Class Lecture

on
Sole Trader and Partnership Financial Statements
under GAAP

Class-__

Masum Gazi, ACA

e-mail: masumgazi613@[Link]
LinkedIn:
[Link]
 Sole Trader Financial Statements
The approach to preparing sole trader financial statements and the terminology used in
them are very similar to a profit and loss account and balance sheet for a limited company.
Where they differ is in relation to:
Tax: a business operated by a sole trader has no legal identity separate from its owner,
so the liability to pay tax on profits is the owner's and not the business’s. This means that
there is no tax expense in the profit and loss account, and no tax creditor in the balance
sheet.
The format of the profit and loss account: there is no need to aggregate expenses
under set headings.
The ownership interest half of the balance sheet: sole traders do not have share capital
or reserves. Instead they show the following (this should look similar to the capital part
of the accounting equation):
 Sole Trader - Financial Statements
Ownership Interest
Particulars BDT

Opening capital = net assets at start of period X

Capital introduced in the period X

Net profit/net loss of the period X/(X)

Drawings (of cash, or of stock at cost)

(X)

Closing capital = net assets at end of period X

 Example : Sole trader Financial Statements
BDT'000
BDT'000

Owner's capital at 1.1.X4 450

Bank loan 613
Freehold land and buildings 430

Freehold land and buildings accumulated depreciation 20

Plant and machinery - cost 830

Plant and machinery accumulated depreciation 222

Stock 190
Sales 2695
Purchases 2152
Loan Interest 10
Wages and salaries 254
Drawings 31
Sundry Expenses 113
Suspense Account 420
Debtors 464
Creditors 195
Cash at bank 141
4615 4615
 Sole Trader - Financial Statements
The following matters have now been discovered:

(1) On 1 January 20X4 Wasto injected a further BDT 190,000 into the business. The entry made was to debit
cash at bank and credit the suspense account.

(2) On 1 January 20X4 an item of high emissions plant that had cost BDT 350,000 and on which depreciation
of BDT 74,000 had been charged was disposed of for BDT 230,000. The only entry made was to debit cash at
bank and credit the suspense account.

(3) Depreciation of BDT 36,000 needs to be charged on the remaining plant and machinery, and BDT 5,000
on the land and buildings.

(4) Loan interest of BDT 10,000 should be accrued at 31 December 20X4.

(5) Stock on hand at 31 December 20X4 cost BDT 220,000.

 Sole Trader - Financial Statements
The following matters have now been discovered:

1. On 1 January 20X4 Wasto injected a further BDT 190,000 into the business. The entry made was to debit cash at bank
and credit the suspense account.
2. On 1 January 20X4 an item of high emissions plant that had cost BDT 350,000 and on which depreciation of BDT
74,000 had been charged was disposed of for BDT 230,000. The only entry made was to debit cash at bank and credit
the suspense account.
3. Depreciation of BDT 36,000 needs to be charged on the remaining plant and machinery, and BDT 5,000 on the land
and buildings.
4. Loan interest of BDT 10,000 should be accrued at 31 December 20X4.
5. Stock on hand at 31 December 20X4 cost BDT 220,000.

Requirement
Prepare Wasto's profit and loss (P&L) account for the year ended 31 December 20X4 and the balance sheet at that date.
 Initial TB Adjustments Final Trial Balance
Debit Credit Debit Credit Debit Credit

Owner's capital at 1.1.X4 450 450

Bank loan 613 613

Freehold land and buildings 430 430

Freehold land and buildings - Accumulated 20 5 25

depreciation
Plant and machinery - cost 830 350 480

Plant and machinery - Accumulated 222 74 36 184

depreciation
Stock 190 220 190 220

Sales 2695 2695

Purchases 2152 2152

Loan interest 10 10 20

Wages and salaries 254 254

Drawings 31 31

Sundry expenses 113 113

Suspense account 420 420

414 Accounting
Debtors 464 464
Creditors 195 195
Cash at bank 141 141
Capital Introduced 190 190
Disposals 276 230 46
Depreciation Expense 41 41
Accruals 10 10
Cost of sales 2152+190 220 2122
Wasto: Profit and loss account for year ended 31 December 20X4

Wasto: Profit and loss account for year ended 31 December 20X4 BDT'OOO BDT'OOO

Sales 2,695

Cost of sales (2,122)

Gross profit Expenses 573

Loan interest 20

Wages and salaries 254

Sundry expenses 113

Loss on disposal 46

Depreciation expense 41

(474)

Net profit 99
 Wasto: Balance sheet as at 31 December 20X4
Cost Acc. Dep.
BDT'000 BDT'000 BDT'000
Fixed assets
Freehold land and buildings 430 25 405
Plant and machinery 480 184 296
910 209 701
Current assets
Stock 220
Debtors 464
Cash 141
825
Current liabilities
Accruals 10
Creditors 195
205
Non-Current assets 620
Non-Current liabilities
Bank loan (613)
708
Ownership interest
Opening capital 450
Capital introduced 190
profit for year 99
Drawings (31)
Closing capital 708
 Partnership

 Partnership is a business run by two or more people together. It is not a separate legal entity, so tax

does not appear in the accounts.

 Parties agree how to appropriate the profits made by the business each year. Sometimes there are

salaries, and there is always a profit-sharing ratio (PSR).

 A partnership is established formally with a written partnership agreement. However, if individuals

act as though they are in partnership even if no written agreement exists, then it is presumed that a

partnership does exist and that its terms are as laid down in the Partnership Act.
 Partnership
Partnership Agreement
A partnership agreement sets out the terms governing financial arrangements and profit/loss
appropriation among partners. Key provisions generally include:

• Capital Contribution – Each partner contributes capital; minimum contributions should be specified.
• Interest on Capital – Partners may receive interest at an agreed rate, treated as a profit
appropriation, not an expense.
• Partners’ Salaries – Allocations made to partners are appropriations of profit, not operating
expenses. This ensures partners receive income before residual profits are distributed.
• Profit-Sharing Ratio (PSR) – Residual profits and losses, after interest and salaries, are divided
according to the agreed PSR, which may reflect contribution, expertise, or effort.
• Guaranteed Minimum Profit Share – A partner may be entitled to a minimum profit allocation. Any
shortfall is covered either from other partners’ shares or by a specific guaranteeing partner.
• Drawings – Partners may withdraw profits, subject to agreed limits and potential interest charges on
drawings.
 Appropriating Partnership Profit

Appropriating partnership profit

The partnership's net profit is calculated in the same way as for a sole trader. We
then prepare an appropriation statement, which:
 allocates interest on capital and salaries to each partner
 shares out the residual profit in the PSR
 Appropriating Partnership Profit

Black and Boyd are partners sharing profits in the PSR Profit appropriation statement

2:1, after they each take a salary of BDT 10,000per year. Ratio 2: 1
Net profit before deducting salaries is BDT 26,000.
Black Boyd Total
Requirement
How much profit is appropriated to each partner? BDT BDT BDT

Salary 10,000 10,000 20,000

Solution
First, the two salaries are deducted from profit, leaving
BDT 6,000 (BDT 26,000 – BDT 20,000). Share of residual profits
4,000 2,000 6,000
(BDT 6,OOO in 2:1 PSR)
This BDT 6,000 has to be distributed between Black and
Boyd in the ratio 2:1, so Black will receive twice as much
as Boyd. (BDT 4,000:BDT 2,000) Total profit share 14,000 12,000 26,000
 Guaranteed Minimum Profit Share

Guaranteed minimum profit share

 Partners can agree that one or more partners will receive a minimum appropriation of profit, even if the
business makes a loss, or one partner is appropriated a loss while the others take all the profit.

Example
Sharp, Nadar and Zhan share profits in the ratio of 2:2:1 but Zhan has a guaranteed minimum profit of BDT
18,000. The net profit for the year is BDT 75,000.

The sum of the ratio 'parts' is 2 + 2 + 1 = 5. Each part is worth BDT 15,000 so if we just used the PSR the profits
would be allocated as follows:
 Guaranteed Minimum Profit Share
Ratio 2 2 1
Sharp Nadar Zhan Total
BDT BDT BDT BDT
Initial profit share 30,000 30,000 15,000 75,000

However, this leaves Zhan with less than their guaranteed minimum, so a further reallocation
of profits is made from the other two partners equally, because they share 22, to give her the
minimum amount.
Ratio 2 2 1
Sharp Nadar Zhan Total
BDT BDT BDT BDT
PSR 30,000 30,000 15,000 75,000
Reallocation (2:2) (1500) (1,500) 3000 0
Total profit share 28,500 28 500 18000 75,000
 Preparing Partnership Account
 Each partner's interest in the partnership is shown in a separate capital account and a separate BDT rrent
account.

 A profit appropriation statement is used as a working to appropriate salaries, interest on capital and residual
profit share to each partner.

Accounting for each partner's ownership interest

Initial capital contributions are recorded in capital accounts for each partner. (Since each partner is ultimately
entitled to repayment of capital it is clearly vital to keep a record of how much is owed to whom.)

Profits and losses appropriated over time, less drawings, are shown in a BDT current account for each partner.

BDT current account: A record of the profits retained in the business by the partner.

A BDT current account increases when the partnership makes profits, and decreases when the partner makes
drawings, or when the partnership makes a loss.
 BDT Current Account VS Capital Account

Differences between capital and BDT current accounts are as follows:

• The balance on the capital account remains static from year to year (with one or two exceptions).

• . The balance on the BDT current account is continually fluctuating up and down, as the partnership makes profits
and losses which are shared out between the partners, and as each partner takes out drawings.

If the partnership agreement provides for interest on capital, partners receive interest on the balance in their capital
account, but not on the balance on their BDT current account.

If the amount of a partner's drawings exceeds the balance on his/her BDT current account, the BDT current account
will show a debit balance brought forward at the beginning of the next period.

The ownership interest side of the partnership balance sheet will therefore consist of:

• capital accounts for each partner

• BDT current accounts for each partner

 Partnership Accounts
Their capital and BDT current accounts as at 1 January 20X5 are as follows:
Locke, Niece and Munster are in partnership and
BDT BDT
share profits in the ratio 3:2:1. They also agree that:
Capital accounts as at 1.1.X5
Locke 20,000
• all three should receive interest at 12% on Niece 8,000
capital Munster 6,000
• Munster should receive a salary of BDT 6,000 34,000
per annum BDT current accounts as at 1.1.X5
Their capital and BDT Current accounts as at 1
January 20X5 are as follows: Locke 9,500
Niece 3,300
Requirement
Munster 8,800
Prepare a profit and loss appropriation
21,600
statement for the year to 31 December 20X5,
and the partners’ capital accounts and current
Drawings made during the year to 31 December 20X5 were:
accounts at that date.
Drawings in 20X5 (6,000)
Locke (4,000)
Niece (7,000)
Munster (17,000)
38,600

The net profit for the year to 31 December 20X5 was BDT 25,080.
 Partnership Accounts
3 2 1

Locke Niece Munster Total

BDT BDT BDT BDT

Salary 6000 6000

Interest on capital (12% X BDT 20,000) 2400

Ratio
3 2 1
Locke Niece Total
BDT BDT BDT BDT
12% X BDT 8000 960
12% X BDT 6000 720 4,080
Share of residual profit: (25,080 -6.000 -
4.080) BDT 15000 in 3.21 ratio 7500 5000 2500 15000
Total profit share 9,720 5840 9010 25080
Partners' Current account: Locke Niece Munster
Locke (BDT) Niece (BDT) Munster (BDT) BDT BDT BDT
Drawings 6000 7,000Bal b/d 9,500 3300 8800
Bal dd 13400 5260 10810Profit share 9,720 5,840 9010
19240 9140 17810
Partners' capital accounts 19400 5260 17801 Locke Niece Munster
BDT BDT BDT
Balance b/d 20,000 8000 6000
 Partnership Accounts & Trial Balance
Falconer and Munoz are in partnership sharing profits 2:1. Each partner has an annual salary of BDT 6,750. The trial
balance at 30 June 20X4 is as follows:
Debit Credit
BDT BDT
Bank Loan 20000
Fixed Assets – NBV 100,000
 Partnership Accounts & Trial Balance
Debit Credit
BDT BDT
Stock at 1 July 20X3 15000
You are told that closing stock cost BDT 15,500.
Debtors 18000
Creditors Requirement
14000
Sales 85000 Prepare Falconer and Munoz's final trial balance at 30 June
Purchases 52000
Loan interest 1000 20X4, the profit appropriation statement for the year and the
Expenses 12500
financial statements as at that date.
Drawings
Frank 14000 Solution
Myra 15000
Cash 6300
We process the adjustment for drawings, then make the
Capital accounts
adjustment for closing stock and the cost of sales line.
Falconer 20000
Myra 20000
Current accounts at 1 July 20X3
Falconer
38400
Munoz 35400
232800 232800
 Partnership Accounts & Trial Balance
Initial trial balance Adjustments Final trial balance
Debit Credit Debit Credit Debit Credit
BDT BDT BDT BDT BDT BDT
Bank loan 20,000 20,000
Fixed assets- NBV 100,000 100,000
Stock 15,000 15,500 15,000 15,500
Debtors 18,000 18,000
Creditors 14,000 14,000
Sales 85,000 85,000
Purchases 51,000 52,000
Loan interest 1,000 1,000 1,000
Expenses 12,500 12,500

Drawings
Falconer 14000 14000
Munoz 15000 15000
Cash 6300 6300
Capital accounts
Falconer 20000 20000
Myra 20000 20000
Current accounts
Falconer 38400 14000 24400
Myra 35400 15000 20400
Cost of Sales 66000 15500 50500
232,800 232,800 111,500 11,1500 203,800 203,800
 Partnership Accounts & Trial Balance
The profit for the period is calculated as:

The profit for the period is calculated as:

BDT
Sales 85000
Cost of sales (50500)
Gross profit 34500
Loan interest (1000)
Expenses (12500)
(21000)

Net profit The net profit must then be shared (appropriated) between the partners as follows:

Profit appropriation statement

Ratio 2 1
Falconer Munoz Total
BDT BDT BDT
Salaries 6,750 6,750 13,500
PSR (2:1) 5,000 2,500 7,500
Total profit share 11,750 9,250 21,000

• Falconer's current account balance is 25,400 +11,750 = 37,150

• Munoz's current account balance is 20,400 + 9,250 = 29,650
 Partnership Accounts & Trial Balance
BDT BDT
The profit and loss account for the Fixed assets 100,000
Current assets
partnership will be presented as for Stock 16,500
sole traders. Debtors 18,000
Cash 6,300
The balance sheet is as follows: 40,800
Current liabilities
Falconer and Munoz.
Creditors (14,000)
Balance sheet as at 30 June 20X4 Net current assets 26,800

Non-current liabilities
Bank loan (20,000)
106,800
Capital accounts
Falconer 20,000
Myra 20,000
Current accounts
Falconer 37,150
Munoz 29,650
106,800
 Accounting for changes in partnership structure
When a partner leaves a partnership, the remaining parties normally carry on the business, buying out
the departing partner's share of the net assets, including goodwill.

Example: Retirement
Returning to the example of Locke, Niece and Munster, assume that Locke retired on 30 September 20X5 and Niece
and Munster decided to continue the partnership on the same terms as before, but with a PSR of 1:1. Locke's drawings
of BDT 6,000 were taken in the period to 30 September 20X5.

Requirement
Prepare the relevant profit appropriation statements for the year to 31 December 20X5.
Solution
We need to treat the accounting year as being in two sections:

• Period to 30 September 20X5 (9 months), with partners Locke, Niece and Munster.
• Period from 1 October to 31 December 20X5 (3 months), with partners Niece and Munster.

Up to the date of retirement the profit to be appropriated is BDT 25,080 × 9/12 – BDT 18,810.
Locke, Niece and Munster: Profit appropriation statement
 Accounting for changes in partnership structure

Ratio to 30 September 20X5 3 2 1

Locke Niece Munster Total
BDT BDT BDT BDT
Salary 9/12 4,500 4,500 4,500
Interest on capital
12%X 20,000 1,800
12%X 8000 720
12%X 6000 540 3,060
Share of residual profit: (18,810 — 4,500
3.060) – BDT 11,250 in 3:2:1 ratio 5,625 3,750 1,875 11,250

Total profit share 7,425 8,970 6,915 18,810

From Locke's retirement the profit to be appropriated is BDT 25,080 × 3/12 = BDT 6,270.
 Accounting for changes in partnership structure

Ratio from 30 September 20X5 Niece Munster Total

BDT BDT BDT

Salary 3/12 1500 1500

Interest on capital:

12%XBDT 8000 X 3/12 240

12%XBDT 6000 X 3/12 180 420

Share of residual profit: (6,270- 1,500-420) = BDT

2175 2175 4350
4,350 in 1:1 PSR

Total profit share 2415 3855 6270

 Goodwill in Partnership Accounts

Goodwill in Partnership Accounts

 On a partner’s retirement, either:

 A valuation of net assets is made, or

 Partners agree to give the retiring partner a share of profits to date plus a share of goodwill.

 The goodwill share is usually settled in cash or other assets by the continuing partners.

 Once the partner retires, goodwill is written off from the accounts.

 The treatment is consistent with accounting for the conversion or sale of a sole proprietorship.

 For simplicity, the following example combines capital and current accounts.
 Example : Death of a partner
Death of a partner

Garden, Afua and Ho have been in partnership for many years, sharing profits equally and preparing accounts to 31
December each year. As at 1 January 20X2 each partner's combined capital and current accounts were as follows:

Partners BDT
Garden 138540
Afua 95400
Ho 125950
359890

During 20X2 the partnership made profits of BDT 584,580 and each partner took drawings of BDT 50,000. On 31
December 20X2 Ho died. The remaining partners value goodwill at BDT 300,000 at that date, but do not wish this
valuation to remain in the accounts. Garden and Afua will continue in partnership, sharing profits equally.

Requirement
What adjustments are required to reflect the death of Ho in the partnership accounts?
 Solution

Ho's estate is entitled to receive payment for their ownership of a share in the partnership. When Hodies there
are two options:
• break up the partnership by selling all the assets and sharing out the net proceeds among Garden, Afua and
Ho's estate
• a 'buy out' of Ho's share of the partnership by Garden and Afua

The parties have agreed on the second option but need to determine how much Ho's share is worth, and
therefore how much his estate should be paid as consideration.
It is possible to determine how much the remaining partners will need to pay simply by using the
capital/current accounts.

• Appropriate profits (BDT 584,580/3 BDT194,860 each)

• Share out the goodwill in old PSR: BDT 300,000/3 BDT 100,000 each
• Calculate the amount Ho's estate will be paid in cash, being the balancing figure on the account
• Remove the goodwill in the new PSR: BDT 300,000/2 = BDT 150,000 each
• carry down the balances on the remaining two partners' accounts
 Solution

PARTNERS' CAPITAL AND CURRENT ACCOUNTS

Garden Afua Ho Garden Afua Ho

BDT BDT BDT BDT BDT
Drawings 50,000 50,000 50,000Bal b/d 138,540 95,400 125,950
Cash (bal fig) (c) 370,810Profit share (a) 194,860 194,860 194,860
Goodwill (d) 150,000 150,000 Goodwill (b) 100,000 100,000 100,000
Bal c/d (e) 233,400 190,260
433,400 390,260 420,810 433,400 390,260 420,810
 Admission of a New Partner

Admission of a new partner

When a new partner is admitted, a new agreement is needed to cover the appropriation of profits.

If the new partner introduces additional capital into the partnership, the total amount they bring
in must be credited to their capital account.

The existing partners' share of the partnership's goodwill at the date of admission is credited to
them in the old PSR and then (assuming they do not wish to retain goodwill in the accounts)
debited in the new PSR. The result is that the new partner will be shown to have purchased a
share of the goodwill by introducing cash.
 Admission of a New Partner

Admission of a partner
Oil and Grease, equal partners in a vehicle repair business, agree to Detergent becoming a partner on 1 January 20X1.
At that date Oil and Grease value the business's goodwill at BDT 5,000 and their capital accounts show: Oil – BDT
12,000; Grease – BDT 9,000. Detergent agrees to introduce BDT 2,000 capital. The partners agree to share profits in
the ratio - Oil 2: Grease 2: Detergent 1, and not to retain goodwill in the accounts.
Requirement
Calculate the balances on the partners' capital accounts after the admission of the new partner.

Solution
The partners' capital accounts are as follows, showing that BDT 1,000 of Detergent's cash introduced has been paid in
equal shares to Oil and Grease in respect of their shares of the business's goodwill:
 Solution

Solution
The partners' capital accounts are as follows, showing that BDT 1000 of Detergent’s cash introduced has been paid in
equal shares to Oil and Grease in respect of their shares Of the business goodwill.

Ratio 2 2 1 1 1

Oil Grease Detergent Oil Grease Detergent

Balances b/d 12000 9,000

Goodwill in old
Goodwill in new PSR 2,000 2 1,000 2500 2,500
PSR

Balances c/d 12,500 9,500 1,000 Cash introduced 2000

14,500 11,500 2,000 14,500 11,500 2000

END OF THE CHAPTER