AQA A-Level Accounting (7127)

## Learning Outcomes

- Understand why **interest on capital** and **interest on drawings** are treated as appropriations of profit
- Calculate interest on capital and interest on drawings, including time apportionment
- Prepare a partnership appropriation account involving these items
- Record the entries correctly in partners’ current accounts
- Distinguish between interest on capital, interest on drawings, and interest on a partner’s loan
- Identify common exam errors and improve calculation accuracy

## AQA A-Level Accounting (7127) Syllabus

For the AQA A-Level Accounting (7127), you are expected to understand interest on capital and drawings within partnership accounts, with a focus on the following syllabus points:

- Know that **interest on capital** is an appropriation of profit, not an expense in the income statement
- Know that **interest on drawings** is credited in the appropriation account and debited to the partner’s current account
- Identify the correct layout of partners’ current accounts under the **fixed capital method**
- Explain how the **partnership appropriation account** begins with profit for the year, adds interest on drawings, then deducts salaries and interest on capital
- Understand that the **residual profit or residual loss** is shared in the agreed profit-sharing ratio
- Apply the default rules of the **Partnership Act 1890** where there is no partnership agreement
- Distinguish between interest on a partner’s **capital** and interest on a partner’s **loan**
- Calculate time-apportioned interest where capital or drawings arise part-way through the year

## Test Your Knowledge

_Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, look more closely at that area during your revision._

1. Why is interest on capital not treated as an expense in the income statement?
2. Which side of a partner’s current account should interest on drawings appear on?
3. How is the residual profit found in a partnership appropriation account?
4. What happens if there is no partnership agreement?
5. How is interest on drawings calculated when withdrawals are made part-way through the year?

## Introduction

In partnership accounts, **interest on capital** and **interest on drawings** are common sources of error. Students often know the formulas but lose marks by placing figures in the wrong account, treating appropriations as expenses, or applying the profit-sharing ratio too early.

This subtopic matters because AQA can test it through calculations, current accounts, appropriation accounts, or multiple-choice questions on accounting treatment. To score well, you need both the arithmetic and the logic behind the entries.

> **Key Term: partnership appropriation account**
> The account that shows how profit for the year is shared between partners after applying the terms of the partnership agreement.

### Why interest on capital and drawings matter

A partnership may choose to reward partners for capital invested and charge them for taking money out of the business. These terms are usually set out in the **partnership agreement**.

> **Key Term: partnership agreement**
> An agreement between partners that sets out how profits and losses are shared and whether items such as salaries, interest on capital and interest on drawings apply.

**Interest on capital** rewards a partner for leaving funds in the business. **Interest on drawings** charges a partner for taking funds out, especially early in the year when cash may be tight.

> **Key Term: interest on capital**
> An appropriation of profit that gives partners a return on the capital they have invested in the partnership.
>
> **Key Term: interest on drawings**
> A charge made to partners for drawings taken from the business, treated as an addition to profit available for appropriation.

These are not the same as normal business expenses. They are ways of dividing profit between owners. That is the key accounting principle.

If separate capital and current accounts are kept, interest on capital is usually credited to the partner’s **current account**, not the capital account.

> **Key Term: partners’ current accounts**
> Accounts used to record each partner’s share of profit or loss, drawings, salaries, interest on capital and interest on drawings when fixed capital accounts are maintained.

The basic rule is:

- items that benefit the partner go on the **credit** side of the current account
- items that reduce the partner’s entitlement go on the **debit** side

So:

- **interest on capital** → credit current account
- **share of profit** → credit current account
- **salary** → credit current account
- **drawings** → debit current account
- **interest on drawings** → debit current account
- **share of loss** → debit current account
  > **Test Tip:** In AQA questions, many marks are lost through direction errors. Before posting any figure, ask: “Does this benefit the partner or charge the partner?”

### The appropriation account: order and logic

The appropriation account has a set structure. You should follow the same sequence every time.

Start with:

- **profit for the year**

Then:

- **add interest on drawings**

Then deduct:

- **partners’ salaries**
- **interest on capital**

The balance left is the **residual profit** or **residual loss**, which is shared in the agreed profit-sharing ratio.

> **Key Term: residual profit**
> The profit remaining after adding interest on drawings and deducting appropriations such as salaries and interest on capital.

A simple layout is:

- Profit for the year
- Add: interest on drawings
- Less: salaries
- Less: interest on capital
- Share of remaining profit or loss

Why is interest on drawings added? Because it is income to the partnership from the partners. Why is interest on capital deducted? Because it is part of how profit is given to the partners.

Worked example:

Profit for the year = **£32,800**

Interest on drawings = **£600**

Salary of one partner = **£10,000**

Interest on capital = **£1,800**

Step 1: Start with profit  
£32,800

Step 2: Add interest on drawings  
£32,800 + £600 = **£33,400**

Step 3: Deduct salary  
£33,400 - £10,000 = **£23,400**

Step 4: Deduct interest on capital  
£23,400 - £1,800 = **£21,600**

Step 5: Share residual profit equally  
£21,600 ÷ 2 = **£10,800 each**

If one partner also had the salary or interest on capital, their total share would be:

- partner with salary and/or interest: residual share plus those items
- other partner: residual share only, unless they also had an appropriation

Students often confuse “how much each partner receives in total” with “the residual share each partner receives”.

Common errors:

- treating interest on capital as an income statement expense
- forgetting to add interest on drawings
- sharing the original profit before appropriations
- dividing the salary between partners instead of awarding it to the named partner
  > **Test Tip:** Label every step in a worked calculation. AQA rewards clear workings, and labelled steps make it easier to spot your own errors.

### Calculating interest on capital and drawings

The core formulas are straightforward:

Interest on capital
capital × rate × time

Interest on drawings
drawings × rate × time

Time is often expressed as months over 12.

#### Interest on capital

If capital remains unchanged all year, calculation is simple.

Example:

Partner A capital = **£50,000**  
Rate = **10% per annum**

Interest on capital =  
£50,000 × 10% = **£5,000**

If extra capital is introduced during the year, time apportion it.

Example:

Opening capital = **£20,000**  
Extra capital introduced on 1 July = **£4,000**  
Rate = **10%**

Step 1: Interest on opening capital for full year  
£20,000 × 10% = **£2,000**

Step 2: Interest on extra capital for 6 months  
£4,000 × 10% × 6/12 = **£200**

Total interest on capital =  
£2,000 + £200 = **£2,200**

Use the dates in the question carefully. Do not assume a full year where capital changes mid-year.

#### Interest on drawings

This depends on when drawings are taken. Earlier drawings attract more interest because the money is out of the business longer.

Example:

Drawings during the year = **£24,000**  
Taken as £6,000 at end of each quarter  
Rate = **10%**  
Year end = 31 December

31 March drawing:  
£6,000 × 10% × 9/12 = **£450**

30 June drawing:  
£6,000 × 10% × 6/12 = **£300**

30 September drawing:  
£6,000 × 10% × 3/12 = **£150**

31 December drawing:  
No interest, because it is at year end

Total interest on drawings =  
£450 + £300 + £150 = **£900**

This **£900** is:

- credited in the appropriation account
- debited to the partner’s current account

Be cautious with shortcuts for monthly drawings. Only use an average-time method if the drawing pattern clearly supports it.

Common errors:

- charging interest on drawings made at the year end
- using the wrong number of months
- forgetting that interest on drawings increases profit available to share
- placing interest on drawings on the credit side of the current account

### Current accounts, Partnership Act rules and exam judgement

Under the fixed capital method, current accounts collect the year’s movements.

Worked current account example:

Opening balance = **£1,200 credit**  
Interest on capital = **£900**  
Salary = **£10,000**  
Share of profit = **£4,230**  
Drawings = **£14,000**

Credit side total:  
£1,200 + £900 + £10,000 + £4,230 = **£16,330**

Debit side total:  
£14,000

Closing balance:  
£16,330 - £14,000 = **£2,330 credit**

If the opening balance had been a **debit** instead, it reduces the partner’s total entitlement.

A debit current account balance means the partner has withdrawn more than the profit and appropriations credited to them. A credit balance means the business owes value to the partner.

You must also know the default legal rules.

> **Key Term: Partnership Act 1890**
> The law that provides default rules for partnerships where no partnership agreement exists.

If there is **no partnership agreement**:

- profits and losses are shared **equally**
- **no partner salary**
- **no interest on capital**
- **no interest on drawings**

A common trap is the partner’s loan.

> **Key Term: partner’s loan**
> Money lent by a partner to the partnership that is separate from capital and current accounts.

Interest on a partner’s loan is different from interest on capital. It is treated as an **expense** in the income statement, not an appropriation. If no rate is agreed, the Partnership Act **5% per annum** applies on an advance beyond agreed capital.

This distinction is essential in longer answers.

How to structure an evaluative answer:

When discussing partnership appropriations, use **financial evidence** such as profit levels, current account balances, and whether capital contributions differ significantly. Discuss **non-financial factors** such as fairness between partners, incentives to leave capital in the business, and the effect of drawings on liquidity. Then consider **limitations**: interest on capital may seem fair, but it does not mean the partner created more profit; interest on drawings may improve discipline, but it may also discourage necessary withdrawals. Finish with a justified judgement based on the facts in the question.

Common high-level errors:

- confusing partner loan interest with interest on capital
- stating Partnership Act rules incorrectly
- giving generic evaluation with no figures
- ignoring what debit or credit current account balances imply

## Key Point Checklist

_This article has covered the following key knowledge points:_

- Interest on capital and interest on drawings are appropriations of profit, not normal operating expenses
- In the appropriation account, interest on drawings is added before salaries and interest on capital are deducted
- Residual profit or loss is shared in the agreed profit-sharing ratio
- Interest on capital is usually credited to the partner’s current account under the fixed capital method
- Interest on drawings is debited to the partner’s current account
- The formulas are capital × rate × time and drawings × rate × time
- Time apportionment is needed when capital changes or drawings are taken part-way through the year
- A debit current account balance means the partner has withdrawn more than their entitlement
- A credit current account balance means value is owed to the partner by the business
- If there is no partnership agreement, profits are shared equally and there is no salary, no interest on capital and no interest on drawings
- Interest on a partner’s loan is separate from interest on capital and is treated as an expense
- Clear workings and correct direction of entries are vital for AQA marks

## Key Terms and Concepts

- partnership appropriation account
- partnership agreement
- interest on capital
- interest on drawings
- partners’ current accounts
- residual profit
- Partnership Act 1890
- partner’s loan


Partnership accounts - Interest on capital and drawings