Accounting for Partnership Firm| Fundamentals – Part 2| Profit and Loss Appropriation Account (with PDF & Video Lecture) – Class 12 (2022-23)| CUET/NCERT

Division of Profits among Partners

Profit is distributed among all partners after taking all the adjustments into account like interest on capital interest on drawing, salary or commission of the partners, etc. After adjusting these items, the remaining amount will be distributed among partners.

Net Profit is the profit earned by an enterprise from its operating and non-operating activities. It is the net effect of operating and non-operating revenues and expenses that are charge against profit. It is determined by preparing Profit and Loss Account.

CHARGE means full amount is to be allowed whether there are profits or losses.            

Profit and Loss Account

For the year ended

Particulars	Amount (₹)	Particulars	Amount (₹)
To expenses A/c To Partner’s Property Rent To Partner’s Interest on Loan To Net Profit	*** *** *** ***	By Gross Profit b/d By Incomes A/c	*** ***

Profit and Loss Appropriation Account

Divisible or Distributable Profit is the profit that is available for distribution among partners after allowing remuneration (Salary, Commission, etc.) to partners, interest on capitals, transfer to reserve and charging interest on drawings. After adjusting these items, the remaining amount will be distributed among partners.

It is determined by preparing Profit and loss Appropriation Account.

APPROPRIATION means items to be allowed only out of profits. It means that the amount (items) such as salary, interest on capital etc. cannot exceed the amount of profit.

Specimen of the Profit and Loss Appropriation Account

PROFIT AND LOSS APPROPRIATION ACCOUNT

for the year ended …

Dr.                                                                                                                                                                   Cr.

Particulars	₹	Particulars	₹
To	Interest on Capitals:		By	Profit and Loss A/c	$$$$
	A                                     $$$			(Net Profit transferred from Profit and
	B                                     $$$	$$$$		Loss Account) NET PROFIT AFTER
To	Partners’ Salaries			CHARING ALL P&L ITEMS AND
	A                                     $$$			BEFORE ALL APPROPRIATION
	B                                     $$$	$$$$		ITEMS.
To	Partners’ Commissions		By	Interest on Drawings:
	A                                     $$$			A                                     $$$
	B                                     $$$	$$$$		B                                     $$$	$$$$
To	Reserve	$$$$
To	Profit+ transferred to:
	*A’s Capital A/c
	**(or A’s Current A/c)
	*B’s Capital A/c
	**(or B’s Current A/c)	$$$$
		$$$$$			$$$$$

Features of Profit and Loss Appropriation Account:

1. It is prepared just after the Profit and Loss Account. Hence, it is an extension of Profit and Loss Account.

2. It is prepared only by partnership firms.

3. It is a Nominal Account.

4. It shows how the net profit for the accounting period is appropriated (distributed) among the partners.

5. Entries in this account are made giving effect to the Partnership Deed and/or the Indian Partnership Act, 1932.

Distinction between Charge against Profit and Appropriation out of Profit

Basis of Distinction	Charge Against Profit	Appropriation Out of Profit
Nature	It indicates expenses to be deducted from profits while calculating net profit or loss	It indicates distribution of net profit to various heads.
Recording	It is debited to Profit and Loss Account	It is debited to Profit and Loss Appropriation Account
Necessary or Not	It is necessary to make charges against profits even if there is loss	Appropriations are made only when there is profit
Example	Interest on partner’s loan and rent paid to a partner	Interest on capital, partner’s salary etc.

Note: Any amount payable to a partner, such as salary, commission, interest on Capital etc. (except interest on Partner’s Loan and rent payable to a partner) is treated as appropriation of profit and not a charge against profit. Hence, these items are debited to Profit & Loss Appropriation A/c instead of Profit & Loss A/c

Q1. Nikunj and Nitin are partners with capitals of ₹10,00,000 and ₹6,00,000 respectively. The profit for the year ended 31st March 2022 was ₹4,86,000 before allowing interest on partner’s loan. Show the distribution of profit after taking the following into consideration:

• Interest on Nikunj ‘s Loan of ₹1,50,000 to the firm provided on 1st April, 2021.
• Interest on capital to be allowed @ 5% p.a.
• Interest on drawings were Nikunj ₹1,800 and Nitin ₹1,200.
• Nitin is to be allowed a Commission of 2% on sales. Sales for the year were ₹30,00,000.
• 10% of the divisible profit is to be kept in a Reserve Account.

SOLUTION:

PROFIT AND LOSS ACCOUNT

Dr.                                                       for the year ended 31st March, 2022                                                  Cr.

Particulars	₹	Particulars	₹
To Interest on Nikunj ‘s Loan (1,50,000 x 6/100) To Profit transferred to Profit & Loss Appropriation A/c	9,000   4,77,000	By Profit before interest	4,86,000
	4,86,000		4,86,000

PROFIT AND LOSS APPROPRIATION ACCOUNT

Dr.                                                       for the year ended 31st March, 2022                                                  Cr.

Particulars		₹	Particulars		₹
To Interest on Capital :			By Profit & Loss A/c —
Nikunj	50,000		Net Profit (4,86,000 – 9,000)		4,77,000
Nitin	30,000	80,000	By Interest on Drawings :
To Commission to Nitin		60,000	Nikunj	1,800
To Reserve A/c		34,000	Nitin	1,200	3,000
To Profit transferred to
Nikunj ‘s Capital A/c	1,58,000
Nitin ‘s Capital A/c	1,58,000	3,16,000
		4,80,000			4,80,000

Notes: If a partner has given loan to the firm and if the rate of interest on such loan has not been given in the question, then under the Partnership Act, interest at the rate of 6% p.a. is to be allowed on such loan.   Since interest on partner’s loan is treated as a charge against profit, interest on Nikunj’s Loan is debited to Profit & Loss Account.   Amount transferred to Reserve has been calculated at 10% of ₹3,40,000 (4,77,000 +3000 – 80,000 – 60,000)

Q2. Nikunj and Nitin are partners sharing profit & loss equally.

1. Loan given by the Nikunj to the firm on 1st July 2021             ₹ 2,00,000
2. Loan given by the firm to Nitin on 1st October 2021                ₹1,00,000
3. Rent of building ₹ 6,000 annually (Building given by Nikunj to the firm for business purpose)

Partnership deed provides Rent and interest on loan to Nitin @10% p.a. but silent on interest on Loan by Nikunj. Profit for the year ended 31st March 2022 was Rs.20,000. Profit/loss shared by the partners:

PROFIT AND LOSS ACCOUNT

Dr.                                                       for the year ended 31st March, 2022                                                  Cr.

Particulars	₹	Particulars	₹
To Interest on Nikunj ‘s Loan (2,00,000 x 6/100 x 9/12) To rent To Profit transferred to Profit & Loss Appropriation A/c	9,000   6,000   10,000	By Profit before interest By interest on loan received from Nitin (1,00,000 x 10/100 x 6/12)	20,000   5,000
	25,000		25,000

PROFIT AND LOSS APPROPRIATION ACCOUNT

Dr.                                                       for the year ended 31st March, 2022                                                  Cr.

Particulars		₹	Particulars	₹
To Profit transferred to			By Profit & Loss A/c — Net Profit	10,000
Nikunj ‘s Capital A/c	5,000		(20,000 +5,000 – 9,000 – 6,000)
Nitin ‘s Capital A/c	5,000	10,000
		10,000		10,000

Q3. Nikunj and Nitin are partners with capitals of ₹10,00,000 and ₹6,00,000 respectively sharing profit in their capital ratio. Nikunj withdrew ₹1,50,000 and Nitin withdrew ₹1,00,000 during the year for their personal use. As per the partnership deed Interests on Drawings were ₹7,500 and ₹5000 respectively. There was a loss of ₹10,100 during the year. Nikunj and Nitin share of Profit/Loss?

PROFIT AND LOSS APPROPRIATION ACCOUNT

Dr.                                                       for the year ended 31st March, 2022                                                  Cr.

Particulars		₹	Particulars	₹
By Profit & Loss A/c — Net loss		10,100	By Interest on Drawings :
To Profit transferred to			Nikunj	7,500
Nikunj ‘s Capital A/c	1,500		Nitin	5,000
Nitin ‘s Capital A/c	900	2,400
		12,500		12,500

Q4. Nikunj and Nitin are partners sharing profits in the ratio of 3 : 2. Nikunj is a non-working partners and contributes 20,00,000 as his capital. Nitin is a working partner of the firm. The Partnership Deed provides for interest on capital @ 8% p.a. and salary to every working partner @ ₹8,000 per month. Profit before providing for interest on capital and partner’s salary for the year ended 31st March, 2020 was 80,000. Show the distribution of profit.

Solution:

PROFIT AND LOSS APPROPRIATION ACCOUNT

for the year ended 31st March, 2020

Dr.                                                                                                                                  Cr.

Particulars	Rs	Particulars	Rs
To Nikunj ‘s Capital A/c (Interest on capital)	50,000	By Profit and Loss A/c (Net Profit)	80,000
To Nitin’s Capital A/c (Salary)	30,000
	80,000		80,000

Note: Interest on Nikunj ‘s Capital = ₹20,00,000 x 8/100 = ₹1,60,000; Salary to Nitin = 8,000 x 12 = ₹96,000 Thus, Interest on Nikunj ‘s Capital + Salary to Nitin = 1,60,000 + 96,000 = ₹2,56,000. Since both interest on capital and salary to partners are appropriations and the profit available for distribution is 80,000, i.e., less than the amount of appropriations to be made, the available profit is distributed in the ratio of appropriations to be made to Nikunj and Nitin, i.e., ₹1,60,000 (interest on capital): 96,000 (salary), or 5 : 3.

TIPS

1. In case where appropriation such as interest on capital, salary of partners etc. is more than available profits will be distributed in the ratio of appropriations.
2. Interest on partner’s loan is payable even if there are losses.
3. When the partnership deed is silent upon profit sharing ratio, the profits are shared equally by the partners.
4. Interest on Partners’ Loan and Rent Payable to a Partner are charge against profit therefore they will be shown in P/L A/c. 
5. Appropriation vs Charge

The words Appropriation and Charge must be differentiated and give the treatment of expenses accordingly.

CHARGE means full amount is to be allowed whether there are profits or losses. 

APPROPRIATION means items to be allowed only out of profits. It means that the amount (items) such as salary, interest on capital etc. cannot exceed the amount of profit.

Interest on Partner’s Loan advanced to the firm is always charged against the profit whereas interest on capital may be charged against the profits or appropriation out of profits depending upon the nature of information given in the question i.e. as per partnership agreement. However, in the absence of any information about treatment of IOC, it is always treated as appropriation of profits.

Written By:-

Sarita Chugh