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Difficulty: MediumNature of Partnership and Provisions of Partnership Deed

Where partners fail to execute a formal Partnership Deed, which of the following correctly describes the accounting treatment and statutory rate of interest for a loan advanced by a partner under the provisions of the Partnership Act 1890?

  1. It is entitled to interest at 5% per annum, which is charged as an expense in the Profit and Loss Account.Answer
  2. B
    It is entitled to interest at 5% per annum, which is debited as an allocation in the Profit and Loss Appropriation Account.
  3. C
    It is entitled to interest at 6% per annum, which is treated as an appropriation of profit.
  4. D
    It attracts no interest because partner advances are treated as personal capital transactions outside the business entity.

Answer

It is entitled to interest at 5% per annum, which is charged as an expense in the Profit and Loss Account.
According to the Partnership Act 1890, when there is no Partnership Deed, any loan advanced by a partner in excess of agreed capital entitles the partner to interest at 5% per annum. Because this interest is a business obligation (charge against profit), it must be debited to the Profit and Loss Account rather than the Profit and Loss Appropriation Account.

Step-by-Step Solution

1
Identify the statutory default rule for partner loans under the Partnership Act 1890.
In the absence of an express agreement, a partner advancing money beyond capital is entitled to interest at 5% per annum.
The Partnership Act 1890 establishes statutory default terms when no written Partnership Deed exists.
2
Determine the proper accounting classification for interest on a partner's loan.
Interest on a partner's loan is classified as a charge against profit, not an appropriation of profit.
Loans are external financial obligations to the business entity, so the interest expense must be debited to the Profit and Loss Account to arrive at net profit.

Key Concept

Statutory treatment of partner loan interest under the Partnership Act 1890
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Topics

Nature of Partnership and Provisions of Partnership Deed

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