Question

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, 2016, O’Donnell invests a building worth $108,000 and equipment valued at $60,000 as well as $42,000 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 10 percent of the beginning capital balance for the year.
• O’Donnell will also have added to his capital account 10 percent of partnership income each year (without regard for the preceding interest figure) or $7,000, whichever is larger. All remaining income is credited to Reese.
• Neither partner is allowed to withdraw funds from the partnership during 2016. Thereafter, each can draw $8,000 annually or 15 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, 2017, 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 Reese and Dunn, respectively.

Partnership income for 2017 is reported as $75,000. Each partner withdraws the full amount that is allowed.

On January 1, 2018, Dunn becomes ill and sells her interest in the partnership (with the consent of the other two partners) to Judy Postner. Postner pays $115,000 directly to Dunn. Net income for 2018 is $74,000 with the partners again taking their full drawing allowance.

On January 1, 2019, 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.

Required:

1. 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.

Journal entries to be prepared:

a. Record the initial investment of assets by partners

b. Record the redistribution of net income to partners

c. Record the admittance of Dunn into the partnership.

d. Record entry to close drawings accounts.

e. Record the distribution of net income to partners.

f. Record the goodwill indicated by the purchase of Dunn's interest.

g. Record the admittance of Postner into the Partnership.

h. Record entry to close drawings accounts.

i. Record the distribution of net income to partners.

j. Record the goodwill indicated by the withdrawal of Postner.

k. Record the final distribution to Postner

NOTE: (If no entry is required for a transaction/event, select "No journal entry required" in the first account field. Do not round intermediate calculations. Round your final answers to the nearest dollar amount.)

Answer 1

1	Journal entries to record the transactions on the assumption that the goodwill
	(or revaluation) method is used.
Date	Account Titles and description	Debit	Credit
1-Jan-16	Building	$108,000
	Equipment	$60,000
	Cash	$42,000
	Goodwill	$210,000
	O'Dannell Capital		$210,000
	Reese Capital		$210,000
	(To record initial investment of assets by partners)
31-Dec-16	Reese Capital	$38,000
	O'Dannell Capital		$28,000	(210000*10%+7000)
	Income Summary		$10,000
	(To record redistribution of net income to partners)
1/1/2017	Cash	$15,000
	Goodwill	$90,000
	Dunn Capital		$105,000
	(to record admittance of Dunn into the partnership)
	Calculation of goodwill
	$15000+Goodwill = 20% (Current capital+Dunn Capital)
	$15000+Goodwill = 20% (420000+15000+Goodwill)
	$15000+Goodwill = $87000+0.20Goodwill
	0.80 Goodwill = $87000-$15000
	Goodwill = 72000/0.80 = 90000
12/31/2017	O'Dannell Capital	$35,700
	Reese Capital	$25,800
	Dunn Capital	$15,750
	O'Dannell Drawing		$35,700	(210000+28000)*15%
	Reese Drawing		$25,800	(210000-38000)*15%
	Dunn Drawing		$15,750	(105000*15%)
	(To close drawing accounts)
12/31/2017	Income Summary	$75,000
	O'Dannell Capital		$31,300	(238000*10%)+(75000*10%)
	Reese Capital		$26,220	(75000-31300)*60%
	Dunn Capital		$17,480	(75000-31300)*40%
	(to record distribution of net income to partners)
1/1/2018	Goodwill	$22,972
	O'Dannell Capital		$2,297	(22972*10%)
	Reese Capital		$12,405	(22972*54%)
	Dunn Capital		$8,270	(22972*36%)
	(To record goodwillindicated by purchase of Dunn's interest)
	Closing capital balance on 31/12/2017
		O'Dannell	Reese	Dunn
	Initail Investment	$210,000	$210,000
	2016 profit allocation	$28,000	($38,000)
	Addittional investment			$105,000
	2017 drawings	($35,700)	($25,800)	($15,750)
	2017 profit allocation	$31,300	$26,220	$17,480
	12/31/2017 Capital balance	$233,600	$172,420	$106,730
	Judy pais $115000 for Dunn's share. Thus she paid $8270 (115000-106730) in excess of Dunn's share.
	This $8270 is for 36% share of dunn (40% of remaining 90% interest after Donnell share)
	Total goodwill will be 8270/36% = 22972
1/1/2018	Dunn's Capital	$115,000
	Posnter Capital		$115,000
	(To record admittance of Postner into the partnership)
12/31/2018	O'Dannell Capital	$35,700
	Reese Capital	$25,800
	Dunn Capital	$15,750
	O'Dannell Drawing		$35,385	(233600+2297)*15%
	Reese Drawing		$27,724	(172420+12405)*15%
	Dunn Drawing		$17,250	(115000*15%)
	(To close drawing accounts)
12/31/2018	Income Summary	$74,000
	O'Dannell Capital		$30,760	(233600*10%)+(74000*10%)
	Reese Capital		$25,944	(74000-30760)*60%
	Dunn Capital		$17,296	(74000-30760)*40%
	(to record distribution of net income to partners)
1/1/2019	Goodwill	$31,944
	O'Dannell Capital		$3,194	(31944*10%)
	Reese Capital		$17,250	(31944*54%)
	Dunn Capital		$11,500	(31944*36%)
	(To record goodwill indicated by withdrawal of Postner interest)
	Closing capital balance on 31/12/2018
		O'Dannell	Reese	Dunn
	12/31/2017 Capital balance	$233,600	$172,420	$106,730
	Adjustment for Goodwill	$2,297	$12,405	8270
	2018 drawings	($30,760)	($25,944)	($17,296)
	2018 profit allocation	$30,760	$25,944	$17,296
	12/31/2018 Capital balance	$235,897	$184,825	$115,000
	Postner will be paid $126500 (115000+11500) for her interest. This amount exceed $11500 from her capital
	balance. As Postner is entitled to 36% of interest in partnership, this excess will give rise to $31944 (11500/36%)
	amount of goodwill
1/1/2019	Postner Capital	$126,500
	Cash		$126,500
	(To record final distribution to Postner)