ACCOUNTING TREATMENT OF GOODWILL AT THE TIME OF ADMISSION OF A NEW PARTNER

ACCOUNTING TREATMENT OF GOODWILL AT THE TIME OF ADMISSION OF A NEW PARTNER

There can be following five situation relating to accounting treatment of goodwill at the time of admission of a partner-

  •  Accounting treatment of goodwill, when Goodwill (premium for goodwill) is paid privately.
  • Accounting treatment of goodwill, when Goodwill (premium for goodwill) is brought in cash or  by cheque by the new or incoming Partner and is retained in business.
  • Accounting treatment of goodwill, when Goodwill (premium for goodwill) is brought in cash or by cheque by the new or incoming Partner and is withdrawn by sacrificing partner fully or partly.
  • Accounting treatment of goodwill, when Goodwill (premium for goodwill) is brought in kind.
  • Goodwill (premium for goodwill) is not brought in full or a part by the new or incoming partner.

ACCOUNTING TREATMENT OF GOODWILL

(i) When Goodwill (premium for goodwill) is paid privately  by new partner-

When goodwill (premium for goodwill) is paid privately  (i.e. Outside of business) by new incoming partner to the sacrificing partner,journal entry is not passed in the book of account.

For Example: Tarun and Sumit are partners in a firm sharing profit in the ratio 5 : 3. They admitted
Amit as a new partner for 1/4th share in the profit. Amit paid his share of goodwill Rs. 30,000 privately to Tarun and Sumit. The new profit sharing ratio will be 2 : 1 : 1.

No journal entries are made in the books of the firm.

(ii) When Goodwill (premium for goodwill) is brought in cash or by cheque by the new or incoming Partner and is retained in business-

When, the new partner brings his/ her share of goodwill in cash. The amount brought in by the new partner is transferred to the existing partners in the sacrificing ratio.

  1. For Goodwill (premium for goodwill) is brought in cash:

Cash/Bank A/c     Dr.

To Premium for Goodwill  A/c

(Goodwill (premium for goodwill) is brought in cash)

  1. For amount of goodwill transferred to existing partner capital account:

Premium for Goodwill  A/c  Dr.

To sacrificing partner s Capital/current A/c [individually]

(The amount of goodwill credited to sacrificing partner’s capitals/ current account in  their sacrificing ratio)

ALSO READ : partnership

Sacrificing Ratio-At the time of admission of a partner, existing partners (Old Partners) have to surrender some of their share in favour of the new partner. The ratio in which they surrender their share of profits in favour of incoming partner is called sacrificing ratio.

In the other words- The ratio in which the Old Partners or existing partners agree to sacrifice their share of profits in favour of incoming partner is called sacrificing ratio. Sacrificing Ratio is calculated as follows:

Sacrificing Ratio = Existing Or Old  Ratio – New Ratio

For Example: Rakesh and Sumit are partners in a firm sharing profit in the ratio 5 : 3. They admitted Amit as a new partner for 1/4th share in the profit. Amit bringsRs. 60,000 for his share of goodwill and Rs. 1,20,000 for capital.  The new profit sharing ratio will be 2 : 1 : 1. Make journal entries in the books of the firm after the admission of Amit.

Solution: 

Sacrificing Ratio = Existing Or Old  Ratio – New Ratio

Rakesh :  5/8 – 2/4 = 1/8 

Sumit: 3/8-1/4= 1/8

Sacrificing Ratio = 1:1

JOURNAL ENTRIES IN THE BOOKS OF FIRM

Bank A/c       Dr.         1,80,000
To Goodwill Premium A/c          60,000
To Amit’s Capital A/c                 1,20,000
(cash brought by Amit for his share of goodwill and capital)

Goodwill Premium A/c    Dr.   60,000
To Rakesh’s Capital A/c               30,000
To Sumit’s Capital A/c                 30,000
(Goodwill transferred to existing partners capital account in their sacrificing ratio 1:1)

(iii) When Goodwill (premium for goodwill) is brought in cash or by cheque by the new or incoming Partner and  witharawn by sacrificing partner fully or partly-

  1. For Goodwill (premium for goodwill) is brought in cash:

Cash/Bank A/c     Dr.

To Premium for Goodwill  A/c

(Goodwill (premium for goodwill) is brought in cash)

  1. For amount of goodwill transferred to sacrificing partner’s capital account: 

Premium for Goodwill  A/c    Dr.

To To sacrificing partner s Capital/current A/c [individually]

(The amount of goodwill credited to sacrificing partner’s capitals/ current account in  their sacrificing ratio)

  1. The amount of goodwill is withdrawn by the existing partners:

Sacrificing partner s Capital/current A/c [individually]

To Cash/Bank A/c

(The amount of goodwill withdrawn by the sacrificing partner’s)

For Example: Rakesh and Sumit are partners in a firm sharing profit in the ratio 5 : 3. They admitted Amit as a new partner for 1/4th share in the profit. Amit bringsRs. 40,000 for his share of goodwill and Rs. 1,60,000 for capital. Half Amount of goodwill withdrawn by Rakesh and Sumit.The new profit sharing ratio will be 2 : 1 : 1. Make journal entries in the books of the firm after the admission of Amit.

Solution:

Sacrificing Ratio = Existing Or Old  Ratio – New Ratio

Rakesh :  5/8 – 2/4 = 1/8 

Sumit: 3/8-1/4= 1/8

Sacrificing Ratio = 1:1

JOURNAL ENTRIES IN THE BOOKS OF FIRM

Bank A/c              Dr.  2,00,000
To Goodwill Premium A/c     40,000
To Amit’s Capital A/c            1,60,000
(cash brought by Amit for his share of goodwill and capital)

Goodwill Premium A/c  Dr.  40,000
To Rakesh’s Capital A/c              20,000
To Sumit’s Capital A/c                20,000
(Goodwill transferred to existing partners capital account in their sacrificing ratio 1:1)

Rakesh’s Capital A/c Dr.    10,000
Sumit’s Capital A/c Dr.       10,000
To Bank A/c                                    20,000
(Half Amount of Goodwill is withdrawn by Rakesh and Sumit)

(iv)  When Goodwill (premium for goodwill) is brought in kind by the new or incoming Partner-

  1. For bringing assets for premium for goodwill

Assets A/c   Dr.

To Premium for Goodwill  A/c

(Assets brought for his share of goodwill)

  1. For (Assets) goodwill transferred to existing partner capital account:

Premium for Goodwill  A/c    Dr.

To sacrificing partner’s Capital/current A/c [individually]

(The premium for goodwill credited to sacrificing partner’s capitals/ current account in  their sacrificing ratio)

For Example: Rachit and Mohit are partners in a firm sharing profit in the ratio 5 : 3. They admitted Rohit as a new partner for 1/4th share in the profit. Rohit brings Rs. 40,000 furniture for his share of goodwill  and Rs. 1,60,000 for cash as  capital. The new profit sharing ratio will be 2 : 1 : 1. Make journal entries in the books of the firm after the admission of Rohit.

Solution: 

JOURNAL ENTRIES IN THE BOOKS OF FIRM

Furniture  A/c    Dr.  40,000

Cash A/c      Dr.         1,60,000

To Premium for Goodwill  A/c   40,000

To Rohit’s Capital A/c             1,60,000

(Furniture brought for his share of goodwill and capital brought in cash)

Premium For Goodwill A/c Dr.  40,000

To Rakesh’s Capital A/c                    20,000
To Sumit’s Capital A/c                      20,000
(Goodwill transferred to existing partners capital account in their sacrificing ratio 1:1)

(v)New partner does not bring his/her share of goodwill in cash :

When the goodwill of the firm is calculated and the new partner is not able to bring his/ her share of goodwill in cash, goodwill will be adjusted through new partner’s capital accounts.

In this case new partner’s capital account is debited for his/ her share of goodwill and the existing partner’s(sacrificing partner ) capital accounts are credited in their sacrificing ratio.

The journal entry is as under:

New Partner’s Capital A/c    Dr.

To Existing Partner’s(sacrificing partner’S ) Capital A/c

(New partner’s share in goodwill credited to exisitng partner’s (sacrificing partner’S ) in sacrificing ratio)

Note- New partner’s Current account is debited instead of his capital account so that his capital is not reduced and remains intact.

For Example: Ankit and Samkit are partners sharing profit in the ratio of 3 : 2. They agree to admit Pulkit for 1/5 share in future profit. Pulkit brings Rs.5,50,000 as capital and unable to bring his share of goodwill in cash, the goodwill of the firm to be valued at Rs. 5,40,000. Make necessary journal entries in the books of the firm.

Solution:

In this case goodwill will be adjusted through Pulkit capital accounts. In this case Pulkit’s capital account is debited for his share of goodwill and the Ankit and Samkit partner’s capital accounts are credited in their sacrificing ratio.

Note- New partner’s Current account is debited instead of his capital account so that his capital is not reduced and remains intact.

Working Note : Ankit  and Samkit sacrifice their profit in favour of Pulkit in their existing profit sharing ratio i.e. 3 : 2. Therefore, the sacrificing ratio is 3 : 2.

Value of Goodwill = Rs. 5,40,000

Pulkit ’s share in Profit = 1/5

Pulkit’s share of Goodwill = Rs. 5,40,000 × 1/5 = Rs. 1,08,000

JOURNAL ENTRIES IN THE BOOKS OF FIRM

Bank A/c Dr.  5,50,000

To Pulkit’s Capital A/c   5,50,000

[Cash brought by Pulkit for his capital]

Pulkit’s Current  A/c Dr. 1,08,000

To Ankit’s Capital A/c             64,800

To Samkit’s Capital A/c          43,200

[Existing partners capital a/c credited for goodwill on Pulkit ’s admission in sacrificing ratio]

ACCOUNTING TREATMENT OF GOODWILL

If goodwill Appear in Balance sheet at the time of admission of a partner- If there is any goodwill account in the balance sheet of existing partners, it will be written off immediately in existing ratio among the partners. The existing goodwill in the books of the firm will be written off in existing profit ratio as; The journal entries are as follows:

Existing Partners Capital A/c    Dr. [individually]

To Goodwill A/c

(Existing goodwill written off in old Ratio)

For Example: Shubham  and Sagar are partners sharing profit in the ratio of 3 : 2. They agree to admit Ajay for 1/5 share in future profit. Ajay brings Rs.3,50,000 as capital and unable to bring her share of goodwill in cash, the goodwill of the firm to be valued at Rs. 1,50,000. At the time of admission goodwill existed in the books of the firm at Rs 50,000. Make necessary journal entries in the books of the firm.

Solution:

In this case goodwill will be adjusted through Pulkit capital accounts. In this case Pulkit’s capital account is debited for his share of goodwill and the Ankit and Samkit partner’s capital accounts are credited in their sacrificing ratio.

Note- New partner’s Current account is debited instead of his capital account so that his capital is not reduced and remains intact.

In this case, the amount of goodwill existing in the books is written off by debiting the capital account of Shubham  and Sagar in their existing profit sharing ratio.

Working Note : Shubham  and Sagar sacrifice their profit in favour of Ajay  in their existing profit sharing ratio i.e. 3 : 2. Therefore, the sacrificing ratio is 3 : 2.

Value of Goodwill = Rs. 1,50,000

Pulkit ’s share in Profit = 1/5

Pulkit’s share of Goodwill = Rs. 1,50,000 × 1/5 = Rs. 30,000

JOURNAL ENTRIES IN THE BOOKS OF FIRM

Bank A/c Dr.   5,50,000

To Ajay’s Capital A/c     5,50,000

[Cash brought by Ajay for his capital]

Shubham’s Capital A/c Dr. 30,000

Sagar’s Capital A/c Dr.       20,000

To Goodwill A/c                             50,000

[Goodwill written off  by debiting the capital account of Shubham  and Sagar  in their existing profit sharing ratio.]

Ajay ’s Current  A/c Dr.    30,000

To Shubham’s Capital A/c        18,000

To Sagar’s Capital A/c               12,000

[Existing partners capital a/c credited for goodwill on Ajay ’s admission in sacrificing ratio]

ALSO READ : LAW OF DEMAND AND ASSUMPTIONS OF THE LAW OF DEMAND

New partner brings in only a part of his share of goodwill-

When new partner is not able to bring the full amount of his/her share of goodwill in cash and brings only a part of cash. In this case, the amount of goodwill brought by him is credited to premium for goodwill account part of goodwill not bring in cash adjusted new partner’s Current account.

The journal entry is as under:

  1. Part of Goodwill brought in cash-

Cash/Bank A/c                                                                   Dr.

To Premium for Goodwill  A/c

(Goodwill (premium for goodwill) is brought in cash)

  1. For amount of goodwill ( cash)  transferred to sacrificing partner’s capital account:                      Premium for Goodwill  A/c                                  Dr.

To Sacrificing partner s Capital/current A/c [individually]

(The amount of goodwill credited to sacrificing partner’s capitals/ current account in  their sacrificing ratio)

   3. Part of Goodwill  not brought in cash-

New Partner’s Capital A/c                          Dr.

To Existing Partner’s(sacrificing partner’S ) Capital A/c

(New partner’s share in goodwill credited to exisitng partner’s (sacrificing partner’S ) in sacrificing ratio)

Note- New partner’s Current account is debited instead of his capital account so that his capital is not reduced and remains intact.

For Example: Jay and Vijay are partners sharing profit in the ratio of 5 : 3. They admit Sanjay into the firm for 1/6 share in profit which he takes 1/2  from Jay and 1/ 2 from Vijay. Sanjay brings Rs. 18,000 as goodwill out of his share of Rs. 30,000. Make necessary journal entries in the books of the firm. Sacrificing Ratio of Jay and Vijay 1:1.

Solution:

In this case, the amount of goodwill brought by Sanjay Rs. 18,000  is credited to premium for goodwill account  and  part of goodwill Rs. 12,000  not bring in cash adjusted Sanjay’s Current account.

JOURNAL ENTRIES IN THE BOOKS OF FIRM

Cash/Bank A/c   Dr.  18,000

To Premium for Goodwill  A/c    18,000

(Goodwill (premium for goodwill) is brought in cash)

Premium for Goodwill  A/c  Dr. 18,000

To Ajay’s  Capital A/c                         9,000

To Vijay’s Capital A/c                        9,000

(The amount of goodwill credited to sacrificing partner’s capitals account in  their sacrificing ratio 1:1)

Sanjay ’s Current  A/c       Dr. 12,000

To Ajay’s  Capital A/c                       6,000

To Vijay’s Capital A/c                       6,000

(New partner’s share in goodwill credited to exisitng partner’s (sacrificing partner’S ) in sacrificing ratio)

 

ALSO READ : Concept of Goodwill

 

 

 

 

 

 

 

 

 

 

 

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