Admission of Partners

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In today’s class, we will be talking about the admission of partners. Enjoy the class!

CONTENT

Admission of a new partner – meaning and reason for admission
Goodwill admission of a new partner (a) meaning of goodwill (b) reasons for paying for goodwill (c) treatment of goodwill (d) example
Revaluation of asset on admission of partnership (a) introduction (b) accounting entries (c) example

Admission of new partners

This occurs when a new partner is admitted into an existing partnership business. The reasons for such admission usually are: expiration of old partnership agreement, to inject in more fund, bring in a specialist, death of an old partner, etc.

However, it will be unfair to the existing partners for a new person to come in and take part in the established prosperous business without any reward to the old partners. This compensation to the old partners is goodwill.

Goodwill on the admission of a new partner

Goodwill is the benefit and advantage attached to an old established business as a result of its good name, efficient management good connection, good location, etc which make it to earn more profit.

Reasons for the payment of goodwill

Thus, a partner of an existing business or an incoming partner will be induced to pay for goodwill because of:

quality of goods and services
favourable business location
an efficient and loyal workforce
efficient management
possession of monopoly power
patents and trademarks
successful research and development
good public image, etc.

Treatment of goodwill

Then goodwill will be brought into the business. This will be dealt with as follows:

Raising and retaining goodwill account in the books: Here, the value of goodwill is debited to goodwill account and credited to the capital accounts in the partners’ old profit and loss sharing ratio.

In partners’ OLD P & L sharing ratio

Accounting Entries: Dr. Goodwill A/c

Cr. Partners capital A/c

Any cash introduced by the new partner as capital, Dr Cash A/c; Cr. Capital A/c

Goodwill is written off: If the business does not desire to retain the goodwill in the books, it will be necessary to write it off to the capital account of the partners in their NEW P&L sharing ratio

In partners NEW P&L sharing ratio

Accounting Entries – goodwill is written off

Dr. Capital A/c; Cr. Goodwill A/c

Example:

A and B are Partners who share profit equally. They decide to admit C by agreement, goodwill valued at N60,000 is to be introduced into the books. C is required to provide capital equal to that of B after he has been credited with his share of goodwill. The new profit sharing ratio is to be 4:3:3 to A, B and C respectively.

The partner’s balance sheet before the admission of C is as follows

Balance sheet

Capital: A 80,000 Building 80,000

B 40,000 Motor Vehicle 30,000

Furniture 40,000

Creditors 30,000 Cash 20,000

Other liabilities 20,000

170,000 170,000

Prepare the following:

Journal and Ledger entries for the admission of C if goodwill account is to be retained.
The new balance sheet as a result of admission of C and the retention of goodwill account.
Journal and Ledger entries for the admission of C if goodwill account is not retained.
New balance sheet showing C admission and goodwill not retained.

Solution

Journal entries – goodwill account retained

Journal

Debit Credit

Goodwill Account 60,000

Capital Account – A 30,000

— B 30,000

Being goodwill introduced and shared based

on an old profit sharing ratio

Cash Account 70,000

Capital Account C 70,000

Being capital contributed by C

Note: Since B’s capital was N40,000 before the goodwill of N30,000, then B’s capital will now be N70,000. Hence, C must contribute the same amount as stated in the question.

Ledger – goodwill account retained

Goodwill Account

N N

Capital: A 30,000

B 30,000 Bal c/d 60,000

60,000 60,000

Bal b/d 60,000

Capital Account

Bal c/d

110,000

70,000

Bal b/d

Cash

Goodwill

Bal b/d

80,000

–

30,000

110,000

40,000

–

30,000

70,000

–

70,000

Cash Account

N N

Bal b/d 20,000

capital 70,000 Bal c/d 90,000

90,000 90,000

Bal b/d 90,000

A, B and C

Balance Sheet

	N	N	N
Goodwill			60,000
Fixed Assets
Building		80,000
Furniture		40,000
Motor vehicle		30,000	150,000
			210,000
Current asset
Cash		90,000
Current liabilities
Creditors	30,000
Other liabilities	20,000	50,000
Net current asset			40,000
			250,000

Financed by
Capital account
A				110,000
B				70,000
C				70,000
				250,000

Journal entries – goodwill account not retained

JOURNAL

	Debit	Credit
	N	N
Goodwill Account	60,000
Capital – A		30,000
B		30,000
Being the creation of goodwill as agreed on
Admission of C
Cash account	70,000
Capital Account – C		70,000
Being Capital contributed by C
Capital Account – A	24,000
B	18,000
C	18,000
Goodwill Account		60,000
Being goodwill written off using new
Profit-sharing ratio

Cash Account

N N

Bal b/d 20,000

C’s – Capital 70,000 Bal c/d 90,000

90,000 90,000

Bal b/d 90,000

Goodwill Account

Capital Account – A 30,000 Capital Account – A 24,000

Capital Account – B 30,000 Capital Account – B 18,000

Capital Account – C 18,000

60,000 60,000

Capital Account

Goodwill

Bal c/d

24,000

86,000

110,000

18,000

52,000

70,000

18,000

52,000

70,000

Bal b/d

Cash

Goodwill

Bal b/d

80,000

–

30,000

110,000

86,000

40,000

–

30,000

70,000

52,000

–

70,000

–

70,000

52,000

A, B and C

Balance Sheet

Capital Account:		Fixed Assets
	N		N
A	86,000	Building	80,000
B	52,000	Furniture	40,000
C	52,000	Motor vehicle	30,000
	190,000		150,000
Current liabilities		Current asset
Creditors	30,000	Cash	90,000
Other liabilities	20,000
	240,000		240,000

Evaluation

Explain the term Goodwill.
List five circumstances that can give rise to the valuation of goodwill in partnership accounts.

Revaluation of assets on the admission of a new partner into a partnership

The assets of a partnership should be revalued to show their current value in any of the following circumstances:

(i) admission of a partner

(ii) retirement of a partner

(iii) changes occur in the P & L sharing ratio of partners.

Accounting entries

Open a Revaluation A/c;
1. Assets A/c; Cr. Revaluation A/c with an increase in the value of the asset
2. Assets A/c; Dr. Revaluation A/c with a reduction in the value of assets.
3. Revaluation A/c; Cr. Liabilities A/c with an increase in the value of liabilities
4. Revaluation A/c; Dr. liabilities with a reduction in the value of liabilities

If Goodwill is introduced

Dr. Goodwill A/c; Cr Revaluation A/c with the amount of the Goodwill

Transfer of profit on revaluation to the old partners capital account:

Dr. Revaluation A/c in the old P & L sharing ratio

Cr. Capital A/c in the P & L sharing ratio

Transfer of loss on revaluation

Cr. Revaluation A./c in the P & L sharing ratio

Dr. Capital A/c in the P & L sharing ration

Goodwill to be written off

Cr. Goodwill A/c in the NEW P & L sharing ration

Dr. Capital A/c in the P & L sharing ratio

In the revaluation of assets, the following accounts will be prepared.

Revaluation Capital accounts of partners c. Balance sheet

Example

S & O are in partnership, sharing profits and losses equally. On 1/1/1995 they decided to admit J, who would be entitled to one-quarter of any future profits, the balance being shared equally between S and O.

The financial position of the business before the admission of J was a follows:-

Freehold premises: N75, 000, Fixtures and fittings: N26, 000, Stock in trade: N105, 000 Debtors: N45, 000, Cash in hand: N12, 640, Creditors: N58, 940.

Additional information:

It is agreed to value and retain goodwill at N30,000, b. Revalue the other assets as follows: Freehold premise: N100,000, Fixtures and fittings: N24, 000, Stock: N103, 000, c. Provision for bad debts of N3, 000 is to be made d. Capital is contributed by S and O equally J is to bring N80, 000 into the business as capital. You are required to prepare: i. Revaluation account ii. Partners capital accounts in columnar form iii. Opening balance sheet of the new partnership of S, O and J.

Solution

The closing balance sheet of the partnership must be prepared to show the capital contributed by J and S.

Balance Sheet

N N

Capital: S 102,590

O 102,590 205, 180 Freehold premises 75, 000

Fixtures & fittings 26, 000

Creditors 58, 940 Stock 105, 480

Debtors 45, 000

Cash in hand 12, 640

264, 120 264, 120

Note: The question states that capital is contributed equally by S and O.

Dr. Revaluation account Cr

N N

Decrease in value of assets Increase in value of an asset

Fixture and fittings 2,000 Freehold premises 25,000

Stock 2,480 Goodwill 30,000

Provision for bad debts 3,000

Share of profit:

S 23,760

O 23,760 47,520

55,000 55,000

Dr Partners’ capital accounts Cr

S O J S O J

Balance c/d 126,350 126,350 80, 000 Bal. b/f 102,590 102,590 –

Cash – – 80,000

Share of profit 23,760 23,760 –

126,350 126,350 80,000 126,350 126,350 80,000

Share of profit S (1/2 x 47,520)=23,760 O (1/2 x 47, 520)=23,760

Balance Sheet as at 1^st January 1995
		N			N	N	N
Capital:				Fixed Assets
	S	126,350		Goodwill		30,000
	O	126,350		Freehold Premises		100,000
	J	80,000	332,700	Fixtures and fittings		24,000	154,000
				Current Assets
Creditors			58,940	Stock		103,000
				Debtors	45,000
				Less Provision	3,000	42,000
				Cash balance		92,640	237,640
			391,640				391,640

Evaluation

What is a revaluation account?
List five assets that may be revalued in partnership accounts.

General evaluation

List six accounts found in the nominal ledger
State four reasons for the need for a bank reconciliation
Mention six items which must be contained in a partnership agreement
Mention four features of not-for-profit making organizations
Differentiate between adjustments and closing entries

Reading assignment

Essential Financial Accounting by O.A. Longe, Pages 278-281

Financial Accounting with Ease by OnafowokanYombo, Pages 247-251

Simplified Bookkeeping & Accounting by F.L. Olatunji, Pages 303-307

Weekend assignment

The double entry for the N5,000 salary paid to partner A is (a) Dr. Appropriation A/c N5,000, Cr A’s current A/c N5,000 (b) Dr. A’s Capital A/c N5,000, Cr Appropriation A/c N5,000 (c) Cr Revaluation A/c N5,000; Dr. Salary A/c N5,000(d) None of the above
Goodwill is (a) Fixed Asset (b) Current Asset (c) Current Liability (d) Intangible Asset
Goodwill can be classified into (a) Liquid (b) tangible (c) intangible (d) Inherent and purchased
_________ A/c is credited with increase in values of assets (a) goodwill (b) capital (c) revaluation (d) current
For a reduction in the value of an asset ___ the asset A/c and debit Revaluation A/c (a) debit (b) credit (c) deduct (d) Add

Theory

Explain clearly but briefly the terms goodwill and revaluation of assets. Why and when are they necessary in accounting?
Give the journal entries for each of the following transactions:

(a) Goodwill A/c of N50,00 is to be retained in the books of A& B who share profits and losses in ratio 2:1 respectively.

(b) A&B admitted C and the new P & L sharing ratio is 2:2:1 respectively. Write of the goodwill A/c in (a) above

(d) Reduction in provision for bad debt of N7,000 on revaluation

In our next class, we will be talking about the Dissolution of a Partnership. We hope you enjoyed the class.

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Admission of Partners