Your client, Kennedy, is considering an investment in an existing partnership and is interested in knowing how her investment will be accounted for. You have explained to your client that an investment in a partnership may be accounted for by either the bonus method or the goodwill method.
Your client has posed the following questions regarding these methods:
1. How do the methods differ with respect to how asset write-downs are accounted for?
2. How is goodwill traceable to the original partnership accounted for under the bonus method?
3. How is it possible that a new partner’s initial capital balance may be more than the value of the net assets that the partner contributed to the partnership?
4. Which method would be most appropriate if the allocation of profits is based in part on interest on capital balances?
5. Assume that the goodwill method was used to recognize appreciated assets traceable to the original partners. If the value of these assets were erroneously overstated and subsequently restated, how would the end result differ from that which would have existed had the bonus method been used? Provide a response to your client’s questions.