Chapter 2
Partnership
Organization and
Operation
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© 2003 The McGraw-Hill Companies,
Inc., All Rights Reserved
Partnership is
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an association of two or more persons to carry
on, as co-owners, a business for profit
Liabilities Under LLP.
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Individual Partner is Liable for his own actions
and for the actions of partnership employees
under his supervision.
The LLP as whole however is responsible for
the actions of all partners and employees.
Characteristics of a limited liability
partnership
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Ease of formation
Limited life
Mutual agency
Co-ownership of partnership assets and
earnings
LLP v/s Corporation
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LLP
No Income Tax
File Information Return
Partners reports their
share as ordinary net
income and liable to
pay tax.
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Corporation
Subject to Income Tax
Distribution of Income
also taxable in hands of
Stockholders.
A Subchapter S
corporation may elect to
be treated as a
partnership for income
tax purposes.
LLP is separate Legal Entity
Because
 It may own property
 May enter into contracts
 Be sued or bring suit against others
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Professional corporations
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It may be established in the fields of law,
medicine, and public accounting.
LLP contract should include
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1. Date of formation and planned duration of the partnership, names of the
partners, and name and business activities of the partnership.
2. Assets to be invested by each partner and the procedures for valuing noncash
assets invested.
3. Authority of each partner and the rights and duties of each.
4. The accounting period to be used, the nature of accounting records, and
financial statements.
5. The plan for sharing net income and losses.
6. Salaries and drawings allowed to partners and any penalties for excessive
withdrawals.
7. Insurance on the lives of partners, with the partnership or surviving partners
named as beneficiaries.
8. Provisions for arbitration of disputes.
Ledger Accounts for each partner
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Capital Accounts
Drawing or Personal Accounts
Accounts for loans to and from Partners
Income-sharing Plans for LLP (if no
explicit plan for sharing earnings, the law requires
equal division)
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1. Equally, or in some other ratio.
2. In the ratio of the partners' capital account balances on a specific date, or in the
ratio of average capital account balances during the year.
3. Allowing interest on partners' capital account balances and dividing the
remaining net income or loss in a specified ratio.
4. Allowing salaries to partners and dividing the resultant net income or loss in a
stated ratio.
5. Bonus to managing partner based on income.
6. Allowing salaries and interest on capital account balances, and dividing the
remaining net income or loss in a stated ratio.
Financial Statement of LLP
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Income Statement
Statement of Partners’ Capital
Balance Sheet
Rectification of Net Income of Prior
Period
Errors in the measurement of partnership net
income or loss for prior accounting periods
must be analyzed when the income-sharing
ratio is changed or when a change in partners
takes place. The capital account balances are
restated based on each partner's share of the
corrected net income for each period.
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Change in ownership of LLP
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Operations of a limited liability partnership
generally are not interrupted by a change in
partners; such changes result when a new
partner is admitted to the firm, when a partner
retires from the partnership, or when a partner
dies
New Partner
by
acquisition of all or
part of the interest of
one or more of the
existing partners
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investment of assets in
the partnership
Bonus or Goodwill at the time of
new admission
To Existing Partner
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To New Partner
(for the privilege of becoming a member of a firm
with high earning power )
(if the new partner has unusual ability or invests
the net assets of a business enterprise of superior
earning power in the partnership)
The new partner may invest
an amount that is larger than
the new partner's percentage
share of net assets, thus
requiring the recognition of a
bonus or goodwill to the
existing partners.
The new partner may invest
an amount that is less than
his or her percentage share of
net assets, thus requiring the
recognition of a bonus or
goodwill to the new partner
Record of Goodwill
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When the new partner invests an amount larger than the carrying
amount of the equity in net assets acquired, the transaction
generally is recorded by the bonus method because the implied
goodwill was not paid for by the partnership
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Restatement of assets to current fair value before a new partner is
admitted to a limited liability partnership may be the most
convenient method of achieving equity among the partners
Retirement of Partner
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Computation of Settlement Price
Bonus to Retiring Partner
Bonus to Continuing Partner
Retiring Partner
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A retiring partner may sell his
or
her
equity
in
the
partnership, to an existing
partner, or to a new partner
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If the amount received by a
retiring partner differs from
the carrying amount of his or
her equity, the difference
generally is recorded as a
bonus, either to the retiring
partner or to the remaining
partners
Death of Partner
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LLP contract often provide for life insurance policies on
each other’s lives for settlement of estate of a
deceased partner
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Buy-sell agreement may be formed
Formation of LP
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Formation of LP is evidenced by a certificate filed with the county
recorder of principal place of business
The certificate filed with the county recorder in the formation of a
limited partnership includes a number of items in addition to those
found in the typical contract of a limited liability partnership
Membership is offered to prospective limited partners in units
The membership units offered to prospective limited partners may
have to be registered with the Securities and Exchange
Commission (SEC)
SEC has provided guidance for such registration (In Industry
Guide 5)
Limited Partnership (LP) is different
from LLP
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There must be at least one general partner
Limited partner have no obligation for unpaid liabilities
of LP
Limited partner can not participate in management of
of LP
Limited partner may not provide services as their
investment
Last name of limited partner may not appear in the
name of LP