Self-study activity - Partnership Dissolution (Admission of a new partner) PDF

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NATIONAL UNIVERSITY Manila, Philippines College of Business & Accountancy Department of Accountancy SY 2020 -2021 BAFACR1X: Financial Accounting Reporting PARTNERSHIP DISSOLUTION Admission of a new partner: Purchase of interest from one or more partner Assume the following date for the ABC Partnership on December 31, 2020: Partner A B C

Capital P20,000 20,000 30,000

P&L Ratio 20% 30% 50%

On this date, D is admitted to the partnership Case 1: Purchase from one partner. Assume O purchase one-half of the interest of A capital. Take note that regardless of the paid to A, the only entry required in the partnership books is: Journal entry: A, Capital D, Capital To record the admission of D

10,000 10,000

Case 2: Purchase from all the partners. Assume the following. 1. D is admitted into the partnership into the partnership for a 50% interest in the profits or losses of the partnership. 2. The old partners (A, B and C) are to retain their original capital and profit-sharing relationships to each other and are to transfer sufficient amount (50%) of the own capital accounts to D in order to accomplish his admission as planned If D agreed to pay a total of P50,000 to A, B and C, the entry necessary to record this transaction will appear as follows: Journal entry: A, Capital 10,000 B, Capital 10,000 C, Capital 15,000 D, Capital 35,000 To record the admission of D into ABC partnership for a 50% interest in the profits or losses

Please note that the above entry shows to cash is transferred to the partnership. Moreover, the P50,000 cash consideration or purchase price passes outside of the partnership framework. The amount debited to the original partners’ capital accounts are equal to the new partner’s ratio multiplied by the balances of the capital account of the old partners. Case 3: Assume that the net assets of the partnership may be revalued when the purchase of interest from all the partners is for an amount more than the interest acquired. Thus, if D buys 50% interest in ABC partnership for P50,000 and it is agreed that the equipment should be revalued. Total implied capital (50,000 / 50%) Total contributed capital Undervaluation of equipment

P100,000 70,000 30,000

The entries to record the admission of D into the partnership would then be: Computation of share in asset revaluation: A, Capital (30,000 x 20%) 6,000 B, Capital (30,000 x 30%) 9,000 C, Capital (30,000 x 50%) 15,000 Partner’s Capital balance before admission of D

A – 20,000 B – 20,000 C – 30,000 D

Adjustment to the capital of old partners due to undervaluation of equipment 6,000 9,000 15,000

Adjusted capital balance before admission of D

Interest acquired by D

Partner’s Capital balance after admission of D

26,000 29,000 45,000

13,000 14,500 22,500 50,000

13,000 14,500 22,500 50,000

Journal entries: Equipment 30,000 A, Capital 6,000 B. Capital 9,000 C, Capital 15,000 To record the revaluation of net assets among the old partners using their profit or loss ratio. A, Capital 13,000 B, Capital 14,500 C, Capital 22,500 D, Capital 50,000 To record the admission of D into the partnership

Admission of a new partner: Investment of assets A new partner may acquire interest in the partnership by investing in the business. In this case, the partnership receives the cash or other assets, thereby increasing its total assets as well as the total capital. This method of admission is a transaction between the partnership and the incoming partner. Assume that after operations during 2020, AB Partnership has a book value of P300,000 and profit percentages on January 1, 2021, as follows:

Andoy Bonoy

Capital Balance P200,000 100,000

P&L Ratio 60% 40%

On January 2, 2021 Canoy is to invest cash into the partnership. Canoy will have a one-fourth interest and a 25% share in profits. Andoy and Bonoy will share the remaining 75% of profits in the ratio of 60:40, resulting in Andoy a 45% share of any profits and Bonoy having 30%. Case 1: New partner’s capital contributed is equal to capital credited. Canoy invests P100,000. After the investment, the difference between the new partner’s contribution and his capital credited is computed as follows: Capital contributed Capital credited Difference

P100,000 100,000 0 .

Since the amount of the investment or capital contributed of P100,000 is equal the new partner’s 25% proportionate book value or capital credited, there is an implication that the net assets are fairly valued. Total resulting capital of the partnership is equal to the old partners’ capital of P300,000 plus the new partner’s investment or contribution of P100,000. Note that the capital credit assigned to the new partner is his share of the total resulting capital of the partnership after his admission. Journal entry: Cash 100,000 Canoy, Capital 100,000 To record the admission of Canoy for one-fourth interest upon investment of P100,000. The following schedule shows the key concept of case 1:

Partner’s Capital before admission of Canoy Investment of Canoy Capital balances after admission of Canoy

Andoy 200,000

Bonoy 100,000

200,000

100,000

Canoy

100,000 100,000

Case 2: New partner’s capital contributed is more than the capital credited. Land is not fairly valued. Canoy invests P110,000 for a one-fourth capital interest in the partnership. Assume that the partnership owns a land with a book value of P40,000 but a recent appraisal indicates that land has a market value of P70,000. Before the recording of admission of Canoy the land should be revalued by the following adjustment: Canoy’s investment of P110,000 brings the partnership’s total resulting capital to P440,000, as computed as follows: Total implied capital (P110,000 / 25%) Total contributed capital (200,000+100,000+110,000) Undervaluation of land Journal entry: Land Andoy, Capital Bonoy, Capital To record the revaluation of land

440,000 410,000 30,000

30,000 18,000 12,000

Computation of share in asset revaluation: Andoy, Capital (30,000 x 60%) 18,000 Bonoy, Capital (30,000 x 40%) 12,000 After the revaluation of land, Canoy’s interest in the total resulting capital of ABC Partnership, is equal to P110,000 (P440,000 x 25%) Journal entry: Cash 110,000 Canoy, Capital 110,000 To record the admission of Canoy into the partnership

The following schedule shows the key concept of case 2:

Partner’s Capital before admission of Canoy Investment of Canoy Undervaluation of land Capital balances after admission of Canoy

Andoy 200,000

Bonoy 100,000

18,000 218,000

12,000 112,000

Canoy

110,000 100,000

Case 3: New partner’s capital contributed is more than the capital credited. Assets are fairly valued. Canoy invests P110,000 for a one-fourth capital interest in the partnership. The excess paid by Canoy is a bonus allocated to the old partners in their profit or loss ratio of 60% to Andoy and 40% to Bonoy. The total resulting capital of the partnership is P410,000 (300,000 + 110,000). No additional capital or adjustment is recognized since there is no asset revaluation. Total contributed capital (100,000 + 200,000 +110,000)

P410,000

Capital contributed by Canoy Capital credited to Canoy (410,000 x 25%) Bonus to old partners

P110,000 102,500 7,500

Journal entries: Cash

110,00 Canoy, Caapital 110,000 To record the admission of Canoy into the partnership Canoy, capital 7,500 Andoy, Capital 4,500 Bonoy, Capital 3,000 To record the bonus from Canoy to Andoy and Bonoy The following schedule shows the key concept of case 3:

Partner’s Capital before admission of Canoy Investment of Canoy Bonus to old partners Capital balances after admission of Canoy

Andoy 200,000

Bonoy 100,000

4,500 204,500

3,000 103,000

Canoy

110,000 (7,500) 102,500

Case 4: New partner’s capital contributed is less than the capital credited. Inventory is not fairly valued. Assume that Canoy invests P80,000 for a one-fourth capital interest in the partnership. Assume that the inventory of the partnership which is currently recorded at book value of P140,000 has a fair market value of only P80,000 because some items are obsolete. The partners agree to write down the inventory to its fair value before the admission of new partner. The writedown is divided between the old partners in the profit or loss ratio that existed during the period of the inventory decline. 60% to Andoy and 40% to Bonoy. Canoy’s investment of P80,000 brings the partnership’s total resulting capital to P240,000, as computed as follows: Total implied capital (P80,000 / 25%) Total contributed capital (200,000+100,000+80,000) Overvaluation of inventory

320,000 380,000 60,000

Journal entry: Andoy, Capital 36,000 Bonoy, Capital 24,000 Inventory 60,000 To record the revaluation of inventory Computation of share in asset revaluation: Andoy, Capital (60,000 x 60%) 36,000 Bonoy, Capital (60,000 x 40%) 24,000 After the revaluation of inventory, Canoy’s interest in the total resulting capital of ABC Partnership, is equal to P80,000 (P320,000 x 25%) Journal entry: Cash 80,000 Canoy, Capital 80,000 To record the admission of Canoy into the partnership The following schedule shows the key concept of case 4:

Partner’s Capital before admission of Canoy Investment of Canoy Overvaluation of inventory Capital balances after admission of Canoy

Andoy 200,000

Bonoy 100,000

(36,000)

(24,000)

164,000

76,000

Canoy

80,000

80,000

Case 5: New partner’s capital contributed is less than the capital credited. Assets are fairly valued. Assume that Canoy invests P80,000 for a one-fourth capital interest in the partnership. The deficit paid by Canoy is a bonus allocated to the new partner in their profit or loss ratio of 60% to Andoy and 40% to Bonoy. The total resulting capital of the partnership is P380,000 (300,000 + 80,000). No additional capital or adjustment is recognized since there is no asset revaluation. Total contributed capital (100,000 + 200,000 +80,000)

P380,000

Capital contributed by Canoy Capital credited to Canoy (380,000 x 25%) Bonus to new partner

P80,000 95,000 15,000

Journal entries: Cash

80,000 Canoy, Caapital 80,000 To record the admission of Canoy into the partnership Andoy, Capital 9,000 Bonoy, Capital 6,000 Canoy, Capital 15,000 To record the bonus from Andoy and Bonoy to Canoy The following schedule shows the key concept of case 5:

Partner’s Capital before admission of Canoy Investment of Canoy Bonus to new partner Capital balances after admission of Canoy

Andoy 200,000

Bonoy 100,000

(9,000) 191,000

(6,000) 94,000

Canoy

80,000 15,000 95,000...