Partnership Liquidation

Chapter 16

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

16 - 1

Learning Objective 1

Understand legal aspects of partnership liquidation.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

16 - 2

The Liquidation Process

Converting noncash assets into cash
Recognizing gains and losses and liquidating expenses incurred during the liquidation period Settling all liabilities Distributing cash to partners according to the final balances in their capital accounts
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

16 - 3

Rank Order of Payments

I Amounts owed to creditors other than partners
II Amounts owed to partners other than for capital and profits III Amounts due to partners with respect to their capital interests IV Amounts to partners with respect to profits

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

16 - 4

Learning Objective 2

Apply simple partnership liquidation computations and accounting.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

16 - 5

Simple Partnership Liquidation

Holmes and Kaiser Balance Sheet December 31, 2003 Assets Liabilities and Equity Cash $ 10,000 Accounts payable $ 40,000 A/R, net 30,000 Loan from Holmes 10,000 Inventory 30,000 Holmes, capital 25,000 Plant assets, net 40,000 Kaiser, capital 35,000 $110,000 $110,000

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

16 - 6

Simple Partnership Liquidation

Profits and losses are distributed as follows: 70% to Holmes and 30% to Kaiser They agreed to liquidate the partnership as soon as possible after January 1, 2004. Inventory items are sold for $25,000, plant assets are sold for $30,000, $22,000 is collected from accounts receivable.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

16 - 7

Simple Partnership Liquidation

Holmes and Kaiser Balance Sheet January 5, 2004 Assets Liabilities and Equity Cash $87,000 Accounts payable $40,000 A/R, net Loan from Holmes 10,000 Inventory Holmes, capital 8,900 Plant assets, net Kaiser, capital 28,100 $87,000 $87,000

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

16 - 8

Simple Partnership Liquidation

Order of Payment I To creditors for accounts payable II To Holmes for his loan balance III To Holmes for his capital balance To Kaiser for his capital balance Total distribution $40,000 10,000 8,900 28,100 $87,000

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn

16 - 9

Debit Capital Balances in a Solvent Partnership

The partnership of Jay, Jim, and Joe is in the process of liquidation.

Cash Jay, capital (40%) Jim, capital (40%) Joe, capital (20%) Total

Debit $25,000 3,000

Credit

$28,000

$16,000 12,000 $28,000

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 10

Debit Capital Balances in a Solvent Partnership

If Jay is unable to pay $3,000 to the partnership, his debit balance represents a loss to be charged to Jim and Joe. Jims share: 4/6 $3,000 = $2,000

Joes share: 2/6 $3,000 = $1,000

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 11

Learning Objective 3

Perform safe payment computations.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 12

Safe Payments to Partners

The calculation of safe payments is based on the following assumptions: All partners are personally insolvent.
All noncash assets represent possible losses.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 13

Application of Safe Payments Schedule

(000) Debits Cash $ 80 Loan due from Maxine 10 Land 20 Building, net 140 $250 Credits Loan payable to Nancy Buzz, capital (50%) Maxine, capital (30%) Nancy, capital (20%)

$20 50 70 110 $250

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 14

Safe Payment Schedule

(000) Buzz Maxine Nancy Possible Equity Equity Equity Losses (50%) (30%) (20%)

Partners equities (capital loan balances

$50

$60

$130 (32) 98 (2) 96

Possible loss on noncash assets Book value of land and buildings $160 (80) (48) (30) 12 Possible loss on contingencies Cash withheld for contingencies
10 (5) (3) (35) 9

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 15

Safe Payment Schedule

(000) Buzz Maxine Nancy Possible Equity Equity Equity Losses (50%) (30%) (20%)

Possible loss from Buzz Buzzs debit balance allocated 60:40 to Maxine and Nancy Possible loss from Maxine Maxines debit balance assigned to Nancy

35 0

(21) (14) (12) 82

12 0

(12) $ 70

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 16

Safe Payment Schedule

Loan payable to Nancy Nancy, Capital Cash 20,000 50,000
70,000

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 17

Account Balances
(000) Debits Credits Cash $ 10 Buzz, capital (50%) Loan due from Maxine 10 Maxine, capital (30%) Land 20 Nancy, capital (20%) Building, net 140 $180

$ 50 70 60 $180

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 18

Advance Distribution

Any distribution to partners before all gains and losses have been realized and recognized requires approval of all partners.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 19

Learning Objective 4

Understand installment liquidations.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 20

Installment Liquidation

An installment liquidation involves the distribution of cash to partners as it becomes available during the liquidation period and before all liquidation gains and losses have been realized.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 21

Installment Liquidation Illustration

The partnership of Duro, Kemp, and Roth is to be liquidated as soon as possible after December 31, 2003. All cash on hand, except for $20,000 is to be distributed at the end of each month. Profit and losses are shared 50%, 30%, and 20% to Duro, Kemp, and Roth.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 22

Installment Liquidation Illustration

Duro, Kemp, and Roth Balance Sheet December 31, 2003 (000) Assets Liabilities and Equity Cash $ 240 Accounts payable $ 300 A/R, net 280 Note payable 200 Loan to Roth 40 Loan from Kemp 20 Inventories 400 Duro, capital (50%) 340 Land 100 Kemp, capital (30%) 340 Equipment, net 300 Roth, capital (20%) 200 Goodwill 40 $1,400 $1,400
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 23

Installment Liquidation Illustration

Statement of Partnership Liquidation for the Period 1/1/2004 to 2/1/2002 (000) Balances January 1 Offset Roth loan Write-off of goodwill Collection of receivables Sale of inventory items Predistribution balances January 31 January distribution Creditors Kemp Balances February 1 Non- Priority 50% 30% 20% cash Liabil- Duro Kemp Kemp Roth Cash Assets ities Capital Loan Capital Capital $240 $1,160 $500 $340 $20 $340 $200 (40) (40) (40) (20) (12) (8) 200 (200) 200 (160) 20 12 8 $640 (500) (120) $ 20 $ 720 $500 (500) $ 720 $ 0 $340 $340 $20 $340 $160

(20) (100) $ 0 $240

$160

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 24

Installment Liquidation Illustration

First Installment Schedule of Safe Payments January 31, 2004 (000) Partners equities January 31, 2004 Possible loss on noncash assets
50% 30% Kemp 20% Possible Duro Capital Roth Losses Capital and Loan Capital

$720

$340 $360 (360) (216) $ (20) $144 (10) (6) $ (30) $138

$160 (144) $ 16 (4) $ 12

Possible loss on contingencies: cash withheld

Possible loss from Duro: debit balance allocated 60:40

20

30

(18) $120

(12)

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 25

February Liquidation Events

Cash 60,000 Duro, Capital 10,000 Kemp, Capital 6,000 Roth, Capital 4,000 Equipment, net 80,000 To record sale of equipment at a $20,000 loss Cash 180,000 Duro, Capital 30,000 Kemp, Capital 18,000 Roth, Capital 12,000 Inventories 240,000 To record sale of remaining inventory items at a $60,000 loss
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 26

February Liquidation Events

Duro, Capital 2,000 Kemp, Capital 1,200 Roth, Capital 800 Cash To record payment of liquidation expenses

4,000

Duro, Capital 4,000 Kemp, Capital 2,400 Roth, Capital 1,600 Accounts Payable 8,000 To record identification of an unrecorded liability
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 27

February Liquidation Events

Accounts Payable 8,000 Cash To record payment of accounts payable Duro, Capital 84,000 Kemp, Capital 86,400 Roth, Capital 57,600 Cash To record distribution of cash to partners

8,000

228,000

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 28

Learning Objective 5

Learn about cash distribution plans for installment liquidations.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 29

Cash Distribution Plans

The development of a cash distribution plan for the liquidation of a partnership involves ranking the partners in terms of their vulnerability to possible losses.

$$$
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 30

Vulnerability Ranking

Profit Partners Sharing Equity Ratio

Loss Vulnerability Absorption Ranking (1 most Potential vulnerable)

Duro Kemp Roth

$340 0.5 360 0.3 160 0.2

= $ 680 = 1,200 = 800

1 3 2

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 31

Assumed Loss Absorption

A schedule of assumed loss absorption is prepared as a second step in developing the cash distribution plan.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 32

Assumed Loss Absorption

Schedule of Assumed Loss Absorption (000)
Duro (50%) Kemp (30%) Roth (20%)

Total

Preliquidation equities Assumed loss to absorb Duros equity (allocated 50:30:20) Balances Assumed loss to absorb Roths equity (allocated 60:40) Balances

$340

$360 $160 $860

(340) (204) (136) (680) $156 $ 24 $180 (36) (24) (60) $120

$120

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 33

Cash Distribution Plan

Priority Liabilities Kemp Loan Duro

Kemp

Roth

First $500,000 100% Next $20,000 Next $100,000 Next $60,000 Remainder

100% 100% 60 30

50%

40% 20

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 34

Learning Objective 6

Comprehend liquidations when either the partnership or partners are insolvent.

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 35

Insolvent Partners and Partnerships

Ranking for claims against the separate property of a bankrupt partner: I Those owing to separate creditors

II Those owing to partnership creditors

III Those owing to partners by way of contribution
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 36

Partnership Solvent One or More Partners Personally Insolvent

In the liquidation of a solvent partnership, partnership creditors are entitled to recover the full amount of their claims from partnership property.

West, York, and Zeff are partners sharing profits 30%, 30%, and 40%, respectively. West is personally insolvent with personal assets of $50,000 and personal liabilities of $100,000.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 37

Partnership Account Balances

Case A

Case B

Case C

Cash $60,000 West, capital (30%) 18,000 York, capital (30%) 18,000 Zeff, capital (40%) 24,000

$18,000 27,000 9,000

$21,000 9,000 12,000

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 38

Insolvent Partnership
When a partnership is insolvent, the cash available is not enough to pay partnership creditors. Creditors will obtain partial recovery from partnership assets and will call upon individual partners to use their personal resources to satisfy remaining claims.
2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 39

End of Chapter 16

2003 Prentice Hall Business Publishing, Advanced Accounting 8/e, Beams/Anthony/Clement/Lowensohn 16 - 40