Bad debts and Provision for Bad debts Bad
Bad debts and Provision for Bad debts
Bad Debts • When the firm finds that it is impossible to collect a debt, that debt should be written off as a bad debt. • Accounting Entries: Dr Bad Debts Cr Debtor With the irrecoverable amount of a debt
Example • During the year, a company sold goods for $2, 000 to Mr. Lee, $1, 500 to Mr. Wong and $300 to Mr. Wu. • Mr. Lee and Mr. Wong paid the company $800 and $1, 000 respectively • Later, Mr. Wong and Mr. Wu became bankrupt, and it is impossible for the company to collect these debts. • The company decided to write these off as bad debts.
Mr. Lee Sales $ 2, 000 Bank Balance c/d 2, 000 $ 800 1200 2, 000 Mr. Wong Sales $ 1, 500 Bank Bad Debts 1, 500 $ 1, 000 500 1, 500 Mr. Wu Sales $ 300 Bad Debts $ $ Mr. Wong Mr. Wu 500 300 800 Profit & Loss Acc 800
B. Bad Debts Recovered • Bad debts recovered refers to debts formerly written off to be recovered later.
Accounting entries Dr Debtors Cr Bad Debts Recovered With the debt reinstated in the debtor’s account Dr Cash/Bank Cr Debtors With the amount received Dr Bad Debts Recovered Cr Bad Debts OR Dr Bad Debts Recovered Cr Profit and Loss With the debt written off in this year to be recovered OR With the debt written off in a previous year to be recovered
Example • The following balances were part of the trial balance of Mr. Chan on 31 December 2006: $ Debtors 10, 000 Bad Debts 1, 000 • During the year, Mr. Chan received $300 and $1, 200 from debtors, whose debts had been previously written off as bad debts in the current year and last year respectively. No entry has been made for these transactions
2006 Dec 31 Debtors 2006 Dec 31 Bal b/d Dec 31 B. D. R. 2006 Dec 31 Bal b/d 2006 Dec 31 Bad Debt Dec 31 P & L Bank $ 1, 500 Debtors $ 2006 $ 10, 000 Dec 31 Bank 300 1, 200 Bad Debt 1, 500 $ 2006 1, 000 Dec 31 B. D. R. Dec 31 P & L 1, 000 Bad Debt Recovered $ 300 1, 200 1, 500 2006 Dec 31 Debtors $ 300 700 1, 000 $ 300 1, 200 1, 500
Profit and Loss Account for the year ended 31 December (Extract) 2006 Gross profit Add: Bad Debt Recovered $ Less: Expenses Bad Debt 700 $ X 1, 200
C. Provision for Bad / Doubtful Debts • A provision for bad and doubtful debts may be made when a firm thinks that there will be problems in recovering a debt.
Accounting entries Increase in provision Dr Profit and Loss Cr Provision for Bad Debts 1. Decrease in provision Dr Provision for Bad Debts Cr Profit and Loss With the increase in the amount of provision for bad debts 2. With the decrease in the amount of provision for bad debts
Increase in provision for bad debts Example A firm decided to make a provision for bad debts at 10% of the debtors’ accounts which totaled $50, 000 on 31 December 2004. On 31 December 2005, the debtors accounts totaled $60, 000. The firm maintained the provision at 10% of its total debtors.
Provision for Bad Debts 2004 $ Dec 31 Balance c/d 2004 5, 000 $ Dec 31 Profit and loss 5, 000 ($50, 000 * 10%) Profit and Loss Account for the year ended 31 December (Extract) 2004 $ Gross profit $ X Less: Expenses Increase in provision for bad debt 5, 000 Balance Sheet as at 31 December (Extract) 2004 Current Assets 50, 000 Debtors Less: provision for bad debt 5, 000 45, 000
Provision for Bad Debts 2004 $ Dec 31 Balance c/d 2004 5, 000 $ Dec 31 Profit and loss 5, 000 ($50, 000 * 10%) 2005 Jan 1 Dec 31 Balance c/f ($60, 000*10%) 6, 000 Balance b/d Dec 31 Profit and Loss 5, 000 1, 000 6, 000 Profit and Loss Account for the year ended 31 December (Extract) Gross profit 2004 $ $ X Less: Expenses Increase in provision for bad debt 5, 000 2005 $ $ X 1, 000
Balance Sheet as at 31 December (Extract) Current Assets 2004 50, 000 Debtors Less: provision for bad debt 5, 000 45, 000 2005 60, 000 6, 000 54, 000
Decrease in Provision for bad debts Example The debtors’ accounts on 31 December 2006 totaled $40, 000. The firm decided to maintain the provision at 10% of the total debtors.
Provision for Bad Debts 2004 $ Dec 31 Balance c/d 5, 000 2004 $ Dec 31 Profit and loss 5, 000 ($50, 000 * 10%) 2005 Jan 1 Dec 31 Balance c/f ($60, 000*10%) 6, 000 Balance b/d Dec 31 Profit and Loss $ Dec 31 Profit and Loss 31 Balance c/f 2, 000 ($40, 000*10%) 4, 000 6, 000 1, 000 6, 000 2006 5, 000 2006 Jan 1 Bal b/f $ 6, 000
Profit and Loss Account for the year ended 31 December (Extract) 2004 $ $ Gross profit X Add: Decrease in provision for bad debts Less: Expenses Increase in provision for bad debt 5, 000 2005 $ $ X 2006 $ $ X 2, 000 1, 000 Balance Sheet as at 31 December (Extract) 2004 Current Assets 50, 000 Debtors Less: provision for bad debt 5, 000 45, 000 2005 2006 60, 000 6, 000 54, 000 40, 000 4, 000 36, 000
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