Profit and Loss Appropriation Account : Journal Entries & Format

Profit and Loss Appropriation Account is prepared by a partnership firm to appropriate the net profit of the accounting year among the partners. Profit and Loss Appropriation Account is affected by the Partnership Deed or the Partnership Act. It is an extension of the Profit and Loss Account, and the items debited to Profit and Loss Appropriation Account are not a charge against profit.

Profit and Loss Appropriation Account is credited with the net profit of the accounting year. The items debited and credited in this account are treated as appropriations of profit, and not a charge against profit. Net profit and Interest on drawings of the partners are credited, and Interest on capital of the partners, Partners’ Salary and Commission are debited to Profit and Loss Appropriation Account. On the agreement between partners, a part of the profit may be transferred to Reserve. The profit left behind after the appropriation among the partners is distributed among the partners in the profit-sharing ratio.

Journal Entries relating to Profit and Loss Appropriation Account:

1. For Transfer of Net profit:

The net profit from Profit and Loss A/c is transferred to Profit and Loss Appropriation A/c to appropriate and distributed among the partners. Net profit is credited to Profit and Loss Appropriation A/c. 

 

2. For Interest on Drawings:

Amount withdrawn for personal use by partners whether in cash or kind is called Drawings. When the amount withdrawn by the partner for personal use is made in cash, respective Partner’s Capital/Current Account is debited, and Cash/Bank is credited with the drawing amount. When drawings are made in kinds (goods) by respective partners, Drawings or Partner’s Capital/Current Account is debited, and Purchase Account is credited with the amount withdrawn. Drawing Accounts of the partners are closed by transferring them to the respective Partner’s Capital Account.

Interest on Drawings is charged from the partners only when Partnership Deed provides. Interest on Drawings is calculated for the time for which the amount was withdrawn. Interest on Drawings charged is debited to Partners Capital Account or Partners Current Account(under Fixed Capital Accounts), and credited to Profit and Loss Appropriation Account.

A. On Charging Interest on Drawings:

 

B. For Transferring Interest on Drawings to Profit and Loss Appropriation A/c:

 

Or, alternatively one entry can be passed:

 

3. For Interest on Capitals:

Interest on Capital is given to partners only when the Partnership Deed allows it. Interest on Capital is allowed at the given rate for the time period for which capital has been used. On the opening balance of the partner’s capital, interest on capital is allowed. On additional capital being introduced or withdrawal of capital during the year, interest on capital is allowed for the period for which it has stayed in the business.

When the Partnership Deed is silent, interest on capital is not allowed. When Partnership Deed is silent as to the treatment of interest on capital as a charge against profit or appropriation, interest on capital is not allowed. When the business incurs a loss, interest on capital is allowed at the agreed rate in case of profit, and when the profit is less than the interest on capital to be provided, profit is distributed in the ratio of interest on capital of each partner.

A. On Allowing Interest on Capital:

 

B.  For Transferring Interest on Capital to Profit and Loss Appropriation A/c:

 

Or, alternatively one entry can be passed:

 

4. For Partners’ Salary/Commission:

Salary/Commission provided to partner if the Partnership Deed allows. Salary/Commission to partner is an appropriation out of profits and not a charge against profit. The commission is allowed to partners on either net profit before charging such commission or net profit after charging such commission. 

A. On Salary/Commission Payable to Partners:

 

B.  For Transferring Salary/Commission to Profit and Loss Appropriation A/c:

 

5. For Transfer to Reserve:

Reserve is a part of profit kept aside to meet uncertain future financial requirements. It is a fund created for purposes like strengthening the financial position, meeting the anticipated or specific liability, etc. After the appropriation of profit among the partners related to interest on capital, interest on drawings, salary/commission to partners, a part of the net profit is transferred to the reserve account. The Reserve A/c created is credited and the Profit and Loss Appropriation A/c is debited.

 

6. For Transfer of Credit Balance (being Profit):

Net profit after the appropriation of interest on drawings, interest on capital, partner’s salary and commission, and transfer to reserve, is distributed among the partners in the profit sharing ratio. Partner’s Capital ( Current A/c, if capital is fixed)  A/c is credit and Profit and Loss A/c is debited.

 

Format of Profit and Loss Appropriation Account:

 

Illustration: 

M, A and N started a business Man Ltd. with capitals ₹80,000, ₹50,000 and ₹65,000, respectively and agreed to share profit and losses in the ratio 5:3:4. Drawings made by the partners during the year were ₹ 7,100, ₹5,300 and ₹6,400, respectively. Net Profit for the year was ₹ 72,000 for the year ended on 31.3.2022. In the Partnership Deed, the following were mentioned:

1. Interest on capital to be allowed @ 7% p.a.

2. ₹ 9,500 p.a. salary to be paid to partners.

3. Interest on Drawings to be charged @ 5% p.a.

4. ₹ 13,000 to be transferred to Reserve.

Pass necessary Journal entries related to the division of profit and prepare Profit and Loss Appropriation A/c for the year ending on 31st March,2022.

Solution: