Problem

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, 2013, O'Donnell invests a building worth $72,000 and equipment valued at $40,000 as well as $28,000 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 $5,000, whichever is larger. All remaining income is credited to Reese.

• Neither partner is allowed to withdraw funds from the partnership during 2013. Thereafter, each can draw $6,000 annually or 20 percent of the beginning capital balance for the year, whichever is larger.

The partnership reported a net loss of $11,000 during the first year of its operation. On January 1, 2014, Terri Dunn becomes a third partner in this business by contributing $25,000 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 5:5 basis between Reese and Dunn, respectively.

Partnership income for 2014 is reported as $64,000. Each partner withdraws the full amount that is allowed.

On January 1, 2015, Dunn becomes ill and sells her interest in the partnership (with the consent of the other two partners) to Judy Postner. Postner pays $75,000 directly to Dunn. Net income for 2015 is $67,000 with the partners again taking their full drawing allowance.

On January 1, 2016, 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.

a. 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. (If no entry is required for a transaction/event, select "No journal entry required" in the first account field. Round your answers to the nearest dollar amount.)

1. Record the initial investment to assets by partners.
2. Record the capital allocation to O'Donnell and loss to Reese capital.
3. Record the cash received from new partner.
4. Record entry to close drawings accounts.
5. Record the distribution of net income to partners.
6. Record the reclassification of Dunn interest after acquisition.
7. Record entry to close drawings accounts.
8. Record the distribution of net income to partners.
9. Record the cash paid to partners.

B. Prepare 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. (If no entry is required for a transaction/event, select "No journal entry required" in the first account field. Round your answers to the nearest dollar amount.)

1. Record the initial investment to assets by partners.
2. Record the interest amount paid to O'Donnell and loss to Reese capital.
3. Record the cash and goodwill contributed by Dunn.
4. Record entry to close drawings accounts.
5. Record the distribution of net income to partners.
6. Record the goodwill purchased by Dunn.
7. Record the reclassification of capital interest to new partner.
8. Record entry to close drawings accounts.
9. Record the distribution of net income to partners.
10. Record the recognition implied goodwill.
11. Record the final distribution to postner. = journal entry has been entered.