Chapter 13 Accounting for Bad Debts 2010 Prentice

Learning Objective 1 Describing how the Bad Debts Expense account and the Allowance for Doubtful Accounts account are used to record bad debts © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-1

Bad Debts that come from credit customers who do not pay their bills Affects a company’s credit policy Cannot grant credit to just any company © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-1

Bad Debts On December 1, 2008, Corey Co. sold merchandise on account for $5, 000. On July 1, 2009, Corey Co. determines that the $5, 000 will never be collected. 2008 Dec 1 Sales of $5, 000 recorded © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater 2009 Jul 1 Debt determined to be bad Dec 31 End of fiscal year LO-1

Bad Debts Bad debts expense should be recognized in the accounting period in which the sales were made. 2008 Dec 1 Sales of $5, 000 recorded © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater 2009 Dec 31 End of fiscal year Jul 1 Debt determined to be bad LO-1

Bad Debts Solution: Estimate how many of the current sales will be uncollectible Prepare an adjusting entry 2008 Dec 1 Sales of $5, 000 recorded © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater 2009 Dec 31 End of fiscal year Jul 1 Debt determined to be bad LO-1

Allowance for Doubtful Accounts Is a contra-asset account Is subtracted from accounts receivable Accumulates expected amount of uncollectibles as of a given date © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-1

Adjusting Entry for Bad Debts General Journal Page 8 Date Account Titles and Description Dec 31 Bad Debts Expense PR Dr. Cr. XXXX Allowance for Doubtful Accounts © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater Contra-Asset Account XXXX LO-1

Balance Sheet Presentation Gross Amount Corbin Company Partial Balance Sheet December 31, 200 X Estimated to be Uncollectible Current Assets: Cash Accounts receivable $100, 000 Less: Allowance for doubtful accounts 6, 000 Merchandise inventory Total current assets © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater Total Current Assets Net Realizable Value $ 10, 400 94, 000 300, 000 $404, 400 LO-1

Net Realizable Value The amount of Accounts Receivable that is expected to be collected • Calculated by subtracting Allowance for Doubtful Accounts from Accounts Receivable • LO-1 © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater

Writing off an account General Journal Page 8 Date Jul Account Titles and Description 1 PR Dr. Cr. Allowance for Doubtful Accounts 5, 000 Accounts Receivable-Discello © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater 5, 000 LO-1

Learning Objective 2 Using the income statement approach and the balance sheet approach to estimate the amount of Bad Debts Expense © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-2

Estimating the Amount General Journal Page 8 Date Account Titles and Description PR Dec 31 Bad Debts Expense Dr. Cr. XXXX Allowance for Doubtful Accounts © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater How is this amount determined? XXXX LO-2

Income Statement Approach Bad Debts Expense = Percentage of net credit sales Focus is on measuring the expense, which is reported on Income Statement. Matching requirementignores previous balance of Allowance for Doubtful Accounts when estimating Bad Debts Expense for current period. © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-2

Exercise 13 -2 Compute Net Sales: Sales $110, 000 Sales Returns & Allowances (500) Sales Discounts (9, 500) Net Sales $100, 000 © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-2

Exercise 13 -2 © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach,

Exercise 13 -2 General Journal Page 8 Date Account Titles and Description Dec 31 Bad Debts Expense PR Dr. Cr. 4, 000 Allowance for Doubtful Accounts © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater 4, 000 LO-2

Exercise 13 -2 Any existing balance in the Allowance account is ignored. Accounts Receivable Bal. 30, 000 Allowance for Doubtful Accounts 5, 000 4, 000 Adj. $9, 000 Bal. © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-2

Balance Sheet Approach Adjusting entries are based on bringing the Allowance account to a required amount. Method is based on the Accounts Receivable amount and the aging process. © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-2

Balance Sheet Approach Net realizable value - The amount (accounts receivable – Allowance for doubtful accounts) that is expected to be collected. Focus is on determining the net realizable value of Accounts Receivable, which is reported on Balance Sheet © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-2

Learning Objective 3 Preparing an Aging of Accounts Receivable © 2010 Prentice Hall Business

Example Mayfair Co. has the following balances in its accounts at the end of 2008 Accounts Receivable Bal. 30, 000 Allowance for Doubtful Accounts 500 © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-3

The following aging schedule is prepared for the end of the year. Complete the

Example Accounts Receivable Bal. 30, 000 Allowance for Doubtful Accounts 500 2, 179 Desired balance 2, 679 © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-3

What if the Allowance account had a debit balance of $500 before adjustment? Accounts Receivable Bal. 30, 000 Allowance for Doubtful Accounts 500 3, 179 Desired balance 2, 679 © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-3

Learning Objective 4 Writing off an account using the Allowance for Doubtful Accounts method

Allowance for Doubtful Accounts When a company deems an account uncollectible, it is written off and no longer considers it an asset. When the journal entry is made, allowance for doubtful accounts and accounts receivable are reduced. Example: J. Monaco’s account balance of $500 is deemed uncollectible on June 1, 20 X 8. General Journal Page 8 Date Account Titles and Description PR Dr. Cr. 20 X 8 Jun 1 Allowance for Doubtful Accounts Receivable, J. Monaco © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater 500 LO-4

Recording Recovered Debts using Allowance for Doubtful Accounts Example: Assume J. Monaco paid half of his account balance of $500 on January 3, 20 X 9. General Journal Page 8 Date Account Titles and Description PR Dr. Cr. 20 X 9 Jan 3 Accounts Receivable, J. Monaco 250 Allowance for Doubtful Accounts 250 Restores collectible portion 3 Cash Accounts Receivable, J. Monaco 250 Records payment received © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-4

Exercise 13 -4 (a) Writing off an account using the Allowance for Doubtful Accounts

Exercise 13 -4 (a) Accts. Rec. , Angie Ring Accts. Rec. , Mike Catuc

Exercise 13 -4 (a) Accts. Rec. , Mike Catuc © 2010 Prentice Hall Business

Learning Objective 5 Using the direct write-off method © 2010 Prentice Hall Business Publishing,

Direct Write-Off Method Used when a company cannot reasonably estimate bad debt expense Uncollectible accounts are directly written off to current year’s bad debt expense The year sale was made does not matter Allowance for doubtful accounts is not used © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-5

Direct Write-Off Method Example: T. De. Stadio’s account balance of $400 is deemed to be uncollectible on May 15, 20 X 7. General Journal Page 8 Date Account Titles and Description PR Dr. Cr. 20 X 7 May 15 Bad Debts Expense Accounts Receivable, T De. Stadio 400 Wrote off account © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-5

Direct Write-Off Method Recording Recovered Debts in same year Assume T. De. Stadio paid $200 of his balance July 3, 20 X 7. Reverse the entry made prior by $200 General Journal Page 8 Date Account Titles and Description PR Dr. Cr. 20 X 7 July 3 Accounts Receivable, T De. Stadio Bad Debts Expense © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater 200 LO-5

Direct Write-Off Method Recording Recovered Debts in different year A new account- Bad Debts Recovered is used Assume T. De. Stadio paid $200 of his balance on July 3, 20 X 8. General Journal Page 8 Date Account Titles and Description PR Dr. Cr. 20 X 8 July 3 Accounts Receivable, T De. Stadio 200 Bad Debts Recovered 200 Restores collectible portion 3 Cash Accounts Receivable, T De. Stadio 200 Records payment received © 2010 Prentice Hall Business Publishing, College Accounting: A Practical Approach, 11 e by Slater LO-5