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Guarantee of profit in Partnership Accounts
Guarantee of profit

Guarantee of profit in Partnership Accounts

Guarantee of  profit in Partnership Accounts

Sometimes, a partner is admitted in the firm on guarantee in respect of his minimum share of profit from the business. Such a gurantee can be given even to an existing partner also. Such a guarantee to the incoming partner is given either by

  • the firm i.e. by all the old partners in an agreed ratio, or
  • some of the old partners or any one of the old partners

When all the partners guarantee that one of the partners shall be given a minimum amount of profit, we should calculate the following two amounts separately:

  1.  Share of profit of the guaranted partner as per profit sharing ratio, and
  2. Minimum guaranteed amount of profit of the guanteed partner.

The higher of the above two is to be given to that partner. The balance of profit (total profit minus profit given to the guaranteed partner) is to be shared by the remaining partners in their respective profit -sharing ratio.

When the new partner’s share of profit is more than the guaranteed amount, his actual share of profit is given to him instead of the guaranteed amount of profit.

Example :

X and Y share profits & Losses in the ratio of 2 : 1 as from 1st April, 2013, they admitted Z as a partner who was to have one-tenth share of profit with a guaranteed amount of 1,60,000. X and Y continue to share profits as before. The profit for the year ended 31st March 2014 amounted to 10,00,000.

solution :

Z share :

10,00000 X 1/10  = 100,000

but minimum grantee profit to z is 160,000

therefore  160,000 – 100000 = 60,000 is deficiency of profit

now  sharing of profit between X and Y

10,0000 – 160,000

= 840,000

X share will be

840,000 X 2/3    =  560,000

Y share will be 1/3 =  2,80,000

Z share will be = 160,000

Partners appropriation Accounts

Particular Amount Particular Amount
To partners’ Capital A/c By Profit and Loss A/c 10,00000
X’s Capital A/c 560,000
Y’s Capital A/c 280,000
Z’s Capital A/c 1,60,000
10,00000 10,00000

Example 2.

A, B and C are partners in a firm. Their profit sharing ratio is 5 : 3 : 2. However, C is guaranteed a minimum amount of  50,000 as share of profit every year. Any deficiency arising on that amount shall be met by B. The profits for the two years ended 31st March, 2010 and 2011 were 2,00,000 and 3,00,000 respectively. Prepare the Profit & Loss Appropriation A/c for the two years.

Year ending 31 march 2010

A ‘s profit

200000 X 5/10 = 100000

B’ profit

200000 X 3/10 = 60,000

C’s Profit

200000 X 2/ 10 = 40,000

Guarantee profit given to Cs is 500,000

Profit and loss Appropriation Accounts

Particular Amount Particular Amount
To profit transfer A’s Capital A/c 100000 By profit and loss A/c 200000
To profit transfer B’s Capital A/c

60,000- 10000

50,000
C’s Capital A/c  40,000 + 10000

(transfer from B’s profit)

50.000
200000 200000

Profit and loss Appropriation Accounts

Year ending 31 march 2011

A ‘s profit

300000 X 5/10 = 150000

B’ profit

300000 X 3/10 = 90,000

C’s Profit

300000 X 2/ 10 = 60,000

Guarantee profit given to Cs is 500,000

Profit and loss Appropriation Accounts

Particular Amount Particular Amount
To profit transfer A’s Capital A/c 150000 By profit and loss A/c 300000
To profit transfer B’s Capital A/c 90,000
C’s Capital A/c

(transfer from B’s profit)

60.000
300000 300000

 

Example 

P, Q and R entered into partnership on 1st April 2010 to share profits and losses in the ratio of 5 : 3 : 2. P, guaranteed that R’s share of profits, after charging interest on capital @ 5% p.a., would not be less than ` 30,000 in any year.

The capital was provided as follows : A-  3,20,000; B- 2,00,000 and C- 1,60,000. The profits for the year ended 31st March 2011 amounted to 1,59,000 before providing for interest on capital. Prepare Profit and Loss Appropriation A/c for the year ended 31st March 2011.

Interest on capital

P’s interest  on capital  = 320000 X 5% = 16000

Q’s interest on capital  = 200000 X 5% = 10000

R’s Interest on capital

160,000 X 5% == 8000

Particular Amount Particular Amount
P’sInterest on capital 16000

Q’s Interest on Capital 10,000

R’s Interest on capital 8000

 

 

34000

By Profit and loss

Appropriation Account

159000
To share of profit By bal c/d 125000
P : 5/10 of 125000  =625000

Less adjustment of guarantee  5000

 

57,500

Q         3/10 of 125000 37500
R        2/10 of 125000      25000

Add 5000

30,000
125000 125000

Example :

M and N were in partnership sharing profits and losses in the ratio of 3 : 2. In appreciation of the services of O, their manager who was in receipt of a salary of  24,000 and a commission of 5% of net profit after charging salary and commission. They took him into partnership from 1st April, 2010 giving him 1/8th share of profits. The agreement provided that any excess over his former remuneration to which O becomes entitled will be borne by M and N in the ratio of 2 : 3. The profits for the year ended 31st March, 2011 amounted to 4,44,000.Prepare the Profit and Loss Appropriation Account, for the year ended on March 31, 2011.

Working Note :

1. Profit for the year
O’s Share as partner (1/8 x  4,44,000) = 55,500
Less: Amount payable to O as employee :
Salary = 24,000
Commission 5 (` 4,44,000 –  24,000) = 20,000 44,000

105

Deficiency 11,500
Deficiency chargeable to M and N in the ratio 2 : 3
∴ A to bear = 11,500 x 2/5 = 4,600
B to bear = 11,500 x 3/5 = 6,900

2. Profit for the year available to M and N (4,44,000 – C’s share as Manager  44,000) = 4,00,000

A’s Share = 4,00,000 x 3/5 =  2,40,000 – Share in deficiency B’s Share = 4,00,000 x 2/5 = 1,60,000 – Share in deficiency

Profit and Loss Appropriation Account  for the year ended 31st March, 2011

Particular Amount Particular Amount
To profit transfer to M’s Capital 240,000

Less Tranfer to C  Transfer to C 4,600

235400 By profit and loss appropriation a/c 444000
N’s capital A/c    160,000

Less transfer   6900

153100
O’s Capital A/c   44000

 

Add From A     4600
From B     6900 55500
444000

Example :

X, Y and Z are partners sharing profits in the ratio of 5 : 4 : 3. Their capitals on 1st April 2013 were 5,00,000, 4,00,000 and  2,00,000 respectively. After closing the accounts on 31st March 2014 it was found out that according to the partnership agreement interest at 10% p.a. on partners’ capital’s a salary of  60,000 per year to B and a salary of  70,000 per year to C was not provided before distribution of profit. It was agreed among the partners to make the adjustment entry at the beginning of the next year rather than to alter the Balance Sheet. Pass the necessary journal entry assuming that capitals are not fixed.

 

X Y Z Total
Interest on Capital @ 10% p.a 50.000 40,000 20,000 110000
Salaries 60,000 70,000 130,000
Total Amt payable (Cr) 50,000 100000 90,000 240,000
Division of firm’s Loss of

240,000 in 5 : 4: 3 Dr

100000 80000 60000 240000
50000 20000 30000

 

X’s Capital A/c    50,000
To Y’s Capital A/c    20000
To Z’s Capital A/c     30000
(The adjustment for the omission of interest on
capital and salary)

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