Question

Charu and Dinesh have been sharing profits in the ratio of 3 : 1. The net profits for the past four years have been ₹ 60,000; ₹ 50,000; ₹ 90,000 and ₹ 1,20,000 respectively. It is now agreed that in future Dinesh is to have 2/5th share in profits and for that purpose goodwill is to be valued on the basis of `2 1/2` years' purchase of average profits of the past four years. Give journal entry for the treatment of goodwill.

Answer 1

Journal Entry
Date	Particulars	L.F.	Dr. ₹	Cr. ₹
	Dinesh's Capital A/c Dr.		30,000
	To Charu's Capital A/c			30,000
	(Being goodwill adjusted between partners due to change in profit-sharing ratio.)

Working note:

Old profit-sharing ratio:

Charu : Dinesh = 3 : 1

So old shares:

Charu = `3/4`, Dinesh = `1/4`

New share of Dinesh: `2/5`

New share of Dinesh: `1 - 2/5 = 3/5`

So new ratio:

Charu : Dinesh = 3 : 2

1. Average Profit

₹ 60,000 + ₹ 50,000 + ₹ 90,000 + ₹ 1,20,000 = ₹ 3,20,000

Average Profit = `(3,20,000)/4 = 80,000`

2. Goodwill

Goodwill = `2 1/2` years' purchase of average profit:

₹ 80,000 × 2.5 = ₹ 2,00,000

3. Gain or Sacrifice

Charu's sacrifice:

`3/4 - 3/5`

= `(15 - 12)/20 = 3/20`

Dinesh's gain:

`2/5 - 1/4`

= `8/20 - 5/20 = 3/20`

4. Goodwill Adjustment

`2,00,000 xx 3/20 = 30,000`