ACCOUNTING FOR PARTNERSHIPS

Chapter 2: Partnership Operations and Financial Reporting

PARTNERS' EQUITY IN ASSETS CONTRASTED WITH SHARE IN PROFITS OR LOSSES

Definition and Agreement on Profit/Loss Sharing

 The basis on which profits or losses are shared is a matter of agreement among the partners."
 The equity of a partner in the net assets of the partnership should be distinguished from a partner's share in profits or losses.
 Profits or losses may not necessarily be the same as their capital contribution ratio.
Flexible Profit/Loss Ratios
 Partners may agree on any type of profit and loss ratio regardless of the amount of their respective capital account balances.
 Daganta is entitled to one-third of the profit or loss, although his capital account may represent much more or much less than one-third of the total
partners' capital.

FACTORS TO CONSIDER IN ARRIVING AT A PLAN FOR DIVIDING PROFITS OR LOSSES

Contributions and Formulation of Ratios:

 Partnership profits stem from combining the contributions of money, property, or industry.
 Considerations for an equitable profit and loss ratio include the capital invested by each partner, the time devoted to the business, and other contributions.
Profit-Sharing Plans and Emphasized Factors:
 Profit-sharing plans can highlight personal services or capital invested by partners.
 Some agreements weigh both the amount and quality of managerial services and the capital invested by partners in determining profit and loss ratios.
 Allowances may be given for salaries and interest on capital balances as a preliminary step in profit and loss distribution.
Additional Factors to Consider:
 Partners with considerable personal financial resources enhance the partnership's credit rating, crucial for attracting creditors.
 A partner's reputation in a profession or industry, even if not actively involved in operations, can significantly contribute to partnership success.
Incorporating Additional Factors into Profit/Loss Distribution:
 Consideration of a partner's financial strength and professional reputation may be incorporated into the plan to determine the ratio for dividing remaining
profits or losses.
add note:
 Consideration for salaries or bonuses based on talent and time contributed.
 Consideration of personal financial resources and professional reputation.

PERFORMANCE METHODS IN PROFIT AND LOSS SHARING

Many partnerships adopt profit and loss sharing arrangements that factor in individual performance to incentivize partners.
Performance-Based Allocation - Bonus
- Allocation of profits based on performance is commonly referred to as a bonus.
Examples of Performance Criteria:
1. Chargeable Hours:
- Defined as the total hours a partner dedicates to client-related assignments.
- Excess hours beyond a standard may be given additional weight.
2. Total Billings:
- Encompasses the total amount billed to clients for work performed and supervised by a partner.
- Weight may be assigned to billings surpassing a predefined norm.
3. Write-Offs:
- Consists of uncollectible billings.
- Weight may be given to a write-off percentage below a predetermined norm.
4. Promotional and Civic Activities:
- Involves time spent on developing future business and enhancing the partnership's community standing.
- Weight may be given to time exceeding a norm or specific accomplishments leading to new clients.
5. Profits in Excess of Specified Levels:
- Designated partners often receive a certain percentage of profits exceeding a specified earnings level.
Purpose of Performance Criteria:
- These criteria aim to provide incentives for partners to excel in various aspects, contributing to the overall success of the partnership.
Flexibility in Design:
- Partnerships have the flexibility to tailor performance criteria to their specific needs and goals.
- The bonus system encourages partners to go above and beyond in their roles, fostering a culture of excellence within the partnership.

RULES FOR THE DISTRIBUTION OF PROFITS OR LOSSES

General Principles:
- Profits or losses are distributed in accordance with the partnership agreement.
Agreed Share in Profits:
- If only the share of each partner in profits is agreed upon, the share in losses shall be in the same proportion.
Default Rules in the Absence of Stipulation:
- In the absence of stipulation, the share of each partner in profits or losses is based on their contributions.
- For capitalist partners, it follows the ratio of original capital investments or, in its absence, the ratio of capital balances at the beginning of the year.
- Industrial partners are not liable for losses.
Distribution of Profits to Industrial Partners:
- Industrial partners shall receive a share in profits that is just and equitable.
- If an industrial partner contributes capital, their share in profits is proportionate to their capital contribution.
Void Stipulations:
- Any stipulation excluding one or more partners from profit or loss shares is void.
- Partnership existence must serve the common benefit or interest of all partners.

SUMMARY OF LEGAL PROVISIONS:

Profits:
1. Profits divided according to the partnership agreement.
2. No Agreement:
- For capitalist partners: Division based on capital contributions.
- For industrial partners: A just and equitable share before capitalist partners.
Losses:
1. As to industrial partners, a just and equitable share before capitalist partners.
2. No Agreement on Losses:
- Losses follow the partnership agreement if stipulated with profits.
- For capitalist partners: Division based on capital contributions.
- For industrial partners: No liability for losses.
Rationale for Industrial Partner's Non-Liability for Losses:
- Industrial partners are not liable for losses due to the inability to withdraw labor, unlike capitalist partners who can withdraw capital.
- If no profits are realized, the industrial partner's efforts are considered a contribution to the loss.
CORRECTION OF PRIOR PERIOD ERRORS

Discovery of Errors:
 Business entities periodically discover errors in profit measurement from past accounting periods.
 While good internal control and due care can minimize financial reporting errors, complete elimination is not guaranteed.
IAS No. 8 Definition and Types of Errors:
 Per International Accounting Standards (IAS) No. 8, errors in prior periods are omissions or misstatements discovered in the current period.
 Errors may stem from mathematical mistakes, misapplication of accounting policies, misinterpretation of facts, fraud, or oversights.
 Examples include errors in depreciation estimation, inventory valuation, and omission of accruals for revenue and expenses.
Restatement and Reporting Procedure:
 Material prior periods must be restated to accurately present financial position and results.
 Correction involves adjusting opening balances of partners' equity and affected assets/liabilities.
 Correction of a prior period error is excluded from the profit or loss for the period in which the error is discovered.
Effect of Error Correction:
 If an error led to an understatement of profit in previous periods, a correcting entry is needed to increase Capital.
 If an error overstated profit in prior periods, Capital would need to be decreased.
 The effect of error correction is divided based on the applicable profit and loss ratio.
IAS No. 8 Guidance:
 IAS No. 8, Accounting Policies, Changes in Accounting Estimates and Errors, provides guidance on handling prior period errors.
 Restating financials to reflect the accurate state had the error not occurred ensures transparent reporting.
Importance of Correction:
 Correction is crucial for maintaining accurate financial records and presenting a true and fair view of the business's financial position.
 By adhering to IAS No. 8 guidelines, businesses ensure consistency and reliability in financial reporting.

DISTRIBUTION OF PROFITS OR LOSSES BASED ON PARTNERS' AGREEMENT

General Distribution Principles:

- In general, profits or losses are divided in accordance with the agreement of the partners.
- The ratio in which profits or losses from partnership operations are distributed is recognized as the profit and loss ratio.
Agreed Schemes for Distribution:
1. Equally or in Other Agreed Ratio:
- Partners may agree to divide profits or losses equally or in a different agreed ratio.
2. Based on Partners' Capital Contributions:
a. Ratio of original capital investments.
b. Ratio of capital balances at the beginning of the year.
c. Ratio of capital balances at the end of the year.
d. Ratio of average capital balances.
3. Interest on Partners' Capital and Balance in Agreed Ratio:
- Allowance for interest on partners' capital with the remaining balance distributed according to an agreed ratio.
4. Salaries to Partners and Balance in Agreed Ratio:
- Allowance for salaries to partners with the remaining balance distributed according to an agreed ratio.
5. Bonus to Managing Partner Based on Profit and Balance in Agreed Ratio:
- Allowance for a bonus to the managing partner based on profit, with the remaining balance distributed according to an agreed ratio.
6. Combination of Allowances (Salaries, Interest, Bonus) and Balance in Agreed Ratio:
- Combining allowances for salaries, interest on partners' capital, bonus to the managing partner, and the remaining balance distributed according to an agreed
ratio (combination of 3 to 5).
Residual Sharing Ratio:
- Partners can agree not to use a residual sharing ratio ('the balance in an agreed ratio') if profits do not exceed total salary and interest allowances.
- In such a case, partners must agree on the priority of various profit or loss distribution schemes.
Flexibility and Partner Agreement:
- The flexibility allows partners to tailor the distribution scheme based on their preferences and circumstances.
- Agreement on the distribution method ensures clarity and fairness among the partners.

RATIO OF AVERAGE CAPITAL BALANCES

Challenges with Traditional Capital Concepts:

- Division of profits or losses based on original capital investments, beginning, or ending capital balances may result in inequities with significant changes in the
capital accounts during the year.
Issues with Beginning and Ending Capital Balances:
- Allocating profits based on beginning capital balances may discourage additional investments during the year."
- Partners making investments are not compensated in profit division until the following year.
- Using ending capital balances encourages year-end investments but lacks incentives for investments before year-end.
- Amounts withdrawn earlier may be reinvested before year-end under the ending capital balances method.
Preferability of Average Balances:
- Using average balances for profit or loss distribution is preferable.
- It accurately reflects the capital available for partnership use throughout the year.
Considerations for Drawings:
- The agreement should specify each partner's allowable drawing amount.
- Drawings within the limit are considered temporary and do not impact the average capital balance calculation.
- Excessive drawings, exceeding the allowable amount, are considered permanent reductions in capital, affecting the average capital balance calculation.
Add note:
- Considering average balances enhances fairness and accurately represents the partnership's capital utilization during the year.
- Clear guidelines on allowable drawings maintain the integrity of average capital balance computations.

By Allowing Interest on Capital and the Balance in an Agreed Ratio

Capital as Controlling Factor:

- The prior plan assumed that capital investments were the controlling factor in the partnership's success.
Consideration of Other Contributions:
- Partnerships may choose to allocate a portion of total profits in the capital ratio.
- The balance may be distributed equally or in another agreed ratio after considering partners' other contributions.
Interest on Partners' Capital:
- Allowing interest on partners' capital is similar to dividing profits based on capital balances.
- Partners should agree on the interest rate and whether it's computed on specific dates or average capital balances throughout the year.
Purpose of Interest on Capital:
- Partners invest for profits, not for interest.
- Interest on partners' capital, and other profit-sharing plans discussed later, are techniques for equitable profit or loss sharing, not partnership expenses.
Distinction from Interest on Loans:
- Interest on loans from partners is recognized as an expense impacting profit or loss measurement.
- Similarly, interest earned on loans to partners is recognized as partnership income.
- Consistent with the concept that loans receivable from or payable to partners are assets and liabilities of the partnership.

By Allowing Salaries to Partners and the Balance in an Agreed Ratio

Variations in Compensation:
- Sharing agreements may vary in compensating partners for personal services, considering factors like experience and knowledge.
Acknowledging Partner's Value:
- Partners' varying service contributions, even with equal time devotion, may be recognized by providing salary allowances.
- Acknowledges the more valuable or harder-working partner.
Treatment of Salary Allowances during Losses:
- The partnership agreement should clarify the treatment of salary allowances during losses.
- In the absence of an agreement, salary allowances may still be provided during losses.
Distinction from Expenses and Drawings:
- Salary allowances are not to be confused with salaries expense or the partner's drawing account.
- Cash withdrawals for periodic salary allowances do not impact profit division governed by the sharing agreement.
Ownership and Service Devotion:
- Partners are owners, not employees.
- Devotion of time and services is understood for profit, not salary.
- Salaries to partners are not deducted as expenses in the statement of comprehensive income when calculating partnership profits.

By Allowing Bonus to the Managing Partner Based on Profit and the Balance in an Agreed Ratio

Special Compensation Arrangement:

- Partnership contracts may include a provision for a special bonus to the managing partner when partnership operations yield favorable results.
Encouragement for Profit Maximization:
- The bonus allowance aims to encourage the managing partner to maximize the partnership's profit potentials.
Bonus as Distribution Technique:
- Bonus is not considered in profit computation.
- It is a technique solely for the distribution of profits.
- Separate from the standard profit-sharing mechanisms.
Incentive for Managing Partner:
- Serves as an additional incentive for the managing partner's efforts in enhancing partnership performance.
Alignment with Favorable Results:
- The bonus is triggered by favorable results in the partnership's operations.
Distinct from Profit Computation:
- Emphasizes that bonus is distinct from profit calculation and is designed purely for profit distribution.

By Allowing Salaries, Interest on Capital, Bonus to the Managing Partner, and the Balance in an Agreed Ratio

Unequal Service and Capital Contributions:

- Service and capital contributions of partners may not be equal.
Compensation Mechanisms:
- Salary allowances can compensate for unequal service contributions.
- Interest allowances can address differences in capital contributions.
Comprehensive Allocation Approach:
- When both service and capital contributions vary, the allocation of profits or losses may involve multiple components.
Components for Allocation:
1. Salary allowances for compensating differences in service contributions.
2. Interest on capital balances to address disparities in capital investments.
3. Bonus to the managing partner as an additional compensation element.
4. Balance distribution in an agreed ratio to complete the profit or loss allocation.
Add note:
- The approach aims to ensure equity in profit or loss distribution considering various contributions of partners.
- Allows flexibility in tailoring compensation to match the unique contributions of each partner.
- Partners collaborate to agree on the specific ratios and components based on their individual contributions.
- Provisions for salaries and interest in the partnership agreement are termed allowances.
- These allowances are distinct from salaries and interest expenses reported in the statement of recognized income and expense.
- Salaries and interest allowances are mechanisms solely for profit allocation among partners.
- They do not represent actual expenses in the financial reporting sense but serve as tools for equitable profit distribution.

FINANCIAL REPORTING

Purpose of Financial Statements:

- Financial statements aim to provide a structured representation, offering information about the financial position, financial performance, and cash flows of an
entity.
- The primary objective is to assist a broad range of users in making informed economic decisions.
- Financial statements also serve to depict the outcomes of management's stewardship of entrusted resources.
Overall Considerations:
Fair Presentation and Compliance with IFRS:
- Financial statements must fairly present the entity's financial position, performance, and cash flows.
- Fair presentation involves faithful representation of transaction effects, events, and conditions, aligning with IASB's Framework.
- Entities must explicitly state compliance with IFRS in the notes.
Going Concern:
- Financial statements are prepared on a going concern basis, unless management intends liquidation, cessation of trading, or has no realistic option.
Accrual Basis of Accounting:
- Financial statements, except for cash flow information, are prepared using the accrual basis of accounting.
Materiality and Aggregation:
- Each material class of similar items must be presented separately.
- Dissimilar material items should be separately disclosed.
Offsetting:
- Assets and liabilities, income and expenses should not be offset unless required or permitted by an IFRS.
Frequency of Reporting and Comparative Information:
- Financial statements, along with comparative information for the previous period, must be presented at least annually.
Consistency of Presentation:
- Presentation and classification of items in financial statements should be retained in successive periods unless an alternative is more appropriate or an IFRS
mandates a change.
Identification of Financial Statements:
- Financial statements should be clearly identified and distinguished from other information in the same document.
Display Information:
- Prominently display: reporting entity's name, whether statements are for an individual entity or a group, end date of the reporting period, presentation
currency, and the level of rounding used.
Add note:
- IFRSs are applicable solely to financial statements and may not necessarily govern other information in an annual report or regulatory filing.

Complete Set of Financial Statements

In accordance with revised International Accounting Standards (IAS) No. 1, Presentation of Financial Statements, a comprehensive set of financial
statements consists of:
a. Statement of Financial Position:
 Providing a snapshot of the entity's financial position as of the period-end.
b. Statement of Comprehensive Income:
 Detailing the entity's financial performance over the reporting period.
c. Statement of Changes in Equity:
 Illustrating the changes in equity during the reporting period.
d. Statement of Cash Flows:
 Outlining the cash inflows and outflows during the reporting period.
e. Notes:
 Including a summary of significant accounting policies and additional explanatory information.
f. Statement of Financial Position (Comparative Period):
 Presenting the financial position as at the beginning of the earliest comparative period in case of accounting policy retrospective application, retrospective
restatement, or reclassification of items in the financial statements.

Statement of Comprehensive Income for a Partnership

The presentation of the income statement for a partnership aligns with that of a sole proprietorship, with a distinctive feature being the explicit
presentation of the division of profits or losses at the lower section of the statement.
The components of profit or loss can be articulated within a single statement of comprehensive income or through an income statement. The choice is
guided by the flexibility allowed under paragraph 81 of IAS No. 1 (revised 2007). When an income statement is employed, it becomes an integral part of the
complete financial statements and should be positioned immediately before the statement of comprehensive income.
The minimum disclosure requirements for the statement of comprehensive income include line items presenting the following amounts for the reporting
period:
a. Revenue;
b. Finance costs;
c. Share of profit or loss of associates and joint ventures accounted for using the equity method;
d. Tax expense;
e. A single amount comprising the total of:
i. The post-tax profit or loss of discontinued operations; and
ii. The post-tax gain or loss recognized on the measurement to fair value less costs to sell on the disposal of the assets or disposal group(s) constituting the
discontinued operations;
f. Profit or loss;
g. Each component of other comprehensive income classified by nature (excluding amounts in (h) below);
h. Share of the other comprehensive income of associates and joint ventures accounted for using the equity method; and
i. Total comprehensive income.

Statement of Changes in Equity Requirement

An entity shall present a statement of changes in equity.

Contents of the Statement:
a. Total comprehensive income for the period showing separately the total amounts attributable to owners of the parent and to minority interests.
b. For each component of equity, the effects of retrospective restatement recognized in accordance with IAS No. 8, Accounting Policies, Changes in Accounting
Estimates and Errors.
c. The amounts of transactions with owners in their capacity as owners, showing separately contributions by and distributions to owners.
d. For each component of equity, a reconciliation between the carrying amount at the beginning and the end of the period, separately disclosing each change.
Components of Equity:
- Includes each class of contributed equity, the accumulated balance of each class of other comprehensive income, and retained earnings (applicable to
corporations).
Dividends Recognition:
- The amount of dividends recognized as distributions to owners during the period, and the related amount per share, shall be presented either in the statement
of changes in equity or in the notes.

Statement of Financial Position

Preparation Ease:
- After presenting comprehensive income and changes in partners' equity, the statement of financial position preparation is straightforward.
Presentation of Assets and Liabilities:
- Assets and liabilities presented as in a sole proprietorship.
- Owners' equity section shows separate capital balances for each partner.
Minimum Face Presentation (Per IAS No. 1, revised 2007):
- Line items must include, among others:
a. Property, plant and equipment;
b. Investment property;
c. Intangible assets;
d. Financial assets (excluding amounts shown under e, h and i);
e. Investment accounted for using the equity method;
f. Biological assets;
g. Inventories;
h. Trade and other receivables;
i. Cash and cash equivalents;
j. The total of assets classified as held for sale and assets included in disposal
groups classified as held for sale in accordance with IFRS 5;
k. Trade and other payables;
l. Provisions:
m. Financial liabilities (excluding amounts shown under k and I);
n. Liabilities and assets for current tax, as defined in IAS 12:
o. Deferred tax liabilities and deferred tax assets, as defined in IAS 12;
p. Liabilities in disposal groups classified as held for sale in accordance with IFRS
5;
b. q. Minority interest, presented within equity; and
r. Issued capital and reserves attributable to equity holders of the parent.
Order and Format Judgment (IAS No. 1, revised 2007):
- Entity discretion in order or format of item presentation.
- Judgment based on nature, liquidity, function, and amounts of assets and liabilities.
Classification Criteria for Assets and Liabilities:
- Current Asset Criteria: Realization expectation within normal operating cycle, held for trading, expected realization within 12 months post-reporting, or cash
or cash equivalent.
- Noncurrent Asset: All other assets.
- Current Liability Criteria: Expected settlement within normal operating cycle, held for trading, due within 12 months post-reporting, or no unconditional right
to defer settlement for at least 12 months post-reporting.
- Noncurrent Liability: All other liabilities.

Statement of Cash Flows

Purpose
 Serves to assess the entity's ability to generate and utilize cash and cash equivalents.
Information Provided:
 Details cash receipts and payments during a period.
 Classifies into operating, investing, and financing activities.
Classification:
 Operating Activities: Inflows and outflows related to main revenue-generating activities.
 Investing Activities: Transactions in long-term assets and other investments.
 Financing Activities: Changes in equity and borrowings.
Outcome:
 Reveals net increase or decrease in cash during the period.
 Provides cash balance at the period end.
 Assists in projecting future net cash flows.
Key Concepts:
 Formal statement classifying cash activities.
 Highlights operating, investing, and financing activities.
 Projects future cash flows.

Cash Flows from Operating Activities

Nature of Operating Activities:

- Involves providing services and producing/delivering goods.
General Definition:
- Cash flows from these activities are typically the cash effects of transactions impacting profit or loss.

Presentation Methods:
- Direct Method: Net cash derived by adding individual inflows and subtracting outflows.
- Indirect Method: Derives net cash by adjusting profit for non-cash items and changes in assets/liabilities.
Direct Method Process:
- Obtained by summing individual operating cash inflows and subtracting outflows.
Indirect Method Process:
- Adjusts profit by adding back non-cash items and incorporating changes in assets and liabilities.
Illustrative Examples:
- Increase in accounts receivable deducted from profit.
- Increase in salaries payable added to profit.
Explanation - Increase in Accounts Receivable:
- Represents profit increase without a corresponding cash increase, deducted from profit."
Explanation - Increase in Salaries Payable:
- Indicates unpaid salaries, overstating expenses in the income statement. Added to profit for cash flow adjustment.
Guidance from IAS No. 7:
Encourages reporting operating cash flows using the direct method, with the indirect method being acceptable.
Preference for Direct Method:
Enterprises are encouraged to use the direct method for reporting cash flows from operating activities.
Direct Method Illustration:
Only the direct method is illustrated here, employing assumed amounts.
Operating Cash Flows - Direct Method:
Cash Inflows:
 Receipts from sale of goods and performance of services.
 Receipts from royalties, fees, commissions, and other revenues.
Cash Outflows:
 Payments to suppliers of goods and services.
 Payments to employees.
 Payments for taxes.
 Payments for interest expense.
 Payments for other operating expenses.
Investing Activities Cash Flows:
Cash Inflows:
 Receipts from the sale of property and equipment.
 Receipts from the sale of investments in debt or equity securities.
 Receipts from collections on notes receivable.
Cash Outflows:
 Payments to acquire property and equipment.
 Payments to acquire debt or equity securities.
 Payments to make loans to others generally in the form of notes receivable.
Financing Activities Cash Flows:
Cash Inflows:
 Receipts from investments by owners.
 Receipts from the issuance of notes payable.
Cash Outflows:
 Payments to owners in the form of withdrawals.
 Payments to settle notes payable.

PARTNERSHIPS IN ASIA

Origins:
- Malaysia gained independence in 1957, Singapore in 1963, Brunei in 1984, and Hong Kong in 1997" - former British colonies.
- Indonesia, under Dutch control, gained independence in 1949.
- Cambodia (1953), Laos (1953), and Vietnam (1954) - French colonies.
- The formation of entities was influenced by the colonial laws in these former colonies.
Comparison to English Partnership Act of 1890:
- The Partnership Acts of former British colonies closely resemble the English Partnership Act of 1890.
- Excerpt from Hong Kong's CAP 38 Partnership Ordinance, Section 26:
- The interests of partners...shall be determined...by the following rules:
a. Partners are entitled to share capital and profits equally and contribute equally to losses.
b. The firm must indemnify partners for payments and liabilities related to business or property preservation.
- In the ordinary and proper conduct of the business of the firm; or in or about anything necessarily done for the preservation of the business or property of
the firm;
c. A partner making a payment beyond the agreed capital is entitled to 8% interest.
d. No entitlement to interest on capital before profit ascertainment.
e. Every partner may participate in the management of the business.
f. No partner entitled to remuneration for acting in the partnership business.
g. Introduction of a new partner requires consent from all existing partners.
h. Majority decision for ordinary matters, unanimous consent for changes in the nature of the partnership business.
i. Partnership books are to be kept at the place of business; partners have access to inspect and copy.
- Section 26 replicates Section 24 of the Partnership Act of 1890, except for the interest rate in letter 'c,' which was 5% in the original.
- Similar commonalities are observed in the Malaysian Partnership Act of 1961 and the Partnership Act of Singapore.

Partner's Equity

Capital Accounts:
- The capital account of each partner will be credited with the partner's original and additional capital contributions.
- Debited with any permanent withdrawals.
- Balances of the partners' account will not change frequently.
- Capital accounts prepared in this manner are referred to as fixed capital accounts.
Current Accounts:
- The current account will be credited for salaries and interest on capital (with a debit to profit and loss appropriation account).
- Debited for interest on drawings.
- At the end of the year, debited with the drawings account balance.
Partner's Current Account:
- Debit:
- Interest on Drawings.
- Drawings.
- Share in Residual Losses.
- Credit:
- Interest on Capital.
- Partner's Salaries.
- Share in Residual Profits.
- The account also credited with the share in the residual profits.
- Residual profits divided using the profit or loss ratio derived by adding interest on drawings and deducting salaries and interest on capital to the accounting
profit.
- Current accounts can have either a debit or a credit balance.
- A credit balance will be undrawn profits while a debit balance will be drawings in excess of the profits to which the partner is entitled.
Drawing Accounts:
- A drawing account is maintained for each partner.
- Debited for any cash drawings during the year.
- Balance transferred to the partner's current account at the end of the year.
Interest on Drawings:
- Some partnership agreements will provide that partners will be charged interest on any drawings made during the year.
- This is to deter partners from drawing cash from the business.
- Interest on drawings added to the profit for the year.
- Debited to the individual partner's current accounts and credited to the profit and loss appropriation account.

Side note: