# Accounting for Partnerships

### Journal Entries for Formation of Partnerships and LLCs

During the formation of a partnership, each partner's investment in the business is recorded with a separate journal entry to establish each partner's individual equity in the business.

Generally, the journal entries and day-to-day transactions and activities of a partnership or LLC are the same as for any other organization. However, the elements that usually set these entities apart are the treatment of dissolution and liquidation of the partnership and the LLC, as well as the division of net income and net loss. During the formation of a partnership, each partner's investment is recorded in a separate journal entry to establish their individual equity in the business, known as their capital account. The assets are debited to the partnership, the liabilities are credited to the partnership, and the difference is credited to the capital account for that partner.

To illustrate, John Doe and Jane Smith are owners of Valley Company. John contributes to the partnership.

### John Doe's Contributions to Valley Company Partnership

 Cash $10,000 Equipment$5,000 Accounts Receivable $8,600 Allowance for Doubtful Accounts$1,000 Inventory $15,000 Accounts Payable$2,500

### John Doe's Partner Assets and Liabilities Journal Entries

Date Description Debit Credit
Dec. 1 Cash $10,000 Accounts Receivable$8,600
Inventory $15,000 Equipment$5,000
Allowance for Doubtful Accounts $1,000 Accounts Payable$2,500

### Services-Based Net Income Split

J. Doe J. Smith Total
Annual Salary
(Monthly x 12)
$48,000$60,000 $108,000 Remaining Income Distribution $\left[\left(\200\text{,}000 - \108\text{,}000\right)\text{/}2\right]$$46,000 $46,000$92,000
Net Income $94,000$106,000 $200,000 Based on the services of the partners, Jane Smith will receive a higher share of the net income of the partnership even though the income is divided equally. At the end of the period, the partnership makes two closing entries. First, the revenue and expense accounts for the period are closed into the partner's equity accounts; each partner's equity account will receive a credit equal to their share of the net income or a debit in the event of a net loss. Second, any withdrawals from the partnership by a partner are closed into that partner's equity account with closing entries. ### Services-Based First Closing Journal Entries Date Description Debit Credit Dec. 31 Revenue$300,000
Expenses $100,000 John Doe, Capital (Member's Equity)$94,000
Jane Smith, Capital (Member's Equity) $106,000 To record first closing entry for Valley Company In this example, the revenue and expenses are consolidated for simplicity, but traditionally each separate revenue and expense account receives its own debit or credit to properly close the accounts. For the second entry to close the period for Valley Company, both owners withdraw their salary amounts. ### Services-Based Second Closing Journal Entries Date Description Debit Credit Dec. 31 John Doe, Capital (Member's Equity$48,000
Jane Smith, Capital (Member's Equity) $60,000 John Doe, Cash$48,000
Jane Smith, Cash $60,000 To record second closing entry for Valley Company #### Services of Partners and Investments Another way that partners may divide income is based on how much time the partner contributes to running the business as well as the amount of the initial investment of the partner. For example, John Doe's monthly salary allowance is$4,000, and Jane Smith's monthly salary allowance is $5,000. However, there is an additional deposit of 10% to each partner's capital balance as of December 1. John's capital balance was$150,000, while Jane's capital balance was $170,000. The remaining net income is then divided equally. ### Services and Investment -Based Net Income Split J. Doe J. Smith Total Annual Salary (Monthly x 12)$48,000 $60,000$108,000
Interest Allowance
(Capital Balance x 10%)
$15,000$17,000 $32,000 Remaining Income Distribution $\left[\left(\200\text{,}000 - \108\text{,}000 - \32\text{,}000\right)\text{/}2\right]$$30,000 $30,000$60,000
Net Income $93,000$107,000 $200,000 A closing entry for revenue and expense as well as for dividing the net income is recorded. ### Services and Investment -Based Closing Journal Entries Date Description Debit Credit Dec. 31 Revenue$300,000
Expenses $100,000 John Doe, Capital (Member's Equity)$93,000

### Division of Income with Deducted Allowances

J. Doe J. Smith Total
Annual Salary
(Monthly x 12)
$48,000$60,000 $108,000 Interest Allowance (Capital Balance x 10%)$15,000 $17,000$32,000
Deduct excess of allowances over income
$\left[\left(\125\text{,}000 - \108\text{,}000 - \32\text{,}000\right)\text{/}2\right]$
($7,500) ($7,500) ($15,000) Net Income$55,500 $69,500$125,000

Thus, there is a closing entry for revenue and expense as well as for dividing the net income.

### Closing Journal Entry for Revenue and Expense with Divided Net Income

Date Description Debit Credit
Dec. 31 Revenue $225,000 Expenses$100,000
John Doe, Capital (Member's Equity) $55,500 Jane Smith, Capital (Member's Equity)$69,500
To record the first closing entry for Valley Company