Accountants' Handbook Special Industries and Special Topics 10th Edition_16

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Accountants’ Handbook Special Industries and Special Topics 10th Edition_16 40.2 ACCOUNTING FOR PARTNERSHIP OPERATIONS 40 9 •before deducting partners’ salaries; partners’ salaries are treated as a means of dividing partner-ship income.”5 Dixon, Hepworth, and Paton, on the other hand, indicate that the interpretation of partners’salaries should vary with the circumstances: Where there are a substantial number of partners, and salaries are allowed to only one or two mem- bers who are active in administration, there is practical justification for treating such salaries as oper- ating charges closely akin to the cost of services furnished by outsiders. This is especially defensible where the salaries are subject to negotiation from period to period and are in no way dependent upon the presence of net earnings. Where there are only two partners, and both capital investments and contributions of services are substantially equal, there is less need for salary adjustments; if “salaries” are allowed in such a situation it would seem to be reasonable to interpret them as prelim- inary distributions of net income—an income derived from a coordination of capital and personal ef- forts in a business venture. Between these two extremes there lies a range of less clear-cut cases . . . .6(iii) Bonuses. Where a particular partner furnishes especially important services, the device of abonus—usually expressed as a percentage of net income—may be employed as a means of provid-ing additional compensation. The principal question that arises in such cases is the interpretation ofthe bonus in relation to the final net amount to be distributed according to the regular income ratio,as illustrated in the following example. Stark and Bruch share profits equally. Per the partnership agreement, Bruch is to receivea bonus of 20% of the net income of the firm, before allowing the bonus, for special services to thefirm. If in a particular year the credit balance of the expense and revenue account is $27,000 beforeallowing the bonus, profits are divided as follows: Stark Bruch Total Bonus, 20% of $27,000 $05,400 $05,400 Balance equally $10,800 $10,800 $21,600 $10,800 $16,200 $27,000 If the bonus is to be treated as an expense item in the computation of the final net income, the$27,000 credit balance of the expense and revenue account represents both the bonus and the finalnet income. Hence the $27,000 is 120% of the net income, and the net income is 100%, or $22,500.Under this method the profits are divided as follows: Stark Bruch Total Bonus, 20% of $22,500 $04,500 $04,500 Balance equally $11,250 $11,250 $22,500 $11,250 $15,750 $27,000(iv) Debtor–Creditor Relationship. At times, when a partnership is formed, a partner may notbe interested in investing more than a certain amount of assets on a permanent basis. He, therefore,may make an advance to the partnership that is viewed as a loan rather than an increase in his capi-tal account. The firm may thus obtain the initial financing it needs without having to negotiate withan outside source on less favorable terms. The loan may be interest bearing and may be repayablein installments. As noted by Meigs, Johnson, and Keller (1966), interest charges on such loans5 Norman M. Bedford, Introduction to Modern Accounting (Ronald Press, New York, 1962).6 Robert L. Dixon, Samuel R. Hepworth, and William A. Paton, Jr., Essentials of Accounting (Macmillan,New York, 1966).40 10 PARTNERSHIPS AND JOINT VENTURES •should be treated as an expense of the partnership, and the loan itself should be disclosed clearly asa liability of the firm. Occasionally, a partner may withdraw a sum from the partnership. This type of transaction shouldbe treated in the manner dictated by the circumstances. If the loan is material relative to the partner’snet personal assets, if no repayment terms are stipulated, and if the loan has been long outstanding,the loan is, in effect, a withdrawal and should be viewed as a contraction of the firm’s capital. If, onthe other hand, the partner has every intention of repaying the sum, the loan may be regarded as avalid receivable.(v) Landlord–Tenant Relationship. In some cases, a partner may rent property from or tothe partnership. Transactions of this type should be handled exactly as rental agreements withothers are handled. The only possible difference in recording this type of event would find therent receiv ...