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Chapter 14 - Partnerships: Formation and Operation

CHAPTER 14PARTNERSHIPS: FORMATION AND OPERATION

Answers to Questions

1. The advantages of operating a business as a partnership include the ease of formation and the avoidance of the double taxation effect that inherently reduces the profits distributed to the owners of a corporation. In addition, because the losses of a partnership pass, for tax purposes, directly through to the owners, partnerships have historically been used (especially in certain industries) to reduce or defer income taxes.

Several disadvantages also accrue from the partnership format. Each general partner, for example, has unlimited liability for all debts of the business. This potential liability can be especially significant in light of the concept of mutual agency, the right that each partner has to create liabilities in the name of the partnership. Because of the risks created by unlimited liability and mutual agency, the growth potential of most partnerships is severely limited. Few people are willing to become general partners in an organization unless they can maintain some day-to-day contact and control over the business.

Further discussion of these issues can be found in the Answer to the first Discussion Question that appears above.

2. Specific partnership accounting problems center in the equity (or capital) section of the balance sheet. In a corporation, stockholders' equity is divided between earned capital and contributed capital. Conversely, for a partnership, each partner has an individual capital account that is not differentiated according to its sources. Virtually all accounting issues encountered purely in connection with the partnership format are related to recording and maintaining these capital balances.

3. The balance in each partner's capital account measures that partner's interest in the book value of the business’ net assets. This figure arises from contributions, earnings, drawings, and other capital transactions.

4. A Subchapter S corporation is formed legally as a corporation so that its owners enjoy limited legal liability and easy transferability of ownership. However, if a company qualifies and becomes a Subchapter S Corporation, it will be taxed in virtually the same manner as a partnership. Hence, income will be taxed only once and that is to the owners at the time that it is earned by the corporation.

Use of this designation is quite restricted. To qualify as a Subchapter S Corporation, a company can only have one class of stock and must have no more than 100 owners. These owners can only be individuals, estates, certain tax-exempt entities, and certain types of trusts. Most corporations that do not qualify as Subchapter S Corporations are automatically Subchapter C Corporations. These entities are also corporations but they pay income taxes when the income is earned. Additionally, the owners are liable for a second income tax when dividends are distributed to them. Thus, the income earned by a Subchapter C Corporation faces the double taxation effect commonly associated with corporations.

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5. In a general partnership, each partner can have unlimited liability for the debts of the business. Therefore, a partner may face a significant risk, especially in connection with the actions and activities of other partners. However, general partnerships are easy to form and often serve well in smaller businesses where all partners know each other. The major advantage of a general partnership is that all income earned by the business is only taxed once when earned by the business so that no second tax is incurred when distributions are made to owners.

A limited liability partnership (LLP) is very similar to a general partnership except in the method by which a partner’s liability is measured. In an LLP, the partners can still lose their entire investment and be held responsible for all contractual debts of the business such as loans. However, partners cannot be held responsible for damages caused by other partners. For example, if one partner carelessly causes damage and is sued, the other partners are not held responsible.

A limited liability company can now be created in certain situations. This type of organization is classified as a partnership for tax purposes so that the double-taxation effect is avoided. However, the liability of the owners is limited to their individual investments like a Subchapter C Corporation. Depending on state law, the number of owners is not restricted in the same manner as a Subchapter S Corporation so that there is a greater potential for growth.

6. The Articles of Partnership is a legal agreement that should be created as a prerequisite for the formation of a partnership. This document defines the rights and responsibilities of the partners in relation to the business and in relation to each other. Thus, it serves as a governing document for the partnership. The Articles of Partnership may contain any number of provisions but should normally specify each of the following:

a. Name and address of each partnerb. Business locationc. Description of the nature of the businessd. Rights and responsibilities of each partnere. Initial investment to be made by each partner along with the method to be used for

valuation f. Specific method by which profits and losses are to be allocatedg. Periodic withdrawals to be allowed each partnerh. Procedure for admitting new partnersi. Method for arbitrating partnership disputesj. Method for settling a partner's share in the business upon withdrawal, retirement, or

death

7. To give fair recognition to noncash contributions, all assets donated by the partners (such as land or inventory) should be recorded by the partnership at their fair values at the date of investment. However, for taxation purposes, the partner’s book value is retained.

8. In forming a partnership, one or more of the partners may be contributing some factor (such as an established clientele or an expertise) which is not viewed normally as an asset in the traditional accounting sense. In effect, the partner will be receiving a larger capital balance than the identifiable contributions would warrant.


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The bonus method of recording this transaction is to value and record only the identifiable assets such as land and buildings. The capital accounts are then aligned to recognize the proportionate interest being assigned to each partner's investment. If, for example, the capital balances are to be equal, they are set at identical amounts that correspond in total to the value of the identifiable assets.

As an alternative, the amounts contributed along with the established capital percentages can be used to determine mathematically the implied total value of the business and the presence of any goodwill brought into the business. This goodwill is recognized at the time that the partnership is created so that the amount can be credited to the appropriate partner.

9. The Drawing account measures the amount of assets that a particular partner takes from the business during the current period. Often, only regularly allowed distributions are recorded in the Drawing account with larger, more sporadic withdrawals being recorded as direct reductions to the partner's capital balance.

10. At the end of each fiscal year, when revenues and expenses are closed out, some assignment must be made of the resulting income figure Because a partnership will have two or more capital accounts rather than a single retained earnings balance. This allocation to the capital accounts is based on the agreement established by the partners preferably as a part of the Articles of Partnership.

11. The allocation process can be based on any number of factors. The actual assignment of income should be designed to give fair and equitable treatment to each of the partners. Often, an interest factor is used to reward the capital investment of the partners. A salary allowance is utilized as a means of recognizing the amount of time worked by an individual or a certain degree of business expertise. The allocation process can be further refined by a ratio that is either divided evenly among the partners or weighted in favor of one or more members.

12. If agreement as to the allocation of income has not been specified, an equal division among all partners is presumed. If an agreement has been reached for assigning profits but no mention is made concerning losses, the assumption is made that the same method is intended in either case.

13. The dissolution of a partnership is the breakup or cessation of the partnership. Many reasons can exist for a partnership to dissolve. One partner may withdraw, retire, or die. A new partner may be admitted to the partnership. The original partnership terminates whenever the identity of the individuals serving as partners has changed.

Dissolution, however, does not necessarily lead to the liquidation of the business. In most cases, but not all, a new partnership is formed which takes over the business. Such dissolutions are no more than changes in the composition of the ownership and should not affect operations.

14. A new partner can join a partnership by acquiring part or all of the interest of one or more of the present partners. This transaction is carried out with the individual partners directly and not with the partnership. A new partner may also enter through a contribution to the business. In such cases, the investment is made to the partnership rather than to the individuals.


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15. In selling an interest in a partnership, three rights are conveyed to the new owner:

a. The right of co-ownership of the business property;b. The right to a specified allocation of profits and losses generated by the partnership's

business; andc. The right to participate in the management of the business.

No problem exists in selling or assigning the first two of these rights. However, the right to participate in management decisions can only be transferred with the consent of all partners.

16. Goodwill recognized in a capital transaction is allocated to the original partners based on the profit and loss ratio. The amount is assumed to represent unrealized gains in the value of the business. To determine the amount of goodwill, the implied value of the business as a whole must be calculated based on the price being paid for a portion by the new partner. The difference between this implied value and the total capital is assumed to be goodwill or some other adjustment to asset value.

17. Allocating goodwill to an entering partner may be necessary for several reasons. One of the most common is that the partner is bringing to the partnership an attribute that is not an asset in the traditional accounting sense. For example, a new partner with an excellent business reputation might be credited with goodwill at the time of entrance. Other factors such as an established clientele or a professional expertise can justify attributing goodwill to the new partner. The partnership might make this same concession to an entering partner if cash is urgently needed by the business and a larger share of the capital has to be offered as an enticement to generate the new investment.

18. Book values in most cases measure historical cost expenditures which often have undergone years of allocation and changes in value. For this reason, book value will frequently fail to mirror or even resemble the actual worth of a business. In addition, the goodwill that is assumed to be present in a business as a going concern is not a factor that is always reflected within book values. Therefore, distributing partnership property to a withdrawing partner based on book value would not necessarily be fair. Hence, the Articles of Partnership should spell out a method by which an equitable settlement can be achieved.


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Answers to Problems

1. B

2. C

3. D

4. C Mary Ann's investment equals 1/3 of total capital ($50,000 ÷ $150,000). However, she receives only a 1/4 interest capital balance. One explanation for the difference is that the business assets are worth more than book value. To achieve agreement, the net assets could be valued upward to fair value with the adjustment credited to the original partners’ capital accounts. Alternatively, a bonus could be credited to the original partners.

5. D Based on the new contribution, the company’s implied value is $350,000 ($105,000 ÷ 30%) which is less than the capital balances ($315,000 in original capital plus $105,000 to be invested). Thus, either the assets are overvalued or the new partner is contributing goodwill in addition to a cash investment. Because the problem indicates that goodwill is recognized, goodwill must be computed. Note that the $105,000 is going into the business and, thus, increases capital.

David's investment = 30% (Original capital plus David's investment) $105,000 + Goodwill = .30 ($315,000 + $105,000 + Goodwill)$105,000 + Goodwill = $126,000 + .30 Goodwill

.70 Goodwill = $21,000Goodwill = $30,000

David's investment (Capital) = $105,000 + $30,000 = $135,000

6. B The implied value of the company is $960,000 ($240,000 ÷ 25%). Because the current capital total is only $760,000, goodwill of $200,000 must be recognized. Krystal's investment is paid directly to the partners and does not affect the capital total. Of the $200,000 in goodwill, 30 percent or $60,000 is attributed to Dane which brings that capital balance to $340,000. Because a 25% interest is conveyed to the new partner, Dane's balance decreases by 25% or $85,000—resulting in a new balance of $255,000.

7. B Total capital is $200,000 ($110,000 + $40,000 + $50,000) after the new investment. As Kansas's portion is 30 percent, the capital balance becomes $60,000 ($200,000 × 30%). Because only $50,000 was paid, a bonus of $10,000 is taken from the two original partners based on their profit and loss ratios: Bolcar – $7,000 (70%) and Neary – $3,000 (30%). The reduction drops Neary's capital balance from $40,000 to $37,000.


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8. B Total capital is $270,000 ($120,000 + $90,000 + $60,000) after the new investment. However, the implied value of the business based on the new investment is $300,000 ($60,000 ÷ 20%). Thus, goodwill of $30,000 must be recognized with the offsetting allocation to the original partners based on their profit and loss ratio: Bishop – $18,000 (60%) and Cotton $12,000 (40%). The increase raises Cotton's capital from $90,000 to $102,000.

9. A Total capital is $450,000 ($210,000 + $140,000 + $100,000) after the new investment. As Claudius' portion is to be 20 percent, the new capital balance would be $90,000 ($450,000 × 20%). Because $100,000 was paid, a bonus of $10,000 is being given to the two original partners based on their profit and loss ratio: Messalina – $6,000 (60%) and Romulus – $4,000 (40%). The increase raises Messalina's capital balance from $210,000 to $216,000 and Romulus's capital balance from $140,000 to $144,000.

10.D ASSIGNMENT OF INCOMEALFRED BERNARD COLLINS TOTAL

Interest—5% of beginning capital ................. $ 2,500 $ 3,000 $ 3,500 $ 9,000Salary........................................ 18,000 18,000Allocation of remaining income($33,000 divided on a 3:3:4 basis) 9,900 9,900 13,200 33,000

Totals ............................ $12,400 $30,900 $16,700 $60,000

STATEMENT OF CAPITALALFRED BERNARD COLLINS TOTAL

Beginning capital .................... $50,000 $60,000 $70,000 $180,000Net income (above) ................. 12,400 30,900 16,700 60,000Drawings (given) ..................... (5,000) (5,000) (5,000) (15,000)Ending capital ......................... $57,400 $85,900 $81,700 $225,000

11.A ASSIGNMENT OF INCOME—YEAR ONEWINSTON DURHAM SALEM TOTAL

Interest—10% ofbeginning capital ............... $11,000 $ 8,000 $11,000 $30,000

Salary........................................ 20,000 -0- 10,000 30,000Allocation of remaining loss($80,000 divided on a 5:2:3 basis) (40,000) (16,000) (24,000) (80,000)

Totals ............................ $(9,000) $ (8,000) $ (3,000) $(20,000)

STATEMENT OF CAPITAL—YEAR ONEWINSTON DURHAM SALEM TOTAL

Beginning capital .................... $110,000 $80,000 $110,000 $300,000Net loss (above) ...................... (9,000) (8,000) (3,000) (20,000)Drawings (given) ..................... (10,000) (10,000) (10,000) (30,000)

Ending capital .................... $ 91,000 $62,000 $ 97,000 $250,000


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11. (continued)

ASSIGNMENT OF INCOME—YEAR TWOWINSTON DURHAM SALEM TOTAL

Interest—10% ofbeginning capital ............... $ 9,100 $ 6,200 $ 9,700 $25,000

Salary........................................ 20,000 -0- 10,000 30,000Allocation of remaining loss($15,000 divided on a 5:2:3 basis) (7,500) (3,000) (4,500) (15,000)

Totals ............................ $21,600 $3,200 $15,200 $ 40,000

STATEMENT OF CAPITAL—YEAR TWOWINSTON DURHAM SALEM TOTAL

Beginning capital (above) ...... $ 91,000 $62,000 $ 97,000 $250,000Net income (above) ................. 21,600 3,200 15,200 40,000Drawings (given) ..................... (10,000) (10,000) (10,000) (30,000)

Ending capital .................... $102,600 $55,200 $102,200 $260,000

12.A Costello receives a $10,000 bonus ($100,000 less $90,000 capital balance). This bonus is deducted from the two remaining partners according to their profit and loss ratio (2:3). A 60 percent (3/5) reduction is assigned to Burns which decreases that partner’s capital balance from $30,000 to $24,000.

13.D Clark receives an additional $10,000. Because Clark receives 20 percent of profits and losses, this allocation indicates total goodwill of $50,000.

20% of Goodwill = $10,000Goodwill = $10,000 ÷ .20 = $50,000

Goodwill 50,000Manning, capital (30%) 15,000Gonzalez, capital (30%) 15,000Clark, capital (20%) 10,000Freeney, capital (20%) 10,000

The above entry raises Manning’s capital from $130,000 to $145,000.

14. B Under the bonus method, Clark’s excess payment is deducted from the remaining partners’ capital accounts according to their relative profit and loss ratios, 3:3:2. Manning’s balance is then $126,250 = $130,000 – $3,750.

Manning, capital 3,750 Gonzalez, capital 3,750 Freeney, capital 2,500 Clark, capital 80,000

Cash 90,000


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15.A The implied value of the company is $900,000 ($270,000 ÷ 30%). Because the money is going to the partners rather than into the business, the capital total is $490,000 before realigning the balances. Hence, goodwill of $410,000 is recognized based on the implied value ($900,000 – $490,000). This goodwill is assumed to represent unrealized business gains and is attributed to the original partners according to their profit and loss ratio. They will then each convey 30 percent ownership of the $900,000 partnership to Darrow for a capital balance of $270,000.

16. D Because the money goes into the business, total capital becomes $740,000 ($490,000 + $250,000). Darrow is allotted 30 percent of this total or $222,000. Because Darrow invested $250,000, the extra $28,000 is assumed to be a bonus to the original partners. Jennings will be assigned 40 percent of this extra amount or $11,200. This bonus increases Jennings’ capital from $160,000 to $171,200.

17. (10 Minutes) (Compute capital balances under both goodwill and bonus methods)

a. Goodwill MethodImplied value of partnership ($80,000 ÷ 40%) ............... $200,000Total capital after investment ($70,000 + $40,000 + $80,000) 190,000Goodwill ........................................................................... $ 10,000

Goodwill to Hamlet (7/10) ............................................... $ 7,000

Goodwill to MacBeth (3/10) ............................................ $ 3,000

Hamlet, capital (original balance plus goodwill) .......... $ 77,000

MacBeth, capital (original balance plus goodwill) ....... $ 43,000

Lear, capital (payment) (40% of total capital) ............... $ 80,000

b. Bonus MethodTotal capital after investment ($70,000 + 40,000 + $80,000) $190,000Ownership portion—Lear ............................................... 40%Lear, capital ..................................................................... $ 76,000

Bonus payment made by Lear ($80,000 – $76,000)....... $ 4,000

Bonus to Hamlet (7/10) ................................................... $ 2,800

Bonus to MacBeth (3/10) ................................................ $ 1,200

Hamlet, capital (original balance plus bonus) .............. $ 72,800

MacBeth, capital (original balance plus bonus) ........... $ 41,200

Lear, capital (40% of total capital) ................................. $ 76,000


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18.(15 Minutes) (Prepare journal entries to record admission of new partner under both the goodwill and the bonus methods)

Part a.Total capital is $300,000 ($85,000 + $60,000 + $55,000 + $100,000) after the new investment. As Sergio's portion is 25 percent, this partner's capital balance would be $75,000. Because $100,000 was paid, a bonus of $25,000 is given to the three original partners based on their profit and loss ratio: Tiger—$12,500 (50%), Phil—$7,500 (30%), and Ernie—$5,000 (20%).

Cash ........................................................................... 100,000Sergio, capital ....................................................... 75,000Tiger, capital ......................................................... 12,500Phil, capital ........................................................... 7,500Ernie, capital ......................................................... 5,000

Part b.Total capital is $260,000 ($85,000 + $60,000 + $55,000 + $60,000) after the new investment. As Sergio's portion is 25 percent, this partner's capital balance is $65,000. Because only $60,000 was paid, a bonus of $5,000 is taken from the three original partners based on their profit and loss ratio: Tiger—$2,500 (50%), Phil—$1,500 (30%), and Ernie—$1,000 (20%).

Cash ........................................................................... 60,000Tiger, capital .............................................................. 2,500Phil, capital ................................................................. 1,500Ernie, capital .............................................................. 1,000

Sergio, capital ....................................................... 65,000

Part c.Total capital is $272,000 ($85,000 + $60,000 + $55,000 + $72,000) after the new investment. However, the implied value of the business based on the new investment is $288,000 ($72,000 ÷ 25%). Consequently, goodwill of $16,000 must be recognized with the offsetting allocation to the original partners based on their profit and loss ratio: Tiger—$8,000 (50%), Phil— $4,800 (30%), and Ernie—$3,200 (20%).

Goodwill .................................................................... 16,000Tiger, capital ......................................................... 8,000Phil, capital ........................................................... 4,800Ernie, capital ......................................................... 3,200

Cash ............................................................................ 72,000Sergio, capital ....................................................... 72,000


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19. (16 Minutes) (Determine capital balances after admission of new partner using both goodwill and bonus methods)

Part a.Total capital is $490,000 ($200,000 + $120,000 + $90,000 + $80,000) after the new investment. However, the implied value of the business based on the new investment is only $444,444 ($80,000 ÷ 18%). According to the goodwill method, this situation indicates that the new partner must be bringing some intangible attribute to the partnership other than just cash. This contribution must be computed algebraically and is recorded as goodwill to the new partner.

G's Investment = .18 ($200,000 + $120,000 + $90,000 + G's Investment) $80,000 + Goodwill = .18 ($410,000 + $80,000 + Goodwill)$80,000 + Goodwill = $88,200 + .18 Goodwill.82 Goodwill = $8,200Goodwill = $10,000

The above goodwill balance indicates that Grant's total investment is $90,000 (cash of $80,000 and goodwill of $10,000). A $90,000 contribution raises the total capital to $500,000 so that Grant does, indeed, have an 18 percent interest ($90,000 ÷ $500,000).

CAPITAL BALANCES:Nixon ..................................................................... $200,000Hoover ................................................................... 120,000Polk ..................................................................... 90,000Grant ..................................................................... 90,000

Part b.Total capital is $510,000 ($200,000 + $120,000 + $90,000 + $100,000) after the new investment. As Grant's portion is to be 20 percent, this partner's capital balance will be $102,000. Because only $100,000 was paid, a bonus of $2,000 is taken from the three original partners based on their profit and loss ratio: Nixon—$1,000 (50%), Hoover—$400 (20%), and Polk—$600 (30%).

CAPITAL BALANCESOriginal Investment Bonus Total

Nixon ..................... $200,000 $(1,000) $199,000Hoover .................. 120,000 (400) 119,600Polk ....................... 90,000 (600) 89,400Grant ..................... -0- 100,000 2,000 102,000

Total ................. $510,000


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20.(10 Minutes) (Record admission of new partner and allocation of new income)

Part a.

Total capital is $167,000 ($70,000 + $60,000 + $37,000) after the new investment. However, the implied value of the business based on the new investment is $185,000 ($37,000 ÷ 20%). Consequently, goodwill of $18,000 must be recognized with the offsetting allocation to the original two partners based on their profit and loss ratio: Prince—$14,400 (80%) and Robbins—$3,600 (20%).

Goodwill................................................................. 18,000Prince, capital ................................................. 14,400Robbins, capital .............................................. 3,600

Cash ..................................................................... 37,000Jeffrey, capital ................................................. 37,000

Part b.Prince Robbins Jeffrey Total

Interest .................................. $8,440 $6,360 $3,700 $18,500Remaining loss..................... (1,750) (1,050) (700) (3,500 )

Income allocation ........... $6,690 $5,310 $3,000 $15,000

21. (5 Minutes) (Allocation of income to partners)

Jones King Lane TotalBonus (20%) ......................... $18,000 $ -0- $ -0- $18,000Interest (15% of average capital) 15,000 30,000 45,000 90,000Remaining loss ($18,000) ... (6,000) (6,000) (6,000) (18,000)Income assignment ............. $27,000 $24,000 $39,000 $90,000


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22. (15 Minutes) (Allocate income and determine capital balances)

ALLOCATION OF INCOMEPurkerson Smith Traynor Totals

Interest (10%) $ 6,600 (below) $ 4,000 $ 2,000 $12,600Salary 18,000 25,000 8,000 51,000Remaining income (loss):

$ 23,600(12,600)(51,000)

$(40,000) (16,000) (8,000) (16,000) (40,000)

Totals $ 8,600 $21,000 $(6,000 ) $23,600

CALCULATION OF PURKERSON'S INTEREST ALLOCATION

Balance, January 1—April 1 ($60,000 × 3) $180,000Balance, April 1—December 31 ($68,000 × 9) 612,000Total ................................................................................. $792,000Months.............................................................................. 12 Average monthly capital balance .................................. $ 66,000Interest rate ..................................................................... × 10%Interest allocation (above) ............................................. $ 6,600

STATEMENT OF PARTNERS' CAPITALPurkerson Smith Traynor Totals

Beginning balances .............. $60,000 $40,000 $20,000 $120,000Additional contribution ......... 8,000 -0- -0- 8,000Income (above) ...................... 8,600 21,000 (6,000) 23,600Drawings ($1,000 per month) (12,000) (12,000) (12,000) (36,000)Ending capital balances........ $64,600 $49,000 $ 2,000 $115,600


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23. (30 Minutes) (Allocate income for several years and determine ending capital balances)

INCOME ALLOCATION—2014

Left Center Right TotalInterest (12% of beginning capital) $2,400 $ 7,200 $ 6,000 $ 15,600Salary 12,000 8,000 -0- 20,000Remaining income/loss:

$(30,000) (15,600) (20,000)$(65,600) (19,680) (32,800) (13,120) (65,600)

Totals $(5,280) $(17,600) $(7,120) $(30,000)

STATEMENT OF PARTNERS' CAPITAL—DECEMBER 31, 2014

Left Center Right TotalBeginning balances ............ $20,000 $60,000 $50,000 $130,000Income allocation ............... (5,280) (17,600) (7,120) (30,000)Drawings ............................. (10,000) (10,000) (10,000) (30,000)

Ending balances ............ $ 4,720 $32,400 $32,880 $ 70,000

INCOME ALLOCATION—2015Left Center Right Total

Interest(12% of beginning capital above) *$566 $3,888 $3,946 $ 8,400Salary .................................. 12,000 8,000 -0- 20,000Remaining income/loss:

$20,000(8,400)

(20,000)$(8,400) (2,520) (4,200) (1,680) (8,400)

Totals.................. $10,046 $7,688 $2,266 $20,000*Rounded


Left Center Right TotalBeginning balances (above) $ 4,720 $32,400 $32,880 $70,000Additional investment ........ -0- -0- 12,000 12,000Income allocation ............... 10,046 7,688 2,266 20,000Drawings ............................. (10,000) (10,000) (10,000) (30,000)

Ending balances ............ $ 4,766 $30,088 $37,146 $72,000


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23. (continued)INCOME ALLOCATION—2016

Left Center Right TotalInterest (12% of beginning capital

above)* ........................... $ 572 $ 3,611 $4,457 $ 8,640Salary ................................... 12,000 8,000 -0- 20,000Remaining income:

$40,000 (8,640) (20,000 ) $11,360......................... 2,272 4,544 4,544 11,360

Totals......................... $14,844 $16,155 $9,001 $40,000

*Rounded

STATEMENT OF PARTNERS' CAPITAL—DECEMBER 31, 2016Left Center Right Total

Beginning balances (above) $ 4,766 $30,088 $37,146 $72,000Income allocation 14,844 16,155 9,001 40,000Drawings (10,000) (10,000) (10,000) (30,000)

Ending balances $ 9,610 $36,243 $36,147 $82,000


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24. (12 Minutes) (Determine capital balances after retirement of a partner using both the goodwill and the bonus approaches)

a. Fergie receives $30,000 more than her capital balance. Because Fergie is assigned 20 percent of all profits and losses, this extra allocation indicates total goodwill of $150,000, which must be split among all partners.

20% of Goodwill = $30,000.20 G = $30,000G = $150,000

CAPITAL BALANCES AFTER WITHDRAWALOriginal Balance Goodwill Withdrawal Final Balance

Pineda $230,000 $45,000 $275,000Adams 190,000 45,000 235,000Fergie 160,000 30,000 $(190,000) -0-Gomez 140,000 30,000 170,000

Total $680,000

b. A $50,000 bonus is paid to Pineda ($280,000 is paid rather than the $230,000 capital balance). This bonus is deducted from the three remaining partners according to their relative profit and loss ratio (3:2:1). A reduction of 50 percent (3/6) is assigned to Adams or a decrease of $25,000 which drops this partner's capital balance from $190,000 to $165,000. A reduction of 33.3 percent (2/6) is assigned to Fergie or a decrease of $16,667 which drops this partner's capital balance from $160,000 to $143,333. A reduction of 16.7 percent (1/6) is assigned to Gomez or a decrease of $8,333 which drops this partner's capital balance from $140,000 to $131,667.

25. (10 minutes) (Hybrid method for recording a partner withdrawal)

Because the continuing partners do not wish to record goodwill, a hybrid approach records identifiable asset fair value changes and corresponding capital adjustments, but no goodwill. The remaining excess payment to the withdrawing partner after the revaluation is then treated as a bonus.

Building 40,000Matteson, capital 12,000Richton, capital 20,000O’Toole, capital 8,000

O’Toole, capital 108,000Matteson, capital 4,500Richton, capital 7,500

Cash 120,000


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26. (45 Minutes) (P&L allocations and admission of a new partner)

a. The interest factor was probably inserted to reward Hugh for contributing $50,000 more to the partnership than Jacobs. The salary allowance gives an additional $20,000 to Jacobs in recognition of the full-time (rather than part-time) employment. The 40:60 split of the remaining income was probably negotiated by the partners based on other factors such as business experience, reputation, etc.

b. The drawings show the assets removed by a partner during a period of time. A salary allowance is added to each partner's capital for the year (usually in recognition of work done) and is a component of net income allocation. The two numbers are often designed to be equal but agreement is not necessary. For example, a salary allowance might be high to recognize work contributed by one partner. The allowance increases the appropriate capital balance. The partner might, though, remove little or no money so that the partnership could maintain its liquidity.

c. Hugh, drawings .......................................................... 7,500Repair expense ..................................................... 7,500

(To reclassify payment made to repair personal residence.)

Hugh, capital .............................................................. 16,500Jacobs, capital ........................................................... 14,000

Hugh, drawings (adjusted for home repairs) ..... 16,500Jacobs, drawings ................................................. 14,000

(To close drawings accounts for 2014.)

Revenues .................................................................... 175,000Expenses (adjusted by first entry) ...................... 138,500Income summary .................................................. 36,500

(To close revenue and expense accounts for 2014.)

Income summary ....................................................... 36,500Hugh, capital ......................................................... 12,600Jacobs, capital ..................................................... 23,900

(To close net income to partners' capital–see allocation plan shown below.)

Allocation of Income Hugh JacobsInterest (10% of beginning balance) $ 15,000 $ 10,000Salary allowances 5,000 25,000Remaining income (loss):

Net income $ 36,500Interest (25,000)Salary (30,000)Remainder $ (18,500) (7,400) (40%) (11,100) (60%)

Profit allocation $12,600 $23,900


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26. (continued)

d. Total capital (original balances of $250,000 plus 2014net income less drawings) .................................. $256,000

Investment by Thomas .............................................. 64,000Total capital after investment ................................... $320,000Ownership portion acquired by Thomas ................. 15%Thomas, capital ......................................................... $ 48,000Amount paid ............................................................... 64,000Bonus paid by Thomas—assigned to original partners $ 16,000

Bonus to Hugh (40%) ................................................ $6,400

Bonus to Jacobs (60%) ............................................. $9,600

Cash ........................................................................... 64,000Thomas, capital (20% of total capital) ................ 48,000Hugh, capital ......................................................... 6,400Jacobs, capital ..................................................... 9,600


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27. (40 Minutes) (Reporting a change in the composition of a partnership)

a. Exact amount of investment can only be computed algebraically:

E Investment = 25% (Original Capital + E Investment) El = .25 ($270,000 + El)

El = $67,500 + .25 El.75 El = $67,500

E Investment = $90,000

b. Implied value of partnership ($36,000 ÷ 10%).......... $360,000Total capital after investment by E ($270,000 + $36,000) 306,000Goodwill ..................................................................... $ 54,000Allocation of Goodwill:

A (30%) ................................................................ $16,200B (10%) ................................................................ 5,400C (40%) ................................................................ 21,600D (20%) ................................................................ 10,800

Total ................................................................. $54,000

CAPITAL BALANCESA B C D E

Original balances $20,000 $40,000 $ 90,000 $120,000 $-0-Goodwill (above) 16,200 5,400 21,600 10,800 -0-Investment - 0 - - 0 - - 0 - - 0 - 36,000Capital balances $ 36,200 $45,400 $111,600 $130,800 $36,000

c. Because E's investment of $42,000 is less than 20% of the resulting capital ($312,000). E is apparently bringing some other attribute to the partnership (goodwill) that must be computed:

E Investment = 20% (Original Capital + E Investment) $42,000 + Goodwill = .20 ($270,000 + $42,000 + Goodwill) $42,000 + Goodwill = $62,400 + .20 Goodwill

.80 Goodwill = $20,400 Goodwill = $25,500

E's investment is, therefore, $42,000 in cash and $25,500 in goodwill for a total capital balance of $67,500; the other capital accounts remain unchanged. Note that E's capital of $67,500 is 20% of the new total capital $337,500 ($270,000 + $67,500).


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27. (continued)

d. Total capital after investment ($270,000 + $55,000) $325,000Amount acquired by E .............................................. 20%E's capital balance ..................................................... $ 65,000E's payment ................................................................ 55,000Bonus being given to E ............................................. $ 10,000

Bonus from:A (10%) ................................................................ $1,000B (30%) ................................................................ 3,000C (20%) ................................................................ 2,000D (40%) ................................................................ 4,000 $10,000

CAPITAL BALANCESA B C D E

Original balances $20,000 $40,000 $90,000 $120,000 $-0-Investment -0- -0- -0- -0- 55,000Bonus (above) (1,000) (3,000) (2,000) (4,000) 10,000Capital balances $19,000 $37,000 $88,000 $116,000 $65,000

e. C's capital balance $ 90,000C's collection (125%) 112,500Bonus being paid to C $ 22,500

Bonus from:A (1/3) $7,500B (1/3) 7,500D (1/3) 7,500 $22,500

CAPITAL BALANCESA B C D

Original balances ................. $20,000 $40,000 $ 90,000 $120,000Bonus (above) ...................... (7,500) (7,500) 22,500 (7,500)Payment ................................ - 0 - - 0 - (112,500) - 0 - Capital balances ................... $12,500 $32,500 $ - 0 - $112,500


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28.(55 Minutes) (Allocation of income to the partners and determination of capital balances)

ALLOCATION OF INCOME—2013Boswell Johnson Total

Salary (8 months) ................. $8,000 $-0- $ 8,000Remaining $3,000 ................. 1,200 (40%) 1,800 (60%) 3,000

Totals ............................... $9,200 $1,800 $11,000

STATEMENT OF PARTNERS' CAPITAL—DECEMBER 31, 2013Boswell Johnson Total

Beginning Balances ($114,000Invested capital split evenly—market value used for assets) $57,000 $57,000 $114,000

Income allocation (above) ... 9,200 1,800 11,000Drawings ............................... - 0 - - 0 - - 0 -

Ending balances ............. $66,200 $58,800 $125,000

WALPOLE INVESTMENT JANUARY 1, 2014Walpole's $54,000 investment increases total capital to $179,000. Walpole is credited with a 40% interest or $71,600. According to the problem, the excess $17,600 is a bonus from the original partners. Of this amount, $10,560 is allocated from Johnson (60%) and $7,040 from Boswell (40%).

ALLOCATION OF INCOME—2014

Boswell Johnson Walpole TotalSalary .................................... $12,000 $-0- $24,000 $36,000Remaining $8,000 loss ($28,000 –

$36,000) ........................... (960) (3,840) (3,200) (8,000)Totals .......................... $11,040 $(3,840) $20,800 $28,000


Boswell Johnson Walpole TotalBeginning balances ............. $66,200 $58,800 $ -0- $125,000Walpole's contribution ........ (7,040) (10,560) 71,600 54,000Income allocation (above) ... 11,040 (3,840) 20,800 28,000Drawings ............................... (5,000) (5,000) (10,000) (20,000)

Ending balances ............. $65,200 $39,400 $82,400 $187,000


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28. (continued)ADMISSION OF POPE—JANUARY 1, 2015

Pope's payment was made directly to the partners. Therefore, neither goodwill nor a bonus need be recognized. Instead, 10% of each capital balance shown above will be reclassified to Pope. The journal entry would be as follows:

Boswell, capital ............................................................... 6,520Johnson, capital .............................................................. 3,940Walpole, capital................................................................ 8,240

Pope, capital .............................................................. 18,700

ALLOCATION OF INCOME—2015

Boswell Johnson Walpole Pope TotalSalary $12,000 $-0- $24,000 $9,600 $45,600Remaining $400 income 54 162 144 40 400Totals $12,054 $162 $24,144 $9,640 $46,000

STATEMENT OF PARTNERSHIP CAPITAL—DECEMBER 31, 2015

Boswell Johnson Walpole Pope TotalBeginning balances $65,200 $39,400 $82,400 $-0- $187,000Admission of Pope (6,520) (3,940) (8,240) 18,700 -0-Allocation of income

(above) 12,054 162 24,144 9,640 46,000Drawings (5,000) (5,000) (10,000) (4,000) (24,000)

Ending balances $65,734 $30,622 $88,304 $24,340 $209,000


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29. (60 Minutes) (Allocate income and prepare a statement of partners' capital)

a. Income Allocation—2013Gray Stone Lawson Totals

Salary allowance ($8 per billablehour) $13,680 $11,520 $10,400 $35,600

Interest (see Note A) 25,928 21,600 10,800 58,328Bonus (not applicable because

salary and interest would necessitate a negative bonus) -0- -0- -0- -0-

Remaining loss (split evenly):$ 65,000 (35,600) (58,328)$(28,928) (9,643) (9,643) (9,642) (28,928)

Profit allocation $29,965 $23,477 $11,558 $65,000

Note A: Interest for Stone and Lawson is calculated at 12% of their beginning capital balances ($180,000 and $90,000, respectively) while for Gray the computation is based on a $210,000 balance for 4/12 of the year and $219,100 for the remaining 8/12.

Capital Account Balances—1/1/13 – 12/31/13

Gray Stone Lawson TotalsBeginning contributions $210,000 $180,000 $90,000 $480,000Added Investment 9,100 -0- -0- 9,100Profit allocation (from above) 29,965 23,477 11,558 65,000Drawing (10% of beginning

balances) (21,000) (18,000) (9,000) (48,000)Ending balances $228,065 $185,477 $92,558 $506,100

Prior to developing the information for 2014, a computation of Monet's investment must be made:

Monet's Investment = 25% ($506,100 + Monet's Investment)Ml = $126,525 + .25 Ml

.75 Ml = $126,525Ml = $168,700


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29. a. (continued)Income Allocation—2014

Gray Stone Lawson Monet TotalsSalary allowance ($8

per billable hour) $14,400 $ 12,000 $ 11,040 $ 9,520 $ 46,960Interest (12% of begin-

ning capital balancesfor the year) 27,368 22,257 11,107 20,244 80,976

Bonus (not applicable) -0- -0- -0- -0- -0-Remaining loss (split

evenly):$ (20,400)

(46,960) (80,976 ) $(148,336 ) (37,084) (37,084) (37,084) (37,084) (148,336)

Loss allocation $ 4,684 $(2,827) $(14,937) $ (7,320) $(20,400)

Capital Account Balances 1/1/14 – 12/31/14Gray Stone Lawson Monet Totals

Beginning balances $228,065 $185,477 $92,558 $168,700 $674,800Loss allocation (from

above) 4,684 (2,827) (14,937) (7,320) (20,400)Drawings (10% of

beginningbalances) (22,806) (18,548) (9,256) (16,870) (67,480)

Ending balances $209,943 $164,102 $68,365 $144,510 $586,920

Income Allocation—2015Gray Stone Lawson Monet Totals

Salary allowance ($8per billable hour) $15,040 $12,960 $10,480 $12,640 $ 51,120

Interest (12% ofbeginning capitalbalances for theyear) 25,193 19,692 8,204 17,341 70,430

Bonus (see Note B) 2,604 2,604 -0- -0- 5,208Remaining profit splitevenly:

$152,800(51,120)(70,430)

(5,208)$ 26,042 6,510 6,510 6,511 6,511 26,042

Profit allocation $49,347 $41,766 $25,195 $36,492 $152,800


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29.a. (continued)

Note B: The bonus to Gray and Stone can only be derived algebraically. Because each of the two partners is entitled to 10% of net income as defined, the total bonus is 20% and can be computed as follows:

Bonus = 20% (Net income – Salary – Interest – Bonus)B = .2 ($152,800 – $51,120 – $70,430 – B)B = .2 ($31,250 – B)B = $6,250 – .2B

1.2 B = $6,250 B = $5,208 (or $2,604 per person)

Capital Account Balances 1/1/15 – 12/31/15

Gray Stone Lawson Monet TotalsBeginning balances $209,943 $164,102 $68,365 $144,510 $586,920Profit allocation (from

above) 49,347 41,766 25,195 36,492 152,800Drawings (10% of


Ending balances $238,296 $189,458 $86,723 $166,551 $681,028

b.GRAY, STONE, LAWSON, and MONET

Statement of Partners' CapitalFor Year Ending December 31, 2015

Gray Stone Lawson Monet TotalsBeginning balances $209,943 $164,102 $68,365 $144,510 $586,920Profit allocation (from

above) 49,347 41,766 25,195 36,492 152,800Drawings (10% of


Ending balances $238,296 $189,458 $86,723 $166,551 $681,028


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30.(40 Minutes) (Recording admission and retirement of partners using both the bonus and goodwill methods)

a. Porthos, capital .......................................................... 35,000D'Artagnan, capital ............................................... 35,000

(To reclassify Porthos's capital balance to reflect transfer of interest to D'Artagnan.)

b. Goodwill ................................................................ 50,000Athos, capital (50%) ............................................ 25,000Porthos, capital (30%) ......................................... 15,000Aramis, capital (20%) .......................................... 10,000

(To record goodwill based on $250,000 implied value of partnership [$25,000 ÷ 10%]. Because current capital is only $200,000 [the $25,000 goes directly to the partners], goodwill of $50,000 has to be recorded and allocated using profit and loss ratio.)

Athos, capital (10% of balance) ................................ 10,500Porthos, capital (10% of balance) ............................ 8,500Aramis, capital (10% of balance) .............................. 6,000

D'Artagnan, capital................................................ 25,000(To reclassify 10% of each partner's capital to reflect transfer of interest to D'Artagnan.)

c. Cash ........................................................................... 30,000D'Artagnan, capital (10% of total capital)............ 23,000Athos, capital (50% of excess payment) ............ 3,500Porthos, capital (30% of excess payment) ......... 2,100Aramis, capital (20% of excess payment) .......... 1,400

(To record $30,000 payment by D'Artagnan which increases total capital to $230,000. D'Artagnan is credited for only 10% of that balance with the extra $7,000 payment being recorded as a bonus to the original partners.)

d. Cash ........................................................................... 30,000Goodwill ..................................................................... 70,000

D'Artagnan, capital ............................................... 30,000Athos, capital (50% of goodwill) ........................ 35,000Porthos, capital (30% of goodwill) ..................... 21,000Aramis, capital (20% of goodwill) ....................... 14,000

(To record D'Artagnan's contribution to the partnership. The $30,000 payment for 10% interest indicates a $300,000 value for the business although the capital balances would only increase to $230,000. The $70,000 difference is recorded as goodwill, an amount assigned to the original partners.)


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30. (continued)

e. Cash ............................................................................ 12,222Goodwill . ................................................................... 10,000

D'Artagnan, capital ............................................... 22,222To record investment by D'Artagnan. The implied value of the investment as a whole would be only $122,220 ($12,222 ÷ 10%). Because the capital balances are well in excess of this figure, D'Artagnan is apparently bringing some other factor (goodwill) into the partnership. This goodwill can be computed as follows:

$12,222 + Goodwill = 10% (Original Capital + $12,222 + Goodwill) $12,222 + Goodwill = 10% ($200,000 + $12,222 + Goodwill) $12,222 + Goodwill = $21,222 + .10 Goodwill

.90 Goodwill = $9,000Goodwill = $10,000

f. Goodwill ..................................................................... 80,000Athos, capital (50%) ............................................. 40,000Porthos, capital (30%) .......................................... 24,000Aramis, capital (20%) ........................................... 16,000

(To record goodwill of $80,000 based on $280,000 appraisal of business.)

Aramis, capital ........................................................... 66,000Cash ..................................................................... 66,000

(To distribute cash to retiring partner based on final capital balance.)


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31.(75 Minutes) (Recording of changes in the composition of a partnership including allocation of income)

a. 1/1/13 Building ...................................................... 52,000Equipment................................................... 16,000Cash ............................................................ 12,000

O'Donnell, capital ................................. 40,000Reese, capital ....................................... 40,000

(To record initial investment. Assets recorded at fair value with two equal capital balances.)

12/31/13 Reese, capital ............................................ 22,000O'Donnell, capital ................................. 12,000Income summary .................................. 10,000

(The allocation plan specifies that O'Donnell receives 20% in interest [or $8,000 based on $40,000 capital balance] plus $4,000 more [Because that amount exceeds 15% of the profits from the period]. The remaining $22,000 loss is assigned to Reese.)

1/1/14 Cash ............................................................ 15,000O'Donnell, capital (15%) ............................ 300Reese, capital (85%) .................................. 1,700

Dunn, capital ........................................ 17,000(New investment by Dunn brings total capital to $85,000 after 2013 loss [$80,000 – $10,000 + $15,000]. Dunn's 20% interest is $17,000 [$85,000 × 20%] with the extra $2,000 coming from the two original partners [allocated between them according to their profit and loss ratio].)

12/31/14 O'Donnell, capital ...................................... 10,340Reese, capital ............................................ 5,000Dunn, capital .............................................. 5,000

O'Donnell, drawings............................. 10,340Reese, drawings ................................... 5,000Dunn, drawings .................................... 5,000

(To close out drawings accounts for the year based on distributing 20% of each partner's beginning capital balances [after adjustment for Dunn's investment] or $5,000 whichever is greater. O'Donnell's capital is $51,700 [$40,000 + $12,000 – $300])

12/31/14 Income summary ....................................... 44,000O'Donnell, capital ................................. 16,940Reese, capital ....................................... 16,236Dunn, capital ........................................ 10,824

(To allocate $44,000 income figure for 2014 as determined below.)


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31.a. (continued)O'Donnell Reese Dunn

Interest (20% of $51,700beginning capital balance)........ $10,340

15% of $44,000 income ................... 6,60060:40 split of remaining $27,060

income ........................................ $16,236 $10,824Total ................................................. $16,940 $16,236 $10,824

Capital Balances as of December 31, 2014:O'Donnell Reese Dunn

Initial 2013 investment ................... $40,000 $40,0002013 profit allocation ...................... 12,000 (22,000)Dunn's investment .......................... (300) (1,700) $17,0002014 drawings ................................. (10,340) (5,000) (5,000)2014 profit allocation ...................... 16,940 16,236 10,82412/31/14 balances ........................... $58,300 $27,536 $22,824

1/1/15 Dunn, capital .............................................. 22,824Postner, capital .................................... 22,824

(To reclassify balance to reflect acquisition of Dunn's interest.)

12/31/15 O'Donnell, capital ...................................... 11,660Reese, capital ............................................ 5,507Postner, capital .......................................... 5,000

O'Donnell, drawings ............................ 11,660Reese, drawings ................................... 5,507Postner, drawings ................................ 5,000

(To close out drawings accounts for the year based on 20% of beginning capital balances [above] or $5,000 [whichever is greater].)

12/31/15 Income summary........................................ 61,000O'Donnell, capital ................................. 20,810Reese, capital ....................................... 24,114Postner, capital .................................... 16,076

(To allocate profit for 2015 determined as follows)

O'Donnell Reese PostnerInterest (20% of $58,300 beg. capital) $11,66015% of $61,000 income ............. 9,15060:40 split of remaining $40,190 ______ $24,114 $16,076

Totals................................ $20,810 $24,114 $16,076


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31.a. (continued)1/1/16 Postner, capital .......................................... 33,900

O'Donnell, capital (15%) ............................ 509Reese, capital (85%) .................................. 2,881

Cash ...................................................... 37,290(Postner's capital is $33,900 [$22,824 – $5,000 + $16,076]. Extra 10% payment is deducted from the two remaining partners' capital accounts.)

b. 1/1/13 Building....................................................... 52,000Equipment .................................................. 16,000Cash ............................................................ 12,000Goodwill ..................................................... 80,000

O'Donnell, capital ................................. 80,000Reese, capital ....................................... 80,000

(To record initial capital investments. Reese is credited with goodwill of $80,000 to match O'Donnell's investment.)

12/31/13 Reese, capital ............................................ 30,000O'Donnell, capital ................................. 20,000Income summary .................................. 10,000

(Interest of $16,000 is credited to O'Donnell [$80,000 × 20%] along with a base of $4,000. The remaining amount is now a $30,000 loss that is attributed entirely to Reese.)

1/1/14 Cash ............................................................ 15,000Goodwill ..................................................... 22,500

Dunn, capital ........................................ 37,500(Cash and goodwill being contributed by Dunn are recorded. Goodwill must be calculated algebraically.)

$15,000 + Goodwill = 20% (Current Capital + $15,000 + Goodwill)$15,000 + Goodwill = 20% ($150,000 + $15,000 + Goodwill)$15,000 + Goodwill = $33,000 + .2 Goodwill

.8 Goodwill = $18,000 Goodwill = $22,500


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31. b. (continued)12/31/14 O'Donnell, capital ...................................... 20,000

Reese, capital ............................................ 10,000Dunn, capital .............................................. 7,500

O'Donnell, drawings............................. 20,000Reese, drawings ................................... 10,000Dunn, drawings .................................... 7,500

(To close out drawings accounts for the year based on 20 % of beginning capital balances: O'Donnell—$100,000, Reese—$50,000, and Dunn—$37,500.)

12/31/14 Income summary ....................................... 44,000O'Donnell, capital ................................. 26,600Reese, capital ....................................... 10,440Dunn, capital ........................................ 6,960

(To allocate $44,000 income figure as follows)

O'Donnell Reese DunnInterest (20% of $100,000

beginning capital balance) $20,00015% of $44,000 income 6,60060:40 split of remaining $17,400 $10,440 $6,960

Totals $26,600 $10,440 $6,960

Capital balances as of December 31, 2014:O'Donnell Reese Dunn

Initial 2013 investment . . . $ 80,000 $80,0002013 profit allocation ...... 20,000 (30,000)Additional investment .... $37,5002014 drawings ................. (20,000) (10,000) (7,500)2014 profit allocation ...... 26,600 10,440 6,96012/31/14 balances ........... $106,600 $50,440 $36,960

1/1/15 Goodwill ..................................................... 26,588O'Donnell, capital (15%) ...................... 3,988Reese, capital (51%) ............................. 13,560Dunn, capital (34%) .............................. 9,040

(To record goodwill indicated by purchase of Dunn's interest.)

In effect, profits are shared 15% to O'Donnell, 51% to Reese – (60% of the 85% remaining after O'Donnell's income), and 34% to Dunn (40% of the 85% remaining after O'Donnell's income). Postner is paying $46,000, an amount $9,040 in excess of Dunn's capital ($36,960). The additional payment for this 34% income interest indicates total goodwill of $26,588 ($9,040 ÷ 34%). Because Dunn is entitled to 34% of the profits but only holds 19% of the total capital, an implied value for the company as a whole cannot be determined


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directly from the payment of $46,000. Thus, goodwill can only be computed based on the excess payment.31. b. (continued)

1/1/15 Dunn, capital ................................................... 46,000Postner, capital .......................................... 46,000

(To reclassify capital balance to new partner.)

12/31/15 O'Donnell, capital ............................................ 22,118Reese, capital .................................................. 12,800Postner, capital ............................................... 9,200

O'Donnell, drawings .................................. 22,118Reese, drawings ........................................ 12,800Postner, drawings ..................................... 9,200

(To close out drawings accounts for the year based on 20% of beginning capital balances [after adjustment for goodwill].)

12/31/15 Income summary ............................................ 61,000O'Donnell, capital ...................................... 31,268Reese, capital ............................................ 17,839Postner, capital .......................................... 11,893

To allocate profit for 2015 as follows:

O'Donnell Reese PostnerInterest (20% of $110,588

beginning capital balance) $22,11815% of $61,000 income ........ 9,15060:40 split of remaining

$29,732 ............................. $17,839 $11,893Totals................................ $31,268 $17,839 $11,893

Capital Balances as of December 31, 2015:O'Donnell Reese Postner

12/31/14 balances ................. $106,600 $50,440 $36,960Adjustment for goodwill ...... 3,988 13,560 9,040Drawings................................ (22,118) (12,800) (9,200)Profit allocation..................... 31,268 17,839 11,89312/31/15 balances.................. $119,738 $69,039 $48,693

Postner will be paid $53,562 (110% of the capital balance) for her interest. This amount exceeds her capital balance by $4,869. Because Postner is only entitled to a 34% share of profits and losses, the additional $4,869 indicates that the partnership as a whole is undervalued by $14,321 (4,869 ÷ 34%). Only in that circumstance is the extra payment to Postner justified:


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31. b. (continued)

1/1/16 Goodwill ................................................................ 14,321O'Donnell, capital (15%) ................................. 2,148Reese, capital (51%) ....................................... 7,304Postner, capital (34%) ..................................... 4,869

(To recognize implied goodwill.)

1/1/16 Postner, capital .................................................... 53,562Cash ................................................................ 53,562

(To record final distribution to Postner.)


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Develop Your Skills

Research Case

This assignment allows the student to make use of the SEC website and, then, the EDGAR system. It also provides a chance to use actual statements created for a partnership rather than those typically produced for a corporation.

Probably the most noticeable characteristic of the statements for Buckeye Partners is that they resemble corporate financial statements in most ways. A casual overview might not bring any differences to mind. However, a close reading will show several differences including the following:

On the income statement, net income is allocated between the general partner and limited partners.

Also, on the income statement earnings per share is replaced with a figure labeled as “earnings per partnership unit.”

The balance sheet does not present a stockholders’ equity section but rather partnership capital. That section is comprised of just two figures: one for the general partner and the other for the limited partners.

The first two paragraphs of Note One to the financial statements describe the partnership organization.

A later paragraph presents a schedule reflecting the changes in partnership capital for both the general partner and the limited partners.

Analysis Case

An unlimited number of allocation plans can be developed for any partnership. Here, Wilson will be interested in some reward for investing the capital used to create the business. Higgins will expect to be recognized for the work put into the operation. Poncelet should seek some reward for any new clients that she is able to bring to the business.

One possibility would be to accrue interest to Wilson on her capital balance for the year based, perhaps, on the prime rate. Poncelet could be assigned a particularly high share of any revenues generated from new clients. The amount of income left would result from Higgins’s work in the day-to-day operations of the business so a large part of that remainder could be assigned to her.

As an alternative, Wilson could be allocated an interest factor but only based on the initial amount invested in the business rather than the capital balance as a whole. Higgins could be assigned some type of allowance for the number of hours of work put in each period. Any remaining income could be divided evenly among the three partners but only up to a certain level. Beyond that, perhaps only Poncelet and Higgins would share in the income Because they are doing the


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work, one in gaining new clients and the other in the day-to-day operations of the business.

Communication Cases 1 and 2

These two cases ask the student to identify the types of factors that will lend themselves toward the organization becoming a corporation (in Case 1) or a partnership (in Case 2). Several issues should be considered when looking into a legal format for a business enterprise:

Do state laws play any role in the decision? In some states, particular types of organizations are prohibited from operating as a corporation. Will state law come into play in making this decision? If so, the partnership form of organization will be required.

How big do the owners expect the company to become? If the business will remain small, there may be no need to raise additional capital so that the ability to sell ownership may not be an issue. This favors creation of a partnership. However, if Birmingham and Roberts expect the business to prosper and grow, they should consider which type of business will enable them to attract other capital or debt investments. Usually, it is a corporation that is best set up to enable growth through the issuance of securities.

How risky is the business operation? If the company is operating in a business where liability is not a significant problem, the limited liability of a corporation might not be of much interest. However, if there is some risk involved, the two owners may need the corporate type of organization just for their own financial security.

How well do the owners know and trust each other? As with the previous comment, potential liability can be greatly enhanced if the owners do not know each other well or if additional owners are expected to join at a later point in time. Under that circumstance, everyone may feel more comfortable if the business is created as a corporation or as one of the limited liability organizations. If the owners, though, are comfortable with each other, they may not feel the necessity of creating a formalized corporation.

What changes will occur in the tax laws? At this writing, dividends paid by a corporation to its owners are taxable at 15%. However, from time to time various politicians have proposed the elimination of part or all of that tax. Corporations gain appeal if dividend income is not taxed.

How much money do they have available to create a legal organization? In most states, creation of a partnership can be virtually free whereas the legal formality of a corporation can cost money. If finances are tight, the business could begin as a partnership and then convert to a corporation at a later date as monetary restrictions ease.


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Excel Case: There are a variety of ways to create a spreadsheet to solve this particular problem. Here is one possible approach:

In Cell A1, enter text “Net Income” and in Cell B1 enter $200,000.In Cell A2, enter text “Billable Hours–Red”. In Cell B2 enter 2,000. In Cell C2, enter $20 hourly rate.In Cell A3, enter text “Billable Hours–Blue”. In Cell B3 enter 1,500. In Cell C3, enter $30 hourly rate.In Cell A4, enter text “Investment–Red” and in Cell B4 enter $80,000. In Cell C4, enter the rate of return of 10%.In Cell A5, enter text “Investment–Blue” and in Cell B5 enter $50,000. In Cell C5, enter the rate of return of 10%.

Perform calculation: In Cell D2, enter formula to multiply number of hours by hourly rate. Formula: =+B2*C2

The formula for the next three line items is identical to this first formula; copy the formula to Cells D3, D4, and D5. (To copy a formula across a range of cells, select the cell containing formula, then drag the fill handle, which is the small square in the lower right corner of this box, over the adjacent cells. Note that the formula will adjust automatically for the different lines.)

In Cell A6, enter label text “Subtotal” and SUM the amounts in Cells D2 through D5. Click in Cell D6, press the symbol on the standard toolbar. Click and drag across the range of cells to be summed (D2 through D5) and press enter.

Subtract the subtotal of the partner’s initial allocations (Cell D6) from the Net Income (Cell B1) with the following formula: In Cell A8, enter the label text “Profit to be Split” and in Cell D8, enter the following formula: =+B1-D6.

Determine the distribution of Profit between partners:

In Cell A10, enter label text “Profit – Red” and in Cell C10 enter “50%”.In Cell A11, enter label text “Profit – Blue” and in Cell C11 enter “50%”.

Perform calculations: In Cell D10, enter formula to multiply Profit to be Split (Cell D8) by distribution percentage (Cell C10). Formula: =+D8*C10

Repeat this calculation for the other partner. In Cell D11, enter the formula: =+D8*C11

Once the spreadsheet is created, any variable may be changed and the results will adjust automatically. There are eleven variables that can be changed: B1, B2, B3, B4, B5, C2, C3, C4, and C5, as well as C10 and C11 (which must add up to 100%).

Example:

Net Income $200,000 Billable Hours-Red 2,000 $20 $40,000 Billable Hours-Blue 1,500 $30 45,000 Investment-Red $80,000 10% 8,000 Investment-Blue $50,000 10% 5,000 Subtotal $98,000

Profit to be Split: $102,000

Profit-Red 50% $51,000 Profit-Blue 50% $51,000


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ProblemsLO 14-1 1. Which of the following is not a reason for the popularity of partnerships

as a legal form for businesses?

a. Partnerships may be formed merely by an oral agreement.

b. Partnerships can more easily generate significant amounts of capital.

c. Partnerships avoid the double taxation of income that is found in corporations.

d. In some cases, losses may be used to offset gains for tax purposes.

LO 14-1 2. How does partnership accounting differ from corporate accounting?

a. The matching principle is not considered appropriate for partnership accounting.

b. Revenues are recognized at a different time by a partnership than is appropriate for a corporation.

c. Individual capital accounts replace the contributed capital and retained earnings balances found in corporate accounting.

d. Partnerships report all assets at fair value as of the latest balance sheet date.

LO 14-2 3. Which of the following best describes the articles of partnership agreement?

a. The purpose of the partnership and partners' rights and responsibilities are required elements of the articles of partnership.

b. The articles of partnership are a legal covenant and must be expressed in writing to be valid.

c. The articles of partnership are an agreement that limits partners' liability to partnership assets.

d. The articles of partnership are a legal covenant that may be expressed orally or in writing, and forms the central governance for a partnership's operations.

LO 14-9 4. Pat, Jean Lou, and Diane are partners with capital balances of $50,000, $30,000, and $20,000, respectively. These three partners share profits and losses equally. For an investment of $50,000 cash (paid to the business), MaryAnn will be admitted as a partner with a one-fourth interest in capital and profits. Based on this information, which of the following best justifies the amount of MaryAnn's investment?

a. MaryAnn will receive a bonus from the other partners upon her admission to the partnership.

b. Assets of the partnership were overvalued immediately prior to MaryAnn's investment.

c. Page 657

The book value of the partnership's net assets was less than the fair value immediately prior to MaryAnn's investment.

d. MaryAnn is apparently bringing goodwill into the partnership, and her capital account will be credited for the appropriate amount.

LO 14-10 5. A partnership has the following capital balances:


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David is going to invest $105,000 into the business to acquire a 30 percent ownership interest. Goodwill is to be recorded. What will be David's beginning capital balance?

a. $94,500.

b. $105,000.

c. $126,000.

d. $135,000.


Krystal is going to pay a total of $240,000 directly to these three partners to acquire a 25 percent ownership interest from each. Goodwill is to be recorded. What is Dane's capital balance after the transaction?

a. $210,000.

b. $255,000.

c. $340,000.

d. $352,000.

LO 14-9 7. The capital balance for Bolcar is $110,000 and for Neary is $40,000. These two partners share profits and losses 70 percent (Bolcar) and 30 percent (Neary). Kansas invests $50,000 in cash into the partnership for a 30 percent ownership. The bonus method will be used. What is Neary's capital balance after Kansas's investment?

a. $35,000.

b. $37,000.

c. $40,000.

d. $43,000.

LO 14-9 8. Bishop has a capital balance of $120,000 in a local partnership, and Cotton has a $90,000 balance. These two partners share profits and losses by a ratio of 60 percent to Bishop and 40 percent to Cotton. Lovett invests $60,000 in cash in the partnership for a 20 percent ownership. The goodwill method will be used. What is Cotton's capital balance after this new investment?

a. $99,600.

b. $102,000.

c. $112,000.

d. $126,000.

LO 14-9 9. The capital balance for Messalina is $210,000 and for Romulus is $140,000. These two partners share profits and losses 60 percent (Messalina) and 40 percent (Romulus). Claudius invests $100,000 in cash in the partnership for a 20 percent ownership. The bonus method will be used. What are the capital balances for Messalina, Romulus,


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and Claudius after this investment is recorded?

a. $216,000, $144,000, $90,000.

b. $218,000, $142,000, $88,000.

c. $222,000, $148,000, $80,000.

d. $240,000, $160,000, $100,000.Page 658

LO 14-610. A partnership begins its first year with the following capital balances:

The articles of partnership stipulate that profits and losses be assigned in the following manner:

Each partner is allocated interest equal to 5 percent of the beginning capital balance.

Bernard is allocated compensation of $18,000 per year.

Any remaining profits and losses are allocated on a 3:3:4 basis, respectively.

Each partner is allowed to withdraw up to $5,000 cash per year.

Assuming that the net income is $60,000 and that each partner withdraws the maximum amount allowed, what is the balance in Collins capital account at the end of that year?

a. $70,800.

b. $86,700.

c. $73,500.

d. $81,700.

LO 14-4, 14-5, 14-6

11. A partnership begins its first year of operations with the following capital balances:

According to the articles of partnership, all profits will be assigned as follows:

Winston will be awarded an annual salary of $20,000 with $10,000 assigned to Salem.

The partners will be attributed interest equal to 10 percent of the capital balance as of the first day of the year.

The remainder will be assigned on a 5:2:3 basis, respectively.

Each partner is allowed to withdraw up to $10,000 per year.

The net loss for the first year of operations is $20,000 and net income for the subsequent year is $40,000. Each partner withdraws the maximum amount from the business each period. What is the balance in Winston's capital account at the end of the second year?

a. $102,600.

b. $104,400.

c. $108,600.

d. $109,200.


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Profits and losses are split as follows: Allen (20 percent), Burns (30 percent), and Costello (50 percent). Costello wants to leave the partnership and is paid $100,000 from the business based on provisions in the articles of partnership. If the partnership uses the bonus method, what is the balance of Burns's capital account after Costello withdraws?

a. $24,000.

b. $27,000.

c. $33,000.

d. $36,000.Page 659

Problems 13 and 14 are independent problems based on the following scenario:

At year-end, the Circle City partnership has the following capital balances:

Profits and losses are split on a 3:3:2:2 basis, respectively. Clark decides to leave the partnership and is paid $90,000 from the business based on the original contractual agreement.

LO 14-10 13. Using the goodwill method, what is Manning's capital balance after Clark withdraws?

a. $133,000.

b. $137,500.

c. $140,000.

d. $145,000.

LO 14-10 14. If instead the partnership uses the bonus method, what is the balance of Manning's capital account after Clark withdraws?

a. $100,000.

b. $126,250.

c. $130,000.

d. $133,750.

Problems 15 and 16 are independent problems based on the following capital account balances:

LO 14-8 15. Darrow invests $270,000 in cash for a 30 percent ownership interest. The money goes to the original partners. Goodwill is to be recorded. How much goodwill should be recognized, and what is Darrow's beginning capital balance?


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a. $410,000 and $270,000.

b. $140,000 and $270,000.

c. $140,000 and $189,000.

d. $410,000 and $189,000.

LO 14-9 16. Darrow invests $250,000 in cash for a 30 percent ownership interest. The money goes to the business. No goodwill or other revaluation is to be recorded. After the transaction, what is Jennings's capital balance?

a. $160,000.

b. $168,000.

c. $170,200.

d. $171,200.

LO 14-9 17. Lear is to become a partner in the WS partnership by paying $80,000 in cash to the business. At present, the capital balance for Hamlet is $70,000 and for MacBeth is $40,000. Hamlet and MacBeth share profits on a 7:3 basis. Lear is acquiring 40 percent of the new partnership.

a. If the goodwill method is applied, what will the three capital balances be following the payment by Lear?

b. If the bonus method is applied, what will the three capital balances be following the payment by Lear?

LO 14-9 18. The Distance Plus partnership has the following capital balances at the beginning of the current year:

Each of the following questions should be viewed independently.

a. Page 660

If Sergio invests $100,000 in cash in the business for a 25 percent interest, what journal entry is recorded? Assume that the bonus method is used.

b. If Sergio invests $60,000 in cash in the business for a 25 percent interest, what journal entry is recorded? Assume that the bonus method is used.

c. If Sergio invests $72,000 in cash in the business for a 25 percent interest, what journal entry is recorded? Assume that the goodwill method is used.

LO 14-9 19. A partnership has the following account balances: Cash $50,000; Other Assets $600,000; Liabilities $240,000; Nixon, Capital (50 percent of profits and losses) $200,000; Hoover, Capital (20 percent) $120,000; and Polk, Capital (30 percent) $90,000. Each of the following questions should be viewed as an independent situation:

a. Grant invests $80,000 in the partnership for an 18 percent capital interest. Goodwill is to be recognized. What are the capital accounts thereafter?

b. Grant invests $100,000 in the partnership to get a 20 percent capital balance. Goodwill is not to be recorded. What are the capital accounts thereafter?

LO 14-9 20. The Prince-Robbins partnership has the following capital account


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balances on January 1, 2015:

Prince is allocated 80 percent of all profits and losses with the remaining 20 percent assigned to Robbins after interest of 10 percent is given to each partner based on beginning capital balances.

On January 2, 2015, Jeffrey invests $37,000 cash for a 20 percent interest in the partnership. This transaction is recorded by the goodwill method. After this transaction, 10 percent interest is still to go to each partner. Profits and losses will then be split as follows: Prince (50 percent), Robbins (30 percent), and Jeffrey (20 percent). In 2015, the partnership reports a net income of $15,000.

a. Prepare the journal entry to record Jeffrey's entrance into the partnership on January 2, 2015.

b. Determine the allocation of income at the end of 2015.

LO 14-6 21. The partnership agreement of Jones, King, and Lane provides for the annual allocation of the business's profit or loss in the following sequence:

Jones, the managing partner, receives a bonus equal to 20 percent of the business's profit.

Each partner receives 15 percent interest on average capital investment.

Any residual profit or loss is divided equally.

The average capital investments for 2015 were as follows:

How much of the $90,000 partnership profit for 2015 should be assigned to each partner?

LO 14-4, 14-5, 14-6

22. Purkerson, Smith, and Traynor have operated a bookstore for a number of years as a partnership. At the beginning of 2015, capital balances were as follows:

Due to a cash shortage, Purkerson invests an additional $8,000 in the business on April 1, 2015.

Each partner is allowed to withdraw $1,000 cash each month.

The partners have used the same method of allocating profits and losses since the business's inception:

Each partner is given the following compensation allowance for work done in the business: Purkerson, $18,000; Smith, $25,000; and Traynor, $8,000.

Each partner is credited with interest equal to 10 percent of the average monthly capital balance for the year without regard for normal drawings.

Any remaining profit or loss is allocated 4:2:4 to Purkerson, Smith, and Traynor, respectively. The net income for 2015 is $23,600.


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Each partner withdraws the allotted amount each month.

What are the ending capital balances for 2015?Page 661

LO 14-4, 14-5, 14-6

23. On January 1, 2014, the dental partnership of Left, Center, and Right was formed when the partners contributed $20,000, $60,000, and $50,000, respectively. Over the next three years, the business reported net income and (loss) as follows:

During this period, each partner withdrew cash of $10,000 per year. Right invested an additional $12,000 in cash on February 9, 2015.

At the time that the partnership was created, the three partners agreed to allocate all profits and losses according to a specified plan written as follows:

Each partner is entitled to interest computed at the rate of 12 percent per year based on the individual capital balances at the beginning of that year.

Because of prior work experience, Left is entitled to an annual salary allowance of $12,000, and Center is credited with $8,000 per year.

Any remaining profit will be split as follows: Left, 20 percent; Center, 40 percent; and Right, 40 percent. If a loss remains, the balance will be allocated: Left, 30 percent; Center, 50 percent; and Right, 20 percent.

Determine the ending capital balance for each partner as of the end of each of these three years.

LO 14-10 24. The E.N.D. partnership has the following capital balances as of the end of the current year:

Answer each of the following independent questions:

a. Assume that the partners share profits and losses 3:3:2:2, respectively. Fergie retires and is paid $190,000 based on the terms of the original partnership agreement. If the goodwill method is used, what is the capital balance of the remaining three partners?

b. Assume that the partners share profits and losses 4:3:2:1, respectively. Pineda retires and is paid $280,000 based on the terms of the original partnership agreement. If the bonus method is used, what is the capital balance of the remaining three partners?

LO 14-10 25. The partnership of Matteson, Richton, and O'Toole has existed for a number of years. At the present time the partners have the following capital balances and profit and loss sharing percentages:


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O'Toole elects to withdraw from the partnership, leaving Matteson and Richton to operate the business. Following the original partnership agreement, when a partner withdraws, the partnership and all of its individual assets are to be reassessed to current fair values by an independent appraiser. The withdrawing partner will receive cash or other assets equal to that partner's current capital balance after including an appropriate share of any adjustment indicated by the appraisal. Gains and losses indicated by the appraisal are allocated using the regular profit and loss percentages.

An independent appraiser is hired and estimates that the partnership as a whole is worth $600,000. Regarding the individual assets, the appraiser finds that a building with a book value of $180,000 has a fair value of $220,000. The book values for all other identifiable assets and liabilities are the same as their appraised fair values.

Page 662

Accordingly, the partnership agrees to pay O'Toole $120,000 upon withdrawal. Matteson and Richton, however, do not wish to record any goodwill in connection with the change in ownership.

Prepare the journal entry to record O'Toole's withdrawal from the partnership.

LO 14-2, 14-4, 14-6, 14-9

26. In the early part of 2015, the partners of Hugh, Jacobs, and Thomas sought assistance from a local accountant. They had begun a new business in 2014 but had never used an accountant's services.

Hugh and Jacobs began the partnership by contributing $150,000 and $100,000 in cash, respectively. Hugh was to work occasionally at the business, and Jacobs was to be employed full-time. They decided that year-end profits and losses should be assigned as follows:

Each partner was to be allocated 10 percent interest computed on the beginning capital balances for the period.

A compensation allowance of $5,000 was to go to Hugh with a $25,000 amount assigned to Jacobs.

Any remaining income would be split on a 4:6 basis to Hugh and Jacobs, respectively.

In 2014, revenues totaled $175,000, and expenses were $146,000 (not including the partners' compensation allowance). Hugh withdrew cash of $9,000 during the year, and Jacobs took out $14,000. In addition, the business paid $7,500 for repairs made to Hugh's home and charged it to repair expense.

On January 1, 2015, the partnership sold a 15 percent interest to Thomas for $64,000 cash. This money was contributed to the business with the bonus method used for accounting purposes.

Answer the following questions:

a. Why was the original profit and loss allocation, as just outlined, designed


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by the partners?

b. Why did the drawings for 2014 not agree with the compensation allowances provided for in the partnership agreement?

c. What journal entries should the partnership have recorded on December 31, 2014?

d. What journal entry should the partnership have recorded on January 1, 2015?

LO 14-3, 14-9, 14-10

27. Following is the current balance sheet for a local partnership of doctors:

The following questions represent independent situations:

a. E is going to invest enough money in this partnership to receive a 25 percent interest. No goodwill or bonus is to be recorded. How much should E invest?

b. E contributes $36,000 in cash to the business to receive a 10 percent interest in the partnership. Goodwill is to be recorded. Profits and losses have previously been split according to the following percentages: A, 30 percent; B, 10 percent; C, 40 percent; and D, 20 percent. After E makes this investment, what are the individual capital balances?

c. E contributes $42,000 in cash to the business to receive a 20 percent interest in the partnership. Goodwill is to be recorded. The four original partners share all profits and losses equally. After E makes this investment, what are the individual capital balances?

d. E contributes $55,000 in cash to the business to receive a 20 percent interest in the partnership. No goodwill or other asset revaluation is to be recorded. Profits and losses have previously been split according to the following percentages: A, 10 percent; B, 30 percent; C, 20 percent; and D, 40 percent. After E makes this investment, what are the individual capital balances?

e. C retires from the partnership and, as per the original partnership agreement, is to receive cash equal to 125 percent of her final capital balance. No goodwill or other asset revaluation is to be recognized. All partners share profits and losses equally. After the withdrawal, what are the individual capital balances of the remaining partners?

Page 663

LO 14-5, 14-6, 14-9

28. Boswell and Johnson form a partnership on May 1, 2013. Boswell contributes cash of $50,000; Johnson conveys title to the following properties to the partnership:

The partners agree to start their partnership with equal capital balances. No goodwill is to be recognized.

According to the articles of partnership written by the partners, profits


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and losses are allocated based on the following formula:

Boswell receives a compensation allowance of $1,000 per month.

All remaining profits and losses are split 60:40 to Johnson and Boswell, respectively.

Each partner can make annual cash drawings of $5,000 beginning in 2014.

Net income of $11,000 is earned by the business during 2013.

Walpole is invited to join the partnership on January 1, 2014. Because of her business reputation and financial expertise, she is given a 40 percent interest for $54,000 cash. The bonus approach is used to record this investment, made directly to the business. The articles of partnership are amended to give Walpole a $2,000 compensation allowance per month and an annual cash drawing of $10,000. Remaining profits are now allocated:

All drawings are taken by the partners during 2014. At year-end, the partnership reports an earned net income of $28,000.

On January 1, 2015, Pope (previously a partnership employee) is admitted into the partnership. Each partner transfers 10 percent to Pope, who makes the following payments directly to the partners:

Once again, the articles of partnership must be amended to allow for the entrance of the new partner. This change entitles Pope to a compensation allowance of $800 per month and an annual drawing of $4,000. Profits and losses are now assigned as follows:

For the year of 2015, the partnership earned a profit of $46,000, and each partner withdrew the allowed amount of cash.

Determine the capital balances for the individual partners as of the end of each year: 2013 through 2015.

LO 14-4, 14-5, 14-6, 14-9

29. Gray, Stone, and Lawson open an accounting practice on January 1, 2013, in San Diego, California, to be operated as a partnership. Gray and Stone will serve as the senior partners because of their years of experience. To establish the business, Gray, Stone, and Lawson contribute cash and other properties valued at $210,000, $180,000, and $90,000, respectively. An articles of partnership agreement is drawn up. It has the following stipulations:

Personal drawings are allowed annually up to an amount equal to 10 percent of the beginning capital balance for the year.

Profits and losses are allocated according to the following plan:

(1) A salary allowance is credited to each partner in an amount equal to $8 per billable hour worked by that individual during the year.


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(2) Interest is credited to the partners' capital accounts at the rate of 12 percent of the average monthly balance for the year (computed without regard for current income or drawings).

(3) Page 664

An annual bonus is to be credited to Gray and Stone. Each bonus is to be 10 percent of net income after subtracting the bonus, the salary allowance, and the interest. Also included in the agreement is the provision that the bonus cannot be a negative amount.

(4) Any remaining partnership profit or loss is to be divided evenly among all partners.

Because of monetary problems encountered in getting the business started, Gray invests an additional $9,100 on May 1, 2013. On January 1, 2014, the partners allow Monet to buy into the partnership. Monet contributes cash directly to the business in an amount equal to a 25 percent interest in the book value of the partnership property subsequent to this contribution. The partnership agreement as to splitting profits and losses is not altered upon Monet's entrance into the firm; the general provisions continue to be applicable.

The billable hours for the partners during the first three years of operation follow:

The partnership reports net income for 2013 through 2015 as follows:

Each partner withdraws the maximum allowable amount each year.

a. Determine the allocation of income for each of these three years (to the nearest dollar).

b. Prepare in appropriate form a statement of partners' capital for the year ending December 31, 2015.

LO 14-8, 14-9, 14-10

30. A partnership of attorneys in the St. Louis, Missouri, area has the following balance sheet accounts as of January 1, 2015:

According to the articles of partnership, Athos is to receive an allocation of 50 percent of all partnership profits and losses while Porthos receives 30 percent and Aramis, 20 percent. The book value of each asset and liability should be considered an accurate representation of fair value.

For each of the following independent situations, prepare the journal entry or entries to be recorded by the partnership. (Round to nearest dollar.)

a. Porthos, with permission of the other partners, decides to sell half of his


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partnership interest to D'Artagnan for $50,000 in cash. No asset revaluation or goodwill is to be recorded by the partnership.

b. All three of the present partners agree to sell 10 percent of each partnership interest to D'Artagnan for a total cash payment of $25,000. Each partner receives a negotiated portion of this amount. Goodwill is recorded as a result of the transaction.

c. D'Artagnan is allowed to become a partner with a 10 percent ownership interest by contributing $30,000 in cash directly into the business. The bonus method is used to record this admission.

d. Use the same facts as in requirement (c) except that the entrance into the partnership is recorded by the goodwill method.

e. D'Artagnan is allowed to become a partner with a 10 percent ownership interest by contributing $12,222 in cash directly to the business. The goodwill method is used to record this transaction.

f. Aramis decides to retire and leave the partnership. An independent appraisal of the business and its assets indicates a current fair value of $280,000. Goodwill is to be recorded. Aramis will then be given the exact amount of cash that will close out his capital account.

Page 665

LO 14-2, 14-3, 14-5, 14-6, 14-8, 14-10

31. Steve Reese is a well-known interior designer in Fort Worth, Texas. He wants to start his own business and convinces Rob O'Donnell, a local merchant, to contribute the capital to form a partnership. On January 1, 2013, O'Donnell invests a building worth $52,000 and equipment valued at $16,000 as well as $12,000 in cash. Although Reese makes no tangible contribution to the partnership, he will operate the business and be an equal partner in the beginning capital balances.

To entice O'Donnell to join this partnership, Reese draws up the following profit and loss agreement:

O'Donnell will be credited annually with interest equal to 20 percent of the beginning capital balance for the year.

O'Donnell will also have added to his capital account 15 percent of partnership income each year (without regard for the preceding interest figure) or $4,000, whichever is larger. All remaining income is credited to Reese.

Neither partner is allowed to withdraw funds from the partnership during 2013. Thereafter, each can draw $5,000 annually or 20 percent of the beginning capital balance for the year, whichever is larger.

The partnership reported a net loss of $10,000 during the first year of its operation. On January 1, 2014, Terri Dunn becomes a third partner in this business by contributing $15,000 cash to the partnership. Dunn receives a 20 percent share of the business's capital. The profit and loss agreement is altered as follows:

O'Donnell is still entitled to (1) interest on his beginning capital balance as well as (2) the share of partnership income just specified.

Any remaining profit or loss will be split on a 6:4 basis between


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Reese and Dunn, respectively.

Partnership income for 2014 is reported as $44,000. Each partner withdraws the full amount that is allowed.

On January 1, 2015, Dunn becomes ill and sells her interest in the partnership (with the consent of the other two partners) to Judy Postner. Postner pays $46,000 directly to Dunn. Net income for 2015 is $61,000 with the partners again taking their full drawing allowance.

On January 1, 2016, Postner withdraws from the business for personal reasons. The articles of partnership state that any partner may leave the partnership at any time and is entitled to receive cash in an amount equal to the recorded capital balance at that time plus 10 percent.

a. Prepare journal entries to record the preceding transactions on the assumption that the bonus (or no revaluation) method is used. Drawings need not be recorded, although the balances should be included in the closing entries.

b. Prepare journal entries to record the previous transactions on the assumption that the goodwill (or revaluation) method is used. Drawings need not be recorded, although the balances should be included in the closing entries.

(Round all amounts to the nearest dollar.)

ProblemsLO 14-1 1. Which of the following is not a reason for the

popularity of partnerships as a legal form for businesses?

a. Partnerships may be formed merely by an oral agreement.

b. Partnerships can more easily generate significant amounts of capital.

c. Partnerships avoid the double taxation of income that is found in corporations.

d. In some cases, losses may be used to offset gains for tax purposes.

LO 14-1 2. How does partnership accounting differ from corporate accounting?

a. The matching principle is not considered appropriate for partnership accounting.

b. Revenues are recognized at a different time by a partnership than is appropriate for a corporation.

c. Individual capital accounts replace the contributed capital and retained earnings balances found in corporate accounting.

d. Partnerships report all assets at fair value as of


Education.


the latest balance sheet date.LO 14-2 3. Which of the following best describes the articles of

partnership agreement?a. The purpose of the partnership and partners'

rights and responsibilities are required elements of the articles of partnership.

b. The articles of partnership are a legal covenant and must be expressed in writing to be valid.

c. The articles of partnership are an agreement that limits partners' liability to partnership assets.

d. The articles of partnership are a legal covenant that may be expressed orally or in writing, and forms the central governance for a partnership's operations.

LO 14-9 4. Pat, Jean Lou, and Diane are partners with capital balances of $50,000, $30,000, and $20,000, respectively. These three partners share profits and losses equally. For an investment of $50,000 cash (paid to the business), MaryAnn will be admitted as a partner with a one-fourth interest in capital and profits. Based on this information, which of the following best justifies the amount of MaryAnn's investment?

a. MaryAnn will receive a bonus from the other partners upon her admission to the partnership.

b. Assets of the partnership were overvalued immediately prior to MaryAnn's investment.

c. Page 657The book value of the partnership's net assets was

less than the fair value immediately prior to MaryAnn's investment.

d. MaryAnn is apparently bringing goodwill into the partnership, and her capital account will be credited for the appropriate amount.



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David is going to invest $105,000 into the business to acquire a 30 percent ownership interest. Goodwill is to be recorded. What will be David's beginning capital balance?

a. $94,500.b. $105,000.c. $126,000.d. $135,000.


Krystal is going to pay a total of $240,000 directly to these three partners to acquire a 25 percent ownership interest from each. Goodwill is to be recorded. What is Dane's capital balance after the transaction?

a. $210,000.b. $255,000.c. $340,000.d. $352,000.

LO 14-9 7. The capital balance for Bolcar is $110,000 and for Neary is $40,000. These two partners share profits and losses 70 percent (Bolcar) and 30 percent (Neary). Kansas invests $50,000 in cash into the partnership for a 30 percent ownership. The bonus method will be used. What is Neary's capital balance after Kansas's investment?

a. $35,000.b. $37,000.c. $40,000.d. $43,000.

LO 14-9 8. Bishop has a capital balance of $120,000 in a local partnership, and Cotton has a $90,000 balance. These two partners share profits and losses by a ratio of 60 percent to Bishop and 40 percent to Cotton. Lovett invests $60,000 in cash in the partnership for a 20 percent ownership. The goodwill method will be used. What is Cotton's capital balance after this new investment?

a. $99,600.b. $102,000.c. $112,000.


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d. $126,000.LO 14-9 9. The capital balance for Messalina is $210,000 and for

Romulus is $140,000. These two partners share profits and losses 60 percent (Messalina) and 40 percent (Romulus). Claudius invests $100,000 in cash in the partnership for a 20 percent ownership. The bonus method will be used. What are the capital balances for Messalina, Romulus, and Claudius after this investment is recorded?

a. $216,000, $144,000, $90,000.b. $218,000, $142,000, $88,000.c. $222,000, $148,000, $80,000.d. $240,000, $160,000, $100,000.

Page 658LO 14-6

10. A partnership begins its first year with the following capital balances:

The articles of partnership stipulate that profits and losses be assigned in the following manner:

Each partner is allocated interest equal to 5 percent of the beginning capital balance.

Bernard is allocated compensation of $18,000 per year.

Any remaining profits and losses are allocated on a 3:3:4 basis, respectively.

Each partner is allowed to withdraw up to $5,000 cash per year.

Assuming that the net income is $60,000 and that each partner withdraws the maximum amount allowed, what is the balance in Collins capital account at the end of that year?

a. $70,800.b. $86,700.c. $73,500.d. $81,700.

LO 14-4, 14-5, 14-6

11. A partnership begins its first year of operations with the following capital balances:

According to the articles of partnership, all profits will be assigned as follows:

Winston will be awarded an annual salary of 14-51

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$20,000 with $10,000 assigned to Salem. The partners will be attributed interest equal to

10 percent of the capital balance as of the first day of the year.

The remainder will be assigned on a 5:2:3 basis, respectively.

Each partner is allowed to withdraw up to $10,000 per year.

The net loss for the first year of operations is $20,000 and net income for the subsequent year is $40,000. Each partner withdraws the maximum amount from the business each period. What is the balance in Winston's capital account at the end of the second year?

a. $102,600.b. $104,400.c. $108,600.d. $109,200.


Profits and losses are split as follows: Allen (20 percent), Burns (30 percent), and Costello (50 percent). Costello wants to leave the partnership and is paid $100,000 from the business based on provisions in the articles of partnership. If the partnership uses the bonus method, what is the balance of Burns's capital account after Costello withdraws?

a. $24,000.b. $27,000.c. $33,000.d. $36,000.Page 659Problems 13 and 14 are independent problems based

on the following scenario:At year-end, the Circle City partnership has the

following capital balances:

Profits and losses are split on a 3:3:2:2 basis, respectively. Clark decides to leave the


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partnership and is paid $90,000 from the business based on the original contractual agreement.

LO 14-10 13. Using the goodwill method, what is Manning's capital balance after Clark withdraws?

a. $133,000.b. $137,500.c. $140,000.d. $145,000.

LO 14-10 14. If instead the partnership uses the bonus method, what is the balance of Manning's capital account after Clark withdraws?

a. $100,000.b. $126,250.c. $130,000.d. $133,750.Problems 15 and 16 are independent problems based

on the following capital account balances:

LO 14-8 15. Darrow invests $270,000 in cash for a 30 percent ownership interest. The money goes to the original partners. Goodwill is to be recorded. How much goodwill should be recognized, and what is Darrow's beginning capital balance?

a. $410,000 and $270,000.b. $140,000 and $270,000.c. $140,000 and $189,000.d. $410,000 and $189,000.

LO 14-9 16. Darrow invests $250,000 in cash for a 30 percent ownership interest. The money goes to the business. No goodwill or other revaluation is to be recorded. After the transaction, what is Jennings's capital balance?

a. $160,000.b. $168,000.c. $170,200.d. $171,200.

LO 14-9 17. Lear is to become a partner in the WS partnership by paying $80,000 in cash to the business. At present, the capital balance for Hamlet is $70,000 and for MacBeth is $40,000. Hamlet and MacBeth share profits on a 7:3 basis.


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Lear is acquiring 40 percent of the new partnership.

a. If the goodwill method is applied, what will the three capital balances be following the payment by Lear?

b. If the bonus method is applied, what will the three capital balances be following the payment by Lear?

LO 14-9 18. The Distance Plus partnership has the following capital balances at the beginning of the current year:

Each of the following questions should be viewed independently.

a. Page 660If Sergio invests $100,000 in cash in the business

for a 25 percent interest, what journal entry is recorded? Assume that the bonus method is used.

b. If Sergio invests $60,000 in cash in the business for a 25 percent interest, what journal entry is recorded? Assume that the bonus method is used.

c. If Sergio invests $72,000 in cash in the business for a 25 percent interest, what journal entry is recorded? Assume that the goodwill method is used.

LO 14-9 19. A partnership has the following account balances: Cash $50,000; Other Assets $600,000; Liabilities $240,000; Nixon, Capital (50 percent of profits and losses) $200,000; Hoover, Capital (20 percent) $120,000; and Polk, Capital (30 percent) $90,000. Each of the following questions should be viewed as an independent situation:

a. Grant invests $80,000 in the partnership for an 18 percent capital interest. Goodwill is to be recognized. What are the capital accounts thereafter?

b. Grant invests $100,000 in the partnership to get a 20 percent capital balance. Goodwill is not to be recorded. What are the capital accounts thereafter?

LO 14-9 20. The Prince-Robbins partnership has the following


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capital account balances on January 1, 2015:

Prince is allocated 80 percent of all profits and losses with the remaining 20 percent assigned to Robbins after interest of 10 percent is given to each partner based on beginning capital balances.

On January 2, 2015, Jeffrey invests $37,000 cash for a 20 percent interest in the partnership. This transaction is recorded by the goodwill method. After this transaction, 10 percent interest is still to go to each partner. Profits and losses will then be split as follows: Prince (50 percent), Robbins (30 percent), and Jeffrey (20 percent). In 2015, the partnership reports a net income of $15,000.

a. Prepare the journal entry to record Jeffrey's entrance into the partnership on January 2, 2015.

b. Determine the allocation of income at the end of 2015.

LO 14-6 21. The partnership agreement of Jones, King, and Lane provides for the annual allocation of the business's profit or loss in the following sequence:

Jones, the managing partner, receives a bonus equal to 20 percent of the business's profit.

Each partner receives 15 percent interest on average capital investment.

Any residual profit or loss is divided equally.The average capital investments for 2015 were as

follows:

How much of the $90,000 partnership profit for 2015 should be assigned to each partner?

LO 14-4, 14-5, 14-6

22. Purkerson, Smith, and Traynor have operated a bookstore for a number of years as a partnership. At the beginning of 2015, capital balances were as follows:

Due to a cash shortage, Purkerson invests an


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additional $8,000 in the business on April 1, 2015.

Each partner is allowed to withdraw $1,000 cash each month.

The partners have used the same method of allocating profits and losses since the business's inception:

Each partner is given the following compensation allowance for work done in the business: Purkerson, $18,000; Smith, $25,000; and Traynor, $8,000.

Each partner is credited with interest equal to 10 percent of the average monthly capital balance for the year without regard for normal drawings.

Any remaining profit or loss is allocated 4:2:4 to Purkerson, Smith, and Traynor, respectively. The net income for 2015 is $23,600. Each partner withdraws the allotted amount each month.

What are the ending capital balances for 2015?Page 661LO 14-4, 14-5, 14-

6

23. On January 1, 2014, the dental partnership of Left, Center, and Right was formed when the partners contributed $20,000, $60,000, and $50,000, respectively. Over the next three years, the business reported net income and (loss) as follows:

During this period, each partner withdrew cash of $10,000 per year. Right invested an additional $12,000 in cash on February 9, 2015.

At the time that the partnership was created, the three partners agreed to allocate all profits and losses according to a specified plan written as follows:

Each partner is entitled to interest computed at the rate of 12 percent per year based on the individual capital balances at the beginning of that year.

Because of prior work experience, Left is entitled to an annual salary allowance of $12,000, and Center is credited with $8,000 per year.

Any remaining profit will be split as follows: Left, 20 percent; Center, 40 percent; and Right, 40 percent. If a loss remains, the balance will be allocated: Left, 30 percent; Center, 50 percent;


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and Right, 20 percent.Determine the ending capital balance for each partner

as of the end of each of these three years.LO 14-10 24. The E.N.D. partnership has the following capital

balances as of the end of the current year:

Answer each of the following independent questions:a. Assume that the partners share profits and losses

3:3:2:2, respectively. Fergie retires and is paid $190,000 based on the terms of the original partnership agreement. If the goodwill method is used, what is the capital balance of the remaining three partners?

b. Assume that the partners share profits and losses 4:3:2:1, respectively. Pineda retires and is paid $280,000 based on the terms of the original partnership agreement. If the bonus method is used, what is the capital balance of the remaining three partners?

LO 14-10 25. The partnership of Matteson, Richton, and O'Toole has existed for a number of years. At the present time the partners have the following capital balances and profit and loss sharing percentages:

O'Toole elects to withdraw from the partnership, leaving Matteson and Richton to operate the business. Following the original partnership agreement, when a partner withdraws, the partnership and all of its individual assets are to be reassessed to current fair values by an independent appraiser. The withdrawing partner will receive cash or other assets equal to that partner's current capital balance after including an appropriate share of any adjustment indicated by the appraisal.


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Gains and losses indicated by the appraisal are allocated using the regular profit and loss percentages.

An independent appraiser is hired and estimates that the partnership as a whole is worth $600,000. Regarding the individual assets, the appraiser finds that a building with a book value of $180,000 has a fair value of $220,000. The book values for all other identifiable assets and liabilities are the same as their appraised fair values.

Page 662Accordingly, the partnership agrees to pay O'Toole

$120,000 upon withdrawal. Matteson and Richton, however, do not wish to record any goodwill in connection with the change in ownership.

Prepare the journal entry to record O'Toole's withdrawal from the partnership.

LO 14-2, 14-4, 14-6, 14-9

26. In the early part of 2015, the partners of Hugh, Jacobs, and Thomas sought assistance from a local accountant. They had begun a new business in 2014 but had never used an accountant's services.

Hugh and Jacobs began the partnership by contributing $150,000 and $100,000 in cash, respectively. Hugh was to work occasionally at the business, and Jacobs was to be employed full-time. They decided that year-end profits and losses should be assigned as follows:

Each partner was to be allocated 10 percent interest computed on the beginning capital balances for the period.

A compensation allowance of $5,000 was to go to Hugh with a $25,000 amount assigned to Jacobs.

Any remaining income would be split on a 4:6 basis to Hugh and Jacobs, respectively.

In 2014, revenues totaled $175,000, and expenses were $146,000 (not including the partners' compensation allowance). Hugh withdrew cash of $9,000 during the year, and Jacobs took out $14,000. In addition, the business paid $7,500 for repairs made to Hugh's home and charged it to repair expense.


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On January 1, 2015, the partnership sold a 15 percent interest to Thomas for $64,000 cash. This money was contributed to the business with the bonus method used for accounting purposes.

Answer the following questions:a. Why was the original profit and loss allocation, as

just outlined, designed by the partners?

b. Why did the drawings for 2014 not agree with the compensation allowances provided for in the partnership agreement?

c. What journal entries should the partnership have recorded on December 31, 2014?

d. What journal entry should the partnership have recorded on January 1, 2015?

LO 14-3, 14-9, 14-10

27. Following is the current balance sheet for a local partnership of doctors:

The following questions represent independent situations:

a. E is going to invest enough money in this partnership to receive a 25 percent interest. No goodwill or bonus is to be recorded. How much should E invest?

b. E contributes $36,000 in cash to the business to receive a 10 percent interest in the partnership. Goodwill is to be recorded. Profits and losses have previously been split according to the following percentages: A, 30 percent; B, 10 percent; C, 40 percent; and D, 20 percent. After E makes this investment, what are the individual capital balances?

c. E contributes $42,000 in cash to the business to receive a 20 percent interest in the partnership. Goodwill is to be recorded. The four original partners share all profits and losses equally. After E makes this investment, what are the individual capital balances?


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d. E contributes $55,000 in cash to the business to receive a 20 percent interest in the partnership. No goodwill or other asset revaluation is to be recorded. Profits and losses have previously been split according to the following percentages: A, 10 percent; B, 30 percent; C, 20 percent; and D, 40 percent. After E makes this investment, what are the individual capital balances?

e. C retires from the partnership and, as per the original partnership agreement, is to receive cash equal to 125 percent of her final capital balance. No goodwill or other asset revaluation is to be recognized. All partners share profits and losses equally. After the withdrawal, what are the individual capital balances of the remaining partners?

Page 663LO 14-5, 14-6, 14-

9

28. Boswell and Johnson form a partnership on May 1, 2013. Boswell contributes cash of $50,000; Johnson conveys title to the following properties to the partnership:

The partners agree to start their partnership with equal capital balances. No goodwill is to be recognized.

According to the articles of partnership written by the partners, profits and losses are allocated based on the following formula:

Boswell receives a compensation allowance of $1,000 per month.

All remaining profits and losses are split 60:40 to Johnson and Boswell, respectively.

Each partner can make annual cash drawings of $5,000 beginning in 2014.

Net income of $11,000 is earned by the business during 2013.

Walpole is invited to join the partnership on January 1, 2014. Because of her business reputation and financial expertise, she is given a 40 percent interest for $54,000 cash. The


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bonus approach is used to record this investment, made directly to the business. The articles of partnership are amended to give Walpole a $2,000 compensation allowance per month and an annual cash drawing of $10,000. Remaining profits are now allocated:

All drawings are taken by the partners during 2014. At year-end, the partnership reports an earned net income of $28,000.

On January 1, 2015, Pope (previously a partnership employee) is admitted into the partnership. Each partner transfers 10 percent to Pope, who makes the following payments directly to the partners:

Once again, the articles of partnership must be amended to allow for the entrance of the new partner. This change entitles Pope to a compensation allowance of $800 per month and an annual drawing of $4,000. Profits and losses are now assigned as follows:

For the year of 2015, the partnership earned a profit of $46,000, and each partner withdrew the allowed amount of cash.

Determine the capital balances for the individual partners as of the end of each year: 2013 through 2015.

LO 14-4, 14-5, 14-6, 14-9

29. Gray, Stone, and Lawson open an accounting practice on January 1, 2013, in San Diego, California, to be operated as a partnership. Gray and Stone will serve as the senior partners because of their years of experience. To establish the business, Gray, Stone, and Lawson contribute cash and other properties valued at $210,000, $180,000, and $90,000, respectively. An articles of partnership agreement is drawn up. It has the following stipulations:


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Personal drawings are allowed annually up to an amount equal to 10 percent of the beginning capital balance for the year.

Profits and losses are allocated according to the following plan:

(1) A salary allowance is credited to each partner in an amount equal to $8 per billable hour worked by that individual during the year.

(2) Interest is credited to the partners' capital accounts at the rate of 12 percent of the average monthly balance for the year (computed without regard for current income or drawings).

(3) Page 664An annual bonus is to be credited to Gray and

Stone. Each bonus is to be 10 percent of net income after subtracting the bonus, the salary allowance, and the interest. Also included in the agreement is the provision that the bonus cannot be a negative amount.

(4) Any remaining partnership profit or loss is to be divided evenly among all partners.

Because of monetary problems encountered in getting the business started, Gray invests an additional $9,100 on May 1, 2013. On January 1, 2014, the partners allow Monet to buy into the partnership. Monet contributes cash directly to the business in an amount equal to a 25 percent interest in the book value of the partnership property subsequent to this contribution. The partnership agreement as to splitting profits and losses is not altered upon Monet's entrance into the firm; the general provisions continue to be applicable.

The billable hours for the partners during the first three years of operation follow:

The partnership reports net income for 2013 through


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2015 as follows:

Each partner withdraws the maximum allowable amount each year.

a. Determine the allocation of income for each of these three years (to the nearest dollar).

b. Prepare in appropriate form a statement of partners' capital for the year ending December 31, 2015.

LO 14-8, 14-9, 14-10

30. A partnership of attorneys in the St. Louis, Missouri, area has the following balance sheet accounts as of January 1, 2015:

According to the articles of partnership, Athos is to receive an allocation of 50 percent of all partnership profits and losses while Porthos receives 30 percent and Aramis, 20 percent. The book value of each asset and liability should be considered an accurate representation of fair value.

For each of the following independent situations, prepare the journal entry or entries to be recorded by the partnership. (Round to nearest dollar.)

a. Porthos, with permission of the other partners, decides to sell half of his partnership interest to D'Artagnan for $50,000 in cash. No asset revaluation or goodwill is to be recorded by the partnership.

b. All three of the present partners agree to sell 10 percent of each partnership interest to D'Artagnan for a total cash payment of $25,000. Each partner receives a negotiated portion of this amount. Goodwill is recorded as a result of the transaction.

c. D'Artagnan is allowed to become a partner with a 10 percent ownership interest by contributing $30,000 in cash directly into the business. The bonus method is used to record this admission.


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d. Use the same facts as in requirement (c) except that the entrance into the partnership is recorded by the goodwill method.

e. D'Artagnan is allowed to become a partner with a 10 percent ownership interest by contributing $12,222 in cash directly to the business. The goodwill method is used to record this transaction.

f. Aramis decides to retire and leave the partnership. An independent appraisal of the business and its assets indicates a current fair value of $280,000. Goodwill is to be recorded. Aramis will then be given the exact amount of cash that will close out his capital account.

Page 665LO 14-2, 14-3, 14-

5, 14-6, 14-8, 14-10

31. Steve Reese is a well-known interior designer in Fort Worth, Texas. He wants to start his own business and convinces Rob O'Donnell, a local merchant, to contribute the capital to form a partnership. On January 1, 2013, O'Donnell invests a building worth $52,000 and equipment valued at $16,000 as well as $12,000 in cash. Although Reese makes no tangible contribution to the partnership, he will operate the business and be an equal partner in the beginning capital balances.

To entice O'Donnell to join this partnership, Reese draws up the following profit and loss agreement:

O'Donnell will be credited annually with interest equal to 20 percent of the beginning capital balance for the year.

O'Donnell will also have added to his capital account 15 percent of partnership income each year (without regard for the preceding interest figure) or $4,000, whichever is larger. All remaining income is credited to Reese.

Neither partner is allowed to withdraw funds from the partnership during 2013. Thereafter, each can draw $5,000 annually or 20 percent of the beginning capital balance for the year, whichever is larger.

The partnership reported a net loss of $10,000 during the first year of its operation. On January 1, 2014, Terri Dunn becomes a third partner


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in this business by contributing $15,000 cash to the partnership. Dunn receives a 20 percent share of the business's capital. The profit and loss agreement is altered as follows:

O'Donnell is still entitled to (1) interest on his beginning capital balance as well as (2) the share of partnership income just specified.

Any remaining profit or loss will be split on a 6:4 basis between Reese and Dunn, respectively.

Partnership income for 2014 is reported as $44,000. Each partner withdraws the full amount that is allowed.

On January 1, 2015, Dunn becomes ill and sells her interest in the partnership (with the consent of the other two partners) to Judy Postner. Postner pays $46,000 directly to Dunn. Net income for 2015 is $61,000 with the partners again taking their full drawing allowance.

On January 1, 2016, Postner withdraws from the business for personal reasons. The articles of partnership state that any partner may leave the partnership at any time and is entitled to receive cash in an amount equal to the recorded capital balance at that time plus 10 percent.

a. Prepare journal entries to record the preceding transactions on the assumption that the bonus (or no revaluation) method is used. Drawings need not be recorded, although the balances should be included in the closing entries.

b. Prepare journal entries to record the previous transactions on the assumption that the goodwill (or revaluation) method is used. Drawings need not be recorded, although the balances should be included in the closing entries.

(Round all amounts to the nearest dollar.)


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