04. Partnership Liquidation AST Subject.pptx

accounting for special transactions

1. PARTNERSHIP LIQUIDATION

2. LEARNING OBJECTIVES Define and describe partnership liquidation; Identify and explain the causes of partnership liquidation; Understand the nature of lump-sum and installment liquidation; Understand and apply the concepts of marshalling of assets and right of offset; Journalize the realization of non-cash assets, payment of liabilities and final settlement to partners in lump sum and installment liquidation; and Prepare statement of liquidation with supporting schedules of cash distribution (periodic schedule of payment and cash priority program).

3. PARTNERSHIP LIQUIDATION Dissolution vs Liquidation Dissolution is a legal concept indicating a change in the legal relationship between or among partners. Liquidation is the winding up of business affairs. The partnership assets are sold, the creditors are paid and any remaining assets are distributed to the partners as return of their investment.

4. PARTNERSHIP LIQUIDATION Reasons of Partnership Liquidation Accomplishment of the purpose Termination of the period covered by the partnership contract Bankruptcy of the partnership Mutual agreement among the partners Court decree Accounting Problems in Partnership Liquidation Determination and distribution of the profit or loss from the beginning of the current accounting period to the date of liquidation Correction of accounting errors in prior periods Closing of partnership books Liquidation of the business

5. TWO CONCEPT IN LIQUIDATION Marshalling of Assets The order of creditors’ rights in the partnership assets and the personal assets of the individual partners. The order in which claims against the partnership assets will be marshalled as follows: Partnership creditors other than partners Partners’ claim other than capital and profit Partners’ claim to capital and profits to the extent of credit balances in capital accounts Right of Offset The offsetting of deficit in a partner’s capital against the loan payable to that partner. The effect is that the loans due to partners (credit balance) are combined with the respective partners’ capital balances.

6. TYPES OF PARTNERSHIP LIQUIDATION Lumpsum Liquidation (Liquidation by Totals) Installment Liquidation

7. LUMPSUM LIQUIDATION The distribution of cash to the partners is done only after all the non-cash assets have been realized, the total amount of gain or loss on realization is known and all liabilities have been paid. Procedures: Compute the interest of each partner Sale of Non-Cash Assets and allocation of gain or loss on realization (Add if gain, Deduct of loss) Payment of Liquidation Expenses Distribution of cash to creditors and partners Cash distribution to partners is made based on partners’ capital balances . In case of capital deficiency , it is eliminated by additional investment (if solvent) or charging to other partners (if insolvent). When personal assets exceed personal liabilities, a partner is SOLVENT . When personal liabilities exceed personal assets, a partner in INSOLVENT .

8. INSTALLMENT LIQUIDATION Assets are realized on a piece-meal basis over an extended or longer period of time and cash is distributed to partners periodically as it becomes available. Two Worst-Case Scenarios: All non-cash assets are assumed to be completely worthless. Thus, a hypothetical loss equal to the carrying values of the non-cash assets is assumed to have occurred. If as a result of the first scenario a partner’s capital account is a debit balance, we assume that such partner is not able to make contributions to the partnership to eliminate the hypothetical deficit. This assumption is made regardless of the partner’s personal financial status.

9. INSTALLMENT LIQUIDATION The liquidation procedures in Installment liquidation is the same as the lumpsum liquidation except: Cash is distributed to partners even before fully realizing non-cash assets and determining total gain or loss on realization. Restricted interest shall consist of: Remaining unsold assets Newly discovered unrecorded liabilities Cash withheld for possible expenses Debit balances in capital A schedule of safe payments or a cash priority program is used as basis to direct the distribution of any available cash.

10. SCHEDULE OF SAFE PAYMENT It indicates how available cash would be distributed to partners. It is based on the anticipation of all possible liabilities and expenses including those expected to be incurred in the process of liquidation. It is also based on the assumption that all non-cash assets will be worthless. The assumed loss is allocated among partners according to their profit and loss ratio. The allocation of assumed losses may result to debit balances in partners’ capital and these balances are treated as uncollectible. The assumed debit balances are allocated to those partners with credit balances according to their profit and loss ratio. When the allocation of estimated liabilities, expenses, liquidation losses and debit balances in capital are completed, assets may now be distributed to partners in amounts equal to the resulting credit capital balances.

11. CASH PRIORITY PROGRAM It is prepared to determine in advance as to whom cash distributions shall be made as cash may become available. Steps in the preparation of the program: Determine the total partners’ interest. Divide the total partners’ interest by their profit and loss ratio to get each partner’s loss absorption capacity. After loss absorption balances are determined, allocations may now be made starting with partner with the highest absorption balance reduced by the next highest. Once the partners’ absorption balances are equal, cash distributions are made in the profit and loss ratio.

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