Partnerships Flashcards
What are the two main areas that distinguish partnerships from corporations?
1) Partnerships are not taxable entities (they file a form 1065), so no provisions are needed for income taxes
2) A partnership’s equity section doesn’t distinguish between contributed capital and retained earnings, only the capital balances of each partner
At what value should assets contributed to a partnership be recorded?
Fair Value
At what value should liabilities assumed by a partnership be recorded?
Present Value of remaining cash flows
How are capital contributions with a mortgage attached recorded in a partnership for financial statement purposes?
The contributing partner’s capital account is credited for the fair value of the noncash/capital asset less the mortgage/loan amount assumed by the partnership.
In a partnership, what does the difference between the fair value of contributed assets less the present value of liabilities assumed equal?
A partner’s capital account
How is the equity in a partnership allocated (how is the partnership operated)?
1) Partners may be allocated interest on the average capital balances maintained during the year
2) One or more partners may be allocated a fixed salary for services rendered to the partnership
3) The remaining income or loss is allocated based upon agreement or capital balances maintained
What are the three different methods used for recording the admission of a new partner?
1) Bonus Method
2) Goodwill Method
3) Exact Method
How is the goodwill method used for recording a new partner’s interest?
Incoming partner’s contribution (buy-in) amount / new partner’s percent increase = partnership’s implied net asset value. The difference between this new net asset value and the old net asset value is a “goodwill” asset that gets allocated to the existing partners based upon their profit sharing/ownership basis.
Example: Incoming partner pays $100 for a 25% stake, which implies that the Partnership is worth $400 ($100/25%). If existing partners had total equity of $250, goodwill is $150, and assuming 3/2 split between two partners, $90 and $60 additional capital is respectively allocated.
How is the bonus method used for recording a new partner’s interest?
Existing partnership equity + incoming partner’s contribution (buy-in) = partnership’s new total equity figure. Incoming partner’s percent interest is multiplied by this new total figure. The difference between this figure and incoming partner’s contribution is treated as a bonus to be allocated to the existing partners based upon their profit sharing/ownership basis.
Example: Incoming partner pays $50 for a 20% stake. If existing partners had total equity of $100, partnership’s new total equity amount is $150. 20% of $150 = $30, leaving $20 to be added as a “bonus” to the existing partners’s capital accounts.
How is the exact method used for recording a new partner’s interest?
Incoming partner’s percent interest is subtracted from 100%. The existing partners’ equity total is divided by the resulting percentage to solve for the partnership’s new total equity figure. The incoming partner’s contribution will be the difference between the new and old total equity figures.
Ex: Incoming partner purchases 20% interest. Existing equity of $100k becomes 80% (100%-20%) of firm’s new total equity figure. $100k/80% = $125k. 20% of $125k = $25k, the incoming partner’s buy-in (contribution) price.
What happens to the value of assets and liabilities when a partner retires?
They are adjusted to fair market value to determine the proper value of the retiring partner’s interest
What happens when the payment to a retiring partner exceeds their interest in the partnership?
The deficit is allocated to the other partners based upon the profit sharing/ownership basis of the remaining partners.
What happens when a partnership liquidates and one partner has been reduced to a deficit balance in capital?
Allocate the deficit partner’s deficit balance to the other partners based upon the profit sharing/ownership basis of the remaining partners. This effectively credits the deficit partner with a bonus to increase their capital to $0 by taking capital from the other partners based on their relative sharing of losses.
When a partnership liquidates, how are non-cash assets treated?
As if sold for $0 (no cash value, which runs counter to liquidation basis of accounting)
