1 answer

Steve Reese is a well-known interior designer in Fort Worth, Texas. He wants to start his...

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 $128,000 and equipment valued at $136,000 as well as $56,000 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 20 percent of the beginning capital balance for the year.
  • O’Donnell will also have added to his capital account 15 percent of partnership income each year (without regard for the preceding interest figure) or $8,000, 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 $7,000 annually or 20 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 $60,000 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 $98,000. 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 $145,000 directly to Dunn. Net income for 2018 is $115,000 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.

  1. Prepare journal entries to record the preceding transactions on the assumption that the bonus (or no revaluation) method is used. Drawings need not be recorded, although the balances should be included in the closing entries.

  • 1-Record the initial investment of assets by partners.

  • 2-Record the distribution of net income to partners.

  • 3-Record the admittance of Dunn into the partnership.

  • 4-Record entry to close drawings accounts.

  • 5-Record the distribution of net income to partners.

  • 6-Record the admittance of Postner into the partnership.

  • 7-Record entry to close drawings accounts.

  • 8-Record the distribution of net income to partners.

  • 9-Record cash paid to the withdrawing partner.

Please help have been struggling with the question for hours!

Please number all journal entries for clarity.

Account titles: no journal entry required, a/p, a/r, building, cash, dunn capital, dunn drawings, equipment, income summary, interest expense, interest income, interest payable, interest receivable, o'donnell capital, o'donnell drawings, postner capital, postner drawings, reese capital, reese drawings


Answers

Part A

Date

Account titles and explanation

debit

Credit

1/1/16

Building

128000

Equipment

136000

Cash

56000

O'Donnell, Capital ((128000+136000+56000)/2)

160000

Reese, Capital ((128000+136000+56000)/2)

160000

(To record initial investment. Assets recorded at fair value with two equal capital balances.)

12/31/16

Reese, Capital

50000

O'Donnell, Capital (160000*20%)+8000

40000

Income Summary

10000

(The allocation plan specifies that O'Donnell will receive 20% in interest [or $32,000 based on $160,000 capital balance] plus $8,000 more [since that amount is greater than 15% of the profits from the period]. The remaining $40,000 loss is assigned to Reese.)

1/1/17

Cash

60000

O'Donnell, Capital (15%)

2610

Reese, Capital (85%)

14790

Dunn, Capital

77400

(New investment by Dunn brings total capital to $297,000 after 2008 loss [$320,000 – $8,000 + $66,000]. Dunn's 20% interest is $77400 [$297,000 × 20%] with the extra $17400 coming from the two original partners [allocated between them according to their profit and loss ratio].)

12/31/17

O'Donnell, Capital (160000+40000-2610)*20%

39478

Reese, Capital (160000-50000-14790)*20%

19042

Dunn, Capital (77400*20%)

15480

O'Donnell, Drawings

39478

Reese, Drawings

19042

Dunn, Drawings

15480

(To close out drawings accounts for the year based on distributing 20% of each partner's beginning capital balances or 8000 whichever is more)

12/31/17

Income Summary

80000

O'Donnell, Capital

44138

Reese, Capital

21517

Dunn, Capital

14345

(To allocate $80,000 income figure for 2017 as determined below.)

O'Donnell

Reese

Dunn

Interest (20% of $197390 beginning capital balance)

39478

15% of $98000 income

14700

60:40 spilt of remaining $35862 (98000-14700-39478)

Income

26293

17529

Total

54178

26293

17529

Capital Balances as of December 31, 2017:

O'Donnell

Reese

Dunn

Initial 2016 investment

160000

160000

2016 profit allocation

40000

(50000)

Dunn's investment

(2610)

(14790)

77400

2017 drawings

(39478)

(19042)

(15480)

2017 profit allocation

54178

26293

17529

12/31/17 balances

212090

102461

79449

Date

Account titles and explanation

debit

Credit

1/1/18

Dunn, Capital

79449

Postner, Capital

79449

(To reclassify balance to reflect acquisition of Dunn's interest.)

12/31/18

O'Donnell, Capital (212090*20%)

42418

Reese, Capital (102461*20%)

20492

Postner, Capital (79449*20%)

15890

O'Donnell, Drawings

42418

Reese, Drawings

20492

Postner, Drawings

15890

(To close out drawings accounts for the year based on 20% of beginning capital balances [above] or $8,000 [whichever is greater].)

12/31/18

Income Summary

90000

O'Donnell, Capital

48038

Reese, Capital

25177

Postner, Capital

16785

(To allocate profit for 2010 determined as follows)

O'Donnell

Reese

Postner

Interest (20% of $212090 beg. capital)

42418

15% of $115000 income

17250

60:40 split of remaining $41962 (115000-42418-17250)

33199

22133

Totals

59668

33199

22133

Date

Account titles and explanation

debit

Credit

1/1/19

Postner, Capital (79449-15890+22133)

85692

O'Donnell, Capital (15%)

1285

Reese, Capital (85%)

7284

Cash

94261

(Postner's capital and Extra 10% payment is deducted from the two remaining partners' capital accounts.)

.

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