Unit I and 2

Nature and Formation of a Partnership

A partnership is a contract whereby two or more persons bind themselves to

contribute money, property or industry into a common fund with the intention of
dividing the profit among themselves (Article 1767 of the Civil Code of the
Philippines). This joint effort may be supported by a partnership agreement known as
the Articles of Co-Partnership, which is an agreement in writing among the partners
governing the nature and terms of the partnership contract. A written agreement is
required when partnership capital is P 3,000 or more in money or in property. The
Article of Co-partnership helps in avoid misunderstanding among the partners. The
written agreement among the partners governs the formation, operation and
dissolution of the partnership and is required to be registered with SEC. The Article
of Co-partnership contains the following information:

1. The name of the partnership;

2. The names, addresses of the partners, classes of partners stating whether the
partner is a general or a limited partner;
3. The effective date of the contract;
4. The purpose and principal place of business of the business;
5. The capital of the partnership stating the contributions of each of the partners;
6. The rights and duties of each of the partners;
7. The manner of dividing profit or loss among the partners;
8. The conditions under which the partners may withdraw money or other assets;
9. The manner of keeping the books of accounts;
10. The causes for dissolution and the provision for arbitration in settling
disputes.

Characteristics of a Partnership
1. Based on contract – partnership is formed through the mutual agreement of all
the partners. The contract may be written or oral.
2. Voluntary association – no one should be forced or coerced in joining a
partnership.
3. Mutual agency – any partner may act as an agent of the partnership in
conducting its affairs.
4. Limited life – a partnership may be dissolved at any time by action of the
partners or by operation of law. The withdrawal, death, retirement,
bankruptcy, incapacity of a partner and the admission of a new partner
dissolves the partnership.
5. Unlimited liability – the personal assets of a general partner may be used to
satisfy the claims of the creditors of the partnership if the partnership assets
are not enough to settle the liabilities to outsiders upon liquidation.
6. Co-ownership of property – properties contributed to the partnership are
owned by the partnership. Properties invested by a partner cease to be his own
personal property.
 7. Co-ownership of profit – a partner has the right to share in partnership profits.
The partners are entitled to share in the firm’s profits as a return on their
investment.
8. Legal entity – a partnership has a legal personality separate and distinct from
that of each of the partners.
9. Income tax – partnerships are subject to income tax rate of 30% beginning the
fiscal year 2010 with the exception of general professional partnerships (i.e.,
those partnerships organized for the exercise of professions, e.g., CPAs,
doctors, lawyers, etc.)

Advantages of a Partnership
1. It is easy and inexpensive to form and to dissolve. It may be created orally
except when partnership capital is P3,000 or more. A partnership is ended
whenever there are changes in the ownership structure such as withdrawal of a
partner or admission of a new partner.
2. Greater amount of capital may be raised compared to a sole proprietorship.
The combined capital of 2 or more partners offers a greater source of capital.
3. There is relative freedom and flexibility in decision-making compared to a
corporation. Decisions are effected simply by agreement among the partners
without the formalities necessary under a corporation.
4. It is better managed because more than one person supervises business affairs.
Better management results from the combined experience and ability of
several individuals.
5. The unlimited liability of general partners makes it reliable from the point of
view of creditors.

Disadvantages of a Partnership
1. There is lack of business continuity because it can be easily dissolved.
2. Limited amount of capital may be raised compared to a corporation.
3. The unlimited liability of a partnership deters many from joining in a
partnership form of business.
4. A general partner may be subjected to a personal liability for erroneous
management decisions made by his associates.
5. There is likelihood of dissension and disagreement when each of the partners
has the same authority in the management of the firm.
6. There is difficulty in transferring ownership interest because ownership
interest in the partnership cannot be transferred without the consent of all the
partners.

Kinds of Partnerships
1. According to activities
a. Service – main activity is the rendering of services
b. Merchandising or Trading – main activity is the purchase or sale of
goods
c. Manufacturing – main activity is the production of goods

2. According to liability
 a. General – one wherein all the partners are general partners who are
liable for the partnership debts to the extent of their personal property
after all the partnership assets have been exhausted.
b. Limited – one consisting of one or more general partners and one or
more limited partners.

3. According to object
a. Universal partnership of all present property – one in which the
partners contribute all the property which actually belong to each of
them, at the time of the constitution of the partnership, to a common
fund with the intention of dividing the same among them as well as the
profits which they may acquire therewith. All assets contributed to the
partnership and subsequent acquisitions become common partnership
assets.
b. Universal partnership of profits – one which comprises all that the
partners may acquire by their industry or work during the existence of
the partnership and the usufruct of movable or immovable property
which each of the partners may possess at the time of the institution of
the contract. The original movable or immovable property contributed
do not become common partnership assets.
c. Particular partnership – one which has for its object determinate things,
their use or fruits or a specific undertaking or the exercise of a
profession of vocation.

4. According to duration of partnership existence

a. Partnership at will – one for which no term is specified and is not
formed for a particular undertaking or venture and which may be
terminated any time by mutual agreement of the partners or the will of
one alone.
b. Partnership with a Fixed Term – one in which the term or period for
which the partnership is to exist is agreed upon (Baysa and Lupisan,
2000).

Kinds of Partners
1. According to contribution
a. Capitalist – one who contributes capital in money or property.
b. Industrial – one who contributes industry, labor, skill or service
c. Capitalist-Industrial – one who contributes money, property and
industry
2. According to Liability
a. General – one whose liability to third persons extends to his private
property
b. Limited – one whose liability to third persons is limited only to the
extent of his capital contribution to the partnership.
3. According to management
a. Managing Partner – one who manages actively the business of the
partnership
b. Silent – one who does not participate in the management of partnership
affairs.
4. Others
 a. Nominal- a partner in name only.
b. Secret – one who takes active part in the business but whose
connection with the partnership is concealed on unknown to the public.
c. Dormant partner – one who does not take active part in the business
and is not known to the public as a partner.

Basic Features of Partnership Accounting

1. More than one capital and drawing accounts – there will be as many capital
accounts and as many drawing accounts as there are partners
2. Partner’s loans – partners may advance money to the partnership in the form
of loans when the business is in need of additional funds. The account title to
be credited is Loans Payable to Partner or Partner, Loan
3. Partner’s borrowings – the partnership may advance money to partners other
than withdrawals in the form of loans. The account title to be debited is
Receivable from Partner.
4. Partner’s salaries – partners are paid salaries for services rendered in the
conduct of partnership business.
5. Interest on investment – interest is allowed to earn on the asset investment of
the partners.
6. Division of profit and losses – net profit or net loss is to be divided among the
partners based on their agreement.

PARTNERSHIP FORMATION

Two Kinds of Partnership Formation

1. Two or more individuals form a business for the first time.

2. An individual forms a business with a sole proprietor or a sole

proprietorship(s) converted into a partnership

The following are the accounting procedures in converting a sole proprietorship

form of business into partnership.
a. Adjust the existing books of the sole proprietorship(s).
b. Close the existing books of the sole proprietorship(s).

c. Record the investment of all the partners in the new set of partnership
books.