Accounting principles 2a
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Plant assets, property plan and equipment, depreciation, computing depreciation, depreciation methods, plant disposal, intangible assets, amortization, patent, copy rights, trademark, franchise,......

Plant assets, property plan and equipment, depreciation, computing depreciation, depreciation methods, plant disposal, intangible assets, amortization, patent, copy rights, trademark, franchise, goodwill, note payable, current liabilities, liquidity, current ratios, payroll, fica, taxes, freedom day, FUTA, partnership, LLC,

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  • 1. Accounting Principles 2a Professor Jose Cintron, MBA http://mba4help.com http://www.linkedin.com/in/josecintron
  • 2. www.mba4help.com Plant assets Plan Assets are resources that have three characteristics: Physical substance, Used in the operations of a business, Not intended for sale to customers. Also called property, plant, and equipment; plant and equipment; and fixed assets. These assets are expected to provide services to the company for a number of years
  • 3. www.mba4help.com Property plan and Equipment The cost principle requires that companies record plant assets at cost. The cost of factory machinery includes the purchase price, freight costs paid by the purchaser, and installation costs. Once cost is established, the company uses that amount as the basis of accounting for the plant asset over its useful life.
  • 4. www.mba4help.com Land Company acquires real estate at a cash cost of $100,000. The property contains an old warehouse that is razed at a net cost of $6,000 ($7,500 in costs less $1,500 proceeds from salvaged materials). Additional expenditures are the attorney's fee, $1,000, and the real estate broker's commission, $8,000. Cost of the land is $115,000, computed as follows
  • 5. www.mba4help.com Delivery truck Assume that ABC purchases a delivery truck for $15,000 cash, plus sales taxes of $900 and delivery costs of $500. The buyer also pays $200 for painting and lettering, $600 for an annual insurance policy, and $80 for a motor vehicle license. Explain how each of these costs would be accounted for.
  • 6. www.mba4help.com Delivery Truck solution The first four payments ($15,000, $900, $500, and $200) are expenditures necessary to make the truck ready for its intended use. Thus, the cost of the truck is $16,600. The payments for insurance and the license are operating costs and therefore are expensed.
  • 7. www.mba4help.com Depreciation Depreciation is the process of allocating to expense the cost of a plant asset over its useful (service) life. Cost allocation enables companies to properly match expenses with revenues. It is important to understand that depreciation is a process of cost allocation. It is not a process of asset valuation.
  • 8. www.mba4help.com Computing Depreciation 1. Cost. Recall that companies record plant assets at cost, in accordance with the cost principle. 2. Useful life. Useful life is an estimate of the expected productive life, also called service life, of the asset. Useful life may be expressed in terms of time, units of activity or units of output. 3. Salvage value. Salvage value is an estimate of the asset's value at the end of its useful life.
  • 9. www.mba4help.com Computing Depreciation
  • 10. www.mba4help.com Depreciation Methods Depreciation is generally computed using one of the following methods: 1. Straight-line 2. Units-of-activity 3. Declining-balance
  • 11. www.mba4help.com Depreciation Methods Once a company chooses a method, it should apply it consistently over the useful life of the asset. Consistency enhances the comparability of financial statements. Depreciation affects the balance sheet through accumulated depreciation and the income statement through depreciation expense.
  • 12. www.mba4help.com Straight-line method Under the straight-line method, companies expense the same amount of depreciation for each year of the asset's useful life. It is measured solely by the passage of time. Depreciable cost is the cost of the asset less its salvage value
  • 13. www.mba4help.com Straight-line method
  • 14. www.mba4help.com Units-of-Activity Under the units-of-activity method, useful life is expressed in terms of the total units of production or use expected from the asset, rather than as a time period. The units-of-activity method is ideally suited to factory machinery.
  • 15. www.mba4help.com Units-of-Activity
  • 16. www.mba4help.com Comparison of Methods
  • 17. www.mba4help.com Depreciation and Income Taxes The Internal Revenue Service (IRS) allows corporate taxpayers to deduct depreciation expense when they compute taxable income. However, the IRS does not require the taxpayer to use the same depreciation method on the tax return that is used in preparing financial statements. Taxpayers most likely use a special accelerated-depreciation method called the Modified Accelerated Cost Recovery System (MACRS)
  • 18. www.mba4help.com Individual work Straight-Line Depreciation On January 1, 2010, ABC Corp. purchased a new snow-grooming machine for $50,000. The machine is estimated to have a 10-year life with a $2,000 salvage value. What journal entry would ABC Corp. make at December 31, 2010, if it uses the straight-line method of depreciation?
  • 19. www.mba4help.com Solution The entry to record the first year's depreciation would be: Dec. 31 Depreciation Expense 4,800 Accumulated Depreciation 4,800 (To record annual depreciation on snow-grooming machine)
  • 20. www.mba4help.com Plant Asset Disposals Companies dispose of plant assets in three ways—retirement, sale, or exchange—Whatever the method, at the time of disposal the company must determine the book value of the plant asset. As noted earlier, book value is the difference between the cost of a plant asset and the accumulated depreciation to date. 1.Retirement 2.Sale 3.Exchange
  • 21. www.mba4help.com Retirement of Plant Assets Retirement of plant assets, assume that Hobart Enterprises retires its computer printers, which cost $32,000. The accumulated depreciation on these printers is $32,000. The equipment, therefore, is fully depreciated (zero book value). The entry to record this retirement is as follows. Accumulated Depreciation—Printing Equipment 32,000 Printing Equipment 32,000 (To record retirement of fully depreciated equipment)
  • 22. www.mba4help.com Loss on disposal If a company retires a plant asset before it is fully depreciated, and no cash is received for scrap or salvage value, a loss on disposal occurs. For example, assume that ABC co. discards delivery equipment that cost $18,000 and has accumulated depreciation of $14,000. The entry is. Accumulated DepreciationDelivery Equipment 14,000 Loss on Disposal 4,000 Delivery Equipment 18,000 (To record retirement of delivery equipment at a loss)
  • 23. www.mba4help.com Gain on Disposal On July 1, 2010, ABC co. sells office furniture for $16,000 cash. The office furniture originally cost $60,000. As of January 1, 2010, it had accumulated depreciation of $41,000. Depreciation for the first six months of 2010 is $8,000. ABC records depreciation expense and updates accumulated depreciation to July 1 with the following. July 1 Depreciation Expense 8,000 Accumulated Depreciation—Office Furniture 8,000 (To record depreciation expense for the first 6 months of 2010)
  • 24. www.mba4help.com Gain on Disposal July 1 Cash 16,000 Accumulated Depreciation—Office Furniture 49,000 Office Furniture 60,000 Gain on Disposal 5,000 (To record sale of office furniture at a gain)
  • 25. www.mba4help.com Loss on Disposal Assume that instead of selling the office furniture for $16,000, ABC sells it for $9,000. In this case, ABC computes a loss of $2,000 as follows July 1 Cash 9,000 Accumulated Depreciation—Office Furniture 49,000 Loss on Disposal 2,000 Office Furniture 60,000 (To record sale of office furniture at a loss)
  • 26. www.mba4help.com Individual work Plant Asset Disposal ABC Trucking has an old truck that cost $30,000, and it has accumulated depreciation of $16,000 on this truck. ABC has decided to sell the truck. (a) What entry would ABC Trucking make to record the sale of the truck for $17,000 cash? (b) What entry would ABC trucking make to record the sale of the truck for $10,000 cash?
  • 27. www.mba4help.com Solution (A)Cash (sale at gain) 17,000 Accumulated Depreciation—Truck 16,000 Truck 30,000 Gain on Disposal [$17,000 - ($30,000 - $16,000)] 3,000 (To record sale of truck at a gain) (B)Cash (sale at loss) 10,000 Loss on Disposal [$10,000 - ($30,000 - $16,000)] 4,000 Accumulated Depreciation—Truck 16,000 Truck 30,000 (To record sale of truck at a loss)
  • 28. www.mba4help.com Intangible assets Are rights, privileges, and competitive advantages that result from the ownership of long-lived assets that do not possess physical substance. 1. Patents, copyrights, and trademarks. 2. Acquisition of another business, in which the purchase price includes a payment for the company's favorable attributes (called goodwill). 3. Private monopolistic arrangements arising from contractual agreements, such as franchises and leases.
  • 29. www.mba4help.com Accounting for Intangible Companies record intangible assets at cost. Intangibles are categorized as having either a limited life or an indefinite life. If an intangible has a limited life, the company allocates its cost over the asset's useful life using a process similar to depreciation. The process of allocating the cost of intangibles is referred to as amortization.
  • 30. www.mba4help.com Amortization Amortization is to intangibles what depreciation is to plant assets and depletion is to natural resources. To record amortization of an intangible asset, a company increases (debits) Amortization Expense, and decreases (credits) the specific intangible asset. Cost for an intangible asset includes only the purchase price. Companies expense any costs incurred in developing an intangible asset.
  • 31. www.mba4help.com Amortization Intangible assets are typically amortized on a straight-line basis. Companies amortize the cost of a patent over its 20-year life or its useful life, whichever is shorter. Assume that ABC purchases a patent at a cost of $60,000. If ABC estimates the useful life of the patent to be eight years, the annual amortization expense is $7,500 ($60,000 ÷ 8). Dec. 31 Amortization Expense—Patent 7,500 Patent 7,500 (To record patent amortization)
  • 32. www.mba4help.com Patent A patent is an exclusive right issued by the U.S. Patent Office that enables the recipient to manufacture, sell, or otherwise control an invention for a period of 20 years from the date of the grant. A patent is nonrenewable. The initial cost of a patent is the cash or cash equivalent price paid to acquire the patent.
  • 33. www.mba4help.com Copyritht The federal government grants copyrights which give the owner the exclusive right to reproduce and sell an artistic or published work. Copyrights extend for the life of the creator plus 70 years. The useful life of a copyright generally is significantly shorter than its legal life. Therefore, copyrights usually are amortized over a relatively short period of time.
  • 34. www.mba4help.com Trademark A Trademark or trade name is a word, phrase, jingle, or symbol that identifies a particular enterprise or product. The creator or original user may obtain exclusive legal right to the trademark or trade name by registering it with the U.S. Patent Office. Such registration provides 20 years of protection. The registration may be renewed indefinitely as long as the trademark or trade name is in use.
  • 35. www.mba4help.com Franchise A franchise is a contractual arrangement between a franchisor and a franchisee. The franchisor grants the franchisee the right to sell certain products, provide specific services, or use certain trademarks or trade names, usually within a designated geographical area.
  • 36. www.mba4help.com Franchise When a company can identify costs with the purchase of a franchise or license, it should recognize an intangible asset. Companies should amortize the cost of a limited-life franchise (or license) over its useful life. If the life is indefinite, the cost is not amortized. Annual payments made under a franchise agreement are recorded as operating expenses.
  • 37. www.mba4help.com Goodwill Usually, the largest intangible asset that appears on a company's balance sheet is goodwill. Goodwill represents the value of all favorable attributes that relate to a company. These include exceptional management, desirable location, good customer relations, skilled employees, high-quality products.
  • 38. www.mba4help.com Goodwill Companies record goodwill only when an entire business is purchased. In that case, goodwill is the excess of cost over the fair market value of the net assets (assets less liabilities) acquired. In recording the purchase of a business, the company debits (increases) the net assets at their fair market values, credits (decreases) cash for the purchase price, and debits goodwill for the difference.
  • 39. www.mba4help.com Individual work Match the statement with the term most directly associated with it. Copyright- Depletion- Intangible asset- Franchise- Depreciation-R/D- Amortization- Plant assets- Trade mark- Patent
  • 40. www.mba4help.com Current Liability is a debt with two key features: (1) The company reasonably expects to pay the debt from existing current assets or through the creation of other current liabilities. (2) The company will pay the debt within one year or the operating cycle, whichever is longer.
  • 41. www.mba4help.com Current liabilities to Current assets Companies must carefully monitor the relationship of current liabilities to current assets. This relationship is critical in evaluating a company's short-term debt-paying ability. A company that has more current liabilities than current assets may not be able to meet its current obligations when they become due.
  • 42. www.mba4help.com Current Liabilities Current liabilities include notes payable, accounts payable, and unearned revenues. They also include accrued liabilities such as taxes, salaries and wages, and interest payable.
  • 43. www.mba4help.com Notes payable are often used instead of accounts payable because they give the lender formal proof of the obligation in case legal remedies are needed to collect the debt. Notes payable usually require the borrower to pay interest. Companies frequently issue them to meet short-term financing needs.
  • 44. www.mba4help.com Notes Payable ABC signs a $100,000, 12%, four-month note. With an interest-bearing promissory note, the amount of assets received upon issuance of the note generally equals the note's face value. ABC. therefore will receive $100,000 cash and will make the following journal entry. Mar. 1 Cash 100,000 Notes Payable 100,000 (To record issuance of 12%, 4-month note to First National Bank)
  • 45. www.mba4help.com Record interest Payable ABC makes an adjusting entry as follows: June 30 Interest Expense 4,000 Interest Payable 4,000 (To accrue interest for 4 months on First National Bank note)
  • 46. www.mba4help.com Repayment for the note At maturity (July 1, 2010), ABC inc. must pay the face value of the note ($100,000) plus $4,000 interest ($100,000 × 12% × 4/12). It records payment of the note and accrued interest as shown below. July 1 Notes Payable 100,000 Interest Payable 4,000 Cash 104,000 (To record payment of First National Bank interest-bearing note and accrued interest at maturity)
  • 47. www.mba4help.com Sales Taxes Payable Under most state sales tax laws, the selling company must ring up separately on the cash register the amount of the sale and the amount of the sales tax collected. Mar. 25 Cash 10,600 Sales 10,000 Sales Taxes Payable 600 (To record daily sales and sales taxes)
  • 48. www.mba4help.com Unearned Revenues 1. When a company receives the advance payment, it debits Cash, and credits a current liability account identifying the source . 2. When the company earns the revenue, it debits the Unearned Revenue account, and credits an earned revenue account. Sells10,000 season football tickets at $50 each for its five-game home Aug. 6 Cash 500,000 Unearned Football Ticket Revenue 500,000 (To record sale of 10,000 season tickets)
  • 49. www.mba4help.com Record Revenue As the school completes each of the five home games, it earns one- fifth of the revenue. The following entry records the revenue earned. Sept. 7 Unearned Football Ticket Revenue 100,000 Football Ticket Revenue 100,000 (To record football ticket revenue earned)
  • 50. www.mba4help.com Unearned Revenues
  • 51. www.mba4help.com Analysis- Liquidity Use of current and noncurrent classifications makes it possible to analyze a company's liquidity. Liquidity refers to the ability to pay maturing obligations and meet unexpected needs for cash. The excess of current assets over current liabilities is working capital
  • 52. www.mba4help.com Analysis- Liquidity
  • 53. www.mba4help.com Current Ratio The excess of current assets over current liabilities is working capital The current ratio permits us to compare the liquidity of different-sized companies and of a single company at different times.
  • 54. www.mba4help.com Payroll Payroll and related fringe benefits often make up a large percentage of current liabilities. Employee compensation is often the most significant expense that a company incurs. For example, Costco recently reported total employees of 103,000 and labor and fringe benefits costs which approximated 70% of the company's total cost of operations.
  • 55. www.mba4help.com Salaries and wages The term “payroll” pertains to both salaries and wages. Managerial, administrative, and sales personnel are generally paid salaries. Salaries are often expressed in terms of a specified amount per month or per year rather than an hourly rate. Store clerks, factory employees, and manual laborers are normally paid wages. Wages are based on a rate per hour.
  • 56. www.mba4help.com Professionals Fees The term “payroll” does not apply to payments made for services of professionals such as certified public accountants, attorneys, and architects. Such professionals are independent contractors rather than salaried employees. Payments to them are called fees.
  • 57. www.mba4help.com Gross earnings Gross earnings is the total compensation earned by an employee. It consists of wages or salaries, plus any bonuses and commissions. Jose, an employee of ABC, worked 44 hours for the weekly pay period ending January 14. His regular wage is $12 per hour. For any hours in excess of 40, the company pays at one-and-a-half times.
  • 58. www.mba4help.com Payroll deductions As anyone who has received a paycheck knows, gross earnings are usually very different from the amount actually received. The difference is due to payroll deductions.
  • 59. www.mba4help.com FICA FICA Taxes. In 1937 Congress enacted the Federal Insurance Contribution Act (FICA). FICA taxes are designed to provide workers with supplemental retirement, employment disability, and medical benefits. The benefits are financed by a tax levied on employees' earnings.
  • 60. www.mba4help.com When FICA taxes When FICA taxes were first imposed 1937, the rate was 1% on the first $3,000 of gross earnings, or a maximum of $30 per year. The rate and base have changed dramatically since that time! In 2008, the rate was 7.65% (6.2% Social Security plus 1.45% Medicare) on the first $102,000 of gross earnings for each employee.
  • 61. www.mba4help.com Income Taxes Under the U.S. pay-as-you-go system of federal income taxes, employers are required to withhold income taxes from employees each pay period. Three variables determine the amount to be withheld: (1) the employee's gross earnings; (2) the number of allowances claimed by the employee; and (3) the length of the pay period.
  • 62. www.mba4help.com Other Deductions Other Deductions. Employees may voluntarily authorize withholdings for charitable, retirement, and other purposes. All voluntary deductions from gross earnings should be authorized in writing by the employee.
  • 63. www.mba4help.com Net pay ABC determines net pay by subtracting payroll deductions from gross earnings. Illustration shows the computation of Jose's net pay for the pay period.
  • 64. www.mba4help.com Freedom Day In 2008, Americans worked 74 days to afford their federal taxes and 39 more days to afford state and local taxes. It takes 113 (74 + 39) days to pay your taxes. Thus, April 23 is Tax Freedom Day. For the past 26 years Tax Freedom Day has occurred in April, except for the year 2000 when it occurred in May.
  • 65. www.mba4help.com Employee Earning Records To comply with state and federal laws, an employer must keep a cumulative record of each employee's gross earnings, deductions, and net pay.
  • 66. www.mba4help.com Payroll register Payroll register. This record accumulates the gross earnings, deductions, and net pay by employee for each pay period
  • 67. www.mba4help.com Recognizing Payroll Expenses and Liabilities From the payroll register in ABC co. makes a journal entry to record the payroll. For the week ending January 14 the entry is: Jan. 14 Office Salaries Expense 5,200.00 Wages Expense 12,010.00 FICA Taxes Payable 1,376.80 Federal Income Taxes Payable 3,490.00 State Income Taxes Payable 344.20 United Way Payable 421.50 Union Dues Payable 115.00 Salaries and Wages Payable 11,462.50 (To record payroll for the week ending January 14)
  • 68. www.mba4help.com Recording Payment of the Payroll Each paycheck is usually accompanied by a detachable statement of earnings document
  • 69. www.mba4help.com Payment of the payroll Following payment of the payroll, the company enters the check numbers in the payroll register. ABC co. records payment of the payroll. Jan. 14 Salaries and Wages Payable 11,462.50 Cash 11,462.50 (To record payment of payroll)
  • 70. www.mba4help.com Group work In January, gross earnings in Ramirez Company were $20,000. All earnings are subject to 8% FICA taxes. Federal income tax withheld was $4,500, and state income tax withheld was $500. (a) Calculate net pay for January, and (b) record the payroll. Record gross earnings as Salaries and Wages Expense, record payroll deduction as liabilities, and record net pay as Salaries and Wages payable
  • 71. www.mba4help.com Solutions Net pay: $20,000 - (8% × $20,000) - $4500 - $500 = $13,400 Salaries and Wages Expense 20,000 FICA Taxes Payable 1,600 Federal Income Taxes Payable 4,500 State Income Taxes Payable 500 Salaries and Wages Payable 13,400 (To record payroll)
  • 72. www.mba4help.com Employer Payroll Taxes Payroll tax expense for businesses results from three taxes that governmental agencies levy on employers. These taxes are: (1) FICA, (2) federal unemployment tax, and (3) state unemployment tax. These taxes plus such items as paid vacations and pensions are collectively referred to as fringe benefits.
  • 73. www.mba4help.com FICA Taxes Each employee must pay FICA taxes. In addition, employers must match each employee's FICA contribution. The matching contribution results in payroll tax expense to the employer. The employer's tax is subject to the same rate and maximum earnings as the employee's.
  • 74. www.mba4help.com The Federal Unemployment Tax Act (FUTA) is another feature of the federal Social Security program. Federal unemployment taxes provide benefits for a limited period of time to employees who lose their jobs through no fault of their own. The FUTA tax rate is 6.2% of taxable wages. The taxable wage base is the first $7,000 of wages paid to each employee in a calendar year. Federal Unemployment Tax Act (FUTA)
  • 75. www.mba4help.com State unemployment(suta) All states have unemployment compensation programs under state unemployment tax acts (SUTA). Like federal unemployment taxes, state unemployment taxes provide benefits to employees who lose their jobs. These taxes are levied on employers.
  • 76. www.mba4help.com Employer Payroll Taxes
  • 77. www.mba4help.com Employer payroll taxes Companies usually record employer payroll taxes at the same time they record the payroll. Jan. 14 Payroll Tax Expense 2,443.82 FICA Taxes Payable 1,376.80 Federal Unemployment Taxes Payable 137.68 State Unemployment Taxes Payable 929.34 (To record employer's payroll taxes on January 14 payroll)
  • 78. www.mba4help.com Filing and Remitting Payroll Taxes For purposes of reporting and remitting to the IRS, the company combines the FICA taxes and federal income taxes that it withheld. Companies must report the taxes quarterly, no later than one month following the close of each quarter. The remitting requirements depend on the amount of taxes withheld and the length of the pay period. Companies generally file and remit federal unemployment taxes annually on or before January 31 of the subsequent year.
  • 79. www.mba4help.com (Form W-2) Employers also must provide each employee with a Wage and Tax Statement (Form W-2) by January 31
  • 80. www.mba4help.com Partnership form of organization A partnership is an association of two or more persons to carry on as co- owners of a business for profit. Partnerships are fairly easy to form. People form partnerships simply by a verbal agreement (less than a year), or by written agreement. A partnership is a legal entity. A partnership can own property (land, buildings, equipment), and can sue or be sued. A partnership also is an accounting entity.
  • 81. www.mba4help.com Partnership and taxes The net income of a partnership is not taxed as a separate entity. But, a partnership must file an information tax return showing partnership net income and each partner's share of that net income. Each partner's share is taxable at personal tax rates, regardless of the amount of net income each withdraws from the business during the year.
  • 82. www.mba4help.com Mutual Agency Mutual agency means that each partner acts on behalf of the partnership when engaging in partnership business. The act of any partner is binding on all other partners. This is true even when partners act beyond the scope of their authority, so long as the act appears to be appropriate for the partnership.
  • 83. www.mba4help.com Limited Life A partnership may be ended voluntarily at any time through the acceptance of a new partner or the withdrawal of a partner. Partnership dissolution occurs whenever a partner withdraws or a new partner is admitted. Dissolution does not necessarily mean that the business ends. If the continuing partners agree, operations can continue without interruption by forming a new partnership.
  • 84. www.mba4help.com Unlimited Liability Each partner is personally and individually liable for all partnership liabilities. Creditors' claims attach first to partnership assets. If these are insufficient, the claims then attach to the personal resources of any partner, irrespective of that partner's equity in the partnership. Because each partner is responsible for all the debts of the partnership, each partner is said to have unlimited liability
  • 85. www.mba4help.com Co-Ownership of Property Partners jointly own partnership assets. If the partnership is dissolved, each partner has a claim on total assets equal to the balance in his or her respective capital account. This claim does not attach to specific assets that an individual partner contributed to the firm.
  • 86. www.mba4help.com Share Income or loss Partnership net income (or net loss) is also co-owned. If the partnership contract does not specify to the contrary, all net income or net loss is shared equally by the partners. As you will see later, though, partners may agree to unequal sharing of net income or net loss.
  • 87. www.mba4help.com Limited partnership “Ltd.,” or “LP” In a limited partnership, one or more partners have unlimited liability and one or more partners have limited liability for the debts of the firm. Those with unlimited liability are general partners. Those with limited liability are limited partners. Limited partners does not get involved in management.
  • 88. www.mba4help.com Limited Liability Partnership In an LLP, all partners have limited liability. No general partners. The LLP is designed to protect innocent partners from malpractice or negligence claims resulting from the acts of another partner. These professional partnerships vary in size from a medical/Lawyer partnership of three to five doctors, up to couple hundred partners.
  • 89. www.mba4help.com Limited Liability Companies A hybrid form of business organization with certain features like a corporation and others like a limited partnership is the limited liability company, or “LLC.” An LLC usually has a limited life. The owners, called members, have limited liability like owners of a corporation. the members of a limited liability company (LLC) can assume an active management role. Income tax purposes, the IRS usually classifies an LLC as a partnership.
  • 90. www.mba4help.com
  • 91. www.mba4help.com One major advantage of a partnership is to combine the skills and resources of two or more individuals. Partnerships are easily formed and are relatively free from government regulations and restrictions. Partners generally can make decisions quickly on substantive business matters without having to consult a board of directors. Advantages & Disadvantages
  • 92. www.mba4help.com The Partnership Agreement The partnership agreement contains such basic information as the name and principal location of the firm, the purpose of the business. 1. Names and capital contributions of partners. 2. Rights and duties of partners. 3. Basis for sharing net income or net loss. 4. Provision for withdrawals of assets. 5. Procedures for submitting disputes to arbitration. 6. Procedures for the withdrawal or addition of a partner. 7. Rights and duties of surviving partners in the event of a partner's death.
  • 93. www.mba4help.com Partner's initial investment Each partner's initial investment in a partnership is entered in the partnership records. The partnership should record these investments at the fair market value of the assets at the date of their transfer to the partnership. All partners must agree to the values assigned.
  • 94. www.mba4help.com The partnership records the investments Investment of A. Rolfe Cash 8,000 Office Equipment 4,000 A. Rolfe, Capital 12,000 (To record investment of Rolfe) Investment of T. Shea Cash 9,000 Accounts Receivable 4,000 Allowance for Doubtful Accounts 1,000 T. Shea, Capital 12,000 (To record investment of Shea)
  • 95. www.mba4help.com Dividing Net Income or Net Loss Partners equally share partnership net income or net loss unless the partnership contract indicates otherwise. The same basis of division usually applies to both net income and net loss.
  • 96. www.mba4help.com Closing Entries As in the case of a proprietorship, a partnership must make four entries in preparing closing entries. The entries are: 1. Debit each revenue account for its balance, and credit Income Summary for total revenues. 2. Debit Income Summary for total expenses, and credit each expense account for its balance. 3. Debit Income Summary for its balance, and credit each partner's capital account for his or her share of net income. Or, credit Income Summary, and debit each partner's capital account for his or her share of net loss. 4. Debit each partner's capital account for the balance in that partner's drawing account, and credit each partner's drawing account for the same amount.
  • 97. www.mba4help.com First two entries The first two entries are the same as in a proprietorship. The last two entries are different because (1) there are two or more owners' capital and drawing accounts, and (2) it is necessary to divide net income (or net loss) among the partners.
  • 98. www.mba4help.com The last two closing entries are: AB Company has net income of $32,000 for 2010. The partners, L. Arbor and D. Barnett, share net income and net loss equally. Drawings for the year were Arbor $8,000 and Barnett $6,000. Dec. 31 Income Summary 32,000 L. Arbor, Capital ($32,000 × 50%) 16,000 D. Barnett, Capital ($32,000 × 50%) 16,000 Dec. 31 L. Arbor, Capital 8,000 D. Barnett, Capital 6,000 L. Arbor, Drawing 8,000 D. Barnett, Drawing 6,000 (To close drawing accounts to capital accounts)
  • 99. www.mba4help.com Capital and drawing Acct. Assume that the beginning capital balance is $47,000 for Arbor and $36,000 for Barnett. After posting the closing entries, the capital and drawing accounts will appear as shown
  • 100. www.mba4help.com Salaries to partners and interest on partners Salaries to partners and interest on partners'' capital are not expenses of the partnership. Therefore, these items do not enter into the matching of expenses with revenues and the determination of net income or net loss. For a partnership, as for other entities, salaries expense pertains to the cost of services performed by employees. When the partnership agreement permits the partners to make monthly withdrawals of cash based on their “salary,” the partnership debits these withdrawals to the partner's drawing account End part 1