ACCT 450 - Chapter 14 Partnerships: Formation and Operation

What is a *partnership dissolution*?

○ A legal dissolution occurs any time there is an alteration in the specific individuals making up the P/S ○ Could be due to *death, retirement, a new partner admission or promotion, etc.*

How does the *allocation of income with interest and salary factors* work?

○ Allocation process *merely series of steps reflecting changes in partners' capital* ○ Here is how allocation works: *1.* Allocate *interest on beginning capital balances for each partner* *2.* Allocate *compensation allowance for each partner* *3.* Allocate *bonuses if given* *4.* Calculate remaining NI by first *subtracting the total amounts of the previous steps from NI, then allocate the remaining amount* (opposite for net loss, add to loss)

How do you *record the withdrawal of a current partner under the bonus method*?

○ Any amount paid in excess of withdrawing partner's capital is allocated against the remaining partners: ○ *DEBIT*: • P#1, % of excess distribution • P#2, % of excess distribution • Withdrawing Partner, capital ○*CREDIT* • Cash paid to withdrawing

What is the *goodwill method for intangible assets*?

○ Assumes that an *implied value can be measured and recorded for intangibles* ○ *EX*: Jim contributes $70k, while Joyce contributes $10k and her expertise skills (with an apparent value of $60,000) • *DEBIT* - Cash : 80,000 - Goodwill: 60,000 • *CREDIT* - Jim, Capital: 70,000 - Joyce, Capital: 70,000

What is the *bonus method for intangible assets*?

○ Assumes that the *intangible asset does NOT have a recordable/measurable cost*, and so, evenly splits cash contributions between partners ○ *EX*: Jim contributes $70k, while Joyce contributes $10k and her expertise skills • *DEBIT* - Cash : 80,000 • *CREDIT* - Jim, Capital: 40,000 - Joyce, Capital: 40,000

How does the *bonus approach record new partner contribution to the P/S*?

○ Cash contribution is allocated among the original partners and the new guy ○ *DEBIT* • Cash ○ *CREDIT* • New Guy, capital (amount is equal to ownership interest of new total capital) • P#1, capital (amount equal to ownership interest of bonus leftover from cash contribution) • P#2, capital (amount equal to ownership interest of bonus leftover from cash contribution)

HOLD ON, there's another way, where now it's all ****ed up credit method.

○ Check out slide 57 ○ The methods presented are now credited to the new partner

How do you *record the initial contribution*?

○ Generally, JE's are overall the same whether or not the capital contribution is cash, property, or both ○ If non-cash assets are contributed, it is recorded at FV

How do you record a *partner's intangible contribution*?

○ Intangible assets require special consideration/recording under these two methods: 1. *Bonus method* 2. *Goodwill method* ○ Intangible assets may be such things as a line of expertise or established clientele

How do you *record the withdrawal of a current partner under the goodwill method*?

○ Must revalue assets and liabilities • *JE's must be recorded to revaluate the assets and liabilities* based on an appraiser's estimated FV • *DEBIT*: - Goodwill (estimated FV) - Land (if necessary) • *CREDIT* - P#1, capital - P#2, capital - P#3, capital ○ Then, more JE's to record payment to withdrawing partner • *DEBIT* - Withdrawing Guy • *CREDIT* - Cash, amount paid out

How does the *goodwill approach record new partner contribution to the P/S*?

○ Must revalue assets and liabilities • *JE's must be recorded to revaluate the assets and liabilities* based on the P/S value implied by new guy's purchase price • *DEBIT*: - Goodwill [*(purchase price by new guy/ownership interest %) LESS original P/S BV] • *CREDIT* - P#1, capital - P#2, capital - P#3, capital ○ Then, more JE's to record purchase of P/S interest (more simple) • *DEBIT* - Cash • *CREDIT* - New Guy, capital

How does one *purchase partnership interest*?

○ One can purchase partnership interest directly from an existing partner • cash goes to partner, not P/S

How does the *allocation of income* work?

○ P/S revenues and expenses are always closed out at the end of each fiscal period, and *NI is allocated to each partners' capital account* ○ *Articles of partnership designate procedure* for allocation ○ *If no procedure is allocated*, law dictates that partners receive an equal allocation of income or loss

What is the *"equity" of the partnership*?

○ The *equity of the partnership is essentially the capital balances* of each partner

How does *new partner admission work*?

○ There are *three individual rights that each partner has*: 1. *Right to co-ownership in business prop.* 2. *Right to share in profits and losses* • These two rights *can be sold* 3. *Right to participate in business management* • This third right *CANNOT be sold without the other partners' approval*

How do you *account for transfer of P/S interest*?

○ There are two methods available: 1. *Book Value Approach* 2. *Goodwill/Revaluation Approach*

What is are the *articles of partnership*?

○ These articles should, at the very least, describe: 1. Partner *names and addresses* 2. Business *location* 3. Business *nature* 4. *Rights and responsibilities* of each partner 5. Each partner's *initial contribution* 6. *Valuation method* 7. ETC. stuff like accounting methods

How does the *book value approach record ownership transfer*?

○ Treats ownership transfer as a capital reclassification ○ *DEBIT*: • P#1, capital • P#2, capital • P#3, capital ○ *CREDIT*: • New P#4, capital > The original partners each transfer X% interest to the new guy to reflect new guy's acquisition

Wow, *partnerships? Again?*

○ Two or more peeps associated to carry on a business as co-owners for profit ○ AKA *flow-through entity*

WAIT, there's a *hybrid method too*, so how do you record new partner contribution to the P/S*?

○ Under the hybrid method, *assets and liabilities are revalued*, but *goodwill is NOT recorded* >good will method similar JE's ○ *DEBIT*: • Land [*(purchase price by new guy/ownership interest %) LESS original P/S BV] ○*CREDIT* • P#1, capital • P#2, capital • P#3, capital >bonus method similar JE's ○ *DEBIT* • Cash ○ *CREDIT* • New Guy, capital (amount is equal to ownership interest of new total capital) • P#1, capital (amount equal to ownership interest of bonus leftover from cash contribution) • P#2, capital (amount equal to ownership interest of bonus leftover from cash contribution)

Are there any *other ways to admit a new partner* aside from acquisition of current partner's interest?

○ Why, yes, a new partner *can contribute cash directly to the P/S for interest* ○ *Two methods*, once again, to record this type of admission: 1. *Bonus Approach* 2. *Goodwill Approach*

How do you *record the withdrawal of a current partner*?

○ Withdrawing partner is paid out in accordance with the partnership agreement ○ Record with either, you guess it: 1. Bonus method 2. Goodwill method

WAIT, there's a *hybrid method to record the withdrawal* as well.

○ fuuuuuu ○ Under the hybrid method, *assets and liabilities are revalued*, but *goodwill is NOT recorded* >good will method similar JE's ○ *DEBIT*: • Land (new estimated fv) ○*CREDIT* • P#1, capital • P#2, capital • P#3, capital >bonus method similar JE's ○ *DEBIT*: • P#1, % of excess distribution • P#2, % of excess distribution • Withdrawing Partner, capital ○*CREDIT* • Cash paid to withdrawing

How does the *goodwill approach record ownership transfer*?

○Under this method, there is a legal transfer between two entities: •*transfer of ALL ASSETS AND LIABILITIES* from *P/S of P#1, 2, & 3* to *P/S of P#1, 2, 3, & 4* ○ *JE's must be recorded to revaluate the assets and liabilities* based on the P/S value implied by new guy's purchase price • *DEBIT*: - Goodwill [*(purchase price by new guy/ownership interest %) LESS original P/S BV] • *CREDIT* - P#1, capital - P#2, capital - P#3, capital ○ Then, *more JE's to reclassify capital to reflect new guy's purchase* • *DEBIT*: - P#1, capital - P#2, capital - P#3, capital • *CREDIT*: - New P#4, capital

What are the *JE's for a prop. contribution with an attached liability*?

○ *DEBIT* • Cash • Inventory, Land, Building, etc. etc. ○ *CREDIT* • Payable • Partner #1, Capital • etc. etc.

What are some *advantages of partnerships*?

○ *Flexibility* and *easy to form/dissolve* ○ Profits and losses can be shared independent of ownership interest

What are some *disadvantages of partnerships*?

○ *Unlimited liability* by each partner ○ *Mutual agency* (each partner has right to incur liabilities in name of partnership) ○ *Excluded* from some corporate tax benefits

What are some *alternative forms of partnerships*?

1. *Subchapter S Corporation* 2. *Limited Partnership (LP)* 3. *Limited Liability Partnership (LLP)* 4. *Limited Liability Company*

What are the *JE's for a cash contribution*?

○ *DEBIT* • Cash ○ *CREDIT* • Partner #1, Capital • Partner #2, Capital • etc. etc.