Question

how to do the treatment of goodwill

Answer 1

1. when the amount of goodwill paid privately.

Answer 2

A simple realistic example is when you have something (maybe a toy, shirt, PC games or etc) that you wouldn’t want to give away to your friend, but your friend insisted on having them. In that case, you might be selling them at a higher price, say a limited edition toy that you purchased originally at $100 and your friend are willing to use $120 to purchase the toy (and it is also the price you are willing to give away.) You settled the deal because $120 is attractive! This extra $20 is actually the goodwill.

As for businesses, goodwill arises when the following events happened,

1) existing partners wanted to change profit and loss sharing ratios,

2) new partner is introduced, and

3) one of the partners retires or dies.

There are two ways in showing goodwill, one is to show them in the balance sheet (open a goodwill account) and the other one is to not show them in the balance sheet (do not open a goodwill account).

So, let’s start with opening a goodwill account. In the events (shown above), there will be a change in profit and loss sharing ratio. Something to note in mind that you don’t just ignore the OLD profit and loss sharing ratio, but you will need to do something with it. The steps to opening a goodwill account can be summarised as shown below:

1) Open a goodwill account and Dr the Goodwill amount based on old profit sharing ratio (Note that goodwill is an intangible asset)

2) Open up a capital account with opening balance and CR goodwill in Capital Account.

Here is an example with opening a goodwill account with partners A. B and C changing their profit sharing ratio from existing 2:1:1 to 2:2:1 and that the business has a goodwill value of $4,000. The capital brought forward from A, B and C are $5,000, $4,000 and $2000 respectively.