Partnership & Corporation

I. Partnership Formation

Partnership – an unincorporated association of two or more individuals in doing

business for profit or for practice. A contract is made when the partners write up an
agreement which contains how they will form, operate, divide profits & losses and
dissolve the partnership if needed be.

Characteristics of a Partnership:
1. Mutual Contribution (Formation) – a partnership cannot exist without pooling
money, property or industry to a common fund. It is much less formal compared
to a corporation, minimum of 2 individuals, only needs verbal agreement but
better if in writing, under SEC’s jurisdiction
2. Separate Legal Personality – the partnership has a juridical personality distinct
from the partners meaning it can sue/be sued, transact and acquire properties in
its name
3. Mutual Agency – partners acts as agents of the partnership for the purpose
of/limited to its business meaning the entering or binding of contracts and running
the operations of the partnership is run by the agents
4. Co-ownership of property – each partner is a co-owner of the properties
invested in the partnership and each has an equal right with his partners to
possess specific partnership property for partnership purposes
5. Co-ownership of profits – each partner is entitled to his/her share in the
partnership profit. A stipulation excluding one or more partners from the profit is
void
6. Limited Life – creation of the partnership is consensual meaning it is carried on
by individuals and cannot exist separate and apart from those individuals. Should
something happen to take away the ability of a partner to contract (death,
bankruptcy or lack of legal capacity/unlawful), the partnership may be terminated.
Also, the life of a partnership may be limited by terms in the partnership contract,
or it may be terminated by any one of the partners at will
7. Transfer of Ownership – upon dissolution, the transfer of ownership, whether to
a new or existing partner, requires the approval of the remaining partners
8. Unlimited Liability – each partner may be held liable for partnership debt after
all partnership assets have been exhausted. If partner is insolvent(unable to
pay), other partners who are solvent will take up the debt

Advantages and Disadvantages of a Partnership:

 Two heads are better than one – in terms of ideas, solutions and capital (better
than a single proprietor)
  Sometimes two or more partnered individuals can come into a disagreement
 Ease of formation since it can be done verbally/ less formal compared to a
corporation
 Easily dissolved as stated in “Limited Life”
 Lesser regulations compared to corporations
 Taxed higher than a sole proprietorship – 30% (unless it’s GPP – 10%)

Classification of Partnerships

1. General Partnership – combination of general and industrial partners. Two or

more individuals partnered in terms of property, service, or capital to form a
business for profit. Partners are liable for the partnership’s debts after all assets
have been exhausted. Taxed at 30%.
2. General Professional Partnership – same as a general partnership except the
purpose of the partnership is to exercise their respective professions and not for
profit. Income gained during practice is purely incidental. Taxed at 10%.
3. Limited Partnership – composed of general and limited partners. A limited
partner is liable only to the amount of his/her contributed assets to the
partnership. This means that there should at least be one general partner in this
kind of partnership. Ex: ABC Ltd. – shows it’s a limited partnership
4. Universal Partnership
a. Of all present property – all partner’s properties is placed into a common
fund with the intent to divide the fruits of said properties and the properties
itself among the partners
b. Of profits – all partners retain ownership of the properties placed into the
common fund wherein only the fruits of the properties and profits gained from
their contributed industry are divided among themselves

Majority of Partnerships are De jure meaning they were formed in accordance with the
law under SEC. Some are De facto probably because they are lacking in compliance
with what the law requires in forming a partnership.
Partnership by estoppel is De facto in which it is presumed to third parties that there
exists a partnership when in reality there is none. However, a partnership by estoppel
is De facto as to their liabilities only.

5. Secret Partnership – existence of a partner in a partnership is not known to the

public or kept secret by the partners from the public
6. Open Partnership – existence of partner is made known to the public
7. Commercial Partnership – partnership revolving around manufacturing, trading,
or merchandising of goods for profit
 8. Trading Partnership – its primary purpose revolves around the buying and
selling of finished merchandise or manufactured goods
9. Non- trading Partnership – selling their services for a fee

Classification of Partners

1. Capitalist Partner – contributes money or property

2. Industrial Partner – contributes only personal services
3. Capitalist-Industrial Partner – contributes money/property and personal
services
4. General Partner – a partner who is liable for the partnership’s debts upto the
extent of his/her assets
5. Limited Partner – a partner who is liable up to the extent of his/her contribution
6. Nominal Partner – a partner who has no investment, no participation in the
business but allows his/her name to be used in the interest of the business
7. Secret Partner – a partner not made known but is active in running partnership
operations
8. Silent Partner – is not active in running operations but is a general partner
9. Dormant Partner – a partner who has invested in the partnership but is not
active in operations and is not known as a partner
10. Managing Partner – appointed as the manager among partners
11. Liquidating Partner – partner who is given the task of settling the affairs of the
partnership after dissolution

Accounting for Partnership – is practically the same as a sole proprietor except when
it comes to accounting for equity. The equity of a partnership shows the capital
balances of each partner. Partners can do temporary withdrawals from the partnership
which is debited on their drawing accounts upon foreseeing the profit to come. These
later on are closed to their corresponding capital accounts at the end of the period.
There are four major factors when it comes to accounting for partnership equity:
Formation, Operation, Dissolution and Liquidation

Loans to/from Partners - A partner who withdraws a noticeable amount of cash from
the partnership with the intent of paying it back is called loans Receivable – Partner. If
partner does the opposite (lends money to the partnership), this is called Loans Payable
- Partner account. Distinguishing one from the other is vital during liquidation because
loans payable to partners must be paid first before paying the outside creditors. These
loans are considered first priority.

Order in Valuation of Partner Contributions:

1 -> Agreed Value - value of the asset agreed upon by the partners during contribution
2 -> Fair market value - value based on reasonable knowledge of buyer & seller not
based on compulsion
3 -> Book value (carrying value) – historical cost of the asset less accumulated
depreciation

For pre-existing businesses entering into a partnership, their books need to be adjusted
according to what value they agreed upon or in the absence thereof, based on the fair
market value. Adjustments are needed primarily to make the capital balances of the
partners equitable.

Opening entries of a partnership generally include either an individual with no

preexisting business entering a partnership, conversion of a sole proprietorship to a
partnership, a combination of an individual with preexisting and one with none or
two/more individuals with preexisting businesses entering a partnership.

Example 1: Individual with no preexisting business entering a partnership

On January 1, A and B decided to form a partnership called AB for life. A & B both
contributed 10,000 pesos in cash. They also contributed brand new cars of the same
make and model worth 1,000,000 pesos (500,000 each).

The information is directly recorded in the partnership books since both have no
preexisting businesses.

January 1,2020 Cash 20,000

Transportation equipment 1,000,000
A, Capital 510,000
B, Capital 510,000

After formation the statement of financial position should look like this:

AB for life
Statement of Financial Position
January 1,2020

Assets
Cash P 20,000
Transportation equipment P 1,000,000
Total Assets P 1,020,000
Liabilities and Owner’s Equity
A, Capital P 510,000
B, Capital P 510,000
Total Liabilities and Owner’s Equity P 1,020,000

Example 2: Individual who is a sole proprietor and an individual who has none

Marc and Jacobs formed a partnership wherein Marc contributes cash while Jacobs is
to transfer the assets and liabilities of his business. Account balances of Jacobs’ books
are as follows:

Cash 300,000
Accounts receivable 450,000
Inventories 240,000
Accounts payable 90,000
Jacobs, Capital 900,000

The partners agreed on the following conditions:

1. An allowance of bad debts amounting to 22,000 is to be stated
2. The inventories are to be valued at their current replacement cost of 270,000
3. Prepaid expenses of 12,000 and accrued expenses of 5,000 are to be
recognized
4. Jacobs is to be credited for an amount equal to the net assets transferred
5. Marc will contribute cash that will equate half of the interest in the partnership

Steps to follow: Adjust books of Jacobs first to the agreed values->Close books after
adjustments->Opening entries in the new partnership & record investment of Marc.

Adjustments:
a. Jacobs, Capital 22,000
Allowance for bad debts 22,000
b. Inventories 30,000
Jacobs, Capital 30,000
c. Prepaid expense 12,000
Accrued expense 5,000
Jacobs, Capital 7,000
Accrued expense is treated as a liability since it is an expense not yet paid.
900,000 – 22,000 + 30,000 + 7,000 = 915,000 ->balance of Jacobs after adjusting

Closing of books:
 a. Jacobs, Capital 915,000
Accrued expense 5,000
Accounts payable 90,000
Allowance for bad debts 22,000
Cash 300,000
Accounts receivable 450,000
Inventories 270,000
Prepaid expenses 12,000
To close the books of Jacobs

Opening entries of the new partnership:

a. Cash 300,000
Accounts receivable 450,000
Inventories 270,000
Prepaid expenses 12,000
Allowance for bad debts 22,000
Accounts payable 90,000
Accrued expense 5,000
Jacobs, Capital 915,000
To record the investment of Jacobs

b. Cash 915,000
Marc, Capital 915,000

II. Partnership Operations