Question

Irene Watts and John Lyon are forming a partnership to which Watts will devote one-half time and Lyon will devote full time. They have discussed the following alternative plans for sharing income and loss: (a) in the ratio of their initial capital investments, which they have agreed will be $28,000 for Watts and $42,000 for Lyon; (b) in proportion to the time devoted to the business; (c) a salary allowance of $1,250 per month to Lyon and the balance in accordance with the ratio of their initial capital investments; or (d) a salary allowance of $1,250 per month to Lyon, 12% interest on their initial capital investments, and the balance shared equally. The partners expect the business to perform as follows: year 1, $16,000 net loss; year 2, $40,000 net income, and year 3, $66,667 net income. Required: Complete the tables, one for each of the first three years, by showing how to allocate partnership income or loss to the partners under each of the four plans being considered. (Enter all allowances as positive values. Enter losses as negative values. Do not round intermediate calculations. Round final answer to the nearest whole dollar.)

Answer 1

Calculation for Year 1 : Net loss of $16,000

Plan A	Watt	Lyon	Total
Net income(loss)			($16,000)
Balance allocated in proportion to initial investment	28000/70000 *($16,000) = ($6,400)	42000/70000*($16,000) = ($9,600)	($16,000)
Balance of income(loss)			0
Shares to the partners	($6,400)	($9,600)	($16,000)
Plan B
Net income(loss)			($16,000)
Balance allocated in proportion to time devoted	half time = 1 ($16,000)*1/3 = ($5,333)	full time = 2 ($16,000)*2/3 = ($10,667)	($16,000)
Balance of income(loss)			0
Shares to the partners	($5,333)	($10,667)	($16,000)
Plan C
Net income(loss)			($16,000)
Salary allowances		$1,250*12 = $15,000	($15,000)
Balance of income(loss)			($31,000)
Balance allocated in proportion to initial investment	($31,000)*28000/70000 =($12,400)	($31,000)*42000/70000 =($18,600)	($31,000)
Balance of income(loss)			0
Shares of the partners	($12,400)	($3,600)	($16,000)
Plan D
Net income(loss)			($16,000)
Salary allowances		$1,250*12 = $15,000	($15,000)
Balance of income(loss)			($31,000)
Interest allowance	$28,000*12/100 = $3,360	$42,000*12/100=$5,040	($8,400)
Balance of income(loss)			($39,400)
Balance allocated equally	($39,400)/2 = ($19,700)	($39,400)/2 = ($19,700)	($39,400)
Balance of income(loss)			0
Share of the partners	($16,340)	$340	($16,000)

Calculation for Year 2 : Net income of $40,000

Plan A	Watt	Lyon	Total
Net income(loss)			$40,000
Balance allocated in proportion to initial investment	28000/70000 *$40,000 = $16,000	42000/70000*$40,000 = $24,000	$40,000
Balance of income(loss)			0
Shares to the partners	$16,000	$24,000	$40,000
Plan B
Net income(loss)			$40,000
Balance allocated in proportion to time devoted	half time = 1 $40,000*1/3 = $13,333	full time = 2 $40,000*2/3 = $26,667	$40,000
Balance of income(loss)			0
Shares to the partners	$13,333	$26,667	$40,000
Plan C
Net income(loss)			$40,000
Salary allowances		$1,250*12 = $15,000	($15,000)
Balance of income(loss)			$25,000
Balance allocated in proportion to initial investment	$25,000*28000/70000 =$10,000	$25,000*42000/70000 =$15,000	$25,000
Balance of income(loss)			0
Shares of the partners	$10,000	$30,000	$40,000
Plan D
Net income(loss)			$40,000
Salary allowances		$1,250*12 = $15,000	($15,000)
Balance of income(loss)			$25,000
Interest allowance	$28,000*12/100 = $3,360	$42,000*12/100=$5,040	($8,400)
Balance of income(loss)			$16,600
Balance allocated equally	$16,600/2 = $8,300	$16,600/2 = $8,300	$16,600
Balance of income(loss)			0
Share of the partners	$11,660	$28,340	$40,000
Calculation for Year 3 : Net income of $66,667
Plan A	Watt	Lyon	Total
Net income(loss)			$66,667
Balance allocated in proportion to initial investment	28000/70000 *$66,667 = $26,666.8	42000/70000*$66,667 = $40,000.2	$66,667
Balance of income(loss)			0
Shares to the partners	$26,667	$40,000	$66,667
Plan B
Net income(loss)			$66,667
Balance allocated in proportion to time devoted	half time = 1 $66,667*1/3 = $22,222.3	full time = 2 $66,667*2/3 = $44,444.6	$66,667
Balance of income(loss)			0
Shares to the partners	$22,222	$44,445	$66,667
Plan C
Net income(loss)			$66,667
Salary allowances		$1,250*12 = $15,000	($15,000)
Balance of income(loss)			$51,667
Balance allocated in proportion to initial investment	$51,667*28000/70000 =$20,666.8	$51,667*42000/70000 =$31,000.2	$51,667
Balance of income(loss)			0
Shares of the partners	$20,667	$46,000	$66,667
Plan D
Net income(loss)			$66,667
Salary allowances		$1,250*12 = $15,000	($15,000)
Balance of income(loss)			$51,667
Interest allowance	$28,000*12/100 = $3,360	$42,000*12/100=$5,040	($8,400)
Balance of income(loss)			$43,267
Balance allocated equally	$43,267/2 = $21,633.5	$43,267/2 = $21,633.5	$43,267
Balance of income(loss)			0
Share of the partners	$24,994	$41,673	$66,667