Financial 2 - Partnerships

Question 1

Treatment of Assets and Liabilities in a Partnership

Answer 1

RULE: Assets contributed by a partnership (or sole proprietorship) to a corporation in its formation are valued at the assets fair market value, less any related liabilities assumed by the corporation (ex. mortgage note on real property). Stock issued is credited at par value and any difference is credited to additional paid in capital

Simply, Assets contributed by partners to a partnership are valued at FMV of the assets, net of any related liabilities.

Partners’ contributions are valued at FMV at the date of contribution. It is credited to the Partner’s capital account

FMV of Assets Contributed
- Liabilities assumed
    Net Assets
Common Stock (Shares * Par value)
Additional Paid in Capital (credit)
    Shareholders' Equity

Question 2

Capital Ratios vs. Profit and Loss Ratios

Answer 2

• Capital Ratios are inappropriate to reflect operating effectiveness of the old partners. Thus, bonus paid has the same impact as additional net income. This is shared in the old profit and loss ratio

Question 3

Goodwill Method

Answer 3

• Always maintain the flow of net assets in order to know where to allocate the goodwill for the Initial Capital balance calculation
• The goodwill method increases the individual partners accounts and also changes total net assets of the partnership

Question 4

Bonus Method

Answer 4

• The bonus method increases (or decreases) the individual partners accounts without changing total net assets of the partnership.
  If the capital accounts of the remaining partner decrease, the bonus method has been used because settlement of the partner leaving has been charged against their capital accounts