Fundamentals of Partnership and Goodwill Test - 5

When drawing is made in the beginning of each quarter and per annum word is given with the rate of interest, in such a case, first step is to find out the average period and then interest. In this question time period is 7.5 months and total drawings are 16,000 (4,000 × 4 quarters) Hence, Interest on drawings will be = 16,000 ×7.5/12 × 6/100 = Rs. 600.

Liabilities side is also known as credit side, all credit balances are shown in the balance sheet (personal accounts). This is the only reason that credit balance of capital accounts and current accounts of the partners are shown in the liabilities side of balance sheet.

When a partner draws a fixed amount in the beginning of each quarter for his personal use then average period will be calculated as : Time after first drawing 12 months + Time after last drawing 3 months, and average period will be = 15/2 = 7.5.

When rate of interest on drawings is fixed, interest will be calculated for the full year i.e. Interest on drawings = 20,000 × 6/100 = 1,200.

Inerest on partner’s loan is a charge against the profit. It should be shown in the debit side of Profit and Loss account and credit side of Partner’s Loan account. In a normal situation Interest on partner’s loan should not be shown in the partners capital account or partners current account.

Calculation of Interest on loan:

Interest on A’s Loan = 40,000 × 5/100 × 6/12 = 1,000

Interest on B’s Loan = 20,000 × 5/100 × 6/12 = 500

1.Profit and loss appropriation account is prepared only in case of partnership business. The main purpose of preparing this account to distribute the profits amongst the partners in the form of appropriations and profits.

2.Other firms i.e. companies and sole proprietorship firms are not required to prepare profit and loss appropriation account. These firms are required to prepare only profit and loss account.

When partnership deed provides for the interest on drawings but dates of withdrawal of drawings are not given, in such a case average time period should be taken as six months. Interest on Drawings = Total Drawings × Rate/100 × 6/12

When interest on capital is treated as charge, amount of interest will be paid in full irrespective or profits/losses. In a normal situation, interest on capital is an appropriation; it means it will be paid out of profits and up to the profits only. But in some cases it is paid as a charge, it means whether there is profit or loss, it will be paid. Only in such cases interest on capital is treated as a charge.

Insurance Premium paid for business is a charge against the profit. It means this transaction will reduce the profit of the firm. All charge items are shown in profit and loss account only. That’s why Insurance Premium paid for business is shown in profit and loss account and not in profit and loss appropriation account.

Anything which will reduce the net profit of the firm is called charge. Normally interest on capital is an appropriation; it means it will be paid out of profits and up to the profits only. But in some cases it is paid as a charge, it means whether there is profit or loss, it will be paid. Only in such cases interest on capital is treated as a charge.

In case of drawings, when a fixed amount is withdrawn at the end of the last day of every month, interest on drawings will be calculated as follows:

Step 1. Average Time Period = 11 + 0 = 11/2 = 5.5

Step 2. Total Drawings × Rate/100 × 5.5/12

The word per annum is the key element in the calculation of interest on drawings. When per annum word is given, it means interest on drawings is to be calculated on the time basis or for a particular time period. When word per annum is not given with the rate of interest on drawings, it means interest on drawings is to be calculated for the full year irrespective of time period.

Rent paid to a partner is a charge against the profit. It means it will reduce the profit. That’s why it is shown in Profit and Loss Account instead of Profit and Loss Appropriation Account.

Salary paid to partner is an appropriation of profit. All appropriation items are shown in the Profit and loss appropriation account.

Guarantee of minimum amount can be given by a single partner, some of the partners or by all the partners in an agreed ratio. If guarantee is given by only one partner then it is known as guarantee by partner but if guarantee is given by the firm (all partners) then it is known as guarantee by firm.

Correct Entry is Profit and loss A/c Debit and Profit and loss appropriation account Credit. To find out the net profit all charge items should be deducted and all non operating incomes should be added to the profit. Net Profit shown by profit and loss account is transferred to the credit side of profit and loss appropriation account.

In a normal situation salary or commission paid to a partner is treated as an appropriation. It means salalry or commission is paid only when there is profit and amount of salary or commission cannot be more than the profits

Interest due to X and Y is Rs. 3,000 and Rs. 2,000 (total Rs.5,000) but profit is only Rs. 1,500. In this case Ratio of appropriation will be 3 : 2 (3,000 : 2,000). Now divide profit Rs. 1,500 in Ratio of appropriation i.e. 3:2.

It is a good decision by the partners to create a reserve. A reserve is created only out of profits when there is sufficient profit in the business. In case of loss, a reserve cannot be created. The main purpose of creating a reserve is to strengthen the financial position of the business firm.

When capitals of the partners are fixed, two accounts are prepared at that time i.e. Partners Fixed capital account and Partners Current account. Partners fixed capital account shows only capital balance and additional capital or withdrawl of some part of capital permanently (if any). That’s why this account cannot show a negative balance.

Salary paid to manager is a charge against the profit. It means this transaction will reduce the profit of the firm. All charge items are shown in profit and loss account only. That’s why salary paid to manager is shown in profit and loss account.

Calculation of interest on capital should be always done on the opening capital first and after that on additional capital introduced (if any) by the partner during the year. Interest on opening capital and additional capital should be shown in a combined manner as total interest on capital during the year.

When accounts are prepared under fluctuating capital method, only one account is prepared for the partners i.e. partners capital account. All items related to partners i.e. capital, interest on capital, interest on drawings, salary, commission etc. are shown in partners capital account.