FINANCIAL ACCOUNTING (PART - 27)

FINAL ACCOUNTS OF PARTNERSHIP FIRM (PART - 2)

1. INTRODUCTION
Hello viewers, welcome to the lecture series on financial accounting.
Today in this lecture we shall cover the topic partnership and under
partnership we are going to learn the basic concept. We are going to
analyze the entries of interest on drawing. We shall learn the
computation aspect of interest on drawing then we shall learn the format
of P & L appropriation account and how the profits are been distributed
to the partners. We shall also learn the types of capital account which
are being prepared i.e. fixed capital account and the fluctuation capital
account and we shall also learn the guaranteed amount which is been
given to the partner both the types of guarantee are being discussed and
we shall learn their accounting.

2. INTEREST ON DRAWINGS
So first of all we are going to learn in detail about the interest on
drawings, we shall learn how many methods are there to compute
interest on drawings and what are the general entries in relation to
interest on drawings?

First of all let us understand the general entries which are been passed
under partnership accounting in relation to interest on drawings.

So when drawings are been charged with interest, the entry is

Drawings accounts Dr.

To interest on drawings

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Such interest will be computed on the amount of drawing and if the
periods are not been given there are certain methods which are been
drafted to compute the interest on drawings.

Basically there are two methods to compute interest on drawings which

we shall learn later, second at the time of transfer of this entry to P & L
appropriation, we are going to pass this entry as P & L appropriation is to
be credited and what we need to debit is interest on drawings

INTEREST ON DRAWINGS ACCOUNT DR.

TO PROFIT AND LOSS APPROPRIATION

Since it is credit over here so when we transfer this entry we are going
to make this entry as there interest on drawings debit to P & L
appropriation

So it shall be interest on drawings, debit to P & L appropriation, so it will

appear on the credit side of P &L appropriation and we will write it as by
interest on drawings. So these are the two important entries in relation
to the drawings when we prepare the partnership accounts, now how
these interest on drawings is been computed, we shall learn these
methods. T

Here are two broad categories to compute interest on drawings:

1. Product method and

2. Average method

First one is the product method its formula is

Total product * rate / 100

and average method we will compute the time on the basis of the
drawings period that is if drawings are made at the beginning of the
period then we use the time as specified it is made in middle or if it is
made at the end of the month

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so according to the usage we are going to use the time period, first of all
we are discussing the product method, so we will take up an example and
understand how the product method compute interest on drawings,

If there are three partners, say A, B and C, and they have made drawings
at unequal interval with unequal amounts product method to compute
the interest on drawings, say for example they have withdrawn first time
in

January then they have withdrawn in

April then in

September then in

December

And we assume that on first of each month they are taking out drawings
for their personal use. We will write up this example and do the
computation.

We will prepare a table in which the information in relation to the

drawings are been given in relation to A, B and C, these are the three
partners they have withdrawn on

January 1 certain amount then

April 1, then

September 1 and then on

December 1,

so the time period for which they are withdrawing is

12 months,

9 months

, 4 months and

1 month,
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Months Time period

Jan 1 12 month

April 1 9 Month

September 1 4 month

December 1 1 month

so this is the time which we are going to use and we will multiply it with
the amount so withdrawn by them, if he has withdrawn 5000, 3000, 5000
and 2000, how shall we do the computation,

Months Time period Amount Withdrawn

Jan 1 12 month 5000

April 1 9 Month 3000

September 1 4 month 5000

December 1 1 month 2000

firstly let us understand the computational aspect of A, so we are going

to do the computation in a separate table, this table will show the total
product, first of all we need to ascertain in case of A, total product so
the withdrawals are on January 1, April 1, September 1 and December 1,
as we have computed already the time period, that is from December 1
to December 31is the period of 1 month, September 1 to December 31it’s
a period of four months, April to December is the period of 9 months and
for the entire 12 months, it will be the time period which we are going to
use for multiplying it with the product that is Rs.5000, Rs. 3000 and Rs.
5000, Rs.2000

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Months Time period Amount Drawings- A
Withdrawn

Jan 1 12 month 5000 60,000

April 1 9 Month 3000 27,000

September 1 4 month 5000 20,000

December 1 1 month 2000 2,000

TOTAL 1,09,000

so it will give us the figures as Rs. 60000, Rs. 27000, Rs. 20000 and Rs.
2000. So we will add up this total product it will give us the figure as
Rs.109000, now this Rs.109000 is to be multiplied by the rate, if the rate
is 10 % shall we compute it, it shall be for A

=109000 * 10/12 * 1/12 = 908

So this is the basic method by which the interest on capital can be

computed using the product method, now similarly we are going to find
out the interest for B and C, similarly for B we are going to do the
computation where we need to multiply by the withdrawal so made in
cash that is drawing into the time ratio as has been computed so for B,
we are going to multiply

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Months Time period Amount Drawings-
Withdrawn by B

Jan 1 12 month 3,000 36,000

April 1 9 Month 2,000 18,000

September 1 4 month 4,000 16,000

December 1 1 month 1,000 1,000

TOTAL 70,000

12 months * Rs.3000 = 36000/-

9 * Rs.2000 =18000/-

4 * Rs.4000 = 16000/-

1 * Rs.1000 = 1000/-

Total computation = 70000/-

Similarly for C we are going to do the computation where we need to

multiply withdrawal so made by thetime we have computed and it will be

Months Time period Amount Computation

Withdrawn by c

Jan 1 12 month 2,000 24,000

April 1 9 Month 3,000 27,000

September 1 4 month 2,000 8,000

December 1 1 month 1,000 1,000

TOTAL 60,000

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2000 * 12 = 24000

3000 * 9 = 27000

2000 * 4 = 8000

1000 * 1 = 1000

Total computation = 60000

We are going to do the computation interest on the product for 1 month

and the formula is

Product Method =Total product * rate/ 100 * 1/12

A = 1,09,000 *10% * 1/12 = Rs.908

B = 71000 * 10% * 1/12 = Rs. 592

C= 60,000 *10% *1/12 = Rs. 500

Total figure Rs. 2,000

Similarly for C it shall come as Rs.500, this total shall be Rs.2000 so we

have computed the figure of interest on capital as Rs.2000, now our
profit for the year before giving interest on drawing is Rs.30000/- how we
will compute the computation of the profit.

3. ALTERNATE METHODS OF COMPUTING INTEREST ON

DRAWINGS
Now there is another method to find out the interest on drawings. Such
interest is found out when equal amount of drawings are been made but
they are been made either at the beginning of the month or at the middle
of the month or at the end of the month.

When no information about the time is given, we can work out interest
on one of the assumption which can be followed to compute the interest
on drawings.

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 So we would be having the principle as equal amount of the drawings and
the rate would be given into the question and what shall be the time, so
let’s understand it, when the drawings are made at the beginning of the
month that is beginning of the period we will assume the time to be 6 ½
months,

In the beginning it shall amount to 6 ½ months,

If it is made at the middle of the month, we will assume it for 6 months

, the time in the P * R * T formula will be 6 months and

If it is made at the end of the month, the time period shall be consider
as 5 ½ months.

If the question says that drawings are made equally at the beginning of
the month we are going to use the time period as 6 ½ months and in case
of no information is being given, we can assume any of the assumption
and write down the assumption and find out the interest on drawings.

4. CAPITAL ACCOUNTS OF PARTNERS

Now we are going to discuss the Performa of the capital account of the
partners which we are going to prepare. There are two types of methods:

Fixed Capital Account: first is preparation of the capital amount of

partners, so first one is known as fixed capital account, under fixed
capital account we need to prepare to accounts one is fixed capital
account and next is current account of partners.

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Dr Partners Capital a/c's Cr
A B A B
C C
Particulars (in (in Particulars (in (in
(in Rs) (in Rs)
Rs) Rs) Rs) Rs)
To Bal c/d By Bal b/d

By Bal b/d
Dr Partners Current a/c's Cr
A B A B
C C
Particulars (in (in Particulars (in (in
(in Rs) (in Rs)
Rs) Rs) Rs) Rs)
To Bal b/d By Bal b/d
To Int on Draw By Int on Cap
To Drawings By Salary
By Commission
To Bal c/d By Profit share

By Bal b/d
Fluctuating Capital account: Under fluctuating capital account which is
second method of preparation of partners’ capital account, we are just
going to made one similar account and I am going to write the balance of
fixed as well as current partner capital account in the same account.

Dr Partners Capital a/c's Cr

A B A B
C C
Particulars (in (in Particulars (in (in
(in Rs) (in Rs)
Rs) Rs) Rs) Rs)
To Int on Draw By Bal b/d
To Drawings By Int on Cap
By Salary
To Bal c/d By Commission
By Profit Share

By Bal b/d

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 So let us see the Performa of these accounts first. First of all we are
taking the first method which is known as fixed partners’capital accounts,
so we are going to make the Performa of fixed partners’capital account,
it will have debit and credit columns we shall start with by balance
brought down or to balance brought down as per the information given
about the credit and debit balance of the capital account, then it shall
have entries in relation to the capital been introduced, amount of capital
brought into by cash or any with drawls of capital being made, then it
will have the closing balance and we shall close this account.

So in a way we can say that under fixed capital account we are going to
account for only those entries which are related to bringing the money
into business or taking out the money in the form of capital out of the
business,

Dr Partners Capital a/c's Cr

A B A B
C C
Particulars (in (in Particulars (in (in
(in Rs) (in Rs)
Rs) Rs) Rs) Rs)
To Bal c/d By Bal b/d

By Bal b/d

so only capital related activities are going to be recorded in partners’

capital account which is fixed in nature, we are going to account for
those transactions which are occurring or which keep on changing so for
accounting such transaction we are going to prepare another account, it
is known as partners current account, it shall also have debit and credit
sides the balance can be either debit balance of this account or it can be
the credit balance and the amount column under boththe fluctuating and
fixed will be divided into the number of partners, so there are two
partners, so in both the cases as the number of partners are so will be

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the amount column but for particulars we are going to use the same
columns.

Now when we are talking about the current account it can be started
with the debit balance or with the credit balance as provided to us in the
question set

Dr Partners Current a/c's Cr

A B A B
C C
Particulars (in (in Particulars (in (in
(in Rs) (in Rs)
Rs) Rs) Rs) Rs)
To Bal b/d By Bal b/d
To Int on Draw By Int on Cap
To Drawings By Salary
By Commission
To Bal c/d By Profit share

By Bal b/d

, then we are going to account for salaries provided bonus provided any
commission provided to the partners under this account and they shall be
recorded in the current account so prepare by us and that too in the
credit side, similarly any interest on capital would be accounted for in
the current account, and in the debit side there can be drawings and
interest on drawings and the balance which has been transferred by
preparation of P & L appropriation account which we have transferred to
the partners’ capital account say for example the profit was of Rs.32000
and there were 3 partners so each partner under their specific amount
column would be given the credit of the share of the profit which they
have gain that is for A, it will be Rs.10667 in the A’s column then Rs.
10667 in B’s column and then Rs.10667 for C’s column, so as partners
increases the amount column and the accounting will be done, any loss
shall also be accounted for.

Now the next type of account is called the fluctuating capital accounts
of the partners, so under that we are not going to have the separate
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balances of the fixed nature and current accounts rather we will prepare
all the details in one account only and that is known as fluctuating
partners’ capital account, so let see it’s Performa, fluctuating partners’
capital account it will have credit and debit side, we will divide the sides
there will be columns for the amount for each partner and the particulars
will be shared by them it shall also start with the balances could be the
credit balance shall be recorded on the credit side, it can have the debit
balance of the capital, then we are going to start with the debit side or it
can also happen that one of the partners have average balance and
another would be having the debit balance so as per the information
given we are going to record for the transaction then all the entries
related to salaries, bonus interest on capital P & L appropriation would
be accounted for the credit side of the partners’ capital account and the
closing balance shall also be there, similarly on the debit side we will be
having drawings, interest on drawings, P & L appropriation to balance
carried down such balance shall be brought forward in the next period as
has been decided, so these are the broad formats for the preparation of
the capital account for the partners either on the fixed method or the
fluctuating method.

5. ADJUSTMENTS IN PROFITS
Now we are going to learn in detail when there are adjustments to be
made in the profit and loss account before transferring to the capital
accounts of the partners, we shall learn in this question about the
preparation of the partners current account also and accounting for all
the transaction in relation to the P & L appropriation which we need to
learn, so in all this question will tell us in detail how to distribute the
profit, how to make adjustments in the profit before distributing into the
partners and how to prepare the partners’ capital account, so this
question has given us the following information’s, there are three
partners name

Weak, Able and lazy, they have their capital accounts on

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2007 January 1 as Rs. 75000, Rs.40000 and Rs.30000 respectively.

While there current accounts opening balances are

Weak has current balance of Rs.10000, Able has Rs.5000 and lazy has
debit balance of Rs.10000,

So we prepare the partners current account, first of we are require to

give the information about the current account balances,

When they have the drawings of Rs.15000, Rs.10000 and Rs.10000,

Information about interest on drawings has been given as Rs.500 Rs, 250
and Rs.350 and interest on capital is computed at the rate of 5 %

On the capital so

Rs.75000 5 % amounts to Rs.3750,

Rs.40000 5% amounts for Rs. 2000 and

Rs.30000 5 % amounts to Rs.1500.

The profit for the year has been given to us Rs.60000 before in the
adjustments in relation to the interest in capital, and interest on
drawings also before doing the certain adjustments which have been
recorded in the book as wrongly so we are going to discuss the aspect of
rectification ofthe errors over here, we are given the following set of
errors, these errors are life insurance premiere of weak which is paid on
31 December has been Rs.750 and its implication has not been given in
the and the same has been treated as an expense we are going to do the
correction over here.

Secondly travelling expenses of able one of personal nature but they have
been charged to the miscellaneous expenditure so we are going to add
that Rs.750 and Rs.3000 into the profit.

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Since life insurance premier means also of personal expense for the weak
limited and it has been accounted as a business expenses so we are going
to add up Rs.750 and the personal travelling expenses of the 3000 Rs.
now there is a error of principle again which says that repairs amount has
been charged to machinery account and depreciation has been provided
there on, so if the machinery was of Rs.10000/- and the depreciation rate
was 20 %, so for Rs.2000 Rs, we are already provided for the
depreciation, so adjustment entry in relation to Rs.8000 would be passed
and we will subtract repair and account for the machinery, so let’s see
the computation of profit over here.

So as given Rs.60,000/- add wrongly debited that is life insurance period

Rs.750 and travelling expenses also Rs. 3000 it will be 3750 and we are
going to subtract the repairs charges which has been wrongly debited to
repairs rather machinery so Rs.8000 would be subtracted so we will get
the final amount as Rs.55750/-.

So this Rs.55750 is now going to be distributed among the partners, with

this we have learn the computational aspect of profit which need to be
adjusted before distributing it to the partners.

6. SUMMARY
We will continue to solve this question in our upcoming lecture and learn
in detail how the adjustment are been accounted for in the current
account of the partners and the profits are been distributed, with this we
are ending up our lecture of today.

Thank you.

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