allowance for bad debts

Examples of allowance for bad debts in the following topics:

• Classifying Receivables

  • To encourage this, businesses can offer a discount for early payment.
  • On a company's balance sheet, receivables can be classified as accounts receivables or trade debtors, bills receivable, and other receivables (loans, settlement amounts due for non-current asset sales, rent receivables, term deposits).
  • Not all accounts receivables will be paid, and an allowance has to be made for bad debts.
  • The allowance for bad debts can be calculated either as the percentage of net credit sales or by the ageing method of estimating bad debts.
  • The Accounts Receivable Age Analysis Printout, also known as the Debtors Book is divided in categories for current, 30 days, 60 days, 90 days, 120 days, 150 days,180 days, and overdue.

• Valuing Accounts Receivable

  • Companies use two methods to account for bad debts: the direct write-off method and the allowance method.
  • For tax purposes, companies must use the direct write-off method, under which bad debts are recognized only after the company is certain the debt will not be paid.
  • Smith fails to pay a $100 balance, for example, the company records the write-off by debiting bad debts expense and crediting accounts receivable from J.
  • Under the allowance method, an adjustment is made at the end of each accounting period to estimate bad debts based on the business activity from that accounting period.
  • Since the specific customer accounts that will become uncollectible are not yet known when the adjusting entry is made, a contra-asset account named allowance for bad debts, which is sometimes called allowance for doubtful accounts, is subtracted from accounts receivable to show the net realizable value of accounts receivable on the balance sheet.

• Dealing with Foreign Currency and Bad Debts

  • To deal with bad debts, companies have two methods available to them for measuring the net value of accounts receivable, which is generally computed by subtracting the balance of an allowance account from the accounts receivable account.
  • The first method is the allowance method, which establishes a contra-asset account, allowance for doubtful accounts, or bad debt provision, that has the effect of reducing the balance for accounts receivable.
  • The allowance for bad debt/doubtful accounts is a permanent account.
  • It is simpler than the allowance method in that it allows for one simple entry to reduce accounts receivable to its net realizable value.
  • Explain how the "gain or loss" account is used for foreign currency transactions and bad debts

• Valuing Notes Receivable

  • The first method is the allowance method, which establishes a contra-asset account, allowance for doubtful accounts, or bad debt provision, that has the effect of reducing the balance for accounts receivable.
  • The amount of the bad debt provision can be computed in two ways:
  • It is simpler than the allowance method in that it allows for one simple entry to reduce accounts receivable to its net realizable value.
  • The entry would consist of debiting a bad debt expense account and crediting the respective accounts receivable in the sales ledger.
  • Differentiate between the allowance method and the write off method for valuing notes receivable

• Recognizing Notes Receivable

  • The first method is the allowance method, which establishes a contra-asset account, allowance for doubtful accounts, or bad debt provision, that has the effect of reducing the balance for accounts receivable.
  • The amount of the bad debt provision can be computed in two ways, either (1) by reviewing each individual debt and deciding whether it is doubtful (a specific provision); or (2) by providing for a fixed percentage (e.g. 2%) of total debtors (a general provision).
  • The change in the bad debt provision from year to year is posted to the bad debt expense account in the income statement.
  • This second method is simpler than the allowance method in that it allows for one simple entry to reduce accounts receivable to its net realizable value.
  • The two methods are not mutually exclusive, and some businesses will have a provision for doubtful debts, writing off specific debts that they know to be bad (for example, if the debtor has gone into liquidation. )

• Activities to Manage Receivables

  • The first method is the allowance method, which establishes a contra-asset account, allowance for doubtful accounts, or bad debt provision, that has the effect of reducing the balance for accounts receivable.
  • The amount of the bad debt provision can be computed in two ways, either (1) by reviewing each individual debt and deciding whether it is doubtful (a specific provision) or (2) by providing for a fixed percentage (e.g. 2%) of total debtors (a general provision).
  • The change in the bad debt provision from year to year is posted to the bad debt expense account in the income statement.
  • It is simpler than the allowance method in that it allows for one simple entry to reduce accounts receivable to its net realizable value.
  • The entry would consist of debiting a bad debt expense account and crediting the respective accounts receivable in the sales ledger.

• Defining Accounts Receivable

  • Companies have two methods available to them for measuring the net value of accounts receivable, which is generally computed by subtracting the balance of an allowance account from the accounts receivable account.
  • The first method is the allowance method, which establishes an allowance for doubtful accounts, or bad debt provision, that has the effect of reducing the balance for accounts receivable.
  • The amount of the bad debt provision can be computed in two ways:
  • It is simpler than the allowance method in that it allows for one simple entry to reduce accounts receivable to its net realizable value.
  • The entry would consist of debiting a bad debt expense account and crediting the respective accounts receivable in the sales ledger.

• Write-Offs

  • This phenomenon is known, in the realm of accounting, as bad debt.
  • The entry would consist of debiting a bad debt expense account and crediting the respective accounts receivable in the sales ledger.
  • The bad debt is recognized as an expense at the point when judged to be uncollectible.
  • When using the allowance method, an estimate is made at the end of each fiscal year of the amount of bad debt.
  • Note that the allowance method is the required method for federal income tax purposes (GAAP).

• Total Debt to Total Assets

  • The debt ratio is expressed as Total debt / Total assets.
  • For example, a company with 2 million in total assets and 500,000 in total liabilities would have a debt ratio of 25%.
  • Debt ratios measure the firm's ability to repay long-term debt.
  • The debt/asset ratio shows the proportion of a company's assets which are financed through debt.
  • A company with a high debt ratio (highly leveraged) could be in danger if creditors start to demand repayment of debt.

• Return on Common Equity

  • A company with a high ROE does a good job of turning the capital invested in it into profit, and a company with a low ROE does a bad job.
  • However, like many of the other ratios, there is no standard way to define a good ROE or a bad ROE.
  • ROE can also be broken down into other components for easier use.
  • Breaking ROE into parts allows us to understand how and why it changes over time.
  • Increased debt will make a positive contribution to a firm's ROE only if the matching return on assets (ROA) of that debt exceeds the interest rate on the debt.