Reference no: EM132606

 Question:

Steve Reese is a well-known interior designer in Fort Worth, Texas. He wants to establish his own business and convinces Rob O'Donnell, a local merchant, to contribute the capital to form a partnership. On January 1, 2011, O'Donnell invests a building worth $104,000 and equipment valued at $96,000 as well as $50,000 in cash. Though Reese makes no tangible contribution to the partnership, he will manage the business and be an equal partner in the beginning capital balances.

To entice O'Donnell to join this partnership, Reese draws up the subsequent profit and loss agreement:

• O'Donnell will be credited yearly with interest equal to 10 percent of the beginning capital balance for the year.
• O'Donnell will also have added to his capital account 20 percent of partnership income each year (without regard for the preceding interest figure) or $6,000, whichever is larger. All remaining income is credited to Reese.
• Neither partner is allowed to withdraw funds from the partnership during 2011. After that, each will draw $9,000 annually or 10 percent of the beginning capital balance for the year, whichever is larger.

The partnership reported a net loss of $6,000 during the first year of its operation. On January 1, 2012, Terri Dunn becomes a third partner in this business by contributing $40,000 cash to the partnership. Dunn receives a 25 percent share of the business's capital. The gain and loss agreement is altered as follows:

• O'Donnell is still entitled to interest on his beginning capital balance as well as (2) the share of partnership income just specified.
• Any remaining profit or loss can be split on a 6:4 basis between Reese and Dunn, correspondingly.

Partnership income for 2012 is reported as $78,000. Each partner withdraws the full amount that is allowed.

On January 1, 2013, Dunn becomes ill and sells her interest in the partnership (with the consent of the other two partners) to Judy Postner. Postner pays $175,000 directly to Dunn. Total income for 2013 is $78,000 with the partners yet again taking their full drawing allowance.

On January 1, 2014, Postner withdraws from the business for personal reasons. The articles of partnership state that any partner can 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.

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

b. Organize journal entries to record the previous transactions on the assumption that the goodwill (or revaluation) method is used. Drawings need not be recorded, although the balances should be included in the closing entries.