Accounting in revaluation of assets

1. BUSINESS
ACCOUNTING II
Revaluation of Partnership Assets
BAC2/BAU2/BBA2/BAM2/BAC2W/BBA2W/BAM2W
Monawe (Mr.)
1

2. Implied Knowledge from previous
Lessons
Definition of Partnership
 This is when two or more people associate themselves with the
purpose of operating business together
 The people who own a partnership are called partners.
Other Basic knowledge
 Characteristics of partnership deed
 Types of partners in the partnership business
 Partnership Deed (Agreement) and its
contents
 What happens when there is no partnership deed
 Partnership statements of profit or loss and SOFP
 Currents accounts, fixed accounts and capital accounts.
2

3. Revaluation of Assets
 When a business is sold, and the sale price of the assets differs
from their book values, there will be a profit or loss on the sale.
This profit or loss will be shared between the partners in their
profit and loss sharing ratios.
 This sharing of profits and losses on changing asset values
doesn’t just need to be done when a partnership is sold. It
should also be done whenever any of the following happens:
1. a new partner is admitted;
2. a partner leaves the firm;
3. the partners change profit and loss sharing ratios.
3

4. Revaluation of Assets
 The assets will have to be revalued to reflect what they are
worth at the date when the change occurs, in order for the gains
and losses to be identified.
 Once the assets have been revalued, you need to record the
changes and gains and losses in the ledger accounts of the
partnership
4

5. Profit or loss on revaluation
 If the revaluation shows no difference in asset values, no further
action is needed.
 This will not happen very often, especially if assets include
buildings.
 These are normally shown at cost less accumulated depreciation,
but this is very rarely the actual value of buildings after they have
been owned for a few years.
5

6. EXAMPLE
K’000
New total valuation of assets 90,000
Old total valuation of assets (60,000)
Gain on revaluation 30,000
K
New total valuation of assets 40,000
Old total valuation of assets (50,000)
Loss on revaluation (10,000)
6

7. Accounting for Revaluation
 The first thing you do upon revaluing partnership assets is to
open a revaluation account and make the appropriate entries:
1 For each asset showing a gain on revaluation:
Debit : Asset account with gain.
Credit : Revaluation account.
2 For each asset showing a loss on revaluation:
Debit : Revaluation account.
Credit: Asset account with loss.
7

8. Accounting for Revaluation
3 If there is an increase in total valuation of assets:
Debit : Profit to revaluation account.
Credit: Old partners’ capital accounts in old profit and loss
sharing ratios.*
4 If there is a fall in total valuations of assets:
Debit: old partners’ capital accounts in old profit and loss
sharing ratios.*
Credit: loss to revaluation account.
NOTE :
If current accounts are kept for the partners, the entries should
be made in their current accounts.
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9. Example
Following is the SOFP as at 31 December 2020 of W and Y, who shared profits and
losses in the ratios: W two-thirds; Y one-third. From 1 January 2021 the profit and
loss sharing ratio is to be altered to W one-half; Y one-half.
SOFP as at 31 December 2021
K’000 K’000
Premises (at cost) 65,000
Equipment (at cost less depreciation) 15,000
80,000
Inventory 20,000
Receivables 12,000
Bank 8,000
40,000
120,000
Capitals: W 70,000
Y 50,000
120,000
The assets were revalued on 1 January 2021 to be: Premises K90,000,0000;
Equipment K11,000,000. Other assets values were unchanged. Accounts to show the
assets at revalued amounts show: 9

10. Revaluation Account
Reduced in value: K’000
Equipment 4,000
Gain on revaluation carried
to Capital accounts:
W two-thirds 14,000
Y one-third 7,000
21,000
25,000
Increased in value: K’000
Premises 25,000
25,000
10

11. Premises Account
K ‘000
Balance b/d 65,000
Revaluati Increase 25,000
90,000
K’000
Balance c/d 90,000
90,000
11

12. Equipment account
K’000
Balance b/d 15,000
15,000
K’000
Revaluation: Reduction 4,000
Balance c/d 11,000
15,000
12

13. Capital Account : W
K’000
Balance c/d 84,000
84,000
K’000
Balance b/d 70,000
Revaluation:
Share of gain 14,000
84,000
13

14. Capital Account: Y
K’000
Balance c/d 57,000
57,000
K’000
Balance b/d 50,000
Revaluation: Share of gain 7,000
57,000
14

15. Assignment
Redraft the new statement of financial position for the partners after
the revaluation?
15

16. How do we incorporate Goodwill
Definition of Goodwill
Goodwill is the excess of the amount paid when
purchasing over sole trader
business’s/company’s/partnership’s net assets.
Example
 If the net assets of the business is K230,000 and the
price to be paid is K250,000.
 Then the K20,000 is goodwill.
 Goodwill is an intangible asset. It can only exist if the
business was purchased and the amount paid was
greater than the value of the net assets. In many
cases, goodwill represents the value of the reputation
of the business at the time it was purchased.
16

17. Reasons for paying Goodwill
 The business has a large number of regular
customers who will continue to deal with the new
owner.
 The business has a good reputation.
 It has experienced, efficient and reliable employees.
 The business is situated in a good location.
 It has good contacts with suppliers.
 It has well-known brand names that have not been
valued and included as assets
17

18. Accounting for goodwill during
partnership revaluation
 Partners need to have a share of goodwill in their
individual stake of the partnership and this may be
shared according to their profit or loss sharing
ratios unless agreed otherwise.
 This may happen in any of the following situations;
 When existing partners decide to change their profit
or loss sharing ratios
 When a new partner is admitted/introduced
 When any of the partners dies or retires
18

19. Example
E, F and G have been in business for 10 years. They have
always shared profits equally. No goodwill account has ever
existed in the books. On 31 December 2022 they agree that G
will take only a one-fifth share of the profits as from 1 January
2023, because he will be devoting less of his time to the
business in the future. E and F will each take two-fifths of the
profits.
The summarised statement of financial position of the business
on 31 December 2016 appears as follows:
Statement of Financial Position as at 31 December 2022
K’000
Net Assets 70,000
Capital: E 30,000
F 18,000
G 22,000
70,000
The partners agree that the goodwill should be valued at
K30,000,000. 19

20. Required:
Show how goodwill will be accounted for in the following
circumstances;
(i) When existing partners want to change their profit or loss
sharing ratios
(ii) When a new partner is introduced or admitted into the
partnership
(iii) When a partner dies or retires
Note: These will be calculated in two ways
(1) when a goodwill account opened.
(2) when there is no goodwill account opened.
20

21. (i) Existing partners changing of profit loss sharing ratios
(1) When a goodwill Account is opened
Goodwill Account
K K
Capitals: E 10,000 balance c/d 30,000
F 10,000
G 10,000
30,000 30,000
21

22. Capital Accounts
E F G E F G
K K K K K K
Bal. c/d 40,000 28,000 32,000 bal. b/d 30,000 18,000 22,000
Goodwill 10,000 10,000 10,000
40,000 28,000 32,000 40,000 28,000 32,000
22

23. (2) When there is no goodwill account opened
If a partner gained goodwill that should be charged to his
capital account by debting his capital account with the value
of goodwill gain. While when a partner who lost his goodwill
that should be credited to his capital account to compensate
him for the loss suffered.
Step 1 Step 2 Step 3 Step 4
Old S. Ratios New S. Ratios Difference Gain or Loss (Action)
K K K K
Partners E ½ x30,000 10,000 2/5 x30,000 12,000 2,000 Gain (debt his C/A)
F ½ x30,000 10,000 2/5 x30,000 12,000 2,000 Gain (debt his C/A)
G ½ x30,000 10,000 1/5 x30,000 6,000 4,000 Loss (Credit his C/A)
23

24. Capital Accounts
E F G E F G
K K K K K K
Goodwill 2,000 2,000 - bal. b/d 30,000 18,000 22,000
Bal. c/d 28,000 16,000 26,000 Goodwill - - 4,000
30,000 18,000 26,000 40,000 28,000 26,000
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25. (ii) Admission/introduction of new partner
 A new partner will be entitled to the same share of profit or
loss and so to the goodwill share.
 Steps to be followed;
I. Show the value of goodwill share based on the partners’ old profit
or loss sharing ratios
II. Show the value of goodwill share based on the partners’ new profit
or loss sharing ratios including the new partner.
III. Find the difference between the old share of goodwill and the new
share of goodwill from I and II above to find a gain or a loss on
goodwill
IV. Gain of goodwill should be charged (debited) to their capital
accounts, while any loss should be credited in the partners’ capital
accounts to compensate the lost goodwill by the partner.
25

26. Example
A and B are in partnership, sharing profits and losses equally.
C is admitted as a new partner. The three partners will share
profits and losses one-third each. Total goodwill is valued at
K60,000.
Step 1 Step 2 Step 3 Step 4
Old S. Ratios New S. Ratios Difference Gain or Loss (Action)
K K K K
Partners A ½ x60,000 30,000 1/3 x60,000 20,000 10,000 Loss (Credit his C/A)
B ½ x60,000 30,000 1/3 x60,000 20,000 10,000 Loss (Credit his C/A)
C 1/3 x60,000 20,000 20,000 Gain (Debt his C/A)
This means that A and B need to have their capitals increased
by K10,000 each. C's capital needs to be reduced by K20,000
26

27. Assuming capital for all the partners is K50,000 each
prepare;
(i) Goodwill Account (show old ratios and values in the debit
side of Goodwill account, and show new ratios and values in
the credit side of the same account, then prepare new
goodwill account and debit the new ratios and values i.e.
after admission of the new partners)
(ii) Capital Accounts for all the partners
(iii) Statement of Financial Position extract.
27

28. Same steps should be followed even when the profit
or loss sharing ratios are different
Example
D and E are in partnership sharing profits one-half each. A new
partner F is admitted. Profits will now be shared D one-fifth,
and E and F two-fifths each. D and E, therefore, have not kept
their shares equal to each other. Goodwill is valued at K60,000
Step 1 Step 2 Step 3 Step 4
Old S. Ratios New S. Ratios Difference Gain or Loss (Action)
K K K K
Partners D ½ x60,000 30,000 1/5 x60,000 12,000 18,000 Loss (Credit his C/A)
E ½ x60,000 30,000 2/5 x60,000 24,000 6,000 Loss (Credit his C/A)
F 2/5 x60,000 24,000 24,,000 Gain (Debt his C/A)
28

29. Assuming capital for all the partners is K50,000 each prepare;
(i) Goodwill Account (show old ratios and values in the debit side of Goodwill
account, and show new ratios and values in the credit side of the same account,
the prepare new goodwill account and debit the new ratios and values i.e. after
admission of the new partners)
(ii) Capital Accounts for all the partners
(iii) Statement of Financial Position extract.
29

30. Accounting entries for Goodwill Adjustments
Three methods are usually used:
1 Cash is paid by the new partner privately to the old partners for
his/her share of the goodwill. No goodwill account is to be
opened.
In the above example; F would therefore give K24,000 in cash,
being K18,000 to D and K6,000 to E. They would bank these
amounts in their private bank accounts. No entry is made for this
in the accounts of the partnership.
2 Cash is paid by the new partner into the business bank account
for his/her share of the goodwill. No goodwill account is to be
opened. Assume that the capital balances before F was admitted
were D K50,000, E K50,000, and F was to pay in K50,000 as capital
plus K24,000 for goodwill.
The K24,000 payment is made in order to secure a share of the
K60,000 existing goodwill. TheK24,000 is shared between the two
existing partners by increasing their capital accounts by the
amounts shown in the example above. The debit entry is to the
bank account. The entries in the capital accounts are:
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31. Capital Accounts
D E F D E F
K K K K K K
Gdwill Adjust - - 24,000 Balance b/d 50,000 50,000 -
Bal. c/d 68,000 56,000 50,000 Cash for Capital - - 50,000
Cash for goodwill - - 24,000
Loss of Goodwill 18,000 6,000 -
68,000 56,000 74,000 68,000 56,000 74,000
31

32. 3. Goodwill account to be opened. No extra cash to be paid in by the new
partner for goodwill.
In the above example, the opening capitals were D K50,000, E K50,000.
F paid in K50,000 as capital.
Here, the situation is different from under the second method. The
new partner is not paying anything in order to secure a share of the
K60,000 of existing goodwill. As a result, it is shared now among the
two original partners in their original profit sharing ratio (half each)
and the new partner's capital account is credited only with the K50,000
he/she is investing.
This is done because the new partner is not entitled to any of the
previously established goodwill and the only way to prevent that
permanently is to recognise all the goodwill now and credit it to the
existing partners' capital accounts.
The action required is:
• Debit goodwill account: with total value of goodwill;
• Credit capitals of old partners: with their shares of goodwill in old
profit sharing ratios.
No adjustments for goodwill gains and losses are required as the capital
accounts of D and E have been increased by the full value of the
goodwill at the time of F's admission to partnership.
32

33. Goodwill Account
K K
Capitals: D 30,000 balance c/d 60,000
E 30,000
60,000 60,000
33

34. Capital Accounts
D E F D E F
K K K K K K
Balance b/d 50,000 50,000 -
Bal. c/d 80,000 80,000 50,000 Cash for Capital - - 50,000
Goodwill 30,000 30,000 -
80,000 80,000 50,000 80,000 80,000 50,000
If the partnership was dissolved and realised the K210,000
(K80,000+K80,000+K50,000) it was valued at when F was
admitted, this would first be used to repay the capital
account balances. D and F would, therefore, be fully
compensated for the value of the goodwill at the time of
F's admission to partnership, and F would receive exactly
the amount of his/her investment
34

35. (iii) Goodwill on withdrawal or death of a partner
This depends on whether or not a goodwill account exists.
If there was no goodwill account
If no goodwill account already existed the partnership
goodwill should be valued because the outgoing partner is
entitled to his/her share of its value.
This value is entered in double entry accounts:
• Debit goodwill account with valuation.
• Credit each old partner's capital account in profit sharing
ratios
35

36. Example
H, I and J have been in partnership for many years sharing
profit and losses equally. No goodwill account has ever
existed. J is leaving the partnership. The other two
partners are to take over his share of profits equally. Each
partner's capital before entering goodwill was K50,000. The
goodwill is valued at K45,000.
36

37. Goodwill Account
K K
Capitals: H 15,000 balance c/d 45,000
I 15,000
J 15,000
45,000 45,000
37

38. Capital Accounts
H I J H I J
K K K K K K
Balance b/d 50,000 50,000 50,000
Bal. c/d 65,000 65,000 65,000
Goodwill 15,000 15,000 15,000
65,000 65,000 65,000 65,000 65,000 65,000
So When J leaves the partnership, his capital balance of K65,000 will be paid to him.
38

39. If a goodwill account exists
1 If a goodwill account exists with the correct valuation of
goodwill entered in it, no further action is needed.
2 If the valuation in the goodwill account needs to be
changed, the following will apply:
 Goodwill undervalued:
Debit increase : Goodwill account.
Credit increase : Old partners' capital accounts in
their old profit sharing ratios.
 Goodwill overvalued:
Debit reduction : Old partners' capital accounts in
their old profit sharing ratios.
Credit reduction: Goodwill account
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40. THE END
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