Partnership Agreement for Business Co-Owners - DOC by stt16066

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									Chapter 14: Partnerships
Partnership Form of Organization:

    A partnership is an unincorporated association of two or more people
     to pursue a business for profit as co-owners.


Characteristics of General Partnerships:

1) Partnership Agreement – should be in writing but may be expressed
   orally.
2) Limited life – death, bankruptcy, or expiration of the contract period
   automatically ends a partnership.
3) Not subject to tax on income – partners report their share of income on
   personal income tax return.
4) Co-ownership of Property – all partnership assets are owned jointly by
   the partners but claims on partnerships assets are based on their capital
   account.
5) Mutual agency – every 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 partnership if the other partners are unable to pay a share.


Partnership Characteristics:
A. Limited partnerships – have two classes of partners, general 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.
B. Limited liability partnership – 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.




                                  Page 1 of 8
Chapter 14: Partnerships
Forming a Partnership:

    Each partner's investment is recorded at an agreed upon value,
     normally the fair market value of the assets and liabilities at their date
     of contribution.

Example:
Olivia Tsang invests $7,000 in cash, equipment with a fair value of $33,000
and a note payable for $10,000 into The Landing Zone. David Breck invests
$10,000 cash to form a partnership in the business.

Entries:
Jan. 11    Cash                                         7,000
           Equipment                                   33,000
               Note Payable                                           10,000
               Olivia Tsang, Capital                                  30,000
             To record investment by Tsang.

Jan. 11    Cash                                        10,000
               David Breck, Capital                                   10,000
            To record investment by Breck.



Dividing Income or Loss:

    Any agreed upon method of dividing income or loss is allowed. If
     there is no agreement, the net income or loss is divided equally.

Frequently Used Methods of Sharing Earnings:

The three frequently used methods of sharing earnings are:
   On a stated fractional basis.
         o The easiest way to divide earnings is to give each partner an
             agreed-upon fraction of the total
              (2/3, 1/3; or 3/4, 1/4; or 1/3, 1/3, 1/3; etc.).
   Based on the ratio of capital investments.
         o If the business is of a nature that earnings are closely related to
             money invested, a division based on the ratio of partners'
             investment (capital accounts) offers a fair sharing method.

                                  Page 2 of 8
Chapter 14: Partnerships
Frequently Used Methods of Sharing Earnings (continued):

    Based on salary and interest allowances and the remainder in a fixed
       ratio.
           o When capital contribution and service contribution of the
              partners are unequal, an agreement may be reached whereby
              earnings are allocated first as "interest," then as "salary," and
              the remainder on a fractional basis.
Note: In a legal sense, partners do not earn interest or salaries. These terms
are used to reflect the basis for allocating earnings (i.e., "interest" is a return
on investment and "salary" is a return for services). Therefore, there are NO
accounting entries for these allocations. The only entries that are made are
for the final distribution of income to the partners.


Income Allocation Example:

Agreement between Tsang and Breck:
1. Annual salary allowances of $36,000 to Tsang and $24,000 to Breck.
2. Interest allowances equal to 10% of each partner’s capital balance.
3. Any remaining balance of income or loss shared equally.

Income for the year is $70,000.

Income Allocation:                                Tsang    Breck       Balance
Income to be allocated                                                 $ 70,000
Salary Allowance                            $ 36,000       $ 24,000     (60,000)
Interest Allowance                             3,000          1,000      (4,000)
Remainder                                                                 6,000
     Shared equally                               3,000       3,000      (6,000)
                                                                             -
Allocation to partners                       $ 42,000      $ 28,000    $ 70,000

Entry:
Dec. 31    Income Summary                          70,000
               Olivia Tsang, Capital                                     42,000
               David Breck, Capital                                      28,000
             To allocate income of $70,000 between partners



                                    Page 3 of 8
Chapter 14: Partnerships
Admission and Withdrawal of Partners:

        Sale of a Partnership Interest
        Investing Assets in an Existing Partnership
        Withdrawal of a Partner
Note:
    An existing partnership is ended when a partner withdraws or a new
     partner is added.
    This is based on the fact that a partnership is an agreement between
     specific individuals.
    The business may continue to operate as a new partnership, and the
     individuals in the new partnership enter into a new agreement
     regarding the division of earnings and losses.


Sale of a Partnership Interest:

    When one individual (i.e. Davis) purchases an existing partner's (i.e.
     Breck) interest in the partnership, the partnership simply transfers the
     balance in the withdrawing partner's (Breck) capital account to the
     new partner's (Davis) capital account.

Entry:
Jan. 4       David Breck, Capital                    10,000
                Cris Davis, Capital                               10,000
              To record transfer of ownership between Breck and Davis.

Note:
   The amount paid by Davis to Breck in NOT reflected by the
      partnership since the transaction was between Davis and Breck and
      does not affect partnership assets.


Investing Assets in an Existing Partnership:

Three possible situations:
   1. Investment equal to share of equity.
   2. Investment greater than share equity.
   3. Investment less than share equity.


                                    Page 4 of 8
Chapter 14: Partnerships
1. Investment Equal to Share of Equity:

Example: Davis invests $28,000 to obtain 28% interest in a partnership that
had a total equity of $72,000 (Tsang - $52,000 and Breck - $20,000) before
his investment.

Entry:
Jan. 4    Cash                                     28,000
              Cris Davis, Capital                                  28,000
           To record investment in partnership by Davis.

Note:
   The share of equity is the claim to assets of the business. Davis’ share
      of income and losses is a separate matter and, as discussed earlier,
      may have no relationship to capital ratios.


2. Investment Greater than Equity Share:

Example: Davis invests $48,000 to obtain a 25% interest in a partnership
that had a total equity of $72,000 before Davis’ investment. The original
partners shared income and losses equally.

Entry:
Jan. 4    Cash                                     48,000
              Davis, Capital *                                     30,000
              Breck, Capital **                                     9,000
              Tsang, Capital **                                     9,000
           To record investment in partnership by Davis.

* Note:
Equity of existing partners ($52,000 + 20,000)                  $ 72,000
Investment by Davis                                               48,000
Total partnership equity                                        $120,000
Equity of Davis (25% of 120,000)                                $ 30,000

** Note: Davis paid $48,000 for capital valued at $30,000. Therefore, there
is a gain of $18,000 on the transaction. As per the agreement, this gain has
been split equally between the original partners.


                                 Page 5 of 8
Chapter 14: Partnerships
3. Investment Less than Equity Share:

Example: Davis invests $18,000 to obtain a 25% interest in a partnership
that had a total equity of $72,000 before Davis’ investment. The original
partners shared income and losses equally.

Entry:
Jan. 4    Cash                                      18,000
          Tsang, Capital *                           2,250
          Breck, Capital *                           2,250
              Davis, Capital                                       22,500
            To record investment in partnership by Davis.

* Note: Davis paid $18,000 for capital valued at $22,500. Therefore, there
is a loss of $4,500 on the transaction. As per the agreement, this loss has
been split equally between the original partners.


Withdrawal of a Partner:

Three possible situations:
   1. Withdraws and takes cash equal to share of equity.
   2. Withdraws and takes cash less than share equity (gain to remaining
      partners).
   3. Withdraws and takes cash greater than share equity (loss to remaining
      partners).


1. Breck withdraws and takes cash equal to his equity.

Entry:
Dec. 31   Breck, Capital                           38,000
              Cash                                                 38,000
            To record withdrawal from partnership by Breck




                                 Page 6 of 8
Chapter 14: Partnerships
Withdrawal of a Partner (continued):

2. Breck withdraws and agrees to take $34,000 cash in settlement of his
equity.

Entry:
Jan. 4    Breck, Capital                           38,000
              Cash                                                  34,000
              Tsang, Capital                                         2,000
              Davis, Capital                                         2,000
            To record withdrawal from partnership by Breck

* Note: Breck received $34,000 for his equity valued at $38,000.
Therefore, there is a gain of $4,000 on the transaction. As per the
agreement, this gain has been split equally between the remaining partners.


3. Breck withdraws and agrees to take $40,000 cash in settlement of his
   equity.

Entry:
Jan. 4    Breck, Capital                           38,000
          Tsang, Capital                            1,000
          Davis, Capital                            1,000
              Cash                                                  40,000
            To record withdrawal from partnership by Breck

* Note: Breck received $40,000 for his equity valued at $38,000.
Therefore, there is a loss of $2,000 on the transaction. As per the agreement,
this loss has been split equally between the remaining partners.




                                  Page 7 of 8
Chapter 14: Partnerships
Liquidations of Partnerships:

    When a partnership goes out of business, the books are closed, the
     assets are converted into cash, the creditors are paid, any remaining
     cash is distributed to partners, and the partnership is dissolved.
    Any "gains or losses from realization" (i.e. from liquidation) are
     shared by the partners in their income-and-loss-sharing ratio. Any
     remaining cash is distributed to the partners based on their respective
     capital account balances.

   Use the following template for completing the liquidation:
                                          Sporting Accum.             Accounts Tsang     Breck    Davis
Transaction Events:             Cash      Facilities Amort.  Land Payable Capital Capital Capital
Balances prior to liquidation $ 168,000 $ 33,000 $ (18,000) $ 25,000 $ 20,000 $ 70,000 $ 66,000 $ 52,000
Sell noncash assets               46,000 (33,000)     18,000 (25,000)             2,000    2,000    2,000
Balance after sale of assets     214,000        -        -       -      20,000   72,000   68,000   54,000
Payment of creditors             (20,000)                              (20,000)
Balance after creditors paid     194,000        -        -       -         -     72,000   68,000   54,000
Pay capital balance to partner  (194,000)                                       (72,000) (68,000) (54,000)
Accounts all closed out              -          -        -       -         -        -        -        -


    The sale of assets in the above example is for a gain of $6,000, shared
     equally among the partners as per the agreement. Of course, assets
     could be sold at a loss (also to be shared by the partners in accordance
     with the agreement).
    There may be a situation whereby one (or more) of the partners end
     up with a deficiency in their capital account(s). If the deficiency can
     be repaid, the cash account increases and the capital account of the
     deficient partner is brought to zero.
    If the deficiency cannot be repaid, the other partners must absorb this
     loss in their NEW ratios with each other.
    These scenarios may be found multiple times in a liquidation of a
     partnership. Only when all capital account balances are zero or in a
     positive balance will the cash be distributed among the remaining
     partners.




                                           Page 8 of 8

								
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