Unlock document.
This document is partially blurred.
Unlock all pages and 1 million more documents.
Get Access
Dissolution of a partnership occurs whenever there is a change in partners. Dissolution can
occur upon admission of a new partner, withdrawal of a partner, or death of a partner. For
example, when a new partner is admitted to a partnership with two partners creating a three
person partnership, the old partnership agreement is dissolved and is replaced with a new
partnership agreement for the three partners. The partnership may continue business
uninterrupted from the point of view of the clients or customers. Dissolution is not
necessarily liquidation, which is discussed next, but can result in the creation of a new
partnership agreement when there is a change in the composition of the partners.
When a new partner is admitted by purchasing a partnership interest directly from an
existing partner or partners, cash is paid directly to the selling partner or partners and not to
the partnership. The journal entry recorded by the partnership only needs to adjust the
capital accounts.
A new partner may also be admitted by investing cash or noncash assets directly to the
partnership. The new partner’s capital account may be credited with an amount equal to
the fair market value of the assets contributed, may be credited with an amount that is less
than the fair market value of the assets contributed (bonus to the old partners), or may be
credited with an amount larger than the assets contributed (bonus to the new partner).
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated,
or posted to a publicly accessible website, in whole or in part.
Chapter 12: Accounting for Partnerships Instructor’s Manual, p. 2
The following journal entries related to partner admission and withdrawals are introduced in
this section:
Original Partner, Capital XX (close account balance)
New Partner, Capital XX (new partner’s interest)
Withdrawal of old partner; transfer of equity to new partner
Original Partner A, Capital XX (half of balance)
Original Partner B, Capital XX (half of balance)
New Partner, Capital XX (new partner’s interest)
Transfer of half of equity to new partner
Cash XX (amount contributed)
New Partner, Capital XX (new partner’s interest)
Admission of new partner for a one-third interest in the company
Cash XX (amount contributed)
Original Partner A, Capital XX (bonus)
Original Partner B, Capital XX (bonus)
New Partner, Capital XX (new partner’s interest)
Investment by new partner for a one-7fth interest in the 7rm, and the bonus
distributed to the original partners
Cash XX (amount contributed)
Original Partner A, Capital XX (bonus transferred)
Original Partner B, Capital XX (bonus transferred)
New Partner, Capital XX (new partner’s interest)
To record the investment of cash by new partner and a bonus from original
partners
Original Partner B, Capital XX (close account balance)
New Partner, Capital XX (new partner’s interest)
Original partner’s withdrawal by sale of interest to new partner
Partner C, Capital XX (balance)
Cash XX (cash withdrawn)
Notes Payable, Partner C XX (amount still owed)
Withdrawal of Adam Novak from the partnership by removing assets
Partnership liquidation is the process of selling enough assets to pay the partnership
liabilities and distributing any remaining assets among the partners. When a partnership is
liquidated, the business will not continue. Gains and losses are distributed to the partners
according to the stated ratios. As cash becomes available, outside creditors are paid 7rst,
then loans from the partners are repaid, and 7nally the remaining partners’ capital balances
are distributed to them. The chapter introduces two liquidation examples: (1) assets sold for
a gain and (2) assets sold at a loss. Journal entries and a statement of liquidation are
presented for each liquidation example.
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated,
or posted to a publicly accessible website, in whole or in part.
Chapter 12: Accounting for Partnerships Instructor’s Manual, p. 3
The following journal entries related to partnership liquidation where assets are sold at a
gain are introduced in this section:
Cash XX (cash received)
Gain or Loss from Realization XX (loss realized)
Accounts Receivable XX (close account balance)
Collection of accounts receivable where cash received is less than receivables’
balance
Cash XX (cash received)
Merchandise Inventory XX (close account balance)
Gain or Loss from Realization XX (gain realized)
Sale of inventory at more than book value
Cash XX (cash received)
Plant Assets XX (close account balances)
Sale of plant assets at book value
Accounts Payable XX (close account balance)
Cash XX (cash paid)
Payment of accounts payable
Gain or Loss from Realization XX (close account balance)
Partner A, Capital XX (share of net gain)
Partner B, Capital XX (share of net gain)
Partner C, Capital XX (share of net gain)
Distribution of the net gain on assets to the partners
Partner A, Capital XX (close account balance)
Partner B, Capital XX (close account balance)
Partner C, Capital XX (close account balance)
Cash XX (close account balance)
Distribution of cash to the partners
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated,
or posted to a publicly accessible website, in whole or in part.
Chapter 12: Accounting for Partnerships Instructor’s Manual, p. 4
The following journal entries related to partnership liquidation where assets are sold at a loss
are introduced in this section:
Cash XX (cash received)
Gain or Loss from Realization XX (loss)
Accounts Receivable XX (close account balance)
Merchandise Inventory XX (close account balance)
Plant Assets XX (close account balance)
Collection of accounts receivable and the sale of inventory and plant assets
Accounts Payable XX (close account balance)
Cash XX (cash paid)
Payment of accounts payable
Partner A, Capital XX (share of loss)
Partner B, Capital XX (share of loss)
Partner C, Capital XX (share of loss)
Gain or Loss from Realization XX (close account
balance)
Distribution of the loss on assets to the partners
Partner A, Capital XX (close account balance)
Partner B, Capital XX (close account balance)
Partner C, Capital XX (close account balance)
Cash XX (close account balance)
Distribution of cash to the partners
The following journal entries related to liquidation where the loss is greater than a partner’s
capital balance and the negative partner pays cash to the partnership to cover the negative
capital account balance are introduced in this section:
Cash XX (cash received)
Partner C, Capital XX (close negative balance)
Additional investment of Partner C to cover negative balance
Partner A, Capital XX (close account balance)
Partner B, Capital XX (close account balance)
Cash XX (close account balance)
Distribution of cash to the partners
The following journal entries related to liquidation where the loss is greater than a partner’s
capital balance and the other partners share the loss are introduced in this section:
Partner A, Capital XX (share of loss)
Partner B, Capital XX (share of loss)
Partner C, Capital XX (close negative balance)
Distribution of partner’s negative balance to other partners
Partner A, Capital XX (close account balance)
Partner B, Capital XX (close account balance)
Cash XX (close account balance)
Distribution of cash to the partners
Relevant Examples and Exhibits
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated,
or posted to a publicly accessible website, in whole or in part.
Chapter 12: Accounting for Partnerships Instructor’s Manual, p. 5
Example: Capital accounts of a sole proprietorship and a partnership
Example: Recording Partners’ Investments
Example: Distributing Income Using Stated Ratios
Example: Ratios Based on Beginning Capital Balances
Example: Ratios Based on Average Capital Balances
Example: Distributing Income Using Salaries, Interest, and Stated Ratios
Exhibit 1 Partial Income Statement for Mind and Padilla
Example: Purchasing All Interest from a Partner
Example: Purchasing Partial Interest from Partners
Example: New Partner Investing Assets in a Partnership
Example: Bonus to Old Partners
Example: Bonus to New Partner
Exhibit 2 Alternative Ways for a Partner to Withdraw
Example: Withdrawal by Selling Interest
Example: Withdrawal by Removing Assets
Example: Liquidation with Gain on Sales of Assets
Exhibit 3 Statement of Liquidation Showing Gain on Sale of Assets
Exhibit 4 Statement of Liquidation Showing Loss on Sale of Assets
Example: Liquidation with Loss on Sale of Assets
Example: Liquidations Where Loss Is Greater than a Partners’ Capital Balance
Example: Liquidation Where Partners Share the Loss
Exhibit 5 Partnership Balance Sheet
Teaching Strategy
Discussion should begin by comparing the equity section of a sole proprietorship to the
equity section of a partnership where each partner has a separate capital account. Review
the transaction and analysis for recording partners’ investments and the related journal
entries. Short Exercise 2 and Exercise 3A may be assigned to reinforce partnership formation
entries.
Discuss the distribution of partnership income and losses and the three common
components of income distributed to the partners (1) Interest on partners’ capital, (2)
partners‘ salaries, and (3) remainder distributed based on income-sharing ratios. Note that
interest on partners’ capital accounts is not recorded as interest expense to the partnership
or interest income to the partners. It is only part of a mathematical calculation to divide up
the income of the partnership based on the partnership agreement.
Review the example for distributing income using only stated ratios and the related journal
entries. Also review the example using only capital balance ratios and the related
calculations based on beginning capital balances and based on average capital balances.
Explain that the average calculation uses a weighted average approach.
Review the examples using a combination of interest on capital balances, partner salaries,
and division of the remainder of income.
Short Exercises 3, 4, and 5 and Exercises 4A, 5A, and 6A cover the distribution of income.
Case 1 can be used for discussion of income and loss distributions to the partners.
Discuss the diBerence between dissolution of a partnership where partnership operations
continue and partnership liquidation where partnership operations cease. Review admission
of a new partner by purchasing all or part of an interest directly from an existing partner.
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated,
or posted to a publicly accessible website, in whole or in part.
Chapter 12: Accounting for Partnerships Instructor’s Manual, p. 6
Note that the cash transaction is outside the partnership and the result is only an
adjustment to partner capital account balances.
Next, review admission of a partner by contribution of cash and/or noncash assets to the
partnership. Discuss the reasons why there may be a bonus to the new partner or a bonus to
the old partners. Walk through the following transactions:
Purchasing all interest from a partner
Purchasing a partial interest from partners
New partner investing assets in a partnership with capital account equal to the FMV
of the contributed assets
New partner investing assets in a partnership with a bonuses to the old partners
New partner investing assets in a partnership with bonus to the new partner
Discuss reasons for the withdrawal of a partner using Exhibit 2. Compare withdrawal by
selling a partnership interest to withdrawal by removing assets and the related journal
entries.
Short Exercises 6, 7, 8, and 9 and Exercises 7A and 8A cover partnership
withdrawal/admission.
Discuss partnership liquidation where there is a gain on the sale of assets using the journal
entries and Exhibit 3. Discuss liquidation of a partnership where there is a loss on sale of
assets using the journal entries and Exhibit 4. Review the journal entries for liquidations
where the loss is greater than the partner’s capital balance and the de7cit partner
contributes cash to make up the negative balance, and where the nonde7cit partners share
the loss.
Short Exercise 10 and Exercises 9A and 10A cover partnership liquidation.
Section 3: Business Applications
Business Application
Identify alternative forms of partnership-type entities
Lecture Outline
I. There are many alternative forms of association that are a type of partnership or similar
to partnerships.
II. A limited partnership allows a partner to enjoy limited liability.
A. The limited partner’s potential loss is con7ned to the amount of his or her
investment.
B. There is usually at least one general partner who has unlimited liability.
III. A joint venture is an association of two or more entities for the purpose of achieving a
speci7c goal.
A. Many joint ventures have an agreed-upon limited life.
B. Joint ventures frequently take the form of partnerships among two or more
corporations and other investors.
C. This form is often used as a way to invest abroad, where national law requires
local investors to own a substantial percentage.
IV. There are several corporate forms of companies that mimic the characteristics of
partnerships.
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated,
or posted to a publicly accessible website, in whole or in part.
Chapter 12: Accounting for Partnerships Instructor’s Manual, p. 7
A. S corporations do not pay federal taxes.
B. Limited liability companies (LLC) have partner members that enjoy limited
liability.
C. Special purpose entities (SPEs) are companies created for a speci7c objective
that dissolve when the objective is met.
1. Allows sponsoring company to avoid disclosing related debt on balance
sheet.
2. This form was used extensively and fraudulently by Enron.
Summary
A limited partnership (LP) is a special type of partnership that, like corporations, con7nes
the limited partner’s loss to the amount of his or her investment. All limited partnerships
must have at least one general partner who is responsible for managing the company and
who has unlimited liability.
A joint venture is an association of two or more entities for the purpose of achieving a
speci7c goal, such as the manufacture of a product in a new market. Many joint ventures
have a limited life. Pro7ts and losses are shared on an agreed-upon basis. An example of a
joint venture is General Motors/SAIC Motor that manufactures and sells GM cars in China.
S corporations are corporations that are treated similarly to partnerships under U.S. tax
laws. They have a limited number of stockholders (100 maximum) who report income and
losses from the business on their personal tax returns, thus avoiding double taxation.
In a limited liability company (LLC), the members are partners, and their liability is
limited to their investment in the business. LLCs are taxed as partnerships. This form of
business is frequently used by accounting and consulting 7rms.
Special purpose entities (SPEs) are 7rms with limited lives that a company creates to
achieve a speci7c objective, such as raising money or selling receivables. By meeting certain
conditions, liabilities related to the SPE may be excluded from the balance sheet of the
parent or sponsoring company. This form of business was used extensively and fraudulently
by Enron.
Teaching Strategy
Discuss limited partnerships as an investment vehicle for the limited partners, pointing out
that limited partners’ losses are limited to their investment. Emphasize that all limited
partnerships must have at least one general partner who has unlimited liability.
Discuss joint ventures and give examples of joint ventures such as Ford/Mazda and General
Motors/SAIC Motor.
BrieHy discuss S corporation requirements, including the 100 shareholder maximum, one
class of stock, and that types of shareholders are limited to individuals who are U.S. citizens
or residents and certain types of trusts, estates, and tax-exempt entities. Having a C
corporation as a shareholder is prohibited because it would defeat the 100 shareholder
maximum. Emphasize to students that S corporation status must be elected by the
shareholders and that all pro7ts, losses, and distributions must be according to ownership
percentages.
Discuss the prevalence of LLCs for newly formed businesses. LLCs can be single-member
LLCs that are treated as a proprietorship or multi-member LLCs that are generally treated as
partnerships. Although not discussed in the text, you might consider explaining the basic
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated,
or posted to a publicly accessible website, in whole or in part.
Chapter 12: Accounting for Partnerships Instructor’s Manual, p. 8
diBerences between an LLC and an LLP. Both LLC and LLP structures provide owners with
limited liability protection related to lawsuits against the company. The personal assets of
LLC members are also protected from company debts such as business loans, whereas
personal assets of LLP partners are not protected from this type of liability. Owners of an LLP,
however, are protected against the actions and debts of their fellow partners.
BrieHy discuss special purpose entities (SPEs) and how they can be used appropriately to
achieve a speci7c objective, such as raising money or selling receivables. Explain that SPEs
were abused in the past by companies such as Enron, where liabilities that led to Enron’s
collapse were kept oB of Enron’s balance sheet. SPEs can only be omitted from the
sponsoring company’s balance sheet if it meets very strict conditions. Otherwise, SPEs must
be included in the consolidated 7nancial statements of the parent company.
Short Exercise 11 and Case 4 apply to this section.
Student Engagement Tactics
00. Assign Case 2 to small groups in class. Use previously established groups or assign
groups randomly. Each group should select a representative to speak for the group.
00. Be clear on the expected output of the learning activity. Identify questions to address
and determine whether written answers are necessary. For example, ask one person
from each group to present one alternative and explain why that alternative would be
best.
00. Elicit as many alternatives as possible for the class to consider. After each group has
presented one alternative, if time permits, ask if any other alternatives might be
available.
00. Allow groups one or two minutes to consider which alternative they prefer and why. Poll
the class as to their preferred response.
© 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated,
or posted to a publicly accessible website, in whole or in part.
