Question

Gray, Stone, and Lawson open an accounting practice on January 1, 2016, in San Diego, California, to be operated as a partnership. Gray and Stone will serve as the senior partners because of their years of experience. To establish the business, Gray, Stone, and Lawson contribute cash and other properties valued at $250,000, $220,000, and $110,000, respectively. An articles of partnership agreement is drawn up. It has the following stipulations:

• Personal drawings are allowed annually up to an amount equal to 10 percent of the beginning capital balance for the year.
• Profits and losses are allocated according to the following plan:

1. A salary allowance is credited to each partner in an amount equal to $8 per billable hour worked by that individual during the year.
2. Interest is credited to the partners’ capital accounts at the rate of 12 percent of the average monthly balance for the year (computed without regard for current income or drawings).
3. An annual bonus is to be credited to Gray and Stone. Each bonus is to be 10 percent of net income after subtracting the bonus, the salary allowance, and the interest. Also included in the agreement is the provision that there will be no bonus if there is a net loss or if salary and interest result in a negative remainder of net income to be distributed.
4. Any remaining partnership profit or loss is to be divided evenly among all partners.

Because of financial shortfalls encountered in getting the business started, Gray invests an additional $9,600 on May 1, 2016. On January 1, 2017, the partners allow Monet to buy into the partnership. Monet contributes cash directly to the business in an amount equal to a 20 percent interest in the book value of the partnership property subsequent to this contribution. The partnership agreement as to splitting profits and losses is not altered upon Monet’s entrance into the firm; the general provisions continue to be applicable.

The billable hours for the partners during the first three years of operation follow:

	2016	2017	2018
Gray	1,750	2,200	1,920
Stone	1,480	1,400	1,660
Lawson	1,700	1,420	1,350
Monet	0	1,230	1,620

The partnership reports net income for 2016 through 2018 as follows:

2016	$	62,000
2017		(24,400)
2018		167,000

Each partner withdraws the maximum allowable amount each year.

1. Determine the allocation of income for each of these three years.

2. Prepare in appropriate form a statement of partners’ capital for the year ending December 31, 2018.

Answer 1

a.
Income Allocation—2016	Gray	Stone	Lawson	Total
Hours	1750	1480	1700
Salary allowance ($8 per billable hour)	$14,000	$11,840	$13,600	$39,440
Interest (working Note A)	$30,768	$26,400	$13,200	$70,368
Bonus (not applicable salary and interest would have negative balance	$0	$0	$0	$0
Remaining loss (split evenly):($62,000 - ($39,440+$70,368)	-$15,936	-$15,936	-$15,936	-$47,808
Profit allocation	$28,832	$22,304	$10,864	$62,000
Working Note A: Interest	Gray	Stone	Lawson
Beginning Capital	$250,000	$220,000	$110,000
Interest 12% ; Gray = ($250,000 x 12% x 4/12)+($250,00+9,600 )x12% x 8/12)	$30,768	$26,400	$13,200
Capital Account Balances—1/1/16 – 12/31/16
	Gray	Stone	Lawson	Total
Beginning contributions	$250,000	$220,000	$110,000	$580,000
Added Investment	$9,600	$0	$0	$9,600
Profit allocation (from above)	$28,832	$22,304	$10,864	$62,000
Drawing (10% of beginning balances)	-$25,000	-$22,000	-$11,000	-$58,000
Ending balances	$263,432	$220,304	$109,864	$593,600
Income Allocation—2014	Gray	Stone	Lawson	Monet	Total
Hours	2200	1400	1420	1230
Salary allowance ($8 per billable hour)	$17,600	$11,200	$11,360	$9,840	$50,000
Interest (12% x Ending Bal of 2016)	$31,611.84	$26,436.48	$13,183.68	$17,808	$89,040
Bonus (not applicable salary and interest would have negative balance	$0	$0	$0	$0	$0
Remaining loss (split evenly):(-$24,400 - ($50000+$94,976)	-$40,860	-$40,860	-$40,860	-$40,860	-$163,440
Profit allocation	$8,351.84	-$3,223.52	-$16,316.32	-$13,212	-$24,400
Working Note B: Monet Capital
Monet's Investment = 20% ($593,600 + Monet's Investment)
.80 Monet's Investment = $118720
Monet's Investment	$148,400
Capital Account Balances—1/1/17 – 12/31/17
	Gray	Stone	Lawson	Monet	Total
Beginning contributions	$263,432	$220,304	$109,864	$148,400	$742,000
Profit allocation (from above)	$8,351.84	-$3,223.52	-$16,316.32	-$13,212	-$24,400
Drawing (10% of beginning balances)	-$26,343.2	-$22,030.4	-$10,986.4	-$14,840	-$74,200
Ending balances	$245,440.64	$195,050.08	$82,561.28	$120,348	$643,400
Income Allocation—2018	Gray	Stone	Lawson	Monet	Total
Hours	1920	1660	1350	1620
Salary allowance ($8 per billable hour)	$15,360	$13,280	$10,800	$12,960	$52,400
Interest (12% x Ending Bal of 2013)	$29,452.88	$23,406.01	$9,907.35	$14,441.76	$77,208
Bonus (not applicable salary and interest would have negative balance	$3,116	$3,116	$0	$0	$6,232
Remaining loss (split evenly):($167,000 - ($52,400+$77,208+$6232)	$7,790	$7,790	$7,790	$7,790	$31,160
Profit allocation	$55,718.88	$47,592.01	$28,497.35	$35,191.76	$167,000
Working Note C: Bonus = Grey and stone 10% each ; Total bonus = 20%
Bonus = 20% (Net income – Salary – Interest – Bonus)
Bonus = .20 ($167,000 – $52,400 – $77,208 – Bonus)
Bonus	$6,232
Bonus per person = $6232/2	$3,116
Capital Account Balances—1/1/18 – 12/31/18
	Gray	Stone	Lawson	Monet	Total
Beginning contributions	$245,440.64	$195,050.08	$82,561.28	$120,348	$643,400
Profit allocation (from above)	$55,718.88	$47,592.01	$28,497.35	$35,191.76	$167,000
Drawing (10% of beginning balances)	-$24,544.06	-$19,505.01	-$8,256.13	-$12,034.8	-$64,340
Ending balances	$276,615.45	$223,137.08	$102,802.51	$143,504.96	$746,060
b)
GRAY, STONE, AND LAWSON
Statement of Partners' Capital
For Year Ending December 31, 2018
	Gray	Stone	Lawson	Monet	Total
Beginning contributions	$245,440.64	$195,050.08	$82,561.28	$120,348	$643,400
Profit allocation (from above)	$55,718.88	$47,592.01	$28,497.35	$35,191.76	$167,000
Drawing (10% of beginning balances)	-$24,544.06	-$19,505.01	-$8,256.13	-$12,034.8	-$64,340
Ending balances	$276,615.45	$223,137.08	$102,802.51	$143,504.96	$746,060