ACCT 202 - CH 12

Choosing a Business Form:

Factors to be considered include: taxes, liability risk, tax and fiscal year-end, ownership structure, estate planning, business risks, and earnings and property distributions.

A partnership is terminated in the event (a) a partnership agreement is not in writing, (b) a partner dies, (c) a partner exercises mutual agency.

(b) a partner dies

Which of the following forms of organization does not provide limited liability to all of its owners? (a) S corporation, (b) limited liability company, (c) limited partnership.

(c) limited partnership.

Global View—Compares U.S. GAAP to IFRS

A. Both systems include broad and similar guidance for partnership accounting. B. Different legal and tax systems can impact partnership agreements.

Decision Analysis—Partner Return on Equity

A. Evaluates partnership success compared with other opportunities. B. Computed separately for each partner. C. Computed by dividing partner's share of net income by that partner's average partner equity.

Admission and Withdrawal of Partners

A.Admission of a Partner—two means: 1.Purchase of partnership interest. a.The purchase is a personal transaction between one or more current partners and the new partner. b.Purchaser does not become a partner until accepted by the current partners. c.Involves a reallocation of current partners' capital to reflect the transaction. 2.Investing assets in a partnership. a.The transaction is between the new partner and the partnership. Invested assets become partnership property. b.New partner's equity recorded for assets invested may be equal to, less than, or greater than investment. c.When the recorded new partner's equity differs from investment, there is a bonus to new or old partner's equity. d.Bonuses to old partners are allocated based on their income and loss sharing agreement. B.Withdrawal of a Partner—two means: 1.Withdrawing partner sells his or her interest to another person who pays cash or other assets to the withdrawing partner. 2.Cash or other assets of the partnership can be distributed to the withdrawing partner in settlement of his or her interest. a.Withdrawing partner may accept assets equal to, less than, or greater than his/her equity. b.When the withdrawing partner's equity differs from assets withdrawn, there is a bonus to remaining or withdrawing partner's equity. c.Bonuses to remaining partners are allocated based on their income and loss sharing agreement. C.Death of a Partner 1.Dissolves a partnership. 2.Deceased partner's estate is entitled to receive his or her equity. Contract usually calls for closing of the books and determining current value of assets and liabilities to update equity. 3.Settlement of the deceased partner's equity can involve selling the equity to remaining partners or to an outsider, or it can involve withdrawing assets.

Liquidation of a Partnership

A.Involves four basic steps: 1.Noncash assets are sold for cash and a gain or loss on liquidation is recorded. 2.Gain or loss on liquidation is allocated to partners using their income-and-loss ratio. 3.Pay or settle liabilities. 4.Distribute any remaining cash to partners according to their capital account balances. B.Allocating gains or losses on liquidation may result in: 1.No capital deficiencies—all partners' have a zero or credit balance in their capital accounts the totals or which are equivalent to final distribution of cash. 2.Capital deficiencies—when at least one partner has a debit balance in his/her capital account. a.Partners with a capital deficiency must, if possible, cover the deficit by paying cash into the partnership. b.When a partner is cannot pay the deficiency, the remaining partners with credit balances absorb the unpaid deficit according to their income-and-loss ratio. Inability to cover deficiency does not relieve partner of liability.

What does the term unlimited liability mean when applied to a general partnership?

Unlimited liability means that the creditors of a partnership require each partner to be personally responsible for all partnership debts.

Organizations with Partnership Characteristics

1.Limited Partnership (LP or Ltd.) has two classes of partners, general (at least one) and limited. The general partners assume unlimited liability for the debts of the partnership. The limited partners assume no personal liability beyond their invested amounts and cannot take active role in managing the company. 2.Limited Liability Partnership (LLP) is designed to protect innocent partners from malpractice or negligence claims resulting from the acts of another partner. Generally, all partners are personally liability for other partnership debts. 3."S" Corporation has 100 or fewer stockholders, is treated as a partnership for income tax purposes but otherwise is accounted for as a "C" corporation. 4.Limited Liability Company (LLC or LC) owners are called members, are protected with the limited liability feature of corporations and can assume an active management role. The LLC has a limited life and is typically classified as a partnership for tax purposes.

Characteristics of Partnerships

1.Voluntary association. 2.Partnership contract (called articles of co-partnership)—should be in writing but may be expressed orally. 3.Limited life—death, bankruptcy, or expiration of the contract period automatically ends a partnership. 4.Taxation—not subject to tax on income—partners report their share of income on personal income tax return. 5.Mutual agency—each partner is an agent of the partnership and can enter into and bind it to any contract within the normal scope of its business. 6.Unlimited liability—each general partner is responsible for payment of all the debts of the partnership if the other partners are unable to pay a share. 7. General partnership—all partners have mutual agency and unlimited liability 8.Co-ownership of property—assets are owned jointly by all partners but claims on partnership assets are based on their capital account and the partnership contract.

Partnership Form of Organization

An unincorporated association of two or more people to pursue a business for profit as co-owners.

Basic Partnership Accounting

Same as accounting for a proprietorship except for transactions directly affecting partners' equity. Use separate capital and withdrawal accounts for each partner.Allocates net income or loss to partners according to the partnership agreement. A.Organizing a Partnership Each partner's investment is recorded at an agreed upon value, normally the market value of the assets and liabilities at their date of contribution. B.Dividing Income and Loss 1.Any agreed upon method of dividing income or loss is allowed. If there is no agreement, the net income or loss is divided equally. 2.Common methods of dividing partnership earnings use: a.Stated ratio. b.Allocation on capital balances. c.Allocation on service, capital, and stated ratio—salary and interest allowances, and a fixed ratio are specified—when income exceed allowances, the remainder is allocated to individual partners using a fixed ratio and added to their individual planned allowance. But when allowances exceed the income, the negative amount or shortage is allocated using the ratio and applied against each partner's total allowance. 3.Salaries to partners and interest on partners' investments are not partnership expenses; they are allocations of net income. 4.Partners may agree to salary and interest allowances to reward unequal contributions of services or capital. C.Partnership Financial Statements Similar to a proprietorship except: 1.The statement of partners' equity usually shows changes for each partner's capital account, including the allocation of income. 2.The balance sheet generally lists a separate capital account for each partner.