Final answer:
Purchased goodwill arises from the acquisition of another business and is recorded on a balance sheet, while internally generated goodwill comes from a company's own efforts to build its brand and is not recorded in financial statements.
Step-by-step explanation:
Purchased goodwill is an intangible asset that appears on a company's balance sheet if the company has acquired another business and paid more than the fair value of the net identifiable assets (assets minus liabilities). This type of goodwill is associated with the acquisition process and the premium paid over and above the net assets of the acquiree. It is recognized in financial statements and is subject to annual impairment tests.
Internally generated goodwill, on the other hand, reflects non-monetary value that a business develops from within over time, such as brand reputation, customer loyalty, or intellectual property. This form of goodwill is not recorded on the balance sheet, primarily because it is difficult to quantify and it does not originate from a transaction involving a purchase. Internally generated goodwill is created through effective internal management and cannot be sold separately from the business.
Differentiate between purchased goodwill and internally generated goodwill: The main differences lie in their origin, the ability to record them in the financial statements, and the way their values are determined. Content loaded with these distinctions helps understand how businesses reflect the value of goodwill in their finances.