PARTNERSHIP LIQUIDATION – INSTALLMENT

B. Partnership Liquidation by INSTALLMENT

Under this method, realization of non-cash assets is accomplished over an

extended period of time. It is a process of selling some assets, paying the creditors,
paying the remaining cash to the partners, realizing additional assets, and making
additional payments to the partners. The liquidation will continue until all the non-
cash assets have been realized and all available cash distributed to partnership
creditors and partners.

Installment payments to partners are appropriate if necessary safeguards are

used to ensure that all partnership creditors are paid in full and that no partner is
paid more than the amount to which he would be entitled after all losses on
realization of assets are known. The procedures may be followed in installment
liquidation:

1. Realization of non-cash assets and distribution of gain or loss on realization

among the partners based on their profit and loss ratio.
2. Payment of liquidation expenses and adjustment for unrecorded liabilities;
both of these terms will be distributed among the partners in their profits
and loss ratio.
3. Payment of liabilities to outsiders.
4. Distribution of available cash based on a schedule of payments which
assumes possible losses due to inability of the partnership to dispose of part
or all the remaining non-cash assets and failure of the partners with capital
deficiencies to make additional contributions. Payments to partners can
also be made based on a cash priority program.

Schedule of Safe Payments

 a schedule of safe installment payments to partners

The use of safe payment schedules is a reliable method of computing the

amount of safe payments to partners for it prevents excessive payments to any
partner. However, the approach is inefficient if numerous installment distributions
are to be made to partners.

Based on three assumptions:

1. Loan to or from an individual partner will be combined with
respective partner’s capital account.
2. Remaining noncash assets will not provide any additional cash.
3. Partner with a debit balance in capital account will be unable to
pay amounts owed.

A safe payment schedule is prepared each time cash is to be distributed.

Advance Plan for the Distribution of Cash

Objective is to derive the order and the amount of cash that should be distributed
to each partner such that no partner receiving a cash distribution will have to
make an additional investment.

Step 1 Determine net capital interest of each partner.

Step 2 Provide an order of cash distribution in which the ratio of partners’ capital
interest will eventually be equal to their profit and loss ratio. (All partners will then
have an equal ability to absorb their share of partnership losses.)
Step 3 Determine the amount of cash to distribute to bring the ratios of their capital
interests into alignment with their profit and loss ratios.
Step 4 Prepare a cash distribution plan.

Partners
A B C Total
Profit & Loss Agreement % % % %

Combined claims of partners xxx xxx xxx xxx

Less: Maximum loss possible xxx xxx xxx xxx
Capital balances xxx xxx xxx xxx
Less: Absorption of capital deficiency xxx xxx xxx xxx
Safe payment xxx xxx xxx xxx

Loss absorption balances represent the maximum loss that the partners can
absorb without reducing their equity below zero. The partner with the biggest
capital exposure or loss absorption balance should be prioritized in a cash
distribution. A partner with a relatively low loss absorption balance can be wiped
out by a material realization loss.

Cash priority program

This program which is prepared at the start of the liquidation process will
help the partners project when they can expect to be included in the cash
distribution. If the program is prepared, any amount of cash received from the
realization of the partnership assets may be paid immediately to partnership
creditors and later, the partners as specified in the program.

The pre-distribution plan:

1. Combines partner’s loan balances with their respective capital
balances;
 2. Anticipates all possible liabilities, losses on realization, and liquidation
expenses.

The formula in computing the maximum loss absorption capacity:

Maximum loss Total partner’s claims in the partnership

absorption capacity = Partner’s profit and loss percentage

To complete the cash priority program, the following steps must be observed:

1. Equalize the absorption capacity of all the partners by deducting the

difference of first priority and second priority, and so on.
2. Determine the amount of priority cash payments by multiplying the
differences with the profit and loss ratio of the partners having the highest
capacity.
3. When the absorption capacity for all partners becomes equal to each
other, then any succeeding cash for distribution will be shared based on
profit and loss ratio at this stage.

In other words, after numbers 1 and 2 cash distribution priority are

satisfied, the remaining cash available shall be distributed according to the
partner’s profit and loss ratio. It is because the ratio of the partners’ capital
balances becomes equal to their respective profit and loss ratio.
4. Compute the cash available for distributions.
5. Distribute the cash available according to cash priority program and the
balance shall be distributed based on the profit and loss ratio.