Chapter 14_Partnerships: Formation and Operation (JEs)
Admission by a Contribution Made to the Partnership: Capital Balance P/L Ratio King: 80,000 60% Wilson: 20,000 40% New Partner Goldman: -Payment of $20,000 -For 10% interest NEW Assumptions: -Piece of land held is actually worth $30,000 more than its currently recorded book value *Thus, the identifiable assets of the partnership are worth $130,000 Hybrid Method of Recording Admission of New Partner
*Asset revaluation and a capital bonus are both used to align the accounts 1. The identifiable assets (such as land) are revalued but NO goodwill is recognized: DR Land 30,000 CR King, Capital (60% of revaluation) 18,000 CR Wilson, Capital (40%) 12,000 *To record current fair value of land in preparation for admission of new partner 2. The admission of Goldman and the payment of $20,000 bring the total capital balance to $150,000. Now Goldman's 10% interest is calculated as a capital balance of $15,000 ^The extra $5,000 ($20,000-15,000) is attributed as a bonus to the original partners DR Cash 20,000 CR Goldman, Capital (10% of total capital) 15,000 CR King, Capital (60% of bonus) 3,000 CR Wilson, Capital (40% of bonus) 2,000 *To record entrance of Goldman into partnership and bonus assigned to original partners
Admission by a Contribution Made to the Partnership: Capital Balance P/L Ratio King: 80,000 60% Wilson: 20,000 40% New Partner Goldman: -Payment of $20,000 -Receives an initial 10% in the net assets of the partnership COMPARISON of Bonus Method and Goodwill Method
*Bonus Method *Goodwill Method Assets Less liabilities (as reported)..... $100,000 $100,000 Goldman's Contribution............................ 20,000 20,000 Goodwill........................................................... -0- 80,000 TOTAL............................................................... $120,000 $200,000 Goldman's capital....................................... 12,000 $20,000 *Because Goldman contributed an amount more than 10% of the partnership's resulting book value, this business is perceived as being worth more than the recorded accounts indicate; hence, the bonus and the goodwill were both assumed as accruing to the two original partners
Admission through Purchase of a Current Interest: Capital Balance P/L Ratio Scott: 50,000 20% Thompson: 30,000 50% York: 20,000 30% TOTAL Capital: $100,000 *Each of the above partners elects to transfer a 20% interest to Morgan for a total payment of $30,000 Solve using the Goodwill [Revaluation] Method
*Legally, the partnership of Scott, Thompson, and York is transferring all assets and liabilities to the partnership of Scott, Thompson, York, and Morgan **Therefore, according to the logic of the goodwill method, a transaction is occurring b/w TWO SEPARATE REPORTING ENTITIES, an event that necessitates the complete revaluation of all assets and liabilities -Morgan is paying $30,000 for 20% of the business, IMPLIED VALUE of the business as a whole: $150,000 ($30,000/20%) -However, the BOOK VALUE is only $100,000; -Thus, a $50,000 UPWARD REVALUATION is indicated *The adjustment is reflected by restating specific partnership asset and liability accounts to fair value with any remaining balance recorded as goodwill DR Goodwill (or specific amounts) 50,000 CR Scott, Capital (20% goodwill) 10,000 CR Thompson, Capital (50%) 25,000 CR York, Capital (30%) 15,000 *To recognize goodwill and revaluation of assets and liabilities based on the value of business implied by Morgan's purchase price DR Scott, Capital (20% x new $60,000 capital balance) 12,000 DR Thompson, Capital (20% x $55,000) 11,000 DR York, Capital (20% $35,000) 7,000 CR Morgan, Capital (20% x $150,000 new total) 30,000 *To reclassify capital to reflect Morgan's acquisition. Money is paid directly to partners [This entry credits the $50,000 revaluation to the original partner based on the P/L Ration rather than on capital percentages]
Admission by a Contribution Made to the Partnership: Capital Balance P/L Ratio King: 80,000 60% Wilson: 20,000 40% New Partner Goldman: -Payment of $20,000 -(NEW) Receives an initial 20% in the net assets of the partnership Solve using Bonus Credited to New Partner
*New Partner: excellent professional reputation, valuable business contacts, the business is desperate for new capital and is willing to offer favorable terms as an enticement to the potential partner, etc. *This method sets Goldman's initial capital at $24,000 (20% of the $120,000 book value) ^to achieve this balance, a capital bonus of $4,000 must be credited to Goldman and take from the OG partners DR Cash 20,000 DR King, Capital (60% of bonus) 2,400 DR Wilson, Capital (40% of bonus) 1,600 CR Goldman, Capital (above) 24,000 *To record Goldman's entrance into partnership with reduced payment reported as a bonus from orginal partners
Admission by a Contribution Made to the Partnership: Capital Balance P/L Ratio King: 80,000 60% Wilson: 20,000 40% New Partner Goldman: -Payment of $20,000 -(NEW) Receives an initial 20% in the net assets of the partnership Solve using Goodwill Credited to New Partner
*The change from 10% interest to 20% causing the value of the co. to be calculated as only $100,000 ($20,000/20%). A figure that is LESS THAN the !=$120,000 in net assets reported. ^Negative Goodwill appears to exist *Possibility 1: Indiv. partnership assets are overvalued and require reduction *Possibility 2: Goldman could be bringing an intangible contribution (goodwill) to the business along with the $20,000 1. Goldman's capital = 20% of partnership capital 2. Therefore, $20,000 + Goodwill = 0.20 ($100,000 + $20,000 + Goodwill) $20,000 + Goodwill = $20,000 + $4,000 + 0.20 Goodwill 0.80 Goodwill = $4,000 Goodwill = $5,000 3. $25,000 capital investment: $20,000 cash and $5,000 goodwill 4. Contribution raises total capital for the business to $125,000 DR Cash 20,000 DR Goodwill 5,000 CR Goldman, Capital 25,000 *To record Goldman's entrance into partnership with goodwill attributed to the new partner
Admission by a Contribution Made to the Partnership: Capital Balance P/L Ratio King: 80,000 60% Wilson: 20,000 40% New Partner Goldman: -Payment of $20,000 -Receives an initial 10% in the net assets of the partnership Solve using Goodwill Credited to Original Partners
*assumption- partnership as a whole has an actual value of $200,000 ($20,000/10%) BUT, only $120,000 in net assets is reported, a valuation adjustment of $80,000 is implied *The $80,000 may reflect a need to revalue specific accounts such as inventory or equipment, although the entire amount, or some portion of it, may simply be recorded as goodwill DR Goodwill (or specific accounts) 80,000 CR King, Capital (60% of goodwill) 48,000 CR Wilson, Capital (40%) 32,000 *To recognize goodwill based on Goldman's purchase price DR Cash 20,000 Goldman, Capital 20,000 *To record Goldman's admission into partnership
Admission by a Contribution Made to the Partnership: Capital Balance P/L Ratio King: 80,000 60% Wilson: 20,000 40% New Partner Goldman: -Payment of $20,000 -Receives an initial 10% of the net assets of the partnership Solve using Bonus Credited to Original Partners
*because $20,000 is invested, total reported capital increases to $120,000 *Thus, Goldman's 10% interest is computed as $12,000 ^The $8,000 difference b/w the amount contributed and this allotted capital balance is viewed as a bonus. ^^And because Goldman is willing to accept a capital balance that is less than his investment, this bonus is attributed to the original partners (based on P/L) *NO need exists to recognize goodwill or revalue any of the assets or liabilities DR Cash 20,000 CR Goldman, Capital (10% of total capital) 12,000 CR King, Capital (60% of bonus) 4,800 CR Wilson, Capital (40% of bonus) 3,200 *To record Goldman's entrance into partnership with $8,000 extra payment recorded as a bonus to the original partners.
Accounting For the Withdrawal of a Partner: Partner Capital Balance P/L Ratio Duncan..................$70,000......................50% Smith..........................20,000.....................30% Windsor.....................10,000......................20% Total Capital...$100,000 *Windsor decides to withdraw, while the other choose to continue *Total fair value is estimated at $180,000 ($80,000 in excess of book value) ^Land held by the partnership is currently worth $50,000 more than its original cost ^In addition, $30,000 in goodwill is attributed to the partnership based on its value as a going concern (to make up the $80,000) *Windsor receives $26,000 on leaving the partnership: the original $10,000 capital balance plus a 20% share of this $80,000 increment Solve using Bonus Method
*the extra $16,000 paid to Windsor is assigned as a DECREASE in the remaining partners' capital accounts *Duncan 50% --> 5/8 *Smith 30% --> 3/8 DR Windsor, Capital (to remove account balance) 10,000 DR Duncan, Capital (5/8 of excess distribution) 10,000 DR Smith, Capital (3/8 of excess distribution) 6,000 CR Cash 26,000 *To record Windsor's withdrawal with $16,000 excess distribution taken from remaining partners
Admission through Purchase of a Current Interest: Capital Balance P/L Ratio Scott: 50,000 20% Thompson: 30,000 50% York: 20,000 30% TOTAL Capital: $100,000 *Each of the above partners elects to transfer a 20% interest to Morgan for a total payment of $30,000 **According to the sales contract, the money is to be paid directly to the owners Solve using the Book Value Method [Similar to Bonus Method]
Approach 1 [SIMILAR to the Bonus Method]: -Because Morgan's purchase is carried out b/w the indiv. parties, the acquisition has no impact on partnership assets and liabilities. -Because the business is not involved directly, the transfer of ownership requires a simple capital reclassification w/out any accompanying revaluation *Similar to Bonus Method: only a legal change in ownership is occurring so that revaluation of neither assets or liabilities nor goodwill is appropriate BOOK VALUE METHOD: DR Scott, Capital (20% of capital balance) 10,000 DR Thompson, Capital (20%) 6,000 DR York, Capital (20%) 4,000 CR Morgan, Capital (20% of total capital balance) 20,000 *To reclassify capital to reflect Morgan's acquisition. Money is paid directly to the partners. **Notice that Cash is NOT debited because the $ goes straight to the partners
*To record cash contributed to start new partnership
DR Cash CR Carter, Capital CR Green, Capital
Carter: contributes $50,000 cash Green: -Inventory: B.V of $9,000; F.V. of $10,000 -Land: B.V. of $14,000; F.V. of $11,000 -Building: B.V. of $32,000; F.V. of $46,000 *Green's building is encumbered by a $23,600 mortgage *To record properties contributed to start partnership. Assets and Liabilities are recorded at fair value (due to revaluation of contributed assets)
DR Cash 50,000 DR Inventory 10,000 DR Land 11,000 DR Building 46,000 CR Mortgage Payable 23,600 CR Carter, Capital 50,000 CR Green, Capital *43,400 *Green's capital balance of $43,400 ($67,000 less $23,600) represents an ownership interest in the business as a whole but does not constitute a specfic claim to any asset (i.e. the building no longer belongs to Green, but rather the partnership itself)
Intangible Contributions- Bonus Method: James ($70,000) and Joyce ($10,000 cash and intangible assets) have contributed a total of $80,000 in IDENTIFIABLE assets to their partnership and have decided on EQUAL capital balances
DR Cash 80,000 CR James, Capital 40,000 CR Joyce, Capital 40,000 *To record cash contributions with bonus to Joyce because of artistic abilities *Joyce received a CAPITAL BONUS here of $30,000 ($40,000 recorded capital balance in excess of the $10,000 cash contribution) from James in recognition of the artistic abilities she brought into the business
Intangible Contributions- Goodwill Method: James ($70,000) and Joyce ($10,000 cash and intangible assets) have contributed a total of $80,000 in IDENTIFIABLE assets to their partnership and have decided on EQUAL capital balances
DR Cash 80,000 DR Goodwill 60,000 CR James, Capital 70,000 CR Joyce, Capital 70,000 *To record cash contributions with goodwill attributed to Joyce in recognition of artistic abilities
Net income ready for allocation: $60,000 *To allocate net income based on provisions of partnership agreement
DR Income Summary 60,000 CR Tinker, Capital (30%) 18,000 CR Evers, Capital (40%) 24,000 CR Chance, Capital (305) 18,000
*To record withdrawal of cash by partners
DR James, Drawing 1,200 DR Joyce, Drawing 1,500 CR Cash 2,700 *larger amounts: occurs sporadically and entails amounts significantly higher than the partner's periodic drawing *^The Articles of Partnership may require prior approval by other partners
Each partner withdrew their limit of $10,000 for the year. *To close out drawing accounts recording payments made to the three partners
DR Tinker, Capital 10,000 DR Evers, Capital 10,000 DR Chance, Capital 10,000 CR Tinker, Drawing 10,000 CR Evers, Drawing 10,000 CR Chance, Drawing 10,000
Accounting For the Withdrawal of a Partner: Partner Capital Balance P/L Ratio Duncan..................$70,000......................50% Smith..........................20,000.....................30% Windsor.....................10,000......................20% Total Capital...$100,000 *Windsor decides to withdraw, while the other choose to continue *Total fair value is estimated at $180,000 ($80,000 in excess of book value) ^Land held by the partnership is currently worth $50,000 more than its original cost ^In addition, $30,000 in goodwill is attributed to the partnership based on its value as a going concern (to make up the $80,000) *Windsor receives $26,000 on leaving the partnership: the original $10,000 capital balance plus a 20% share of this $80,000 increment Solve using Hybrid Method
Hybrid: 1. Recognizes asset and liability revaluations 2. Ignores goodwill, records bonus Land Revaluation: DR Land 50,000 CR Duncan, Capital (50%) 25,000 CR Smith, Capital (30%) 15,000 CR Windsor, Capital (20%) 10,000 *To adjust Land account to fair value as a preliminary step in Windsor's withdrawal ^Same 1st JE as Goodwill Method Wrapping up Windsor, Capital- (to remove account balance) DR Windsor, Capital 20,000 DR Duncan, Capital (5/8 of bonus) 3,750 DR Smith, Capital (3/8 of bonus) 2,250 CR Cash 26,000 *To record final distribution to Windsor with $6,000 bonus taken from remaining partners (instead of being recorded as coming from goodwill)
Should a partner who contributes a building having a recorded value of $18,000 but a fair value of $50,000 be credited with only an $18,000 interest in the partnership?
Unfortunately, yes. *For federal income tax purposes, the $18,000 book value is retained as the basis for this building, even after transfer to the partnership. Within the tax laws, no difference is seen between partners and their partnership so that no adjustment to fair value is warranted. *Option: require the revaluation of contributed assets
Accounting For the Withdrawal of a Partner: Partner Capital Balance P/L Ratio Duncan..................$70,000......................50% Smith..........................20,000.....................30% Windsor.....................10,000......................20% Total Capital...$100,000 *Windsor decides to withdraw, while the other choose to continue *Total fair value is estimated at $180,000 ($80,000 in excess of book value) ^Land held by the partnership is currently worth $50,000 more than its original cost ^In addition, $30,000 in goodwill is attributed to the partnership based on its value as a going concern (to make up the $80,000) *Windsor receives $26,000 on leaving the partnership: the original $10,000 capital balance plus a 20% share of this $80,000 increment Solve using Goodwill Method
Windsor, Capital Running Balance Land Revaluation: Total DR Land 50,000 CR Duncan, Capital (50%) 25,000 CR Smith, Capital (30%) 15,000 CR Windsor, Capital (20%) 10,000 (20,000) *To recognize land value as a preliminary step to Windsor's withdrawal Goodwill Recognition: DR Goodwill 30,000 CR Duncan, Capital (50%) 15,000 CR Smith, Capital (30%) 9,000 CR Windsor, Capital (20%) 6,000 (26,000) *To recognize goodwill at the time of ownership change. Wrapping Up Windsor, Capital- (to remove account balance) DR Windsor, Capital 26,000 CR Cash 26,000 *Goodwill: represents an asset that captures the intangible increase in partnership value attributable to the past efforts of the individual partners *^Entitled to share in any unrecorded increase in partnership value based on his or her profit and loss ratio *The extra $6,00 paid to Windsor is consistent with the $30,000 overall recognition of partnership goodwill: ($6,000/30%) = $30,000