Question

Mention two points of difference between the legal provisions regarding interest on loans and interest on drawings.

Answer 1

Aspect	Interest on loan	Interest on drawings
Nature of transaction	Interest on loan is treated as a charge against the profits of the firm.	Interest on drawings is treated as an income of the firm.
Provision in partnership deed	Interest on loan is allowed even in the absence of a partnership deed at 6% per annum, whether the firm earns profit or incurs loss.	Interest on drawings is charged only if it is expressly provided in the partnership deed.
Priority	Interest on loan is paid before the distribution of profits among the partners.	Interest on drawings is deducted before the distribution of profits, as it is credited to the Profit and Loss Appropriation Account.
Impact on capital	Interest on loan does not reduce the capital of the partner, as the loan remains a liability of the firm.	Interest on drawings reduces the capital of the partner because drawings represent withdrawal of funds.
Rate of interest	The rate of interest on loan is fixed by the partnership deed, and in its absence, it is charged at 6% per annum as per the Partnership Act, 1932.	The rate of interest on drawings is decided as per the agreement between the partners.
Accounting treatment	Interest on loan is debited to the Profit and Loss Account as a business expense.	Interest on drawings is debited to the Drawings Account and then transferred to the Capital Account.