Treatment of Goodwill

1 Mark Questions

1. Under what circumstances will the premium for goodwill paid by the incoming

partner not be recorded in the books of accounts. (Compartment 2014)

Ans. When the incoming partner pays his share of goodwill privately to the sacrificing partners, outside the business, then no entry is passed in the books of the firm.

1. State the need for treatment of goodwill on admission of a partner. (Delhi 2010)

Ans. When a new partner is admitted, his share in future profits of the firm is equal to the sacrifice of profit by an existing partner or partners of the firm. The amount he pays to compensate this sacrifice, is in the form of goodwill. Therefore, it is important to treat goodwill at the time of admission of a partner.

2 Marks Question

1. A and B are partners with capitals of Rs. 90,000 and Rs. 1,00,000 respectively.

They decide to admit C into the partnership for 1/4 th share in the future profits. C is to bring a sum of Rs. 80,000 as his capital. Calculate the amount of goodwill. (All India 2008)

A's capital = 90,000

B's capital - 1,00,000 C's capital - 80,000

Total capital of partners = ₹2,70,000

Calculation of total capital on C's admission taking his capital as base

C's share <math>=\frac{1}{4}</math>th

C brings as capital <math>= 80,000</math> For <math>\frac{1}{4}</math> th share, capital = 80,000 Total capital = <math>80,000 \times 4 = ₹ 3,20,000</math> Hidden goodwill = 3,20,000 - 2,70,000 = ₹ 50,000 ∴ C's share of goodwill = <math>50,000 \times \frac{1}{4} = ₹ 12,500</math>

1. Hemant and Nishant were partners in a firm sharing profits in the ratio of 3:2.

Their capitals were Rs. 1,60,000 and Rs. 1,00,000 respectively. They admitted Somesh on 1st April, 2013 as a new partner for 1/5 share in the future profits. Somesh brought Rs. 1,20,000 as his capital. Calculate the value of goodwill of the firm and record necessary journal entries for the above transactions on Somesh's admission.

(All India 2014)

JOURNAL

Date Particulars LF Amt (Dr) Amt (Cr)

2013 Apr 1 Bank A/c Dr 1,20,000

To Somesh's Capital A/c 1,20,000

(Being the cash brought in by Somesh for his capital) Apr 1 Somesh's Capital A/c Dr 44,000

To Hemant's Capital A/c 26,400

To Nishant's Capital A/c 17,600

(Being the credit given for goodwill to Hemant and Nishant on Somesh's admission)

Working Note

Calculation of Hidden Goodwill

Somesh's capital = <math>\overline{\xi}</math> 1,20,000 for <math>\frac{1}{\xi}</math> share

1. Total capital of new firm = 1,20,000 <math>\times \frac{5}{1} = ₹ 6,00,000</math>
2. Hemant, Nishant and Somesh's capital = 1,60,000 + 1,00,000 + 1,20,000 = ₹ 3,80,000 Goodwill of the firm <math>(a - b) = 6,00,000 - 3,80,000 = ₹ 2,20,000</math>

Somesh's share = 2,20,000 × <math>\frac{1}{5}</math> = ₹ 44,000

1. Abhay and Beena are partners in a firm. They admit Chetan as a partner with

1/4th share in the profits of the firm. Chetan brings Rs. 2,00,000 as his share of capital. The value of the total assets of the firm is Rs. 5,40,000 and outside liabilities are valued at Rs. 1,00,000 on that date. Give the necessary entry to record goodwill at the time of Chetan's admission. Also show your working notes.

JOURNAL

Date Particulars LF Amt (Dr) Amt (Cr)

Chetan's Capital A/c Dr 40,000

To Abhay's Capital A/c 20,000

To Beena's Capital A/c 20,000

(Being Chetan's share of goodwill adjusted in existing partners' capital accounts)