Partnership firm involves two or more people, who join together to earn profits. Accounting for partnership firms involves preparing and maintaining the full set of accounts for the firm where all income, expenses, partners contribution, drawings etc are recorded.
As per the Section 4 of The Partnership Act, 1932, “Partnership is the relation between persons who have agreed to share the profits of a business carried on by all or any of them acting for all.”
Features of Partnership are as explained below:
- Sharing of Profits: There must be an agreement between partners to share profits/losses of the business and the partners must be willing to share the profits/losses among themselves. These could be shared in the agreed ratio, or in the absence of any agreement, equally between the partners.
- Two or more persons to form partnership : There must be at least two persons to form a partnership firm. The maximum number of partners cannot exceed the number of partners prescribed by the relevant Act, say Companies Act, 2013 which is 50.
- Agreement: Partnership must come into operation by an agreement between person, who are willing to share the profits and losses. It does not come into existence by an operation of law. Such an agreement can be either oral or written. The written agreement between partners is called “Partnership Deed”.
- Existence of Business & Profit Motive: A partnership can be formed to carry on a legal business . Such business should be formed with an intention of earning profit.
- Business carried on by all or any of them acting for all: It means that all partners can participate in the running of business individually. Further , each partner is bound by the act of other partners, whether individually or collectively by one or some of the partners.
- Principal & Agent Relationship: The relationship between the partners is that of an agent and principal. Each partner is an agent as well as a principal. He is called an agent because he can make others bound by his act and he is a principal because he will be bound by the act of others.
Special Aspects of Partnership Accounts
The treatment of accounting transactions in a partnership firm is more or less similar to that of a sole proprietorship business. However, there are a few exceptions which need to be followed while preparing the accounts of a partnership firm –
- Maintenance of Partners’ Capital Accounts (Fixed or Fluctuating);
- Distribution of Profit and Loss among the partners. A profit and loss appropriation account is prepared for this purpose;
- Adjustments for Wrong Appropriation of Profits in the Past;
- Reconstitution of the Partnership Firm (in case of any alteration in the structure); and
- Dissolution of Partnership Firm.
Recording of Partnership Transactions
Transactions of the partnership firm are recorded according to the principles of the Double-entry system.
In partnership, the profits of the firm are divided among the partners.
Therefore, the profits as per Profit & Loss Account are transferred to a new account “Profit and Loss Appropriation Account“. The entries of interest on capital, interest on drawings, salary to partners etc. are shown in Profit & Loss Appropriation Account.
The journal entries which are passed through Profit & Loss Appropriation Account are:
Partnership Accounting – Entry for Interest on Capital
Interest on Capital A/c Dr
To Partner’s Capital/Current A/c
(Being interest allowed on capital @ ____% p.a.)
Profit & Loss Appropriation A/c Dr
To Interest on Capital A/c
(Being interest on capital transferred to Profit & Loss
Appropriation A/c)
Partnership Accounting – Entry for Interest on Drawings
Partner’s Capital A/c Dr
To Interest on Drawings A/c
(Being interest on drawings charged)
Interest on Drawings A/c Dr
To Profit & Loss Appropriation A/c
(Being interest on drawings transferred)
Partnership Accounting – Entry for Salary or Commission Payable to a partner:
Partner’s Salary/Commission A/c Dr
To Partner’s Capital A/c
(Being salary/commission allowed to partners)
Profit & Loss Appropriation A/c Dr
To Partner’s Salary/Commission A/c
(Being salary/commission transferred)
Partnership Accounting – Entry for transferring a part of profit to reserve:
Profit & Loss Appropriation A/c Dr
To Reserve A/c
(Being reserve created)
Partnership Accounting – Entry for transferring credit balance of Profit & Loss Appropriation A/c:
Profit & Loss Appropriation A/c Dr
To Partner’s capital/Current A/c
(Being profits distributed among partners)
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