Guest Author - Consuelo Herrera, CAMS, CFE
Recording Partnershipsí Transactions
Forensic accountants are called in when conflict between business partners arise to help bring common grounds for an agreement. In executing their duties, forensic accountants may assist in helping attorneys understand the accounting that reflect a partnership and its partnersí transactions.
The Internal Revenue Service states that partners of a partnership are considered to be self-employed. The partnership must furnish copies of Schedule K-1 to the partners by the partnership information return due date or extended due date. If you are a member of a partnership that carries on a trade or business, your distributive share of the income or loss from that trade or business is net earnings from self-employment. Limited partners are subject to self-employment tax only on guaranteed payments, such as salary and professional fees for services rendered.
What is a partnership?
In general, a partnership is a relationship between two or more persons who carry on a business for profit. Even if a formal partnership agreement is not made, the partners reach an agreement to share the profits and or losses of the partnership. The percentages should be expressly determined but in a case where a stated agreement does not exist, the participation in losses is deemed to be the same as the proportion of the contributions to the partnership. For example, if Partnership ABC has three members who contributed as follows: A 65%, B 20%, and C 15%, in a $10,000 loss, $6,500 would be allocated to A, $2,000 to B, and $1,500 to C. For tax purposes, partnerships are pass-through entities.
In dealing with partnerships it important to be familiar with the following terms:
∑ General Partner : A partner who is personally liable for the partnership debts;
∑ Limited Partner : Is a partner whose personal liability for the partnership debts is limited to the amount of his or her contributions of money or property to the partnership.
∑ Limited Partnership : An entity formed under a state regulations composed of at least one general partner and one or more limited partners.
∑ Limited Liability Partnership LLP : Generally a partner in a LLP is not personally liable for the LLP debts of any other partner, nor is a partner liable for the acts or omissions of any other partner, solely for the reason of being a partner. Most of the large accounting firms are organized as LLPs.
∑ Limited Liability Company LLC : Unlike the LLP, none of the members of an LLC are personally liable for its debts. For tax purpose, an LLC may be classified as a partnership, as a corporation, or an entity disregarded as an entity separate from its owner.
The most common entries in accounting for partnerships are:
1) Record the contributions to the partnership
2) Allocate profits and losses to the partners
3) Record withdrawals of cash from a partnership
4) Account for a new partnerís interest in the business.
ABC LLP started business in May 19, 1993 and partners A and B contributed cash, $2,000 and $1,300, respectively. Partner C contributed land worth $11,500; assets other than cash are recorded at their fair market value. Initial entry would be:
Cash 3,500 DR
Land 11,500 DR
Partner A, Capital 2,000 CR
Partner B, Capital 1,300 CR
Partner C, Capital 11,500 CR
Letís suppose that Partners A, B, and C agreed to share profits and losses equally. At the end of the fiscal year, ABC LLP accumulated losses of $9,300. The entry to record it would be:
Partner A, (1/3 of $9,300), Capital 3,100 DR
Partner B, (1/3 of $9,300), Capital 3,100 DR
Partner C, (1/3 of $9,300), Capital 3,100 DR
Income (Loss) Summary 9,300 CR
If no agreement as to the way to allocate profit and losses, the formula to allocate the share of profits or losses to a partner is equal to:
(Partnerís Contribution / Total Contributions) X Net Income/Loss
If partner C withdraws $4,800 from ABC, LLP, two entries must be made: one to record the actual withdrawal, made at the time of the withdrawal, and the second, to close the drawing account to Capital, at the end of the period. Here are the entries:
1) C, Drawing $4,800 DR
Cash 4,800 CR
2) Partner C, Capital $4,800 DR
Partner C, Drawing 4,800 CR
If a new partner is admitted into a partnership, the entry would be the same as the initial entry to record the contributions of partners.
Forensic accountants who know the Partnership regulations at the IRS and RUPA levels are highly compensated, and usually have their own successful practices. Here is an example of a forensic accounting firm adverting services to corporations and partnerships:
An inspection of records by our forensic accounting team is particularly recommended in claims involving self-employed individuals (sole proprietors), business owners (those who hold an ownership interest in S Corporations, C Corporations, Partnerships or Limited Liability Companies), and those who work for family-owned businesses. Our financial evaluations always result in an accurate assessment of bona fide claims and oftentimes identify fraudulent and overstated claims.