Accounts Receivable
One of the key factors underlying the growth of the American economy is the trend toward lling goods and rvices on credit. Accounts receivable compri the largest financial ast of many merchandising companies.
Accounts receivable are relatively liquid asts, usually converting into cash within a period of 30 to 60 days. Therefore, accounts receivable from customers usually appear in the balance sheet immediately after cash and short-term investments in marketable curities.
UNCOLLECTIBLE ACCOUNTS
Accounts receivable are shown in the balance sheet at the estimated collectible amount—called net realizable value. No business wants to ll merchandi on account to customers who will be able to pay. Many companies maintain their own credit departments that investigate the creditworthiness of each prospective customer. Nonetheless, if a company makes credit sales to hundreds—perhaps thousands—of customers, some accounts inevitably will turn out to be uncollectible.
A limited amount of uncollectible accounts is not only expected—it is evidence of a sound credit policy. If the credit department is overly cautious, the business may lo many sales opportunities by rejecting customers who should have been considered acceptable credit risks.
THE ALLOWANCE FOR DOUBTFUL ACCOUNTS
There is no way of telling in advance which accounts receivable will prove to be uncollectible. It is therefore not possible to credit the accounts of specific customers for our estimate of probable uncollectible accounts. Neither should we credit the Accounts Receivable control account in the general ledger. If the Accounts Receivable control accounts were to be credited with the estimated amount of doubtful accounts, this control account would no longer be in balance with the total of the numerous customers’ accounts in the subsidiary ledger. A practical alternative therefore is to credit a parate account called Allowance for Doubtful Accounts with the amount estimated to be uncollectible.
The Allowance for Doubtful Accounts often is described as a contra-ast account or a valuation account. Both of the terms indicate that the Allowance for Doubtful Accounts has a credit balance, which is offt agabilities
ainst the ast Accounts Receivable to produce a more uful and reliable measure of a company’s liquidity. Becau the Allowance for Doubtful Accounts is merely an estimate and not a preci calculation, professional judgment plays a considerable role in determining the size of this valuation account.
Monthly Adjustment of the Allowance Account In the adjusting entry made by World Famous Toy Co. at January 31, the amount of the adjustment ($10,000) was equal to the estimated amount of uncollectible accounts. This is true only becau Januar肉肉文章
y was the first month of operations and this was the company’s first estimate of its uncollectible accounts. In future months, the amount of the adjusting entry will depend on two factors: (1) the estimate of uncollectible accounts and (2) the current balance in the Allowance for Doubtful Accounts. Before we illustrate the adjusting entry for a future month, let us e why the balance in the allowance account may change during the accounting period.
WRITING OFF AN UNCOLLECTIBLE ACCOUNT RECEIVABLE
Whenever an account receivable from a specific customer is determined to be uncollectible, it no longer qualifies as an ast and should be written off. To write off an account receivable is to reduce the balance of the customer’s account to zero. The journal entry to accomplish this consists of a credit to the Accounts Receivable control account in the general ledger (and to the customer’s account in the subsidiary ledger) and an offtting debit to the Allowance for Doubtful Accounts.
To illustrate, assume that, early in February, World Famous Toy Co. learns that Discount Stores has gone out of business and that the $4,000 account receivable from this customer is now worthless. The entry to write off this uncollectible account receivable is:
Allowance for Doubtful Accounts………………… 4,000
Accounts Receivable (Discount Stores)…………………… 4,000
To write off the account receivable from Discount Stores as uncollectible.
The important thing to note in this entry is that the debit is made to the Allowance for Dou
btful Accounts and not to the Uncollectible Accounts Expen account. The estimated expen of credit loss is charged to the Uncollectible Accounts Expen account at the end of each accounting period. When a specific account receivable is later determined to be worth辅犀骨
less and is written off, this action does not reprent an additional expen but merely confirms our previous estimate of the expen. If the Uncollectible Accounts Expen account was first charged with estimated credit loss and then later charged with proven credit loss, we would be double-counting the actual uncollectible accounts expen.
