Question

Tom, Jerry and Donald started off a partnership firm on July 31, 2018. They decided to share profits equally, but also inserted a clause in the partnership agreement whereby any loss suffered would be borne in the ratio 3:2:1. For the year ended December 31, 2018, the firm earned a net income of $45,000. However, for the year ended December 31, 2019, the firm incurred a loss of $60,000. Assuming that Donald had an initial capital contribution of $40,000 and made no further withdrawals. What is the balance of Donald's Capital account as of December 31, 2019? (Assume that none of the partners made any further contributions to their capital accounts.)

a) $5,000
b) $15,000
c) $25,000
d) $35,000

Answer 1

The balance of Donald's Capital account as of December 31, 2019 is $35,000.

Step-by-step explanation:

To calculate the balance of Donald's capital account as of December 31, 2019, we need to consider the profit and loss sharing ratio mentioned in the partnership agreement. The ratio for sharing profits is equal (1:1:1) for all partners. However, in case of losses, the ratio is 3:2:1.

For the year 2018, the firm earned a net income of $45,000, which is divided equally among the partners. So, each partner would receive $15,000.

For the year 2019, the firm incurred a loss of $60,000. According to the loss-sharing ratio, the loss of $60,000 would be borne in the ratio 3:2:1. This means that Donald's share of the loss would be $20,000.

To calculate the balance of Donald's capital account, we need to consider his initial capital contribution of $40,000, the profit allocation of $15,000, and the loss allocation of $20,000.

Balance of Donald's capital account = Initial capital contribution + Profit allocation - Loss allocation.

Balance of Donald's capital account = $40,000 + $15,000 - $20,000 = $35,000.

Therefore, option d) $35,000 is the correct balance of Donald's capital account as of December 31, 2019.