List of Team Members for development of support material in the subject of accountancy for class XII

Transcription

1 List of Team Members for development of support material in the subject of accountancy for class XII S.No Name and Designation 1. Mrs. Rajni Rawal Team Leader Principal School Name GGSSS No. 1 Tagore Garden Mrs. Alka Gupta Vice Principal Mrs. Reeta Rani Gugnani PGT (Commerce) Mr. Anil Kumar PGT (Commerce) Mr. Sanjeev Kumar PGT (Commerce) Mr. Rajesh Kumar PGT (Commerce) SKV West Patel Nagar GGSSS No. 1 Tagore Garden RPVV Kishan Ganj RPVV Gandhi Nagar GBSSS Rithala

2 CHAPTERS 1. Accounting for not-for profit organization 1 2. Fundamentals of partnership Goodwill & Change in profit sharing ratio of existing partners Admission of Partners Retirement and Death of Partners Dissolution of Partnership Company Accounts Issue of Shares Company Accounts Issue of Debentures Redemption of Debentures Financial Statements & Analysis of Financial Statements Tools of Financial Analysis Accounting Ratios Cash Flow Statement Blue Print of Question Paper Question Paper 197

3 CHAPTER 1 Not- for Profit Organization Important Points Meaning of Not for Profit organization The primary motive of Not- for- profit organizations is to render services to their member or to promote culture, art, education and other religions, social and charitable activities. The non- profit seeking entities exists with a primary objective of providing service. For this reason, these institutions do not prepare profit and loss Account. Examples of not-for-profit organizations:-hospitals, dispensaries, sports clubs, recreation clubs, temples, dharamshalas, orphanage, school and College etc Such organizations prepares following financial statements at the end of accounting period: 1. Receipts and Payments Account 2. Income and Expenditure Account 3. Balance Sheet Receipts and Payments Account:- This account is merely a summary of the transactions appearing in the cashbook. All receipts are shown on its debit side and all payments are shown on its credit side. All the receipts and payments during an accounting period are included in it under appropriate headings. For example, if a club receives subscription for its members on different dates, they will be recorded in the cash book in a chronological order, whereas the receipts and payments account will contain the total subscriptions received during the year. Features of Receipts and Payment Account:- 1. It is a real account. Thus Receipts are on its debit side and payments on the credit side. 2. This account begins with the opening balance of cash or bank. 3. Any item shown once in Receipts and Payment Account. 1

4 4. All cash payments are shown on its credit side irrespective of the fact whether these are of capital nature or of revenue nature and whether they relate to current year, previous year or next year. 5. Receipt and Payment Account records only the actual receipt andpayment of cash. Limitations of Receipts and Payments Account 1. It is not prepared on accrual basis, therefore no adjustment are made in it. 2. This account does not show the income or expenditure of the accounting period. Income and Expenditure Account Income and Expenditure Account serves the same purpose for a Not- for- profit organization as the Profit and Loss Account for a business enterprise. This account is a nominal account. It is the summary of Income and Expenditure of a particular accounting period whether income received or not and whether expenditure paid or not. Features of Income and Expenditure Account:- 1. It is a nominal account. 2. No capital item is entered in this account. 3. Its debit side includes all the expenses pertaining to the particular period and credit side includes all the income pertaining to the same period. 4. No item, either revenue or expenditure, pertaining to the past period orthe future period is entered in this account. 5. Credit balance is called Excess of Income over Expenditure and debit balance is called Excess of Expenditure over Income. Concept of Fund based Accounting: Not for profit organization receive some funds for some specific purposes and these funds are used only for those purposes for which they have been contributed. Fund Based Accounting refers to the accounting whereby receipt and income pertaining to a particular fund are credited to that particular fund and payments and expenses are debited to it. These funds are created for some specific purposes such as prize fund, building fund, sports fund etc. Thus, a separate accounting is needed for these specific funds. This type of accounting is called Fund based accounting. 2

5 Important Items of Not for Profit Organisations 1. Legacy:-Legacy represents the amount or property received by organization under a will on death of the contributors. In other words we can say that ligancies are the donations made by a person in his will, so their donation are called legacy. (i) Legacies received for a specific purpose must be capitalized in the name of concerned fund for which it is received. (ii) Legacies received not for any specific fund/general may be added to the capital fund. 2. Entrance Fee:-Entrance fee is called admission fee. It refers to the amount received from the persons for becoming members. It is a fee paid by members at the time of joining a not- for- Profit organization. (i) (ii) It is an item of recurring nature. Generally Entrance fees are treated as income. 3. Grants:-Grants are an aid issued by any Govt. agency to any Not- for- profit organization for specific purpose or general purpose. (i) (ii) (iii) It is an aid from Government. Specific grant should be capitalized. General grant should be treated as revenue income and shown on the credit side of Income and Expenditure Account. 4. Donation:-Donation is the amount received by Not-for-profit Organizations from any person or institution without any consideration and not periodically. Donation can be categorized as under: (i) General Donation:If donation received for not a specific purpose and can be utilized for any purpose, is known as general donation. It is treated as Revenue Receipt. (ii) Specific Donation:If donation received for a particular purpose and can be used/spent for the same purpose only, it is known as specific donation. For example, donation received for the construction of the building. It is treated as capital receipt. 3

6 5. Subscription:-Subscription is the amount payable by members of Not-for-profit Organizations for renewal of membership periodically. (i) (ii) It is recurring in nature. It is treated as Revenue Receipt. 6. Life Membership Fees:-Life membership is the fee received from those members who do not pay periodic fee or subscription but pay a lump sum amount to become life time members. (i) (ii) These members are generally permanent members. Life membership fees can be added to capital fund or separately on the liabilities side of Balance Sheet. 7. Endowment funds:-1. This fund is created from the bequest, legacy or gifts received by the Not- for- Profit organization. These funds are invested outside. 2. The income from the investment of such funds is used for some specific purposes only. 3. Endowment funds shall be shown on the liabilities side of the balance sheet of Not- for- Profit organization. 8 Honorarium:-Honorarium is an amount paid to a person (other than employee) for rendering some special services for Not- for- Profit organization. It is treated as an expense of Not- for- Profit organization. Illustration 1. From the following extracts of the Receipt and Payments Account and the additional information, you are required to compute the income from subscriptions for the year ended March 31, 2011 and show it in the Income and Expenditure Account for the year ended on March 31, 2011: Receipts and Payments Account For the year ended on March 31, 2011 Cr. Receipts ` Payments ` To subscriptions 50,000 March 31, 2010 March 31,

7 ` ` Subscriptions outstanding 10,000 20,000 Subscriptions received in advance 15,000 10,000 Solution: Income and Expenditure Account For the year ended on March 31, 2011 Expenditure ` Income ` By Subscriptions 50,000 Add: Outstanding 20,000 Add: Advance received in ,000 85,000 less: Advance received in ,000 75,000 Less: For ,000 65,000 Important Point: Subscription for the current year only is shown in Income and Expenditure Account for the same year, whether received or not. Illustration 2: On the basis of the following information, calculate the amount of stationery to be debited Income and Expenditure Account for the year ended on March 31, 2011: ` Stock of stationery on April 1, ,000 Creditors for stationery on April 1, ,000 5

8 Amount paid stationery on during ,600 Stock of stationery on March 31, ,000 Creditors for stationery on March 31, ,600 Solution: Particulars Amount paid for stationery during current year Add: opening stock of stationery Creditors at the end of current year Less: closing stock 1,000 For ,000 Stationery used during ` 21,600 6,000 2,600 31,200 5,000 26,200 Important Point: Amount of Stationery consumed during the year is shown in Income and Expenditure Account irrespective of that whether it is paid or not. Illustration 3: Following is the Receipts and Payments Account of women club for the year ended March 31, Prepare the Income and Expenditure Account for the year March 31, 2011 and also the balance sheet as at that date: Receipts ` Payments ` To balance b/d To Entrance Fees To Subscriptions To Donations To Interest To Profit from Entertainment 28,260 11,040 44,000 21, ,640 1,06,980 By Rent and Taxes By Salaries By Electricity Charges By General Expenses By Books By Office Expenses By Investments By Balance c/d 17,220 18, ,500 6,240 9,000 28,000 24,380 1,06,980 6

9 Additional information: (i) In the beginning of the year, the club had books worth Rs 60,000 and Furniture worth ` 11,600. (ii) Subscription in arrears on April 1, 2010 were ` 1,200 and on March 31, 2011 ` 1,400. (iii) ` 3,600 were due by Rent in the beginning as well as at the end of the year. (iv) Write off ` 1,000 as depreciation on Furniture and ` 6,000 0n Books. (v) On March 31, 2011 Salaries ` 3,000 and Electricity Charges ` 400 were outstanding. Solution: Balance Sheet as on April 1, 2010 Liabilities ` Assets ` Rent outstanding Capital Fund (Bal. Fig.) 3,600 97,460 Cash Subscriptions Outstanding Books Furniture 28,260 1,200 60,000 11,600 1,01,060 1,01,060 7

10 Income and Expenditure Accountfor the year ended on March 31,2011 Cr Expenditure ` Income `` To Rent and Taxes 17,220 By Subscriptions 44,000 Add: Outstanding 3,600 Add: Outstanding 1,400 20,820 45,400 Less: For ,600 17,220 Less: For ,200 44,200 To Salaries By Entrance Fees 18,800 21,800 By Donations 11,040 Add: Outstanding 3,000 By Interest By Profit from Entertainment 21,220 To Electricity Charges 840 1,240 Add: Outstanding 400 2, ,000 To General Expenses 1,640 To Office Expenses To Depreciation on: 7,000 Books 20,160 6,000 Furniture 1,000 78,920 To Surplus 78,920 8

11 Balance Sheet as on March 31, 2011 Liabilities ` Assets ` Capital Fund(Bal. Fig.) 97,460 Cash in hand 24,380 Add: surplus 20,160 Investments 28,000 Rent outstanding Salaries outstanding Electricity charges outstanding 1,17,620 3,600 3, Books 60,000 Add: Additions 6,240 66,240 60,240 Less: Depreciation 6,000 1,24,620 Furniture 11,600 Less: Depreciation 1,000 Subscription outstanding 10,600 1,400 1,24,620 Important Point: Expenses for the current year only is shown in Income and Expenditure Account for the same year, whether paid or not. Illustration 4. Following is the Receipts and Payments Account of literary society for the year ended March 31, 2011: Cr. Receipts ` Payments ` To Balance b/d To Subscriptions 3,075 By Salaries By Rent 12,000 3, By Postage ,500 By Printing and Stationery 1, By Electricity Charges 1,500 9

12 750 22,750 By Meeting Expenses ,000 By Library Books 5,000 To Interest on Investments 125 By Investments 5,000 To Bank Interest 1,500 By Balance c/d 8,175 To Sale of Furniture 37,450 37,450 Following additional information is to be considered: (i) On April 1, 2010, the society had the following assets and liabilities :- Investments ` 2,00,000; Furniture ` 15,000; library books ` 25,000; liability for Rent ` 300 and for Salaries ` 1,000. Subscription in Arrears was ` 600. (ii) On March 31, 2011, Rent of ` 400 and Salaries of ` 1,250 were in arrears. All the Subscription for the year has been received. (iii) The book value of Furniture sold was ` 1,250. Prepare the Income and Expenditure Account of the society for the year ended on March 31, 2011 and the Balance Sheet as at that date. Solution: Balance Sheet as on March 31, 2010 Liabilities ` Assets ` Outstanding expenses: Rent 300 Salaries 1,000 1,300 2,42,375 Furniture Library Books Investments Cash Subscription in arrears 15,000 25,000 2,00,000 3, Capital Fund (Balancing Figure) 2,43,675 2,43,675 10

13 Income and Expenditure Account for the year ended on March 31,2011 Expenditure ` Income ` To salaries 12,000 By Subscriptions 22,750 Less: For ,000 11,000 Less: For Add: Outstanding 1,250 12,250 22,250 Less: For To Rent 3, Less: For ,300 By Interest on Investment Add: Outstanding 400 By Bank Interest 3,700 By Profit on Sale of Furniture To Postage (1,500--1,250) To Printing and Stationery 150 To Electricity Charges To Meeting Expenses 1,275 To Surplus 1,500 21,500 10, ,250 31,875 31,875 11

14 Balance Sheet as on March 31, 2011 Liabilities ` Assets ` Subscriptions in advance Furniture 15,000 Outstanding expenses: 750 Less: sold ,750 Salaries 1,250 Rent 400 1,650 Library books Add: Additions 5,000 30,000 Investments 2,00,000 Capital Fund 2,42,375 Add: Additions 5,000 2,05,000 Add: Surplus 12,250 2,54,625 2,57,025 Cash Subscription in Arrears ( ) 8, ,57,025 Important Point: In the beginning of the year, Subscription of ` 600 was in arrear but out of this amount, only ` 500 has been received during current year. Hence only ` 500 is deducted from the amount received on account of Subscription. Illustration 5 : On the basis of the information given below, calculate the amount of stationery to be shown in the Income and Expenditure Account of Vishvamitra Literary Society for the year ended March 31, 2011: April 1, 2010 March 31, 2011 ` ` Stock of stationery 4,000 3,000 Creditors for stationery 4,500 5,500 Stationery purchased during the year ended March 31, 2011 was ` 23,500 12

15 Solution: Income and Expenditure Account for the year ended on March 31, 2011 Cr. Expenditure ` Income `` To Stationery 23,500 Add: Opening Stock 4,000 27,500 Less: Closing Stock 3,000 24,500 Important Points: 1. Stationery used during current year only is shown in Income and Expenditure Account for the same year. 2. Creditors for Stationery is not considered because Stationery purchased during the year is given and not Amount paid to Creditors during the year. Illustration 6: From the following information of Arjun Sports Club, show the Sports Material in the Income and Expenditure Account for the year ending March 31, 2011 and the Balance Sheets as on March 31, 2010 and March 31, 2011: March 31, 2010 March31, 2011 ` ` Stock of sports material 4,400 11,600 Creditors for sports material 15,600 18,400 Advance to suppliers of sports material 30,000 50,000 Payment to suppliers for the Sports Material during was ` 2, 40,000. No sports material purchased on cash basis during the year

16 Solution: Balance Sheet as on March 31, 2011 Liabilities ` Assets ` Creditors for Sports Material 15,600 Advance to suppliers of Sports Material 30,000 Stock of sports material 4,400 Income and Expenditure Account For the year ended on March 31, 2011 Cr. Expenditure ` Income ` To Sports Material 2,40,000 Less: for ,000 2,24,400 Add: advance in ,000 Add: opening stock 4,400 2,58,800 Less: for ,000 2,08,800 Less: Closing Stock 11,600 2,15,600 1,97,200 Add: Creditors at the End 18,400 14

17 Balance Sheet as on March 31, 2011 Liabilities ` Assets ` Creditors for Sports Material 18,400 Advance to Suppliers Stock of Sports Material 50,000 11,600 Important Points: 1. Stationery used during current year only is shown in Income and Expenditure Account for the same year. 2. Creditors for Stationery is considered because Stationery purchased during the year is not given and Amount paid to Creditors during the year is given. Illustration 7: The following is the Receipts and Payments Account of Galaxy Hospital, for the year ended on March 31, Receipts and Payments Account for the year ended March 31, 2011 Receipts ` Payments ` To Balance b/d To Subscriptions To Donations To Interest on 9% p.a. for one year To Proceeds from Charity Show To Grant 17,000 96,000 30,000 18,000 24,000 40,000 By Payments for Medicines By Fees to Doctors By Salaries By Equipments By Charity Show Expenses By Sundry Expenses By Balance c/d 66,000 48,000 54,000 30,000 8,000 2,400 16,600 2,25,000 2,25,000 15

18 Other information: April 1, 2010 March 31, 2011 ` ` (i) Subscriptions in Arrears 1,000 2,000 (ii) Subscriptions in Advance 2,000 1,000 (iii) Stock of Medicines 20,000 30,000 (iv) Amount due to Suppliers Of Medicine 16,000 24,000 (v) Value of Equipments 50,000 66,000 (vi) Value of Buildings 1,40,000 1,30,000 You are required to prepare Income and Expenditure Account for the year ended on March 31, 2011 and Balance Sheet as on that date. Solution: Balance Sheet as on March 31, 2010 Liabilities ` Assets ` Amount due for Medicines Subscriptions in Advance Capital Fund (Bal. Fig.) 16,000 2,000 4,10,000 Cash Investments Subscriptions in Arrears Stock of Medicines Equipments Buildings 17,000 2,00,000 1,000 20,000 50,000 1,40,000 4,28,000 4,28,000 16

19 Income and Expenditure Account for the year ended on March 31,2011 Expenditure ` Income ` To Medicines 66,000 By subscriptions: 96,000 Add: Opening Balance 20,000 Less: for ,000 86,000 95,000 Less: Closing Stock 30,000 Less: for ,000 56,000 94,000 Less: For ,000 Add: arrears 2,000 64,000 Add: advance received 98,000 40,000 48,000 in ,000 30,000 Add: Creditors at End 24,000 54,000 18,000 8,000 By Donations 24,000 To Fees to Doctors 2,400 By Interest on investments 40,000 To Salaries By Proceeds from Charity Show To Charity Show Expenses By Grant In Aid To Sundry Expenses To Depreciation on Equipments: Opening Balance 50,000 Add: Additions 30,000 14,000 80,000 Less: Closing Balance 66,000 10,000 To Depreciation on Buildings: 9,600 Opening Balance 1,40,000 2,10,000 2,10,000 Less: Closing Balance 1,30,000 To Surplus 17

20 Balance Sheet as on March 31, 2010 Liabilities ` Assets ` Amount due for Medicines Subscriptions in Advance 24,000 1,000 Cash Investments 16,600 2,00,000 Capital Fund (Bal. Fig.) 4,10,000 Subscriptions in Arrears 2,000 Add: Surplus 9,600 Stock of Medicines 30,000 4,19,600 4,44,600 Equipments Buildings 66,000 1,30,000 4,44,600 Important Points: Interest of Investment is given in the question but value of Investment is not shown in Receipts and Payments Account, it means this Investment was purchased before the current year and was mentioned in the Balance Sheet at the beginning of the year. Therefore the value of the investment is calculated as under: *Value of investments =18,000 * 100 = 2,00,000 9 Illustration 8: From the following information related to Amar Nath Charitable society, prepare Income and Expenditure Account for the year ended March 31,

21 Receipts and Payments Account for the year ended March 31, 2011 Receipts ` Payments ` To Balance b/d To Interest on Investments To Donations To Subscriptions To Rent Received To Sale of old Newspapers 4,400 4,600 34,000 56,000 24, By Furniture By Salaries By Miscellaneous Exp. By Telephone charges By Fax Machine By Investments By Printing & Stationery By Balance c/d 6,000 29, ,800 12,000 30, ,600 1,23,600 1,23,600 Additional Information: Subscription received includes ` 1,200 for The amount of subscription outstanding on March 31, 2011 were ` 1,000; Salaries unpaid for the year ` 400; 60% of the Donations are to be capitalized. Solution: Income and Expenditure Account for the year ended on March 31, 2011 Expenditure ` Income ` To salaries 29,000 By Subscriptions 56,000 Add: outstanding 1,400 Add: outstanding 1,000 To Miscellaneous Expenses To Telephone charges 30, ,400 57,000 Less : Received in Advance 1,200 55,800 To Printing charges To Surplus ,600 By Interest on Investments 4,600 13,600 19

22 By Donations (40%) By Rent Received 24,000 Add : Receivable , By Sale of old Newspapers 99,000 99,000 Important Points: Only 60% Donation is to be Capitalized as clear instruction is given in question. Remaining 40% Donation is to be treated as income. Illustration 9: Following is the Receipt and Payments Account of Tulsi literary society for the ended March 31, Prepare Income and Expenditure Account for the year ended March 31, 2011 and the Balance Sheet as on that date. Receipt and Payment Account For year ended March 31, 2011 Receipts ` Payments ` To Balance b/d To Life Membership Fes To Subscriptions To Sale of old Newspaper To Lockers Rent 65,000 10,000 30,000 1,000 1,400 By Honorarium to cashier By Stationary By Books By Telephone charges By Computer By Repairs By wages By Balance c/d 4,000 1,000 6,000 2,400 90,000 2,000 5,000 11,000 1,21,400 1,21,400 On April 1, 2010, the society had Books of ` 10, 000 Investments ` 20, 000 and Future ` 10, 000. Subscriptions outstanding as on April 1, 2010 were ` 1,200 and as on March 31, 2011 were ` 1, 400. Creditors 20

23 for stationery on April 1, 2010 were ` 400.Additional books and computers are purchased on April 1, 2010.Bills outstanding for repairs as on March 31, 2011 were ` 2, 200 and wages outstanding were Rs. 1,000.75% of the Entrance Fee is to be capitalized.depreciation is to be provided on 25% p.a. and 10% p.a. Solution: Balance Sheet as on April 1, 2010 Liabilities ` Assets ` Creditors for Stationary Capital Fund (Balancing Figure) 400 1,05,800 Cash Subscriptions in Arrears Books Investments Furniture 65,000 1,200 10,000 20,000 10,000 1,06,200 10,6,200 Income and Expenditure Account for the year ended March 31, 2011 Expenditure ` Income ` To Honorarium to cashier 4,000 By Entrance Rees To Stationary 1,000 By Subscriptions 14,000 Less: For Add : outstanding 1, ,400 To Depreciation on : Less: For ,200 Computer 22,500 Books 1,600 24,100 2,400 By Sale of old Newspapers By locker Rent By Deficit To Telephone charges To Repairs 2,000 Add: outstanding 2,200 4,200 2,500 14,200 1,000 1,400 22,200 To wages 5,000 Add : outstanding 1,000 6,000 41,300 41,300 21

24 Balance Sheet as at March 31, 2011 Liabilities ` Assets ` Outstanding Wages Outstanding Repairs 1,000 2,200 Cash Subscription in Arrears Capital Fund 1,05,800 Computers 90,000 Add: Entrance Fee 7,500 Less : Depreciation 22,500 Add: Life Membership Fee 30,000 1,43,300 Books Less : Deficit 22,200 10,000 1,21,100 Add : Purchases 6,000 16,000 1,600 1,24,300 Investments Furniture 11,000 1,400 67,500 14,400 20,000 10,000 1,24,300 Important Points: In the absence of any instruction, Entrance Fee is treated as Income. Points to Remember: 1. Not-for-Profit Organisations established for providing services to its members and society and not to earn profit. 2. Financial statements prepared by Not-for-Profit Organisations at the end of accounting period: (i) (ii) (iii) Receipts and Payments Account Income and Expenditure Account Balance Sheet 3. Receipt and Payment Account records only the actual receipt andpayment of cash during the concerned accounting period. 4. Debit side of Income and Expenditure Account includes all the expenses pertaining to a particular period and credit side includes all the income pertaining to the same period. 5. Closing balance of Income and Expenditure Account shows Surplus or Deficit. 22

25 6. Surplus is added to the Capital fund and Deficit is subtracted from Capital Fund. 7. Capital fund is also known as General Fund or Accumulated Fund. 8. Life Membership Fees, Legacy and Specific Donations are capitalized. 9. Subscription and Donation are treated as income. 10. Income from investment of Specific Fund is added to concerned fund and not to be shown in Income and Expenditure Account 23

26 CHAPTER 2 Accounting for Partnership Firms According to Section 4 of the Indian Partnership Act, 1932: Partnership is the relationship between persons who have agreed to share the profits of a business carried on by all or any of the acting for all Features of Partnership 1. There must be at least two persons to form a valid partnership. Section 11 of the Indian Companies Act, 1956 restricts the (maximum) number of partners to 10 for carrying on banking business and 20 for other kind of business. 2. Partnership comes into existence by an agreement (either written or oral) among the partners. The written agreement among the partners is called Partnership Deed. 3. A Partnership can be formed for the purpose of carrying a lawful business with the intention of earning profits. 4. An agreement between the partners must be aimed at sharing the profits or losses of the business. 5. A partnership can be carried on by all or any one of them acting for all. PARTNERSHIP DEED The partnership deed is a written agreement among the partners which contains the terms of agreement. A partnership deed should contain the following points: 1. Name and address of the firm. 2. Name and addresses of the partners. 3. Nature of the business. 4. Term of Partnership. 5. Capital contribution by each partner. 6. Interest on capital. 7. Drawings and interest on drawings. 8. Profit sharing ratio. 9. Interest on loan. 10. Partner s Salary/commission etc. 11. Method for valuation of goodwill. 12. Accounting period of the firm. 13. Rights and duties of partners. 24

27 RULES APPLICABLE IN THE ABSENCE OF PARTNERSHIP DEED Profit sharing Ratio Equal Interest on Capital Interest on Drawings Salary or Commission to a Partner Interest on loan by a Partner No Interest on Capital is to be allowed to any Partner No interest on Drawings is to be charged from any Partner Not Allowed Interest is per annum DISTRIBUTION FO PROFITS AMONG PARTNERS A Profit and Loss Appropriation Account is prepared to show the distribution of profits among partners as per the provisions of Partnership Deed (or as per the provisions of Indian Partnership Act, 1932 in the absence of Partnership Deed). It is an extension of Profit and Loss Account. It is a nominal account. The Journal Entries regarding Profit and Loss Appropriation Account are as follows: 1. For transfer of balance of Profit and Loss Account Profit and Loss A/c To Profit and Loss Appropriation A/c (Being net profit transferred to P & L Appropriation A/c) 2. For Interest on Capital i. For allowing Interest on capital: Interest on Capital A/c To Partners Capital/Current A/cs (Being interest on capital % p.a.) ii. For transferring Interest on Capital to Profit and Loss Appropriation A/c: Profit and Loss Appropriation A/c To Interest on Capital A/c (Being interest on capital transferred to P & L Appropriation A/c) 3. For Salary or Commission payable to a partner i. For allowing Salary or Commission to a partner: Partner s Salary/Commission A/c To Partners Capital/Current A/cs (Being salary/commission payable to a partner) ii. For transferring Partner s Salary/Commission A/c to Profit and Loss Appropriation A/c : Profit and Loss Appropriation A/c To Partner s Salary/Commission A/c (Being Partner s Salary/Commission transferred to P & L Appropriation A/c) 25

28 4. For transfer of Reserves: Profit and Loss Appropriation A/c To Reserve A/c (Being reserve created) 5. For Interest on Drawings: i. For charging interest on a partner s drawings: Partner s Capital/Current A/c To Interest on Drawings A/c (Being interest on drawings %p.a.) ii. For transferring Interest on drawings to Profit and Loss Appropriation A/c: Interest on Drawings A/c To Profit and Loss Appropriation A/c (Being interest on drawings transferred to P & L Appropriation A/c) 6. For transfer of Profits (i.e., Credit Balance of Profit and Loss Appropriation Account): Profit and Loss Appropriation A/c To Partners Capital A/cs (Being profits distributed among partners) SPECIMEN OF PROFIT AND LOSS APPROPRIATION ACCOUNT Profit and Loss Appropriation Account For the year ending on Cr. Particulars Rs. Particulars Rs. To Interest on Capital A B By Profit and Loss A/c (Net Profits transferred from P & L A/c) To Partner s Salary/ By Interest on Drawings Commission To Reserves A B To Profits transferred to capital A/c of : A B

29 PARTNERS CAPITAL ACCOUNTS In case of partnership business, a separate capital account is maintained for each partner. The capital accounts of partners may be maintained by following any of the following two methods: (1) Fixed Capital Accounts (2) Fluctuating Capital Accounts 1. Fixed Capital Accounts Under this method the following two accounts are maintained: 1. Capital Account This account will always show a credit balance. Balance of Capital account remains fixed and only the following two transactions are recorded in the Fixed Capital Accounts: Additional Capital Introduced Capital Withdrawn or Drawings out of Capital Partner s Capital A/cs Cr. Particulars X Rs. Y Rs. Particulars X Rs. Y Rs. To Cash/Bank A/c (Capital Withdrawn) To Balance c/d (Closing balance) By Balance b/d (Opening Cr. Balance) By Cash/Bank A/c (Additional Introduced) Capital 2. Current Account The current account may show a debit or credit balance. All the usual adjustments such as Interest on Capital, partner s salary/commission, drawings (out of profits), interest on drawings and share in profits or losses etc. are recorded in this account. Partner s Current A/cs Cr. Particulars To Balance b/d (Opening Balance) To Drawings (out of Profits) To Interest on Drawings To Profit and Loss A/c (Share in losses) To Balance c/d (Closing credit Balance) X Rs. Y Rs. Particulars By Balance b/d (Opening Cr. Balance) By Interest on Capital By Partner s Salary or Commission By Profit and Loss Appropriation A/c (Share in Profits) By Balance c/d (Closing Balance) X Rs. Y Rs. 27

30 Note: 1. Debit balance of Current Account is shown in Assets side of Balance Sheet. 2. Credit balance of Current Account is shown in Liabilities side of Balance Sheet. 3. Balance of Capital Accounts are always shown in Liabilities side of Balance Sheet as this account will always show a credit balance when capital is fixed. 2. Fluctuating Capital Accounts: In this method only one account i.e., Capital Account of each and every partner is prepared and all the adjustments such as interest on capital, interest on drawings etc. are recorded in this account. Under this method, Capital account may show a debit or credit balance and the balance of this account changes frequently from time to time.. Partner s Capital A/cs Cr. Particulars X Rs. Y Rs. Particulars X Rs. Y Rs. To Balance b/d (Opening Balance) To Cash/Bank A/c (Capital Withdrawn) To Drawings (out of Profits) To Interest on Drawings To Profit and Loss A/c (Share in losses) To Balance c/d (Closing credit Balance By Balance b/d (Opening Cr. Balance) By Cash/Bank A/c (Additional Capital Introduced) By Interest on Capital By Partner s Salary or Commission By Profit and Loss Appropriation A/c (Share in Profits) By Balance c/d (Closing Balance INTEREST ON CAPITAL Interest on partners capital will be allowed only when it has been specifically mentioned in the deed. Interest on Capital can be treated as either: a. An Appropriation of profit; or b. A charge against profits A. Interest on Capital : An Appropriation of Profits: In Case of Losses Interest on Capital is NOT ALLOWED In Case of Sufficient Profits Interest on Capital is ALLOWED IN FULL In case of Insufficient Profits Interest on Capital is allowed only to the extent of profits in the ratio of interest on capital of each partner 28

31 B. Interest on Capital: As a Charge against Profits: Interest on Capital is always allowed in full irrespective of amount of profits or losses JOURNAL a. In case of Sufficient Profits Profit and Loss Appropriation A/c To Interest on Capital A/c (Being interest on capital transferred to P & L Appropriation A/c) b. In case of Insufficient Profits or Losses Profit and Loss / Profit and Loss Adjustment A/c To Interest on Capital A/c (Being interest on capital transferred to P&L Adjustment A/c) Note: Interest on Capital is always calculated on the OPENING CAPITAL. If Opening Capital is not given in the question, it should be ascertained as follows: Particulars Capital at the End Add: 1. Drawings xxxxxx 2.Interest on Drawings xxxxxx 3. Losses during the Year xxxxxx Less: 1. Additional Capital Introduced (xxxxxx) 2. Profits during the year (xxxxxx) Opening Capital Rs. ( ) INTEREST ON DRAWINGS Interest on drawings is charged by the firm only when it is clearly mentioned in Partnership Deed. It is calculated with reference to the time period for which the money was withdrawn. Case 1: When Rate of Interest on Drawings is given in % Interest on Drawings is calculated with a flat rate irrespective of date of drawings. 29

32 Case 2: When Rate of Interest on Drawings is given in % p.a. 1. When date of Drawings is not given Interest on Drawing = Total Drawings x Rate x Note: Interest is calculated for a period of 6 months 2. When date of Drawings is given Interest on Drawing = Total Drawings x Rate x Time Left after 100 drawings Case 3: When different amount are withdrawn on different date: We have the following two methods to calculate the amount of Interest on Drawing: Simple Interest Method In this method, interest on drawing is calculated for each amount of drawing individually on the basis of periods for which Product Method In this method, the amounts of drawings are multiplied by the period for which it remained withdrawn during the period. Interest for I month is calculated on the sum of these products. We can explain the above mentioned two methods with the help of an example. Example: Aarushi and Simran are partners in a firm. During the year ended on 31 st March, 2011 Aarushi makes the drawings as under: Date of Drawing Amount (Rs.) , , ,000 Partnership Deed provides that partners are to be charged interest on 12% p.a. Calculate the interest chargeable to Aarushi Drawing by using Simple Interest Method and Product Method. SOLUTION: Date of Withdrawal Simple Interest Method Amount of Months till Drawings (Rs.) December 31,2011 5, % p.a. (Rs.) , ,

33 2. Product Method Date of Withdrawal Amount of Drawings (Rs.) 5,000 Months for which amount has withdrawn till December 31, Product (Rs.) 40, , , , ,000 Interest on Drawing = Total Product x Rate x = 70,000 x 12 x = Rs. 700 Case 4: When an equal amount is withdrawn regularly: Interest on Drawing can be calculated using either Product Method or Direct Method (i.e., Short Cut Method) Direct Method will be used only if all the following three conditions are satisfied: 1. Amount should be same throughout the period. 2. Date of Drawings should be same throughout the period 3. Drawings should be made throughout the period regularly without any gap. Interest on Drawing = Total Product x Rate x T 100 T Time (in months) for which interest is to be charged Time left after first drawing + Time left after last drawing T =

34 Value of T under Different circumstances will be as under: When drawings are made in the Beginning of each period When drawings are made in the Middle of each period When drawings are made in the End of each period Monthly Drawings for 12 Months Quarterly Drawings for 12 Months Half-Yearly Drawings for 12 Months Monthly Drawings for 06 Months INTEREST ON PARTNER S LOAN It is a charge against profits. It is provided irrespective of profits or loss. It will also be provided in the absence of Partnership 6% per annum. The following entries are passed to record the interest on partner s loan i. For allowing Interest on loan: Interest on Partner s Loan A/c To Partner s Loan A/c (Being interest on loan % p.a.) ii. For transferring Interest on Loan to Profit and Loss A/c: Profit and Loss A/c To Interest on Loan A/c (Being interest on loan transferred to P & L A/c) It is always DEBITED to Profit and Loss A/c Rent paid to a partner is also a charge against profits and it will also be DEBITED to Profit and Loss A/c. Q.1. A and B entered into partnership on 1 st April, 2010 without any partnership deed. They introduced capitals of Rs. 5, 00,000 and Rs. 3, 00,000 respectively. On 31 st October, 32

35 2010, A advanced Rs. 2, 00,000 by way of loan to the firm without any agreement as to interest. The Profit and Loss Account for the year ended showed a profit of Rs. 4, 30,000 but the partners could not agree upon the amount of interest on Loan to be charged and the basis of division of profits. Pass a Journal Entry for the distribution of the Profits between the partners and prepare the Capital A/cs of both the partners and Loan A/c of A. SOLUTION: Profit and Loss Appropriation Account For the year ending on 31 ST March, 2011 Cr. Particulars Rs. Particulars Rs. To Profits transferred to capital A/c of : By Profit and Loss A/c Rs. A 2,12,500 B 2,12, ,25,000 (Net Profits Less: Interest on A s Loan 4,30,000 5,000 4,25,000 4,25, ,25, Partner s Capital A/cs Cr. Date Particulars A Rs. B Rs. Date Particulars A Rs. B Rs To ,00,000 3,00,000 Balance c/d 7,12,500 5,12, ,12,500 5,12,500 By Bank A/c By Profit and Loss Appropriation A/c 2,12,500 7,12,500 2,12,500 5,12,500 JOURNAL Date Particulars L.F. Debit Rs Profit and Loss Appropriation A/c To A s Capital A/c To B s Capital A/c (Being profit distributed among the partners) 4,25,000 Credit Rs. 2,12,500 2,12,500 33

36 A s Loan A/c Cr. Date Particulars Amount Rs. Date Particulars Amount Rs March,31 To Balance c/d 2,05, Oct.,31 By Bank A/c 2,00, March,31 2,05,000 By Interest on Loan A/c 5,000 2,05,000 Note: Interest on A s Loan = Loan Amount = 2,00,000 x 6 x = Rs. 5,000 x Rate x Time Left after 100 Loan Taken PAST ADJUSTMENTS If, after preparation of Final Accounts of firm, it is found that some errors or omission in accounts has occurred than such errors or omissions are rectified in the next year by passing an adjustment entry. A statement is prepared to ascertain the net effect of such errors or omissions on partner s capital/current accounts in the following manner: Particulars A. Amount to be given (CREDITED): * Interest on Capital ( Not allowed or provided at a lower rate) * Partner s Salary or Commission etc. (Omitted to be recorded) * Actual Profits ( To be distributed in correct ratio) TOTAL A A Rs. B Rs. C Rs. B. Amount already given to be taken back now (DEBITED): * Interest on Capital (If given at a higher rate) * Interest on Drawings (if not charged ) * Profits already distributed in wrong ratio (debited now) TOTAL B Net Effect ( A B ) + / - + / - + / - 34

37 + indicates Amount to be CREDITED TO Partner s Capital Account - indicates Amount to be DEBIITED TO Partner s Capital Account JOURNAL Date Particulars L.F. Debit Rs. Partner s Capital A/c ( Amount to be Debited) To Partner s Capital A/c ( Amount to be Credited) (Being adjustment entry passed) Credit Rs. Q.1 Manoj, Sahil and Dipankar are partners in a firm sharing profits and losses equally. The have omitted interest ob 10% per annum for three years ended on 31 st March, Their fixed Capital on which interest was to be calculated throughout the Were: Manoj Rs. 3, 00,000 Sahil Rs. 2,00,000 Dipankar Rs. 1, 00,000 Give the necessary adjusting journal entry with working notes. SOLUTION: Books of Manoj, Sahil and Dipankar JOURNAL Date Particulars L.F. Debit Rs. Dipankar s Current A/c 30,000 To Manoj s Current A/c (Being adjustment entry passed) Credit Rs. 30,000 STATEMENT SHOWING ADJUSTMENT Particulars A. Amount to be given (CREDITED): Interest on Capital ( Not provided for 3 years) TOTAL A Manoj Rs. 90,000 90,000 Sahil Rs. 60,000 60,000 Dipankar Rs. 30,000 30,000 B. Amount already given to be taken back now (DEBITED): Excess Profit taken back from the partners in their profit sharing ratio (Rs. 90, , ,000 = 1,80,000) 60,000 60,000 60,000 35

38 TOTAL B 60,000 60,000 60,000 Net Effect ( A B ) 30,000 Credit Nil 30,000 Debit Q.2 A and B are partners in a firm sharing profits and losses in the ratio of 3:2. The following was the Balance Sheet of the firm as on : Balance Sheet As on Liabilities Rs. Assets Rs. Capitals: Rs. Sundry Assets 80,000 A 60,000 B 20, ,000 80,000 80,000 The profits Rs. 30,000 for the year ended were divided between the partners without allowing interest on 12% p.a. and salary to A Rs. 1,000 per month. During the year A withdrew Rs. 10,000 and B Rs. 20,000. Pass the necessary adjustment entry and show your working clearly. Solution: Books of A and B JOURNAL Date Particulars L.F. Debit Credit Rs. Rs. B s Capital A/c 30,000 To A s Capital A/c 30,000 (Being interest on capital and salary to A not Charged, now rectified) Working Notes: 1. Calculation of Opening Capital Particulars Capital at the End Add: 1. Drawings Less: Profits during the year A Rs. 60,000 10,000 70,000 (18,000) B Rs. 20,000 20,000 40,000 (12,000) Opening Capital 52,000 28,000 36

39 2. Calculation of Net Effect STATEMENT SHOWING ADJUSTMENT Particulars A. Amount to be given (CREDITED): Interest on Capital ( Not provided) Salary to A ( Not provided) A Rs. 6,240 12,000 B Rs. 3, TOTAL A B. Amount already given to be taken back now (DEBITED): Loss to the firm due to Interest on Capital and Salary to A be debited to the partners in their profit sharing ratio (Rs. 18, ,360 = 21,600) TOTAL B 18,240 12,960 12,960 3,360 8,640 8,640 Net Effect ( A B ) 5,280 Credit 5,280 Debit GUARANTEE OF PROFITS TO A PARTNER Guarantee is an assurance given to the partner of the firm that at least a fixed amount shall be given to him/her irrespective of his/her actual share in profits of the firm. If actual share in profits is less than the guaranteed amount in that case the deficit amount shall be borne either by the firm or by any partner as the case may be. Note: Guarantee to a partner is given for minimum share in profits. If the actual share in profits is more than the minimum guaranteed amount then the actual profits will be allowed to the partner. Case 1: When guarantee is given by FIRM (i.e., by all the Partners of the firm) 1. Guaranteed amount to a partner is written in Profit and Loss Appropriation A/c 2. Remaining profits are distributed among the remaining partners in their remaining ratio 37

40 Case 2: When guarantee is given by a partner or partners to another partner 1. Calculate the share in profits for the partner to whom guarantee is given 2. If share in profits is more than the guaranteed amount, distribute the profits as per the profit and loss sharing ratio in usual manner. 3. If share in profits is less than the guaranteed amount, find the difference between the share in profits and the guaranteed amount and the difference is known as Deficiency. Deficiency is distributed among the partner or partners who guaranteed in a certain ratio and subtracted from his or their respective shares. Q. A and B were partners in a firm sharing profits and losses in the ratio of 3:2. They admit C for 1/6 th share in profits and guaranteed that his share of profits will not be less then Rs. 25,000. Total profits of the firm were Rs. 90,000. 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: Case 1. When Guarantee is given by firm Profit and Loss Appropriation Account For the year ending on 31 ST March, 2011 Cr. Particulars Rs. Particulars Rs. To A s Capital A/c (3/5 of Rs. 65,000) 39,000 By Profit and Loss A/c (Net Profits) 90,000 To B s Capital A/c (2/5 of Rs. 65,000) To C s Capital A/c (1/6 of Rs. 90,000 or Rs. 25,000 whichever is more) 26,000 25,000 90, ,

41 Case 2: When guarantee is given by A Profit and Loss Appropriation Account For the year ending on 31 ST March, 2011 Cr. Particulars Rs. Particulars Rs. To A s Capital A/c By Profit and Loss A/c (3/6 of Rs. 90,000) 45,000 (Net Profits) 90,000 Less: Deficiency Borne for C (10,000) 35,000 To B s Capital A/c (2/6 of Rs. 90,000) 30,000 To C s Capital A/c (1/6 of Rs. 90,000 15,000 Add: Deficiency Recover from A 10, ,000 90,000 90,000 Case 3: When Guarantee is given by A and B equally Profit and Loss Appropriation Account For the year ending on 31 ST March, 2011 Cr. Particulars Rs. Particulars Rs. To A s Capital A/c By Profit and Loss A/c (3/6 of Rs. 90,000) 45,000 (Net Profits) 90,000 Less: Deficiency Borne for C (1/2 of 10,000) 5, ,000 To B s Capital A/c (2/6 of Rs. 90,000) 30,000 Less: Deficiency Borne for C (1/2 of 10,000) 5, ,000 To C s Capital A/c (1/6 of Rs. 90,000 15,000 Add: Deficiency Recover from A 5,000 Deficiency Recover from B 5, ,000 90,000 90,000 39

42 CHAPTER 3 Goodwill : Nature and Valuation Meaning of Goodwill: Goodwill places the organization at a good position due to which the organization is able to earn higher profits without any extra efforts. Goodwill cannot be seen but felt. Therefore goodwill is called an Intangible asset. Factors affecting the value of Goodwill: 1. Efficient management 2. Quality of products 3. Location of business 4. Availability of raw material 5. Favorable contracts Methods of valuation of goodwill: 1. Average profit method 2. Super profit method 3. Capitalization method Average Profit Method The profit earned by a Firm during previous accounting periods on an average basis is called average profit. Goodwill is calculated on the basis of average profit due to future expectations of earning capacity of the firm. Illustration 1. (Average Profit Method) Akanksha,Chetna and Dipanshu are partners in a firm sharing profits and losses in the ratio of 3:2:1. They decide to take Jatin into partnership from January 1,2012 for 1/5 share in the future profits. For this purpose, goodwill is to be valued at 2 times the average annual profits of the previous four years. The average profits for the past four years were: Year ` , , , ,400 Calculate the value of goodwill. Solution: Year ` , ,600 40

43 , ,400 Total 3,03,400 Average profit = 3,03,400= 75,850 4 Goodwill = 75,850 x 2 = 1,51,700 Super Profit Method If a firm earns higher profit in comparison to normal profit (generally earned by other firms of same industry) then the difference is called Super Profit. Goodwill is calculated on the basis of Super profit due to future expectations of earning capacity of the firm. Super profit = Average profit Normal profit Illustration 2. (Super Profit Method) A firm earned net profits during the last three years as: Year Profit (`) 36,000 40,000 44,000 The capital investment of the firm is ` 1,20,000. A fair return on the capital having regard to the risk involved is 10%. Calculate the value of goodwill on the basis of three years purchase of the average profit for the last three years. Solution : Average profit = 36,000+40,000+44,000 = 40,000 3 Normal profit = 1,20,000x10/100 = 12,000 Super profit = Average profit Normal profit = 40,000 12,000 = 28,000 Goodwill = Super profit x number of years purchased Capitalisation Method = 28,000 x 3 = 84,000 In this method capitalized value of the firm is calculated on the basis of normal rate of return. Difference between the capitalized value and actual capital employed is called goodwill. 41

44 Illustration 3 (Capitalisation Method) A earns ` 1,20,000 as its annual profits, the rate of normal profit being 10%. The assets of the firm amounted to ` 14,40,000 and liabilities to ` 4,80,000. Find out the value of goodwill by capitalization method. Solution: Capitalized value of the firm = Average profit x 100 Rate of normal profit = 1,20,000 x 100 =12, 00,0005 Capital employed = total assets liabilities = 14,40,000 4,80,000 = 9,60,000 Goodwill = capitalized value capital employed = 12,00,000 9,60,000 = 2,40,000 Illustration 4. (Average profit method) A and B are partners in a firm. They admit C into the firm. The goodwill for the purpose is to be calculated at 2 years purchase of the average normal profits of the last three years which were ` 10,000, ` 15,000 and ` 30,000 respectively. Second years profit included profit on sale of Machinery ` 10,000. Find the value of goodwill of the firm on C s Admission. Solution. (i) Calculation of Average Profit : ` Year ended Ist year 10,000 2 nd year (` 15, ` 10,000) 5,000 3 rd year 30,000 Total Profits 45,000 Average profit = Total profit No. of years = `45,000 = 15,000 3 Illustration 5. (Super profit method) The average net profits expected of a firm in future are ` 68,000 per year and capital invested in the business by the firm is ` 3,50,000. The rate of interest expected from capital invested in this class of business is 12%. The remuneration of the partners is estimated to be ` 8,000 for the year.you are required to find out the value of goodwill on the basis of two years purchase of super profits. Solution. (i) Average profit = ` 68,000 - ` 8,000 = ` 60,000 (ii) Normal profit = Capital employed x Normal rate of return/100 42