FINANCIAL ACCOUNTING

LEARNING MODULE ATTACHMENT (DO NOT COPY)

ACCOUNTING FOR ACCOUNT RECEIVABLES

Accounts Receivable:
• Result from sales on account (credit sales), not cash sales.
• May also result from credit card sales if there is a delay between when sale is made and when the cash
is received from the credit card company.

Accounting for Uncollectible Accounts:

• Not all sales on account result in cash being collected from the customer.
• Account receivable that are not collected result in an operating expense.
• The matching principle requires that this expense be recorded in the period of sale, not the period when
the account is determined to be uncollectible.
• The Allowance Method is GAAP and fulfills the matching principle.
• The Direct Write-off Method is not GAAP and may not be used unless the expense closely
approximates the expense under the Allowance Method.

Determining the Amount of Uncollectible Receivables and Bad Debt Expense:

• The Percent of Sales Method
o uses credit sales for the period to estimate bad debt expense for the period.
o sometimes referred to as the income statement method.
• The Percent of Receivables Method
o Analyses the balance in Accounts Receivable to estimate the balance in the Allowance for
Uncollectible Accounts at the end of the period.
o Sometimes referred to as the balance sheet method.

Accounts Receivable on the Balance Sheet:

• Allowance account is deducted from Accounts Receivable to determine Net Realizable Value.

Key Topics to Know

Allowance Method
The Allowance Method takes its name from the Allowance for Uncollectible Account which is used to properly
value accounts receivable until the uncollectible account receivable can be written-off.

The Allowance Method debits bad debt expense in the period when the sale is recorded and credits a contra-
asset account, Allowance for Uncollectible Accounts.
Uncollectible Accounts Expense xxx
Allowance for Uncollectible Accounts xxx

In the period in which a specific account is determined to be uncollectible, the Allowance is debited and Accounts
Receivable is credited.
Allowance for Uncollectible Accounts xxx
Accounts Receivable xxx

THIS FORM IS FOR INSTITUTIONAL PURPOSES ONLY!

Uncollectible Accounts Expense is reported on the Income Statement. The Allowance for
Uncollectible (Doubtful) Accounts is a contra asset account and is reported on the Balance Sheet as a deduction
from Accounts Receivable. The result is called Net Realizable Value:

Current Assets:
Accounts Receivable 25,000
less allowance for doubtful accounts 3,000
Net Realizable Value 22,000

Sometimes a customer will pay the accounts receivable after it was written off. Recording the receipt of cash is
always a two-step process: first, the account receivable is reinstated (added back into the general ledger) and
second, the cash is recorded and accounts receivable is reduced for the payment.

To reinstate the accounts receivable:

Accounts Receivable xxx
Allowance for Uncollectible Accounts xxx

To apply the cash received:

Cash xxx
Accounts Receivable xxx

Example #1: Journalize the following transactions.

2011 12/31 Estimated that 7,000 of accounts receivable would become uncollectible.
2012 1/05 Wrote-off the 800 balance owed by Jane Camp and the 500 balance owed by
Friends, Inc.
3/18 Reinstated the account of Jane Camp that had been written off as Uncollectible
Solution #1

Uncollectible Accounts Expense 7,000

Allowance for Uncollectible Accounts 7,000

Allowance for Uncollectible Accounts 1,300

Accounts Receivable-Camp 800
Accounts Receivable-Friends 500

Accounts Receivable-Camp 800

Allowance for Uncollectible Accounts 800

Cash 800
Accounts Receivable-Camp 800

Methods for Estimating the Uncollectible Amount

In the period of sale, the customer that eventually will not pay, the amount that will not be paid and the period
in which the customer’s account will become uncollectible cannot be determined. Therefore, the uncollectible
accounts expense must be estimated at the end of each accounting period.

THIS FORM IS FOR INSTITUTIONAL PURPOSES ONLY!

Percentage of Sales Method

The Percent of Sales Method uses one income statement account, Sales, to estimate the change in another income
statement account, Bad Debt Expense, for the period. This is the amount of the required adjusting entry. This
method is typically used by businesses with a large number of customers with relatively uniform accounts
receivable balances.

The balance in the Allowance account is the balance in the ledger before adjustment plus the adjusting entry for
bad debt expense.

The bad debt expense for the period is calculated by multiplying the uncollectible percentage times the credit
sales in the period to determine the uncollectible accounts expense for the period. This will be the amount of the
adjusting entry.

Example #2: Uncollectible accounts expense is estimated at ¼ of 1% of net sales of P4,000,000 for the year.
The current balance in Allowance for Doubtful Accounts is P300 credit. Determine the following:
a) The uncollectible accounts expense for the year.
b) The adjusting entry to be made on December 31.
c) The balance in Allowance for Doubtful Accounts after adjustment.

Solution #2
1. 4,000,000 * .0025 = $10,000
2. Uncollectible Accounts Expense 10,000
Allowance for Uncollectible Accounts 10,000
3. 300 credit balance + 10,000 additional credit = 10,300 credit balance

Percent of Accounts Receivable Method

The Percent of Receivables Method uses the balance in one balance sheet account, Accounts Receivable, to
estimate the balance in another balance sheet account, Allowance for Uncollectible Accounts, at the end of the
period.

The adjusting entry for bad debt expense is the difference between the balance in the ledger for the allowance
account before adjustment and the estimated balance in the allowance account.

The current balance of accounts receivable is analyzed by use of an aging schedule to determine the desired
ending balance for the Allowance for Doubtful Accounts. The uncollectible accounts expense for the period is
determined based on the current (unadjusted) balance in the Allowance, the desired ending balance in the
Allowance account and any write-offs of uncollectible accounts during the period.

Allowance for Doubtful Accounts

Beginning balance
Write-offs Solve for bad debt expense
Ending balance

Bad debt expense = ending balance + write-offs – beginning balance

THIS FORM IS FOR INSTITUTIONAL PURPOSES ONLY!

However, if there have been more write-offs than expected, the balance before adjustment in the allowance
account may be a debit:

Allowance for Doubtful Accounts

Beginning balance

Write-offs Solve for bad debt expense

Ending balance

Bad debt expense = ending balance + write-offs+ beginning balance

Example #3: The balance of Allowance for Doubtful Accounts before adjustment at the end of the period is
400 debit. Based on an analysis of Accounts Receivable, it was estimated that $,000 would become uncollectible.
Determine the following:
a) The uncollectible accounts expense for the year.
b) The adjusting entry to be made of December 31.
c) The balance in Allowance for Doubtful Accounts after adjustment.

Solution #3
a) Allowance for Doubtful Accounts
Balance 400

Uncollectible accounts
expense = ?
Accounts receivable
written-off = 0

9,000 ending balance

Uncollectible accounts expense = 400 + 9,000 -0 = 9,400

b. Uncollectible accounts expense 9,400
Allowance for doubtful accounts 9,400
c. 9,000

DIRECT WRITE-OFF METHOD

The Direct Write-off Method records uncollectible accounts expense in the period when the customer’s account
is determined to be uncollectible. The entry to write-off the account receivable is

Uncollectible accounts expense xxx

Accounts receivable xxx

in the period when a specific account is determined to be uncollectible. The Direct Write-off Method violates
the matching principle because it does not match revenues and expenses in the same period.

THIS FORM IS FOR INSTITUTIONAL PURPOSES ONLY!

 LEARNING ACTIVITY # 3 – MID-TERM
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Concept Notes Laboratory Report Portfolio
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Practice Problem #1: Journalize the following transactions assuming the allowance method is used to account
for uncollectible receivables.

05/14 Received 75% of the P20,000 balance owed by Webb Co., a bankrupt
business. Wrote off remainder as uncollectible.
06/20 Reinstated the account of Zorn Co., which had been written off in the
preceding year as uncollectible. Received P5,225 cash as full payment
of Zorn’s account.
07/27 Wrote off the P2,500 balance owed by Schmich, Inc. which had no assets.
12/31 Based on an analysis of Accounts Receivable, it is determined that
P11,500 will become uncollectible. The balance in Allowance for
Doubtful Accounts on December 31 prior to adjustment is P200 credit.

Determine the following:

a) The balance in Allowance for Doubtful Accounts after adjustment.
b) The Net Realizable Value of Accounts Receivable if the balance of Accounts Receivable is
P62,000.
c) Redo the entry for 12/31 and questions a) and b) if the percent of sales method had been used
to estimate uncollectible accounts expense at the rate of ½ of 1% of net sales of P2,000,000.

THIS FORM IS FOR INSTITUTIONAL PURPOSES ONLY!