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Goodwill on admission of a new partner

A long-established business will have built a good reputation and commands considerable customer royalty. The business is managed by experienced and professional personnel and has efficient employees. It has reliable and good contacts with its suppliers. The business is stable and consistently earns big profit. It is this combination of factors that is called goodwill. A newly admitted partner benefits from a share of the goodwill. It is only fair that the new partner pays for his share of the goodwill which comes from the hard work of the old partners.

Besides bringing in capital, the new partner pays for his share of the goodwill which is termed a premium. The old partners share the premium in accordance with their profit sharing ratio.

Treatment of goodwill
Goodwill in the business can be dealt with in different ways as follow:
1. The goodwill account is retained in the books of the business.
2. The goodwill account is not retained in the business but written off immediately
3. The goodwill is written off over a number of years
4. The goodwill is paid directly to the old partners without recording in the business’s books.

Ant and Bee are partners sharing profit and losses equally. On admission of Cricket as a new partner, they value goodwill at $60,000. Their new profit and loss sharing ratio has become 2/5 for Ant, 2/5 for Bee and 1/5 for Cricket.

1. Goodwill account is retained in the books.

Goodwill Account


$
$
Division of goodwill:
Balance c/d 60,000
Ant's capital account 30,000
Bee's capital account 30,000

60,000
60,000

 

Ant Capital Account

Date Particulars Folio Amount Date Particulars Folio Amount
$ $
Balance b/f 50,000
Goodwill 30,000

 

Bee Capital Account

Date Particulars Folio Amount Date Particulars Folio Amount
$ $
Balance b/f 50,000
Goodwill 30,000

 

2. Goodwill account is not retained in the business but written off immediately

Goodwill Account


$
$
Division of goodwill:
Division of goodwill:
Ant's capital account 30,000 Ant's capital account 24,000
Bee's capital account 30,000 Bee's capital account 24,000


Cricket's capital account 12,000

60,000
60,000

 

Ant Capital Account

Date Particulars Folio Amount Date Particulars Folio Amount
$ $
Share of goodwill (2/5) 24,000 Balance b/f 60,000
Balance c/d 66,000 Goodwill 30,000
90,000 90,000

 

Bee Capital Account

Date Particulars Folio Amount Date Particulars Folio Amount
$ $
Share of goodwill (2/5) 24,000 Balance b/f 50,000
Balance c/d 56,000 Goodwill 30,000
80,000 80,000

 

Cricket Capital Account

Date Particulars Folio Amount
Date Particulars Folio Amount



$



$

Share of goodwill (1/5)
12,000

Cash for capital
40,000

Balance c/d
40,000

Cash for goodwill
12,000
52,000 52,000

 

3. Goodwill written off over a number of years.

The journal entry is as follow:

Date Accounts Folio Debit Credit
$ $
Profit and loss 12,000
Goodwill 12,000
(Being of 1/5 of goodwill written off)

 

Goodwill Account

Date Particulars Folio Amount Date Particulars Folio Amount
$ $
Division of goodwill:
Profit and loss 12,000
Ant's capital account 30,000 Balance c/d 48,000
Bee's capital account 30,000
60,000 60,000

 

No goodwill account needed to be opened
Instead of opening a goodwill account, the goodwill can be adjusted in the capital accounts of the partners. This involves posting the difference between the debit and credit entries to the capital account. The difference can be a gain or a loss.

Dr Partner’s capital account (with the loss)
Cr Partner’s capital account (with the gain)

Partners Old sharing ratio Share of goodwill
New sharing ratio Share of goodwill
Gain/(loss) Adjustment
$ $ $
Ant 1/2 30,000 2/5 24,000 6,000 Cr Capital
Bee 1/2 30,000 2/5 24,000 6,000 Cr Capital
Cricket - 1/5 12,000 (12,000) Dr Capital
60,000 60,000

 

Ant Capital Account

Date Particulars Folio Amount Date Particulars Folio Amount
$ $
Balance c/d 66,000 Balance b/f 60,000
Gain on goodwill 6,000
66,000 66,000

 

Bee Capital Account

Date Particulars Folio Amount Date Particulars Folio Amount
$ $
Balance c/d 56,000 Balance b/f 50,000
Gain on goodwill 6,000
56,000 56,000

 

Cricket Capital Account

Date Particulars Folio Amount Date Particulars Folio Amount
$ $
Loss on goodwill
12,000 Cash for capital 40,000
Balance c/d 40,000 Cash for goodwill 12,000
52,000 52,000

Last Updated (Saturday, 11 September 2010 13:37)