Partnerships Flashcards
The admission of a partner in a partnership
a new partner may be admitted by the purchase of an existing partnership interest or by investing additional capital into the partnership
a partner, with the consent of all partners may sell his partnership interest to a new partner; payment for the partnership interest by the new partner would go directly to the selling partner; the retiring partner could sell his interest in the same manner to the remaining partners
no entries are made on the partnership books, except for the changes of name on the capital account; transactions of this type do not affect the assets, liabilities, or total capital of the partnership
contributions to a partnership are recorded as follows: assets are valued at fair value, liabilities assumed are recorded at their present value, and partner’s capital account therefore equals the difference between the fair value of the contributed assets less the present value of liabilities assumed
creation of a new partnership interest with investment of additional capital
when a new partnership interest is created by the investment of additional capital into the partnership, the total capital of the partnership does change, and the purchase price can be equal to, more than, or less than book value
exact method - equal to book value: when the purchase price is equal to the book value of the capital account purchased, no goodwill or bonuses are recorded
problems that deal with the exact method will always ask, “how much should the new partner contributed in order to have an x% interest in the new partnership?” and will not include reference to goodwill or bonuses in the transaction
rules for problem-solving steps:
determine the exact amount a new partner will have to pay to get is capital account in the exact proportional interest to the new net assets of the partnership
there is no goodwill or bonus
old partners’ capital account “dollars” stay the same
old partners’ “% ownership” changes, but that change is generally not a requirement on the CPA exam
bonus method - recognize intercapital transfer: when the purchase price is more or less than the book value of the capital account purchased, bonuses are adjusted between the old and new partners’ capital accounts and do not affect partnership assets
bonus = balance in total capital accounts controls the capital account allocation
under the bonus method, the bonus will be credited to the following partner:
existing partners - when new partner pays more than NBV
new partner - when new partner pays less than NBV
rules for problem-solving steps:
determine total capital and the interest to the new partner
if interest is less than the amount contributed, bonus to old partners
if interest is more than the amount contributed, bonus to new partner
goodwill method - recognized intangible asset: goodwill is recognized based upon the total value of the partnership implied by the new partner’s contribution
goodwill = going in investment (dollars) controls capital account allocation and goodwill calculation
rules for problem-solving steps:
compute new “net assets before goodwill” after admitting new (or paying old) partner
memo: compute new “capitalized” net assets (equals total net worth) and compare “capitalized net assets” with “net assets before goodwill”
the difference is goodwill to be allocated to the old partners according to their old partnership profit ratios
Profit and loss distribution
income or loss is distributed among the partners in accordance with their agreement, and in the absence of an agreement all partners share equally irrespective of what their capital accounts reflect or the amount of time each partner spends on partnership affairs
unless the partnership agreement provides otherwise, all payments for interest on capital, salaries, and bonuses are deducted prior to any distribution in the profit and loss ratio; such payments are provided for in full, even in a loss situation
partnership accounts may be different from their respective profit and loss ratios; the reason for this is that distributions/withdrawals will be at different times and for different reasons
Withdrawal of a partner
bonus method - the difference between the balance of the withdrawing partner’s capital account and the amount that person is paid is the amount of the “bonus;” the bonus is allocated among the remaining partners’ capital accounts in accordance with their remaining profit and loss rations; although the partnerships identifiable assets may be revalued to their fair value at the date of withdrawal, any goodwill implied by the excess payment to the retired partner is not considered
goodwill method - the partners may elect to record the implied goodwill in the partnership based on the payment to the withdrawing partner; the amount of the implied goodwill is allocated to all of the partners in accordance with their profit and loss ratios; after the allocation of the implied goodwill of the partnership, the balance in the withdrawing partner’s capital account should equal the amount that person is to receive in the final settlement of their interest
Liquidation of a partnership
the process of winding up the affairs of a partnership after dissolution is generally referred to as liquidation; it involves the realization of cash from the disposal of partnership assets; creditors or partners may agree to accept specific partnership assets in full or partial satisfaction of their claims against the partnership
where a solvent partnership is dissolved and its assets are reduced to cash, the cash must be used to pay the partnership’s liabilities in the following order: creditors and partners’ capital
Losses considered in liquidation
all possible losses must be provided for in a liquidation before any distribution is made to the partners the rule to follow is not to distribute any cash until maximum potential losses have been taken into consideration
losses in liquidating a partnership are charged to the partners in accordance with the partnership agreement; in the absence of such an agreement, the losses are shared equally
Convert noncash assets
the the general procedure in a liquidation is that all noncash assets are converted into cash, all liabilities are paid, and the remainder, if any, is distributed to the partners
Gain/Loss on realization
the liquidation of partnership assets may result in: a gain on realization, a loss on realization, or a loss on realization resulting in a capital deficiency
What is a capital deficiency?
a debit balance in a partner’s capital account and indicates that the partnership has a claim against the partner for the amount of the deficiency
if a partner with a capital deficiency has a loan account (the partnership has a payable to the partner), the partnership has a legal right to offset and may use the loan account to satisfy the capital deficiency
if a deficiency still exists, the remaining partners must absorb the deficiency according to their respective (remaining) profit and loss ratios
Partnership liquidation schedule
the objective of the schedule is to distribute cash, as it becomes available, to the partners; it is important that no partner is either overpaid or underpaid as the result of any cash distributed by the liquidator because that person could be personally liable for overpayments made to a partner that were not repaid
generally, the “poor” partners do not have any money to repaid their shortages, so (generally), the “richest” partners are paid first
many multiple-choice exam questions ask for ending partners’ balances after liquidation of a partner or the partnership; some questions merely ask for amount of “cash” to be paid upon liquidation; if all “other” assets and all liabilities are liquidated, the answer will be the same: cash = partners’ balances
