12
Accounting for
Partnerships and Limited
Liability Companies
Student Version
12-1
11-1
1
Describe the
characteristics of
proprietorships,
partnerships, and limited
liability companies.
12-2
11-2
1
Proprietorship
A proprietorship is a company
owned by a single individual.
• Lawyers
• Architects
• Realtors
• Physicians
12-3
11-3
1
Characteristics of a
Proprietorship
1. Simple to form
2. No limitation on legal liability
3. Not taxable
4. Limited life
5. Limited ability to raise capital
(funds)
12-4
11-4
1
Partnership
A partnership is an association of
two or more individuals who own
and manage a company for profit.
Less widely used
than proprietorships.
12-5
11-5
1
Characteristics of a
Partnership
1. Moderate to form
2. No limitation on legal liability
3. Not taxable
4. Limited life
5. Limited ability to raise capital
(funds)
(continued)
12-6
11-6
1
Characteristics of a
Partnership (continued)
6. Co-ownership of partnership
property
7. Mutual agency
8. Participation in income
12-7
11-7
1
Limited Liability Companies
A limited liability company (LLC)
is a form of legal entity that
provides limited liability to its
owners, but is treated as a
partnership for tax purposes.
12-8
11-8
1
Characteristics of a Limited
Liability Partnership
1. Moderate to form
2. Limited legal liability
3. Not taxable
4. Unlimited life
5. Moderate ability to raise capital
(funds)
12-9
11-9
2
Describe and illustrate the
accounting for forming a
partnership and for
dividing the net income and
net loss of a partnership.
12-10
11-10
12-10
2
Forming a Partnership
Joseph Stevens and Earl Foster agree to
combine their hardware businesses in a
partnership. Each is to contribute certain
amounts of cash and other assets. They also
agree that the partnership is to assume the
liabilities of the separate businesses.
12-11
11-11
2
The entry to record the assets and liabilities
contributed by Stevens is as follows:
12-12
11-12
2
Dividing Income—
Services of Partners
The partnership agreement of Jennifer
Stone and Crystal Mills provides for Stone
to receive a monthly allowance of $5,000
($60,000 annually) and Mills is to receive
$4,000 a month ($48,000 annually). If
there is any remaining net income, it is to
be divided equally. The firm had a net
income of $150,000 for the year.
12-13
11-13
2
Division of Net Income
J. Stone
C. Mills
Total
Annual salary allowance $60,000
Remaining income
21,000
$48,000 $108,000
21,000
42,000
Division of net income
$69,000 $150,000
12-14
11-14
$81,000
2
Dividing Income—Services of
Partners and Investments
The partnership agreement for Stone and Mills
divides income as follows:
1. Monthly salary allowance of $5,000 for Stone
and $4,000 for Mills.
2. Interest of 12% on each partner’s capital
balance on January 1.
3. If there is any remaining net income, it is to be
divided equally between the partners.
12-15
11-15
2
The remaining income is divided equally.
J. Stone
C. Mills
Total
Salary allowance
Interest allowance
$60,000
19,200
Remaining income
4,200
4,200
8,400
$83,400
$66,600
$150,000
Net income
12-16
11-16
$48,000 $108,000
14,400
33,600
2
Dividing Income—Allowances
Exceed Net Income
Assume the same facts as before except that
the net income is only $100,000. In this
case, the total of the allowance exceeds the
net income by $41,600 ($100,000 –
$141,600).
12-17
11-17
2
Net income of $100,000 is divided.
Salary allowance
Interest allowance
Total
J. Stone
C. Mills
Total
$60,000
19,200
$79,200
$48,000 $108,000
14,400
33,600
$62,400 $141,600
This amount
exceeds net
income by $41,600.
12-18
11-18
2
Net income of $100,000 is divided.
J. Stone
Salary allowance
$60,000
Interest allowance
19,200
Total
$79,200
Deduct excess of
allowance over income 20,800
Net income
$58,400
12-19
11-19
C. Mills
Total
$48,000 $108,000
14,400
33,600
$62,400 $141,600
20,800 <41,600>
$41,600 $100,000
3
Describe and illustrate
the accounting for
partner admission and
withdrawal.
12-20
11-20
12-20
3
Purchasing an Interest in
a Partnership
Partners Tom Andrews and Nathan
Bell have capital balances of
$50,000 each. On June 1, each sells
one-fifth of his equity to Joe Canter
for $10,000 in cash.
12-21
11-21
3
The only entry required in the partnership
accounts is as follows:
For a limited liability company, the
following entry is required:
Tom Andrews, Member Equity
Nathan Bell, Member Equity
Joe Canter, Member Equity
12-22
11-22
10,000
10,000
20,000
3
Contributing Assets to
a Partnership
Partners Tom Andrews and Nathan Bell
each have capital balances of $50,000.
On June 1, Joe Canter contributes
$20,000 cash to Bring It Consulting for
ownership equity of $20,000.
12-23
11-23
3
The entry to record this transaction is as follows:
For a limited liability company, the following
entry is required:
12-24
11-24
3
Revaluation of Assets
Partners Andrews and Bell each have
capital balances of $50,000. The
balance in Merchandise Inventory is
$14,000 and the current replacement
value is $17,000. The partners share
net income equally.
12-25
11-25
3
The entry to record this transaction is as follows:
For a limited liability company, the following
entry is required:
12-26
11-26
3
Partner Bonuses
On March 1, the partnership of Marsha
Jenkins and Helen Kramer admit Alex Diaz
as a new partner. The assets of the old
partnership are adjusted to current market
values and the resulting capital balances for
Jenkins and Kramer are $20,000 and
$24,000, respectively.
12-27
11-27
3
Jenkins and Kramer agree to admit Diaz
as a partner for $31,000. In return, Diaz
will receive a one-third equity in the
partnership and will share income and
losses equally with Jenkins and Kramer.
12-28
11-28
3
Equity of Jenkins
Equity of Kramer
Diaz’s Contribution
Total equity after admitting Diaz
Diaz’s interest (1/3 × $75,000)
$20,000
24,000
31,000
$75,000
$25,000
Diaz’s contribution
Diaz’s equity after admission
Bonus paid to Jenkins and Kramer
$31,000
25,000
$ 6,000
12-29
11-29
3
Paying the New Partner a Bonus
After adjusting the market values, the capital
balance of Janice Cowen is $80,000 and the
capital balance of Steve Dodd is $40,000.
Ellen Chou receives a one-fourth interest in
the partnership for a contribution of $30,000.
Before admitting Chou, Cowen and Dodd
shared net income using a 2:1 ratio.
12-30
11-30
3
The bonus is computed as follows:
Equity of Cowen
Equity of Dodd
Chou’s Contribution
Total equity after admitting Chou
Chou’s equity interest after
admission
Chou’s equity after admission
Chou’s contribution
Bonus paid to Chou
12-31
11-31
$ 80,000
40,000
30,000
$150,000
× 25%
$ 37,500
30,000
$ 7,500
4
Describe and illustrate
the accounting for
liquidating a partnership.
12-32
11-32
12-32
4
Liquidating Partnerships
When a partnership goes out
of business, the winding-up
process is called the
liquidation of a partnership.
12-33
11-33
4
Liquidation Process
Farley, Green, and Hall share income and losses in
a ratio of 5:3:2. On April 9, after discontinuing
operations, the firm had the following trial balance.
Cash
Noncash Assets
Liabilities
Jean Farley, Capital
Brad Green, Capital
Alice Hall, Capital
Total
12-34
11-34
$11,000
64,000
$75,000
$ 9,000
22,000
22,000
22,000
$75,000
4
Gain on Realization
Between April 10 and April 30, Farley,
Green, and Hall sell all noncash assets
for $72,000. Thus, a gain of $8,000
($72,000 – $64,000) is realized.
12-35
11-35
4
Exhibit 5
12-36
11-36
Statement of Partnership
Liquidation: Gain on Realization
4
Sale of assets (Step 1):
For a limited liability company, the following
entry is required:
12-37
11-37
4
Division of the gain (Step 2):
For a limited liability company, the following
entry is required:
12-38
11-38
4
Payment of liabilities (Step 3):
For a limited liability company, the following
entry is required:
12-39
11-39
4
Distribution of cash to partners (Step 4):
For a limited liability company, the following
entry is required:
12-40
11-40
4
Exhibit 6
12-41
11-41
Statement of Partnership
Liquidation: Loss on Realization
4
Loss on Realization—
Capital Deficiency
Farley, Green, and Hall sell all of the noncash
assets for $10,000. A loss of $54,000 ($64,000
– $10,000) is realized. The share of the loss
allocated to Farley, $27,000 (50% of $54,000),
exceeds the $22,000 balance in her capital
account. Farley contributes $5,000 to the
partnership.
12-42
11-42
4
Exhibit 7
12-43
11-43
Statement of Partnership
Liquidation: Loss on
Realization—Capital Deficiency
4
Partner Does Not Pay Deficiency
If Farley does not pay her deficiency, the deficiency would
be allocated to Green and Hall based on their incomesharing ratio of 3:2. The remaining cash would be
distributed to Green and Hall as shown below:
Capital Balances
Before (Deficiency)
Farley
$ (5,000)
Green
5,800
Hall
11,200
Total
$12,000
Allocated Capital Balance After Deficiency
(Deficiency) and Cash Distributed to Partners
$5,000
$
0
(3,000)*
2,800
(2,000)**
9,200
$12,000
*$3,000 = [$5,000 × (3/5)] or ($5,000 × 60%)
**$2,000 = [$5,000 × (2/5)] or ($5,000 × 40%)
12-44
11-44
5
Prepare the statement of
partnership equity.
12-45
11-45
12-45
5
Statement of
Partnership Equity
The change in the owners’ capital
accounts for a period of time is
reported in a statement of
partnership equity.
12-46
11-46
5
Exhibit 8
12-47
11-47
Statement of Partnership Equity
12-48
11-48