CHAPTER

10
PARTNERSHIP AND LLP
ACCOUNTS
UNIT – 1 INTRODUCTION TO PARTNERSHIP
ACCOUNTS

LEARNING OUTCOMES
After studying this unit, you will be able to:
♦ Understand the provisions of the Indian Partnership Act, 1932, Limited
Liability Partnership Act, 2008 and Limited Liability Partnership Amendment
Act, 2021
♦ Understand the features of a partnership firm and the need for a
Partnership Deed.
♦ Understand the points to be covered in a Partnership Deed regarding
accounts.
♦ Learn the technique of maintaining Profit and Loss Appropriation
Account.
♦ Familiarize with the two methods of maintaining Partners’ Capital
Accounts, namely Fixed Capital Method and Fluctuating Capital Method.
♦ Note that Capital Account balance as per Fluctuating Capital method is
just equal to the sum of the balances of Capital Account and Current
Account as per Fixed Capital Method.
 1.2
10.2 ACCOUNTING

♦ Learn how to arrive at the corrected net profit figure which is to be taken
to be Profit and Loss Appropriation Account after rectification of errors.
Rectification of errors may be necessary to arrive at the net profit of the
partnership and preparing Profit and loss Appropriation Account.
♦ Learn that interest on capital and drawings, salaries/commissions are to
be shown in the Profit and Loss Appropriation Account and not in the
Profit and Loss Account. Also learn that drawings by partners will not
appear in the Appropriation Account.

UNIT OVERVIEW

Business carried on
by all or any one of
them acting for all

An agreement Unlimited liability

entered into by all of all partners
persons concerned

Partnership

An association of
Existence of a two or more
business persons

Sharing of profits
and losses of the
business

Accounts of Partnership firm

Trading and Profit and Profit and Loss Capital accounts of partners (fixed
Loss Account and Appropriation capital method or fluctuating
Balance Sheet Account capital method)
 PARTNERSHIP AND LLP ACCOUNTS 10.3

1.1 INTRODUCTION: WHY PARTNERSHIP?

An individual, i.e., a sole proprietor may not be in a position to cope with the financial and
managerial demands of the present-day business world. As a result, two or more individuals
may decide to pool their financial and non-financial resources to carry on a business. The
preparation of final accounts of sole proprietors have already been discussed in chapter 6.
The final accounts of partnership firms including basic concepts of accounting for admission
of a partner, retirement and death of a partner have been discussed in succeeding units of
this chapter.

1.2 DEFINITION AND FEATURES OF PARTNERSHIP

As per Section 4 of the Partnership Act, 1932:
“Partnership is the relation between persons who have agreed to share the profit of a
business carried on by all or any of them acting for all.”
Features of a partnership,
(i) Existence of an agreement: As per section 5 of the Indian Partnership Act, 1932,
The relation of partnership arises from contract between parties and not from status
as it happens in case of HUF (Hindu Undivided Family). A formal or written
agreement is not necessary to create a partnership.
(ii) Business: A partnership can exist only in business. Thus, it is not the agreement alone
which creates a partnership. A partnership comes into existence only when partners
begin to carry on business in accordance with their agreement. Section 2 (b)of Indian
Partnership Act, 1932 only states that business includes every trade, occupation
and profession.
(iii) Sharing of profit: The persons concerned must agree to share the profits of the
business. Because no person is a partner unless he or she has the right to share the
profits of the business. Section 4 of Indian Partnership Act, 1932 does not insist
upon sharing of losses. Thus, a provision for sharing of loss is not necessary.
(iv) Mutual agency: It means that the business is to be carried on by all or any of them
acting for all. Thus, if the person carrying on the business acts not only for himself but
for others also so that they stand in the positions of principals and agents, they are
partners.
 1.4
10.4 ACCOUNTING

(v) Minor as a partner: A minor can be added in partnership firm. But the condition is
that he can be admitted to share profit only. He cannot be made to share losses of the
firm. If the partnership firm suffers loss than it will be borne by other major partners is
their profit-sharing ratio.
Number of Partners: Minimum Partners: Two

Maximum Partners: As per Section 464 of the Companies Act, 2013, no association
or partnership consisting of more than 100 number of persons as may be prescribed
shall be formed for the purpose of carrying on any business. Rule 10 of Companies
(incorporation) Rules 2014 specifies the limit as 50. Thus, maximum number of
members in a partnership firm are 50.

1.3 LIMITED LIABILITY PARTNERSHIP

The Indian Partnership Act of 1932 provides for a general form of partnership which has
inherent shortcoming of unlimited liability of all partners for business debts and legal
consequences, regardless of their holding or profit-sharing ratio, as the firm is not a legal
entity. General partners are also jointly and severally liable for tortuous acts of co-partners. In
case of liquidation personal assets of partners can be liquidated to meet liabilities of the firm.
With the growth of the Indian economy, the role played by its entrepreneurs as well as its
technical and professional manpower has been acknowledged internationally.
Entrepreneurship, knowledge, risk and capital may be combined to provide a further impetus
to India’s economic growth. In this background, a need has been felt for a new corporate
form that would provide an alternative to the traditional partnership, with unlimited personal
liability on the one hand, and, the statute-based governance structure of the limited liability
company on the other. This would enable professional expertise and entrepreneurial initiative
to combine, organize and operate in flexible, innovative and efficient manner.
The Government felt that with Indian professionals increasingly transacting with or
representing multi-nationals in international transactions, the extent of the liability they could
potentially be exposed to, is extremely high. Hence, in order to encourage Indian professionals
to participate in the international business community without apprehension of being subject
to excessive liability, the need for having a legal structure like the LLP is encouraged. Thus, in
convergence towards global scenario, Limited Liability Partnership Act, 2008 was introduced.

The Limited Liability Partnership (LLP) is viewed as an alternative corporate business proposal
that provides the benefits of limited liability but allows its members, the flexibility of
organizing their internal structure as a partnership, which is based on a mutually arrived
agreement.
 PARTNERSHIP AND LLP ACCOUNTS 10.5

The LLP will be a separate legal entity, liable to the full extent of its assets, with the liability of
the partners being limited to their agreed contribution in the LLP which may be of tangible or
intangible nature or both tangible and intangible in nature. No partner would be liable on
account of the independent or un-authorized actions of other partners or their misconduct.
The liabilities of the LLP and partners who are found to have acted with intent to defraud
Creditors or for any fraudulent purpose shall be unlimited for all or any of the debts or other
liabilities of the LLP.
The main benefit in an LLP is that it is taxed as a partnership, but has the benefits of being a
corporate, or more significantly, a juristic entity with limited liability. An LLP has the special
characteristic of being a separate legal personality distinct from its partners. The LLP is a body
corporate in nature.
Summary of key advantages and challenges associated with formation of LLP could be
presented as below:
Advantages:
(i) LLP is organized and operates on the basis of an agreement.
(ii) Enables professional/technical expertise and initiative to combine with financial risk
taking capacity in an innovative and efficient manner.
(iii) Limited liability of partners as in case of corporate entities along with flexibility of a
partnership without imposing detailed legal and procedural requirements;
(iv) Lower registration costs as compared to corporate entities;
(v) Audit not mandatory (subject to turnover / capital contribution benchmark)
Challenges:
(i) Public disclosure of financial statements;
(ii) No option for Equity investments;
(iii) Extensive penal provisions for non-compliance

The Limited Liability Partnerships (LLPs) in India were introduced by Limited Liability
Partnership Act, 2008 which lay down the law for the formation and regulation of Limited
Liability Partnerships. Later, the Ministry of Law and Justice made amendments to the Limited
Liability Partnership Act, 2008 (LLP Act) through the LLP (Amendment) Act, 2021.

1.3.1 Definition of LLP

Section 2 of the Limited Liability Partnership (LLPs) Act, 2008 defines limited liability
partnership” as a partnership formed and registered under this Act; and “limited liability
partnership agreement” means any written agreement between the partners of the limited
 1.6
10.6 ACCOUNTING

liability partnership or between the limited liability partnership and its partners which
determines the mutual rights and duties of the partners and their rights and duties in
relation to that limited liability partnership.
“Small limited liability partnership” means a limited liability partnership—
(i) the contribution of which, does not exceed twenty-five lakh rupees or such higher
amount, not exceeding five crore rupees, as may be prescribed; and
(ii) the turnover of which, as per the Statement of Accounts and Solvency for the
immediately preceding financial year, does not exceed forty lakh rupees or such
higher amount, not exceeding fifty crore rupees, as may be prescribed; or

1.3.2 Nature of Limited Liability Partnership

(1) A limited liability partnership is a body corporate formed and incorporated under this
Act and is a legal entity separate from that of its partners.
(2) A limited liability partnership should have perpetual succession.
(3) Any change in the partners of a limited liability partnership should not affect the
existence, rights, or liabilities of the limited liability partnership.

1.3.3 Non-applicability of the Indian Partnership Act, 1932

Save as otherwise provided, the provisions of the Indian Partnership Act, 1932 shall not apply
to a limited liability partnership.

1.3.4 Minimum number of partners in case of LLP

As per the LLP Act, any individual or body corporate may be a partner in a limited liability
partnership; provided that an individual shall not be capable of becoming a partner of a
limited liability partnership, if-
(a) he has been found to be of unsound mind by a Court of competent jurisdiction and
the finding is in force;

(b) he is an undischarged insolvent; or

(c) he has applied to be adjudicated as an insolvent and his application is pending.
Every limited liability partnership shall have at least two partners.

If at any time the number of partners of a limited liability partnership is reduced below two
and the limited liability partnership carries on business for more than six months while the
number is so reduced, the person, who is the only partner of the limited liability partnership
during the time that it so carries on business after those six months and has the knowledge
 PARTNERSHIP AND LLP ACCOUNTS 10.7

of the fact that it is carrying on business with him alone, shall be liable personally for the
obligations of the limited liability partnership incurred during that period.

1.3.5 Designated partners

As per Section 7 of the LLP Act, every limited liability partnership should have at least two
designated partners who are individuals and at least one of them should be a resident in India:
Provided that in case of a limited liability partnership in which all the partners are bodies
corporate or in which one or more partners are individuals and bodies corporate, at least two
individuals who are partners of such limited liability partnership or nominees of such body
corporate will act as designated partners.
Explanation. -For the purposes of this section, the term "resident in India" means a person
who has stayed in India for a period of not less than 120 1 days during the immediately
preceding one year.
Subject to the provisions of the Act,

(1) if the incorporation document-

(a) specifies who are to be designated partners, such persons should be designated
partners on incorporation; or
(b) states that each of the partners from time to time of limited liability partnership
is to be designated partner, every such partner will be a designated partner;
(2) any partner may become a designated partner by and in accordance with the limited
liability partnership agreement and a partner may cease to be a designated partner in
accordance with limited liability partnership agreement.
(3) An individual will not become a designated partner in any limited liability partnership
unless he has given his prior consent to act as such to the limited liability partnership
in such form and manner as may be prescribed.
(4) Every limited liability partnership should file with the registrar the particulars of every
individual who has given his consent to act as a designated partner in such form and
manner as may be prescribed within thirty days of his appointment.
(5) An individual eligible to be a designated partner should satisfy such conditions and
requirements as may be prescribed.

1
Amended as per Limited Liability Partnership (Amendment) Act, 2021
 1.8
10.8 ACCOUNTING

1.3.6 Liabilities of designated partners

As per LLP Act, unless expressly provided otherwise in this Act, a designated partner should
be-
(a) responsible for the doing of all acts, matters, and things as are required to be done by
the limited liability partnership in respect of compliance of the provisions of this Act
including filing of any document, return, statement, and the like report pursuant to the
provisions of this Act and as may be specified in the limited liability partnership
agreement; and.
(b) liable to all penalties imposed on the limited liability partnership for any contravention
of those provisions.

1.3.7 Limitation of Liability of an LLP and its partners

♦ Under the LLP Act, 2008 an obligation of an LLP arising out of a contract or otherwise,
will be solely the obligation of the LLP;
♦ The Liabilities of an LLP should be met out of the properties of the LLP;
♦ A partner is not personally liable, directly or indirectly, for an obligation referred to
above, solely by reason of being a partner in the LLP;
♦ an LLP is not bound by anything done by a partner in dealing with a person, if:
• The partner does not have the authority to act on behalf of the LLP in doing a
particular act; and
• The other person knows that the partner has no authority or does not know or
believe him to be a partner in the LLP

The liability of the LLP and the partners perpetrating fraudulent dealings will be
unlimited for all or any of the debts or other liabilities of the LLP. However, in case any
such act is carried out by a partner, the LLP is liable to the same extent as the partner
unless it is established by the LLP that such act was without the knowledge or the
authority of the LLP.
♦ The LLP is liable if a partner of LLP is liable to any person as a result of wrongful or
omission on his part in the course of business of the LLP or with his authority.
 PARTNERSHIP AND LLP ACCOUNTS 10.9

1.3.8 Financial Disclosures & Returns

♦ Every LLP should maintain such proper books of accounts as may be prescribed relating
to its affairs for each year of its existence on cash basis or accrual basis and according
to the double-entry system of accounting and should maintain the same at its
registered office for such period as may be prescribed;
♦ Every LLP should within six months of the end of each financial year prepare a
Statement of Account and Solvency for the said financial year as at the last day of the
said financial year, in such form as may be prescribed, and such statement should be
signed by the designated partners of the LLP;
♦ Every LLP should file within the prescribed time, the Statement of Account and
Solvency with the Registrar every year in such form and manner and accompanied by
such fee as may be prescribed;
♦ The accounts of an LLP must be audited in accordance with such rules as may be
prescribed. Provided that the Central Government may, by notification in the Official
Gazette, exempt any class or classes of limited liability partnerships from the
requirements of this sub-section.

1.4 DISTINCTION BETWEEN AN ORDINARY

PARTNERSHIP FIRM AND AN LLP
Basis LLP Partnership firm
1. Regulating Act The Limited Liability The Indian Partnership Act, 1932.
Partnership Act, 2008.
2. Body corporate It is a body corporate. It is not a body corporate,
3. Separate legal entity It is a legal entity separate It is a group of persons with no
from its members. separate legal entity.
4. Creation It is created by a legal It is created by an agreement
process called registration between the partners.
under the LLP Act, 2008.
5. Registration Registration is mandatory. Registration is voluntary. Only
LLP can sue and be sued in the registered partnership firm
its own name. can sue the third parties.
6. Perpetual succession The death, insanity, The death, insanity, retirement or
retirement or insolvency of insolvency of the partner(s) may
the partner(s) does not
 1.10
10.10 ACCOUNTING

affect its existence of LLP. affect its existence. It has no

Members may join or leave perpetual succession.
but its existence continues
forever.
7. Name Name of the LLP to contain No guidelines. The partners can
the word limited liability have any name as per their
partners (LLP) as suffix. choice.
8. Liability Liability of each partner Liability of each partner is
limited to the extent to unlimited. It can be extended
agreed contribution except upto the personal assets of the
in case of willful fraud. partners.
9. Mutual agency Each partner can bind the Each partner can bind the firm as
LLP by his own acts but not well as other partners by his own
the other partners. acts.
10. Designated partners At least two designated There is no provision for such
partners and atleast one of partners under the Partnership
them shall be resident in Act, 1932.
India.
11. Number of Partners Minimum 2 but no Minimum 2 and maximum 50.
maximum limit
12. Legal compliances Only designated partners All partners are responsible for all
are responsible for all the the compliances and penalties
compliances and penalties under the Act.
under this Act.
13. Foreign partnership Foreign nationals can Foreign nationals cannot become
become a partner in a LLP. a partner in a partnership firm.
14. Minor as partner Minor cannot be admitted to Minor can be admitted to the
the benefits of LLP. benefits of the partnership with
the prior consent of the existing
partners.

1.5 MAIN CLAUSES IN A PARTNERSHIP DEED

The relation between the partners is governed by mutual agreement known as partnership
deed. It should be comprehensive to avoid disputes later on. It is usual therefore, to find the
following clauses in a Partnership Deed which may or may not be registered.
1. Name of the firm and the partners;
 PARTNERSHIP AND LLP ACCOUNTS 10.11

2. Commencement and duration of business;

3. Amount of capital to be contributed by each partner;
4. Amount to be allowed to each partner as drawings and the timings of such drawings;
5. Rate of interest to be allowed to each partner on his capital and on his loan to the firm,
and to be charged on his drawings;

6. The ratio in which profits or losses are to be shared;

7. Whether a partner will be allowed to draw any salary;
8. Any variations in the mutual rights and duties of partners;

9. Method of valuing goodwill on the occasions of changes in the constitution of the firm;
10. Procedure by which a partner may retire and the method of payment of his dues;
11. Basis of the determination of the executors of a deceased partner and the method of
payment;
12. Treatment of losses arising out of the insolvency of a partner;
13. Procedure to be allowed for settlement of disputes among partners;

14. Preparation of accounts and their audit.

Registration of the firm is not compulsory, but non-registration restricts the partners or the
firm from taking any legal action. Often there is no written Partnership Deed or, if there is one,
it may be silent on a particular point. In that case the relevant sections of the Partnership Act
will apply. If on any point the Partnership Deed contains a clause, it will hold good; otherwise
the provisions of the Act relating to the questions will apply.
Rules in the absence of Partnership Deed
In the absence of any agreement to the contrary;

No partner has the right to a salary,

No interest is to be allowed on capital,

No interest is to be charged on the drawings,

Interest at the rate of 6%.p.a is to be allowed on a partner’s loan to the firm, and

Profits and losses are to be shared equally.

Note: In the absence of an agreement, the interest and salary payable to a partner will be paid
only if there is profit.
 1.12
10.12 ACCOUNTING

Example
A and B commenced business in partnership on 1 January 2022. No partnership agreement
was made either oral or written. They contributed ` 40,000 and ` 10,000 respectively as capital.
In addition, A also advanced ` 20,000 on 1 July 2022. A met with an accident on 1 April 2022
and could not attend to the partnership business upto 30 June 2022. The profits for the year
ended on 31 December 2022 amounted to ` 50,600. Disputes having been arisen between
them for sharing the profits.
A claims: (i) He should be given interest at 10% p.a. on capital and loan (ii) Profit should be
distributed in proportion of capital.
B claims: (i) Net profit should be shared equally. (ii) He should be allowed remuneration of
` 1,000 p.m. during the period of A’s illness. (iii) Interest on capital and loan should be given
@ 6% p.a. You are required to settle the dispute between them and distribute the profits
according to law. State reasons for your answer.
Answer
Since there is no written or oral partnership agreement, allowing rules are applicable as per
Indian partnership act 1932
(a) No interest is allowed on capital.

(b) 6% p.a. interest is allowed on the loan advanced.

(c) Profits and losses shall be shared equally.
(d) No remuneration is allowed to any partner for taking part in the conduct of the
business.
Thus
a) neither of A nor B will be allowed interest on capital
b) 6% interest will be allowed to both A and B
c) Profit and losses shall be shared equally between A and B
d) No remuneration shall be allowed to B.
Net profit for the year = 50,600
Less: Int. on A's loan 20,000 × 6% × 6/12 = 600
Net Profit = 50,000
A's 50% 25,000
B's 50% 25.000
 PARTNERSHIP AND LLP ACCOUNTS 10.13

Example
A, B and C are partners in a firm sharing profits and losses in the ratio of 2:3:5. Their fixed
capitals were ` 15,00,000, ` 30,00,000 and ` 60,00,000 respectively. For the year 2022 interest
on capital was credited to them @ 12% instead of 10%. Pass the necessary adjustment entry.

Particulars A B C Firm
Interest that should have been 1,50,000 3,00,000 6,00,000 10,50,000
credited @ 10%
Interest already credited @ 12% 1,80,000 3,60,000 7,20,000 12,60,000
Excess credit in partners account (30,000) (60,000) (1,20,000) (2,10,000)
By recovering the extra amount paid,
the share of profits will increase and it
will be credited in the ratio of 2:3:5 42,000 63,000 105,000 2,10,000
Net effect 12,000 3,000 (15,000) -

The necessary journal entry will be:

Particulars Debit (`) Credit

(` )
C’s Current A/c 15,000
To A’s Current A/c 12,000
To B’s Current A/c 3,000
(Interest less charged now rectified)

1.6 POWERS OF PARTNERS

The Partners are supposed to have the power to act in certain matters and not to have such
powers in others. In other words, unless a public notice has been given to the contrary, certain
contracts entered into by a partner on behalf of the partnership, even without consulting other
partners are binding on the firm and the provisions of the Act relating to the question will
apply. In case of a trading firm, the implied powers of partners are the following:
(a) Buying and selling of goods;
(b) Receiving payments on behalf of the firm and giving valid receipt;

(c) Drawing cheques and drawing, accepting and endorsing bills of exchange and
promissory notes in the name of the firm;
 1.14
10.14 ACCOUNTING

(d) Borrowing money on behalf of the firm with or without pledging the inventories-in-
trade;

(e) Engaging servants for the business of the firm.

In certain cases an individual partner has no power to bind the firm. This is to say that third
parties cannot bind the firm unless all the partners have agreed. These cases are:

(a) Submitting a dispute relating to the firm arbitration;

(b) Opening a bank account on behalf of the firm in the name of a partner;
(c) Compromise or relinquishment of any claim or portion of claim by the firm;

(d) Withdrawal of a suit or proceeding filed on behalf of the firm;

(e) Admission of any liability in a suit or proceedings against the firm;
(f) Acquisition of immovable property belonging to the firm;
(g) Entering into partnership on behalf of the firm.
The rights, duties and powers of partners can be changed by mutual consent.

1.7 ACCOUNTS
Partnership Act doesn’t specify any format for preparation of accounts of Partnership Firm
and thus accounts are prepared as per Basic rules of accounts. There is not much difference
between the accounts of a partnership firm and that of sole proprietorship (provided there is
no change in the firm itself). The only difference to be noted is that instead of one Capital
Account there will be as many Capital Accounts as there are partners. If, for instance, there
are three partners; A, B, and C, then there will be a Capital Account for each one of the
partners; A’s Capital Account will be credited by the amount contributed by him as capital and
similarly B’s and C’s Capital Accounts will be credited with the amounts brought in by them
respectively as capital.
When a partner takes money out of the firms for his domestic purpose, either his Capital
Account can be debited or a separate account, named as Drawings Account, can be opened
in his name and the account may be debited. In a Trial Balance of a partnership firm, therefore,
one may find Capital Accounts of partners as well as Drawings Accounts. Finally the Drawings
Account of a partner may be transferred to his Capital Account so that a net figure is available.
But, often the Drawings Account or Current Account (as it is usually called) remains separate.
 PARTNERSHIP AND LLP ACCOUNTS 10.15

1.8 PROFIT AND LOSS APPROPRIATION

During the course of business, a partnership firm will prepare Trading Account and a Profit
and Loss Account at the end of every year. The final accounts of a sole proprietorship concern
will not differ from the accounts of a partnership firm. The Profit and Loss Account will show
the profit earned by the firm or loss suffered by it. This profit or loss has to be transferred to
the Capital Accounts of partners according to the terms of the Partnership Deed or according
to the provisions of the Indian Partnership Act (if there is no Partnership Deed or if the Deed
is silent on a particular point). Suppose the Profit and Loss Account reveals a profit of ` 90,000.
There are two partners, A and B. A devotes all his time to the firm; B does not. A’s capital is `
50,000 and B’s is ` 20,000. There is no Partnership Deed. In such a case the profit will be
distributed among A and B equally. This is irrespective of the fact that B does not work as
much as A does and B’s capital is much less than that of A. But if the Partnership Deed lays
down that A is to get a salary and interest is to be allowed on the capital, then first of all, from
the profit earned, A’s salary must be deducted and interest on the Capital Accounts of both
partners will be deducted. The remaining profit will be divided equally between A and B.
Further if the Partnership Deed says that profits are to be divided in the ratio of, say, three-
fourth to A and one-fourth to B, then this will be the ratio to be adopted.
In a partnership, profit has to be divided between the partners in a certain profit sharing ratio
after making necessary adjustments stated in the partnership deed such as interest on capitals,
drawings and loans; salaries or/and commission to partners etc. Accordingly, an additional
account is prepared and net profit is transferred from the debit side of the profit and loss
account to the credit side of this new account which is called Profit and Loss Appropriation
Account and before the profit is divided between partners, it is necessary to record the above
stated adjustments in this account.

The student can see for himself that if salary is to be allowed to a partner, the Profit and Loss
Appropriation Account will be debited and the Partner’s Capital Account will be credited.
Similarly, if interest is to be allowed on capital, the Profit and Loss Appropriation Account will
be debited and the respective Capital Accounts will be credited.
Let us take an illustration to understand how to divide profits among partners.
ILLUSTRATION 1
A and B start business on 1st January, 2022, with capitals of ` 30,000 and ` 20,000. According to the
Partnership Deed, B is entitled to a salary of ` 500 per month and interest is to be allowed on capitals at
6% per annum. The remaining profits are to be distributed amongst the partners in the ratio of 5:3.
During 2022 the firm earned a profit, before charging salary to B and interest on capital amounting to
` 25,000. During the year A withdrew ` 8,000 and B withdrew ` 10,000 for domestic purposes.
Give journal entries relating to division of profit.
 1.16
10.16 ACCOUNTING

SOLUTION
Journal Entries

2022 Particulars Dr. (`) Cr. (`)

Dec. 31 Profit and Loss Appropriation Account Dr. 6,000
To B’s Capital Account 6,000
(Salary due to B @ ` 500 per month)
Profit and Loss Appropriation Account Dr. 3,000
To A’s Capital Account 1,800
To B’s Capital Account 1,200
(Interest due on Capital @ 6% per month)
Profit and Loss Appropriation Account Dr. 16,000
To A’s Capital Account 10,000
To B’s Capital Account 6,000
(Remaining profit of ` 16,000 divide between
A and B in the ratio of 5:3)

Now, let us learn the preparation of profit and loss appropriation account with the help of
same illustration of partnership firm consisting of partners A and B.
ILLUSTRATION 2
Ram, Rahim and Karim are partners in a firm. They have no agreement in respect of profit-
sharing ratio, interest on capital, interest on loan advanced by partners and remuneration
payable to partners. In the matter of distribution of profits they have put forward the following
claims:
(i) Ram, who has contributed maximum capital demands interest on capital at 10% p.a. and
share of profit in the capital ratio. But Rahim and Karim do not agree.
(ii) Rahim has devoted full time for running the business and demands salary at the rate of
` 500 p.m. But Ram and Karim do not agree.
(iii) Karim demands interest on loan of ` 2,000 advanced by him at the market rate of interest
which is 12% p.a.
How shall you settle the dispute and prepare Profit and Loss Appropriation Account after
transferring 10% of the divisible profit to Reserve. Net profit before taking into account any of
the above claims amounted to ` 45,000 at the end of the first year of their business
 PARTNERSHIP AND LLP ACCOUNTS 10.17

SOLUTION
There is no partnership deed. Therefore, the following provisions of the Indian Partnership Act
are to be applied for settling the dispute.

(i) No interest on capital is payable to any partner. Therefore, Ram is not entitled to
interest on capital.
(ii) No remuneration is payable to any partner. Therefore, Rahim is not entitled to any
salary.
(iii) Since interest on loan payable to partner is not an appropriation of profit. It will be
charged to Profit and Loss Account.
(iv) The profits should be distributed equally.
Profit and Loss Appropriation Account for the year ended…

Particulars ` Particulars `

To Reserve A/c – 10% of By Profit and Loss A/c - 44,880

` 44,880 4,488 ` (45,000-120)
To Share of Profit A/c: (Net profit)
Ram capital A/c ` 13,464
Rahim capital A/c ` 13, 464
Karim capital A/c ` 13, 464 40,392
44,880 44,880

ILLUSTRATION 3
A and B start business on 1st January, 2022, with capitals of ` 30,000 and ` 20,000. According
to the Partnership Deed, B is entitled to a salary of ` 500 per month and interest is to be allowed
on opening capitals at 6% per annum. The remaining profits are to be distributed amongst the
partners in the ratio of 5:3. During 2022 the firm earned a profit, before charging salary to B
and interest on capital amounting to ` 25,000. During the year A withdrew ` 8,000 and B
withdrew ` 10,000 for domestic purposes.
Prepare Profit and Loss Appropriation Account.
 1.18
10.18 ACCOUNTING

SOLUTION
Profit and Loss Appropriation Account for the year ended 31-Dec-22

Particulars ` Particulars `

To B’s Capital Account-Salary 6,000 By Net Profit 25,000

To A’s Capital Account-interest 1,800
To B’s Capital Account-interest 1,200
To Profit transferred to:
A’s Capital Account (5/8) 10,000
B’s Capital Account (3/8) 6,000

25,000 25,000

NOTE: Since date of drawing & rate of interest on drawing is not given, it is assumed drawings
are made on last day of year.
Let us also learn the preparation of capital accounts of partners with the help of same
illustration of partnership firm consisting of partners A and B.
ILLUSTRATION 4
A and B start business on 1st January, 2022, with capitals of ` 30,000 and ` 20,000. According
to the Partnership Deed, B is entitled to a salary of ` 500 per month and interest is to be allowed
on opening capitals at 6% per annum. The remaining profits are to be distributed amongst the
partners in the ratio of 5:3. During 2022, the firm earned a profit, before charging salary to B
and interest on capital amounting to ` 25,000. During the year A withdrew ` 8,000 and B
withdrew ` 10,000 for domestic purposes.
Prepare Capital Accounts of Partners A and B.
SOLUTION
Dr. A’s Capital Account Cr.
2022 Particulars ` 2022 Particulars `

Dec. 31 To Bank A/c- 8,000 Jan. 1 By Bank A/c 30,000

(Drawings)
To Balance c/d 33,800 Dec. 31 By Profit and Loss
appropriation A/c
Interest 1,800
 PARTNERSHIP AND LLP ACCOUNTS 10.19

By Profit and Loss

appropriation A/c-(5/8 10,000
Profit)
41,800 41,800
2023
Jan. 1 By Balance b/d 33,800

Dr. B’s Capital Account Cr.

2022 Particulars ` 2022 Particulars `

Dec. 31 To Bank A/c (Drawings) 10,000 Jan. 1 By Bank A/c 20,000

Dec. 31 To Balance c/d 23,200 Dec. 31 By Profit and Loss
appropriation A/c
- Salary 6,000
-Interest 1,200
By Profit and Loss 6,000
appropriation A/c
- (3/8 Profit)

33,200 33,200

2023
Jan. 1 By Balance b/d 23,200

1.9 FIXED AND FLUCTUATING CAPITAL

You have seen in the above example that the Capital Account of A has changed from ` 30,000
at the beginning to ` 33,800 and B’s Capital A/c from ` 20,000 to ` 23,200. This is because we
have made entries in respect of interest, salary, profit earned during the year and money taken
out by the partners in the Capital Account itself. If the Capital Accounts are prepared on this
basis, capitals are said to be fluctuating. Some firms, however, prefer to continue to show the
Capital Accounts of the partners at the same old figure. This means that no entry is to be
made in the Capital Account in respect of interest, salary, profit and drawings etc. A separate
account is to be opened for this purpose. This account is known as the Current Account or
even as Drawings Account. Under this system interest on capital if allowed, should be
calculated only on the amount of the fixed capital. If the capital Accounts are prepared on this
basis, capitals are said to be fixed.
 1.20
10.20 ACCOUNTING

Thus, there are two methods of accounting –

i) Fixed capital method and
ii) Fluctuating capital method.
In Fixed capital method, generally initial capital contributions by the partners are credited
to partners’ capital accounts and all subsequent transactions and events are dealt with
through current accounts, Unless a decision is taken to change it, initial capital account
balance is not changed.
In Fluctuating capital method, no current account is maintained. All such transactions and
events are passed through capital accounts. Naturally, capital account balance of the partners
fluctuates every time. So in fixed capital method a fixed capital balance is maintained over a
period of time while in fluctuating capital method capital account balances fluctuate all the
time.

1.9.1 Interest on Capital:

A partner is not entitled to interest on his capital as a matter of right. But if there is an
agreement, that partner would receive interest on his capital it is paid at the agreed rate only
out of profits. Interest on capital is generally calculated on the opening balance and allowance
is made for any additions of capital or withdrawals there from during the accounting period.
♦ The amount of interest is debited to interest on capital accounts and credited to the
capital accounts, if capitals are fluctuating and current accounts, if capitals are fixed.
Interest on capital account is then closed by transfer to profit and loss appropriation
account.
♦ Alternatively, credit the capital (or current) account of the partner concerned and debit
the profit and loss appropriation account.
For interest on capital

Profit and Loss Appropriation Account Dr.

To (Individual) Capital (or Current) Accounts of Partners
Interest is generally allowed on capitals of the partners. Interest on capital of partners is
calculated for the relevant period for which the amount of capital has been used in the
business. Normally, it is charged for full year on the balance of capital at the beginning of the
year unless some fresh capital is introduced during the year. On the additional capital
introduced, interest for the relevant period of utilization is calculated. For example, A has
`30,000 capital in the beginning of the year and introduces `10,000 during the year. If rate of
interest on capital is 20 % p.a., interest on A’s capital is calculated as follows:
 PARTNERSHIP AND LLP ACCOUNTS 10.21

 20   20 6 
30,000× 100  + 10,000× 100 × 12  = ` 6,000 +` 1,000 = ` 7,000
   

In case of fixed capital accounts, interest is calculated on the balance of capital accounts only
and no interest is payable / chargeable on the balance of current accounts.
Net loss and Interest on Capital: Subject to contract between the partners, interest on capitals
is to be provided out of profits only. Thus in case of loss, no interest is provided. But in case of
insufficient profits (i.e., net profit less than the amount of interest on capital), the amount of
profit is distributed in the ratio of capital as partners get profit by way of interest on capital
only.
Example
Shilpa and Sanju are partners with a capital of `1,00,000 and `1,60,000 on January 1,2022
respectively. Shilpa introduced additional capital of `30,000 on July 1, 2022 and another
`20,000 on October 31,2022. Calculate interest on capital for the year ending 2022. The rate
of interest is 9% p.a.
Solution
Interest on Capital (Shilpa):
On `1,00,000 for 12 month @ 9% = 1,00,000 × 9/100 × 12/12
= ` 9,000
On `30,000 for 6 month @ 9% = 30,000 × 9/100 × 6/12
= ` 1,350
On `20,000 for 2 month @ 9% = 20,000 × 9/100 × 2/12
= `300
Total interest on shilpa capital = ` 9,000 + ` 1350 + ` 300
= `10,650
By product method

Amount (`) Months Product

1,00,000 12 12,00,000
30,000 6 1,80,000
20,000 2 40,000
Total product 14,20,000

Interest on capital 14,20,000 × 09/100 × 1/12 = ` 10,650

 1.22
10.22 ACCOUNTING

Interest on Capital (Sanju):

On `1,60,000 for 12 month @ 9% = 1,60,000 × 9/100 × 12/12 = `14,400
9 1
By product method: = 1,60,000 × 12 = 19,20,000 = 19,20,000 × × = 14,400
100 12

1.9.2 Interest on Drawings

Sometimes interest is not only allowed on the capitals, but is also charged on drawings. In
such a case, interest will be charged according to the time that elapses between the taking
out of the money and the end of the year.
Method 1: Product Method: When Unequal amount is withdrawn at different time period.
Suppose X, a partner, has drawn the following sum of money –

`
On 29th February, 2022 500
On 31st March, 2022 400
On 30th June, 2022 600
On 31st October, 2022 800
Accounts are closed on 31st December every year. Interest is chargeable on drawings at 6%
per annum. The interest on X’s drawings will be calculated as shown below:
`
1. On ` 500 for 10 months, i.e. 25
2. On ` 400 for 9 months, i.e. 18
3. On ` 600 for 6 months, i.e. 18
4. On ` 800 for 2 months, i.e. 8
Total 69

Alternatively, it can be calculated as follows:

Amount (`) Number of months Product

500 10 5,000
400 9 3,600
600 6 3,600
800 2 1,600
2,300 13,800
 PARTNERSHIP AND LLP ACCOUNTS 10.23

Interest on ` 13,800 for one month at 6% per annum is ` 69.

If the dates on which amounts are drawn are not given, the student will do well to charge
interest for six months on the whole of the amount on the assumption that the money was
drawn evenly through out the year. In the above example, the total drawings come to ` 2,300;
and at 6% for 6 months, the interest comes to ` 69. The entry to record interest on drawings
is- debit the Capital Account of the partner concerned (or his Current Account if the capital is
fixed) and credit the Profit and Loss Appropriation Account.
If withdrawals are made evenly in the beginning of each month, interest can be calculated
easily for the whole of the amount of 6-1/2 months; if withdrawals are made at the end of
each month, interest should be calculated for 5-1/2 months. If withdrawals are mode at the
beginning of each quarter, interest can be calculated by Total drawings × Rate × 100 × 7.5/12.
However, if withdrawals are at end of each quarter, the formula : Total drawings × Rate × 100
× 4.5/12 will apply.

1.9.3 Guarantee of Minimum Profit

Sometimes, one partner can enjoy the right to have minimum amount of profit in a year as
per the terms of the partnership agreement. In such case, allocation of profit is done in a
normal way if the share of partner, who has been guaranteed minimum profit, is more than
the amount of guaranteed profit. However, if share of the partner is less than the guaranteed
amount, he takes minimum profit and the excess of guaranteed share of profit over the actual
share is borne by the remaining partners as per the agreement.
There are three possibilities as far as share of deficiency by other partners is concerned. These
are as follows:
♦ Excess is payable by one of the remaining partners.
♦ Excess is payable by at least two or all the partners in an agreed ratio.
♦ Excess is payable by remaining partners in their mutual profit sharing ratio.
If the question is silent about the nature of guarantee, the burden of guarantee is borne by
the remaining partners in their mutual profit sharing ratio.

1.9.4 Capital ratio

Partners may agree to share profits and losses in the capital ratio. When capitals are fixed,
profits will be shared in the ratio of given capitals. But if capitals are fluctuating and partners
introduce or withdraw capitals during the year, the capitals for the purpose of ratio would be
determined with reference to time on the basis of weighted average method.
 1.24
10.24 ACCOUNTING

Example
A and B formed a partnership with a capital contribution of `50,000 and `30,000 respectively
on 1st January 2022. The profits were to be shared in the capital ratio. Calculate the capital
ratio on the basis of following details:

Capital Introduced Capital Withdrawn

A (` ) B (` ) A (` ) B (` )
31 March 5,000 – – 2,000
1 July – 9,000 3,000 –
1 September 5,500 – – 1,000
1 November – 4,000 4,500 –

Answer

Total Capital Employed by A for one Month

Capital (`) Months for which capital has Product (`)
been used in the business
50,000 3 1,50,000
55,000 3 1,65,000
52,000 2 1,04,000
57,500 2 1,15,000
53,000 2 1,06,000
Total 6,40,000

Total Capital Employed by B for one Month

Capital Months for which capital has Product
been used in the business
( `) ( `)
30,000 3 90,000
28,000 3 84,000
37,000 2 74,000
36,000 2 72,000
40,000 2 80,000
Total 4,00,000

On the basis of products of both the partners, the capital ratio between A and B is 64: 40 or
8 : 5.
 PARTNERSHIP AND LLP ACCOUNTS 10.25

LLUSTRATION 5
A and B are partners sharing profits and losses in the ratio of their effective capital. They had
` 1,00,000 and ` 60,000 respectively in their Capital Accounts as on 1st January, 2022.
A introduced a further capital of ` 10,000 on 1st April, 2022 and another ` 5,000 on 1st July,
2022. On 30th September, 2022 A withdrew ` 40,000.
On 1st July, 2022, B introduced further capital of ` 30,000.

The partners drew the following amounts in anticipation of profit.

A drew ` 1,000 per month at the end of each month beginning from January, 2022. B drew
` 1,000 on 30th June, and ` 5,000 on 30th September, 2022.
12% p.a. interest on capital is allowable and 10% p.a. interest on drawings is chargeable. Date
of closing 31.12.2022. Calculate: (a) Profit-sharing ratio; (b) Interest on capital; and (c) Interest
on drawings.
SOLUTION
(a) Calculation of Effective Capital

A B

` 1,00,000 invested for 3 ` 60,000 invested for 6 months

months i.e., i.e.,

` 3,00,000 invested for 1 month 3,00,000 ` 3,60,000 invested for 1 month 3,60,000

` 1,10,000 invested for 3 ` 90,000 invested for 6 months,

months i.e., i.e.,

` 3,30,000 invested for 1 month. 3,30,000 ` 5,40,000 invested for 1 month 5,40,000

9,00,000

` 1,15,000 invested for 3

months i.e.,

` 3,45,000 invested for 1 month. 3,45,000

` 75,000 invested for 3 months,

i.e.,

` 2,25,000 invested for 1 month. 2,25,000

12,00,000
 1.26
10.26 ACCOUNTING

(b) Calculation of Interest on Capital

A = ` 12,00,000 x 12/100 x 1/12 = ` 12,000 B = ` 9,00,000 x 12/100 x 1/12 = ` 9,000

(c) Calculation of Interest on Drawings

A = ` 12,000 x 10/100 x 5.5/12 = ` 550 B = ` 1,000 x 10/100 x 6/12 = ` 50

` 5,000 x 10/100 x 3/12 = ` 125

Effective capital is in the ratio 12 : 9 therefore profit sharing ratio is 12 : 9 i.e. 4 : 3.

ILLUSTRATION 6
Ram and Rahim start business with capital of ` 50,000 and ` 30,000 on 1st January, 2022. Rahim
is entitled to a salary of ` 400 per month. Interest is allowed on capitals and is charged on
drawings at 6% per annum. Profits are to be distributed equally after the above noted
adjustments. During the year, Ram withdrew ` 8,000 and Rahim withdrew ` 10,000. The profit
for the year before allowing for the terms of the Partnership Deed came to ` 30,000. Assuming
the capitals to be fixed, prepare the Profit and Loss Appropriation Account and the Capital and
Current Accounts relating to the partners.
SOLUTION
Profit & Loss (Appropriation) Account

2022 Particulars ` 2022 Particulars `

Dec. To Rahim’s Current A/c Dec. By Net Profit 30,000

31 31
Salary 4,800 By Sundries-Interest on
To Sundries-Interest on Drawings:
Capitals : Ram’s Current A/c
Ram’s Current A/c 3,000 (6% on ` 8,000 for
Rahim’s Current A/c 1,800 6 months) 240
To Profit transferred to Rahim’s Current A/c
Ram’s Current A/c 10,470 (6% on ` 10,000 for
(1/2)
Rahim’s Current A/c 10,470 6 months) 300
(1/2)
30,540 30,540
 PARTNERSHIP AND LLP ACCOUNTS 10.27

ILLUSTRATION 7
With the help of same information given in illustration 6, let us prepare the Capital and Current
Accounts of Ram and Rahim.
SOLUTION
Ram’s Capital Account

2022 Particulars ` 2022 Particulars `

Dec. 31 To Balance c/d 50,000 Jan. 1 By Bank A/c 50,000

2023

Jan. 1 By Balance b/d 50,000

Rahim’s Capital Account

2022 Particulars ` 2022 Particulars `

Dec. 31 To Balance c/d 30,000 Jan. 1 By Bank A/c 30,000

2023

Jan. 1 By Balance b/d 30,000

Ram’s Current Account

2022 Particulars ` 2022 Particulars `

Dec. 31 To Cash Bank A/C 8,000 Dec. By Profit and Loss 3,000
(Drawings) 31 appropriation A/c - Interest
To Profit and Loss By Profit and Loss 10,470
appropriation A/c - appropriation A/c -1/2 profit
Interest on 240
Drawings
To Balance c/d 5,230

13,470 13,470

2023
Jan. 1 By Balance b/d 5,230
 1.28
10.28 ACCOUNTING

Rahim’s Current Account

2022 Particulars ` 2022 Particulars `
To Cash Bank A/c 10,000 Dec. By Profit and Loss 4,800
(Drawings) 31 appropriation A/c
Salary
Dec. To Profit and Loss Interest 1,800
31 appropriation A/c By Profit and Loss
appropriation
Interest on Drawings 300 A/c Profit 10,470
To Balance c/d 6,770
17,070 17,070
2023
Jan. 1 By Balance b/d 6,770

ILLUSTRATION 8
A and B were partners in a firm sharing profits and losses in the ratio of 3:2. They admit C for
1/6th share in profits and guaranteed that his share of profits will not be less than ` 250,00,000.
Total profits of the firm for the year ended 31st March, 2022 were ` 900,00,000. Calculate share
of profits for each partner when:
1. Guarantee is given by firm.
2. Guarantee is given by A

3. Guarantee is given by A and B equally.

SOLUTION
Case1.When Guarantee is given by firm.
Profit and Loss Appropriation Account
For the year ending on 31st March, 2022

Particulars ` Particulars `
To A’s Capital A/c (3/5 of 3,90,00,000 By Profit and Loss, A/c 9,00,00,000
` 650,00,000) 2,60,00,000
To B’s Capital A/c (2/5 of
` 650,00,000)
To C’s Capital A/c (1/6 of
` 9,00,00,000 or ` 25,000,000 which 2,50,00,000
ever is more
9,00,00,000 9,00,00,000
 PARTNERSHIP AND LLP ACCOUNTS 10.29

Case2. When Guarantee is given by A

Profit and Loss Appropriation Account
For the year ending on 31st March, 2022
Particulars ` Particulars `
To A’s Capital A/c By Profit and Loss, A/c 9,00,00,000
(3/6 of ` 9,00,00,000) (net profits)
4,50,00,000
Less: Deficiency
borne for C (1,00,00,000) 3,50,00,000
To B’s Capital A/c
(2/6 of ` 9,00,00,000) 3,00,00,000
To C’s Capital A/c
(1/6 of ` 9,00,00,000) 1,50,00,000
Add: Deficiency
Recovery from A 1,00,00,000 2,50,00,000
9,00,00,000 9,00,00,000

Case3. When Guarantee is given by A and B equally.

Profit and Loss Appropriation Account
For the year ending on 31st March, 2022

Particulars ` Particulars `
To A’s Capital A/c By Profit and Loss, 9,00,00,000
(3/6 of ` 9,00,00,000) 4,50,00,000 A/c (net profits)
Less: Deficiency borne
for C (1/2 of
1,00,00,000) (50,00,000) 4,00,00,000
To B’s Capital A/c
(2/6 of ` 9,00,00,000) 3,00,00,000
Less: Deficiency borne
for C (1/2 of
1,00,00,000) (50,00,000) 2,50,00,000
To C’s Capital A/c
(1/6 of ` 9,00,00,000) 1,50,00,000
Add: Deficiency
Recovery from A 50,00,000
Add: Deficiency
Recovery from B 50,00,000 2,50,00,000
9,00,00,000 9,00,00,000
 1.30
10.30 ACCOUNTING

SUMMARY
♦ The Indian Partnership Act defines partnership as “the relationship between persons
who have agreed to share the profit of a business carried on by all or any of them
acting for all.”
♦ The LLP will be a separate legal entity, liable to the full extent of its assets, with the
liability of the partners being limited to their agreed contribution in the LLP which may
be of tangible or intangible nature or both tangible and intangible in nature.
♦ In the partnership firm relations among the partners will be governed by mutual
agreement. The agreement is known as Partnership Deed which is to be properly
stamped.
♦ In the absence of an agreement, the interest and salary payable to a partner will be
paid only if there is profit.
♦ During the course of business, a partnership firm will prepare Trading Account and a
Profit and Loss Account at the end of every year.
♦ There are two methods of accounting –
i. Fixed capital method and
ii. Fluctuating capital method.
In fixed capital method, generally initial capital contributions by the partners are
credited to partners’ capital accounts and all subsequent transactions and events are
dealt with through current accounts, Unless a decision is taken to change it, initial
capital account balance is not changed.

In fluctuating capital method, no current account is maintained. All such transactions

and events are passed through capital accounts. Naturally, capital account balance of
the partners fluctuates every time. So in fixed capital method a fixed capital balance is
maintained over a period of time while in fluctuating capital method capital account
balances fluctuate all the time.
♦ Interest on capital of partners is calculated for the relevant period for which the
amount of capital has been used in the business.
♦ Subject to contract between the partners, interest on capitals is to be provided out of
profits only. Thus in case of loss, no interest is provided. But in case of insufficient
profits (i.e., net profit less than the amount of interest on capital), the amount of profit
is distributed in the ratio of capital as partners get profit by way of interest on capital
only.
 PARTNERSHIP AND LLP ACCOUNTS 10.31

♦ Sometimes, one partner can enjoy the right to have minimum amount of profit in a
year as per the terms of the partnership agreement. In such case, allocation of profit is
done in a normal way if the share of partner, who has been guaranteed minimum profit,
is more than the amount of guaranteed profit. However, if share of the partner is less
than the guaranteed amount, he takes minimum profit and the excess of guaranteed
share of profit over the actual share is borne by the remaining partners as per the
agreement.

TEST YOUR KNOWLEDGE

True and False
1. In absence of any agreement partners share profits of the business in the ratio of their
capital contribution.
2. Profit sharing ratio and capital contribution ratio need not be same.
3. Every partnership firm must register itself with Registrar of firms.
4. A partner can advance loan to the partnership firm in addition to capital contributed by him.
5. A partner can demand interest on capital even if it is not provided in the partnership deed.
6. If a partner does not take part in day to day business activities of the firm then he is not
entitled to any share of profit.

7. Interest should be paid @ 6% p.a. on partners’ loan even if it is not provided in the
partnership deed.
8. Husband and wife cannot be partners in the same firm.
9. One senior partner is Principal and other partners are his agents.
10. Partners are the agents of the firm and each other.

Multiple Choice Questions

1. If a firm prefers Partners’ Capital Accounts to be shown at the amount introduced by the
partners as capital in firm then entries for salary, interest, drawings, interest on capital
and drawings and profits are made in
(a) Trading Account
(b) Profit and Loss Account
(c) Partners’ Current Account
 1.32
10.32 ACCOUNTING

2. In the absence of any agreement, partners are liable to receive interest on their Loans @
(a) 12% p.a.
(b) 10% p.a.
(c) 6% p.a.
3. The relationship between persons who have agreed to share the profit of a business
carried on by all or any of them acting for all is known as ………
(a) Partnership.
(b) Joint Venture.

(c) Association of Persons.

4. Firm has earned exceptionally high profits from a contract which will not be renewed. In
such a case the profit from this contract will not be included in ………
(a) Profit sharing of the partners.
(b) Calculation of the goodwill.
(c) Both.

5. In the absence of an agreement, partners are entitled to

(a) Interest on Loan and Advances.
(b) Commission.
(c) Salary.
6. Partners are supposed to pay interest on drawings only when ……… by the ………
(a) Provided, Agreement.

(b) Agreed, Partners

(c) Both (a) & (b) above.
7. When a partner is given a guarantee by the other partner, loss on such guarantee will
be borne by
(a) Partner who gave the guarantee
(b) All the other partners.
(c) Partnership firm.
 PARTNERSHIP AND LLP ACCOUNTS 10.33

8. A, B and C had capitals of ` 50,000; ` 40,000 and ` 30,000 respectively for carrying on
business in partnership. The firm’s reported profit for the year was ` 80,000. As per
provisions of the Indian Partnership Act, 1932, find out the share of each partner in the
above amount after taking into account that no interest has been provided on an
advance by A of ` 20,000, in addition to his capital contribution.
(a) ` 26,267 for Partner B and C & ` 27,466 for partner A.
(b) ` 26,667 each partner.
(c) ` 33,333 for A, ` 26,667 for B and ` 20,000 for C.
9. X, Y and Z are partners in a firm. At the time of division of profit for the year there was
dispute between the partners. Profits before interest on partner’s capital was ` 6,000 and
X wanted interest on capital @ 20% as his capital contributions was ` 1,00,000 as
compared to that of Y and Z which was ` 75,000 and ` 50,000 respectively.
(a) Profits of ` 6,000 will be distributed equally with no interest on either Capital.
(b) X will get the interest of ` 20,000 and the loss of ` 14,000 will be shared equally.

(c) All the partners will get interest on capital and the loss of ` 39,000 will be shared
equally.
10. X, Y and Z are partners in a firm. At the time of division of profit for the year there was
dispute between the partners. Profits before interest on partner’s capital was ` 6,000 and
Y determined interest @ 24% p.a. on his loan of ` 80,000. There was no agreement on
this point.
Calculate the amount payable to X, Y and Z respectively.
(a) ` 2,000 to each partner.
(b) Loss of ` 4,400 for X and Z & Y will take home ` 14,800.

(c) ` 400 for X, ` 5,200 for Y and ` 400 for Z.

11. X, Y and Z are partners in a firm. At the time of division of profit for the year there was
dispute between the partners. Profits before interest on partner’s capital was ` 6,000 and
Z demanded minimum profit of ` 5,000 as his financial position was not good. However,
there was no written agreement. Profits to be distributed to X, Y and Z will be
(a) Other partners will pay Z the minimum profit and will suffer loss equally.

(b) Other partners will pay Z the minimum profit and will suffer loss in capital ratio.
(c) ` 2,000 to each of the partners.
 1.34
10.34 ACCOUNTING

Theory questions
1. Write short notes on:
(a) Features of Partnership
(b) Powers of Partners

2. Distinguish between fixed capital and fluctuating capital.

3. What are the liabilities of designated partners in case of LLP.

Practical questions
1. Weak, Able and Lazy are in partnership sharing profits and losses in the ratio of 2:1:1. It
is agreed that interest on capital will be allowed @ 10% per annum and interest on
drawings will be charged @ 8 % per annum. (No interest will be charged/allowed on
Current Accounts).
The following are the particulars of the Capital and Drawings Accounts of the partners:

Weak Able Lazy

` ` `

Capital (1.1.2022) 75,000 40,000 30,000

Current Account (1.1.2022) 10,000 5,000 (Dr.) 5,000
Drawings 15,000 10,000 10,000

The draft accounts for 2022 showed a net profit of ` 60,000 before taking into account
interest on capitals and drawings and subject to following rectification of errors:
(a) Life Insurance premium of Weak amounting to ` 750 paid by the firm on 30th
June, 2022 has been charged to Miscellaneous Expenditure A/c.
(b) Repairs of Machinery amounting to ` 10,000 has been debited to Plant Account
and depreciation thereon charged @ 20%.
(c) Travelling expenses of ` 3,000 of Able for a pleasure trip to U.K. paid by the firm
on 30th June, 2022 has been debited to Travelling Expenses Account.
You are required to prepare the Profit and Loss Appropriation Account, Current Accounts
of partners Weak, Able and Lazy for the year ended 31st December, 2022.

2. Ram and Rahim are in partnership sharing profits and losses in the ratio of 3:2. As Ram,
on account of his advancing years, feels he cannot work as hard as before, the chief clerk
of the firm, Ratan, is admitted as a partner with effect from 1st January, 2022, and
 PARTNERSHIP AND LLP ACCOUNTS 10.35

becomes entitled to 1/10th of the net profits and nothing else, the mutual ratio between
Ram and Rahim remaining unaltered.

Before becoming a partner, Ratan was getting a salary of ` 500 p.m. together with a
commission of 4% on the net profits after deducting his salary and commission.
It is provided in the partnership deed that the share of Ratan’s profits as a partner in
excess of the amount to which he would have been entitled if he had continued as the
chief clerk, should be taken out of Ram’s share of profits.
The net profit for the year ended December 31, 2022 is ` 1,10,000. Show the distribution
of net profit amongst the partners.
3. X and Y are partners. As per terms of agreement interest is allowed on capital at 8% p.a.
and charged on drawings at 10% p.a. X withdrew ` 40,000 pm at the end of each month
and Y withdrew ` 120,000 at the end of each quarter. You are required to fill the missing
figures in following accounts:
Profit and Loss Appropriation Account for the year ended March 31, 2022
Particulars ` Particulars `

To …? By Profit and Loss A/c (Net ?

To Interest on Capital A/c profit)

X 160,000 By Interest on Drawings A/c ?

Y ? 288,000 X ?

To profit transferred to Y ?
Capital A/c

X ( 2/3) ?
Y (1/3) 280,000 ?

? ?
Partner’s Capital Accounts

Particulars X Y Particulars X Y
To …? ? ? By …? ? ?
To …? ? ? By Salary A/c 3,60,000 ?
To …? ? ? By …? ?
By …? ? ?
? ? ? ?
 1.36
10.36 ACCOUNTING

ANSWERS/HINTS
True and False
1. False: In absence of any agreement partners share profits equally and not in capital
contribution ratio.
2. True: Profit sharing can be different from the that of the capital introduced by each of
the partner. Not necessary that partner contributing more capital should have a higher
profit sharing ratio and vice versa.
3. False: Registration of firms is not compulsory under Indian Partnership Act, 1932.

4. True: Where the partnership deed is absent, then the interest shall be paid at 6% per
annum. So the interest on the loan to be paid to the partner.
5. False: Interest on capital can be paid only if it is provided in the partnership deed.

6. False: Every partner need not take part in the business. Even if a partner does not take
part in the business he is entitled for his share of profit.
7. True: In absence of Partnership deed, Interest at the rate of 6%.p.a is to be allowed on
a partner’s loan to the firm.
8. False: Husband and wife can be partners in the same firm.
9. False: There is no senior or junior partner. Every partner is agent/principal of other
partners.
10. True: Concept of agency applies to every partner and the firm as well. So each partner
is a principal to and agent of every other partner and to the firm.

Multiple Choice Questions

1. (c) 2. (c) 3. (a) 4. (b) 5. (a) 6. (c)

7. (a) 8. (a) 9. (a) 10. (c) 11. (c)

Theoretical Questions
1. (a) The following four essential features of a partnership, namely:

(i) Partnership is the result of an agreement: It means that the relation of

partnership arises from contract and not from status.
(ii) Business: A partnership can exist only in business.
 PARTNERSHIP AND LLP ACCOUNTS 10.37

(iii) Sharing of profit: The persons concerned must agree to share the
profits of the business.

(iv) Mutual agency: It means that the business is to be carried on by all or

any of them acting for all. Thus, if the person carrying on the business
acts not only for himself but for others also so that they stand in the
positions of principals and agents, they are partners.
(b) Powers of partners are the following:
(i) Buying and selling of goods;
(ii) Receiving payments on behalf of the firm and giving valid receipt;
(iii) Drawing cheques and drawing, accepting and endorsing bills of
exchange and promissory notes in the name of the firm;

(iv) Borrowing money on behalf of the firm with or without pledging the
inventories-in-trade;
(v) Engaging servants for the business of the firm.
2. (a) In fixed capital method, generally initial capital contributions by the partners
are credited to partners’ capital accounts and all subsequent transactions and
events are dealt with through current accounts, Unless a decision is taken to
change it, initial capital account balance is not changed.
In fluctuating capital method, no current account is maintained. All such
transactions and events are passed through capital accounts. Naturally, capital
account balance of the partners fluctuates every time. So in fixed capital
method a fixed capital balance is maintained over a period of time while in
fluctuating capital method capital account balances fluctuate all the time.

3. Please refer para 1.3.6

Practical Problems
1. Weak, Able & Lazy
Profit and Loss Appropriation Account for the year ended
31st December, 2022
` ` ` `
To Interest on By Net Profit (Adjusted) 55,750
Capital:
Weak 7,500 By Interest on Drawings:
 1.38
10.38 ACCOUNTING

Able 4,000 Weak 630

Lazy 3,000 14,500 Able 520
Lazy 400 1,550
To Partner’s Current
A/cs-
Share of profit :
Weak 21,400
Able 10,700
Lazy 10,700 42,800
57,300 57,300

Working Notes:
(i) Adjusted Profit

` `

Net Profit as per Profit & Loss A/c 60,000

Add : Drawings by Weak : Life Insurance Premium of Weak 750
charged to Miscellaneous Expenditure A/c of the Firm
Drawings by Able : Travelling expenses of Able in 3,000
connection with pleasure trip to U.K. charged to travelling 63,750
expenses A/c of the firm
Less: Repairs to Machinery wrongly capitalised 10,000
Less : Depreciation charged @ 20% (2,000) (8,000)

55,750

(ii) Interest on Drawings :

Weak Able Lazy

` ` `

Drawings 15,000 10,000 10,000

Add : Rectification adjustments 750 3,000 –
15,750 13,000 10,000
Interest @ 8% p.a. for 6 months 630 520 400
 PARTNERSHIP AND LLP ACCOUNTS 10.39

Partners’ Current Accounts

Weak Able Lazy Weak Able Lazy

` ` ` ` ` `
To Balance – – 5,000 By Balance 10,000 5,000 –
b/d b/d
To Drawings 15,000 10,000 10,000 By Profit & 7,500 4,000 3,000
Loss App. A/c
To Life (Int. on
Insurance capital)
Premium 750 – – By Profit & 21,400 10,700 10,700
Loss App. A/c
To Travelling – 3,000 – (Share of
Expenses. profit)
To Profit &
Loss App.
A/c
(Int. on 630 520 400
drawings)
To Balance 22,520 6,180 – By Balance – – 1,700
c/d c/d
38,900 19,700 15,400 38,900 19,700 15,400

2. Amount due to Ratan as a Chief Clerk

`
Salary 6,000
Add: Commission 4/104 (` 1,10,000 - ` 6,000) 4,000
10,000
Less: Share of Profit as a partner (1/10th of 1,10,000) (11,000)
Excess chargeable to Ram (1,000)

Profit and Loss Appropriation Account for the year ended December 31,2022

Particulars ` Particulars `
To Share of Profit A/c By Profit and Loss A/c
Ram [3/5 of (` 1,10,000 – 59,000 (Net profit) 1,10,000
` 10,000) – ` 1,000]
 1.40
10.40 ACCOUNTING

Rahim [2/5 of (` 1,10,000 – 40,000

` 10,000)]
Ratan [1/10 of ` 1,10,000] 11,000
1,10,000 1,10,000

3. Profit and Loss Appropriation Account for the year ended March 31, 2022

Particulars ` Particulars `
To Salary to X 3,60,000 By Profit and Loss A/c (Net 14,48,000
To Interest on Capital A/c profit) 40,000
X 1,60,000 By Interest on Drawings A/c
Y 1,28,000 2,88,000 X 22,000
Y 18,000
To profit transferred to Capital
A/c
X ( 2/3) 5,60,000
Y (1/3) 2,80,000 8,40,000
14,88,000 14,88,000

Partner’s Capital Accounts

Particulars X Y Particulars X Y
To Drawing A/c 4,80,000 4,80,000 By Balance b/d 20,00,000 16,00,000
To Interest on 22,000 18,000 By Salary A/c 3,60,000 1,28,000
Drawings A/c 25,78,000 15,10,000 By Interest on Capital 1,60,000
To Balance c/d A/c
By Profit and Loss App 5,60,000 2,80,000
A/c
30,80,000 20,08,000 30,80,000 2,008,000

Working Notes:

1. X’s Share of Profit 2,80,000 x 3/1 x 2/3 = 5,60,000

2. Interest on Drawings
X = 4,80,000 x 11/2 x 1/12 x 10/100 = 22,000

Y = 4,80,000 x 9/2 x 1/12 x 10/100 = 18,000

3. Y’s Interest on Capital 2,88,000 – 1,60,000 = 128,000