2

11-3612-36

Assume the same facts as before except that the net income is only $100,000. In this case, the total of the allowance exceeds the net income by $41,600 ($100,000 – $141,600).

Dividing Income—Allowances Exceed Net Income

2

11-3712-37


Salary allowance $60,000 $48,000 $108,000Interest allowance 19,200 14,400 33,600 Total $79,200 $62,400 $141,600

Net income of $100,000 is divided.

This amount exceeds net

income by $41,600.

2

11-3812-38


Salary allowance $60,000 $48,000 $108,000Interest allowance 19,200 14,400 33,600 Total $79,200 $62,400 $141,600Deduct excess of

allowance over income 20,800 20,800 <41,600>Net income $58,400 $41,600 $100,000

Net income of $100,000 is divided.

2

11-3912-39


Dividing Partnership Net Income

Steve Prince and Chelsy Bernard formed a partnership, dividing income as follows:

1. Annual salary allowance to Prince of $42,000.2. Interest of 9% on each partner’s capital balance on

January 1.3. Any remaining net income divided equally.

Prince and Bernard had $20,000 and $150,000 in their January 1 capital balances, respectively. Net income for the year was $240,000.

How much net income should be distributed to Prince?

12-39

11-4012-40


Monthly salary $ 42,000Interest (9% × $20,000) 1,800Remaining income 91,350*Total distributed to Prince $135,150

*[$240,000 – $42,000 – $1,800 – $13,500 ($150,000 × 9%)] × 50%

12-40



11-4112-41

Describe and illustrate the accounting for partner admission and withdrawal.

3

12-41

11-4212-42

1. Purchasing an interest from one or more of the current partners.

2. Contributing assets to the partnership.

A person may be admitted to a partnership only with the consent of all the current partners by:

Admitting a Partner

3

11-4312-43

3

Two Methods of Admitting a Partner

(continued)

Exhibit 2

11-4412-44

Two Methods of Admitting a Partner (continued)

Exhibit 2

11-4512-45

Partners Tom Andrews and Nathan Bell have capital balances of $50,000 each. On June 1, each sells one-fifth of his equity to Joe Canter for $10,000 in cash.

Purchasing an Interest in a Partnership

3

11-4612-46

The only entry required in the partnership accounts is as follows:

3

For a limited liability company, the following entry is required:

Tom Andrews, Member Equity 10,000Nathan Bell, Member Equity 10,000 Joe Canter, Member Equity 20,000

11-4712-47

The effect of the transaction on the partnership accounts is presented in the following diagram:

3

11-4812-48

Contributing Assets to a Partnership

Partners Tom Andrews and Nathan Bell each have capital balances of $50,000. On June 1, Joe Canter contributes $20,000 cash to Bring It Consulting for ownership equity of $20,000.

3

11-4912-49

The entry to record this transaction is as follows:


3

11-5012-50

The effect of the transaction on the partnership accounts is presented in the following diagram:

3

11-5112-51

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.

3

11-5212-52

Partners Andrews and Bell each have capital balances of $50,000. The balance in Merchandise Inventory is $14,000 and the current replacement value is $17,000. The partners share net income equally.

3

11-5312-53



3

11-5412-54


Revaluing and Contributing Assets to a Partnership

Blake Nelson invested $45,000 in the Lawrence & Kerry partnership for ownership equity of $45,000. Prior to the investment, land was revalued to a market value of $260,000 from a book value of $200,000. Lynne Lawrence and Tim Kerry share net income in a 1:2 ratio.a. Provide the journal entry for the revaluation of

land.b. Provide the journal entry to admit Nelson.

12-54

11-5512-55


b. Cash………………………………….. 45,000 Blake Nelson, Capital…………...

45,000

a. Land………………………………….. 60,000 Lynne Lawrence, Capital………

20,000¹ Tim Kerry, Capital……………….

40,000²¹$60,000 × 1/3²$60,000 × 2/3

12-55



11-5612-56

3

Partner BonusesExhibit 3

11-5712-57

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 $20,000 and $24,000, respectively.

Partner Bonuses

3

11-5812-58

Jenkins and Kramer agree to admit Diaz as a partner for $31,000. In return, Diaz will receive a one-third equity in the partnership and will share income and losses equally with Jenkins and Kramer.

3

11-5912-59

Equity of Jenkins $20,000Equity of Kramer 24,000Diaz’s Contribution 31,000Total equity after admitting Diaz $75,000Diaz’s interest (1/3 × $75,000) $25,000

Diaz’s contribution $31,000Diaz’s equity after admission 25,000Bonus paid to Jenkins and Kramer $ 6,000

3

11-6012-60



(1/2 of $6,000)

3

(1/2 of $6,000)

11-6112-61

After adjusting the market values, the capital balance of Janice Cowen is $80,000 and the capital balance of Steve Dodd is $40,000. Ellen Chou receives a one-fourth interest in the partnership for a contribution of $30,000. Before admitting Chou, Cowen and Dodd shared net income using a 2:1 ratio.

Paying the New Partner a Bonus

3

11-6212-62

Equity of Cowen $ 80,000Equity of Dodd 40,000Chou’s Contribution 30,000Total equity after admitting Chou $150,000Chou’s equity interest after admission × 25%Chou’s equity after admission $ 37,500Chou’s contribution 30,000Bonus paid to Chou $ 7,500

The bonus is computed as follows:

3

11-6312-63


¹$7,500 × 2/3²$7,500 × 1/3


3

11-6412-64

Lowman has a capital balance of $45,000 after adjusting assets to fair market value. Conrad contributes $26,000 to receive a 30% interest in a new partnership with Lowman.

Determine the amount and recipient of the partner bonus.


Partner Bonus

12-64

11-6512-65


Equity of Lowman $45,000Conrad contribution 26,000Total equity after admitting Conrad $71,000Conrad’s equity interest × 30%Conrad’s equity after admission $21,300

Conrad’s contribution $26,000Conrad’s equity after admission 21,300Bonus paid to Lowman $ 4,700

12-65



11-6612-66

Withdrawal of a Partner

If the existing partners purchase the withdrawing partner’s interest, the purchase and sale of the partnership interest is between the parties as individuals.

3

11-6712-67

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.

3

11-6812-68

Describe and illustrate the accounting for liquidating a partnership.

4

12-68

11-6912-69

When a partnership goes out of business, the winding-up process is called the liquidation of a partnership.

Liquidating Partnerships

4

11-7012-70

Liquidation Process

1. Sell the partnership assets. This step is called realization.

2. Distribute any gains or losses from realization to the partners based upon their income-sharing ratio.

3. Pay the claims of creditors using the cash from step 1 realization.

4. Distribute the remaining cash to the partners based on the balances in their capital accounts.

4

11-7112-71

4

Steps in Liquidating a PartnershipExhibit 4

11-7212-72

Cash $11,000Noncash Assets 64,000Liabilities $ 9,000Jean Farley, Capital 22,000Brad Green, Capital 22,000Alice Hall, Capital 22,000 Total $75,000 $75,000

Liquidation Process

Farley, Green, and Hall share income and losses in a ratio of 5:3:2. On April 9, after discontinuing operations, the firm had the following trial balance.

4

11-7312-73

Between April 10 and April 30, Farley, Green, and Hall sell all noncash assets for $72,000. Thus, a gain of $8,000 ($72,000 – $64,000) is realized.

Gain on Realization

4

11-7412-74

4

Statement of Partnership Liquidation: Gain on Realization

Exhibit 5

11-7512-75

Sale of assets (Step 1):

4


11-7612-76

Division of the gain (Step 2):

4


11-7712-77

Payment of liabilities (Step 3):

4


11-7812-78

Distribution of cash to partners (Step 4):

4


11-7912-79

Farley, Green, and Hall sell all noncash assets for $44,000. A loss of $20,000 ($64,000 – $44,000) is realized. The loss is distributed to Farley, Green, and Hall in the income-sharing ratio of 5:3:2.

Loss on Realization

4

11-8012-80

4

Statement of Partnership Liquidation: Loss on Realization

Exhibit 6

11-8112-81


4


11-8212-82

Division of the loss (Step 2):

4

Jean Farley, Member Equity 10,000Brad Green, Member Equity 6,000Alice Hall, Member Equity 4,000 Loss on Realization 20,000


11-8312-83


4


11-8412-84


4


11-8512-85


Liquidating Partnership—Gain

Prior to liquidating their partnership, Todd and Gentry had capital accounts of $50,000 and $100,000, respectively. The partnership assets were sold for $220,000. The partnership had $20,000 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

11-8612-86


Gentry’s equity prior to liquidation $100,000Realization of asset sale $220,000Book value of assets ($50,000

+ $100,000 + $20,000) 170,000Gain on liquidation $50,000Gentry’s share of gain (50% × $50,000)

25,000Gentry’s cash distribution $125,000

12-86



11-8712-87

Loss on Realization—Capital Deficiency

Farley, Green, and Hall sell all of the noncash assets for $10,000. A loss of $54,000 ($64,000 – $10,000) is realized. The share of the loss allocated to Farley, $27,000 (50% of $54,000), exceeds the $22,000 balance in her capital account. Farley contributes $5,000 to the partnership.

4

11-8812-88

4Statement of Partnership Liquidation: Loss on Realization—Capital Deficiency

Exhibit 7

11-8912-89


4


11-9012-90

Division of the loss (Step 2):

4


11-9112-91


4


11-9212-92

Receipt of deficiency (Step 4)

4


11-9312-93


4


11-9412-94

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 3:2. The remaining cash would be distributed to Green and Hall as shown below:

Capital Balances Before (Deficiency)

Allocated (Deficiency)

Capital Balance After Deficiency and Cash Distributed to Partners

Farley $ (5,000) $5,000 $ 0Green 5,800 (3,000)* 2,800Hall 11,200 (2,000)** 9,200 Total $12,000 $12,000

*$3,000 = [$5,000 × (3/5)] or ($5,000 × 60%)**$2,000 = [$5,000 × (2/5)] or ($5,000 × 40%)

4

11-9512-95

Allocation of deficiency:

4


11-9612-96

Distribution of cash to partners:

4


11-9712-97


Liquidating Partnership—Gain

Prior to liquidating their partnership, Short and Bain had capital accounts of $20,000 and $80,000, respectively. The partnership assets were sold for $40,000. The partnership had no liabilities. Short and Bain share income and losses equally.

a. Determine the amount of Short’s deficiency.

b. Determine the amount distributed to Bain assuming Short is unable to satisfy the deficiency.

12-97

11-9812-98


a. Short’s equity prior to liquidation$ 20,000

Realization of asset sale $ 40,000Book value of assets 100,000Loss on liquidation $ 60,000Short’s share of loss (50% ×

$60,000) 30,000

Short’s deficiency$(10,000)

b. $40,000 $80,000 – $30,000 share of loss – $10,000. Short’s deficiency also equals the amount realized from asset sales.

12-98



11-9912-99

Prepare the statement of partnership equity.

5

12-99

11-10012-100

Statement of Partnership Equity

The change in the owners’ capital accounts for a period of time is reported in a statement of partnership equity.

5

11-10112-101

Statement of Partnership Equity

5

Exhibit 8

11-10212-102

Financial Analysis and Interpretation

Washburn & Lovett, CPAs, had the following information for the last two years:

2011 2010

Revenues $220,000,000 $180,000,000Number of employees 1,600 1,500

Revenue per employee, 2011 =

$220,000,0001,600

= $137,500

Revenue per employee, 2010 = $180,000,000

1,500= $120,000

5

11-10312-103

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.

5

11-10412-104

11-112-1 Accounting for Partnerships and Limited Liability Companies 12.

Documents

Transcript of 11-112-1 Accounting for Partnerships and Limited Liability Companies 12.