Bad Debts and Profit & Loss Statements


M

Mulligan

Hi,

Need your help on a basic question on balance sheets and profit and loss
statements.

Suppose a company ABC sells some equipment for USD 10,000 on 60 days credit
on May 1.

In the financial statements of ABC, the amount of USD 10,000 is shown as
Sales in the profit and loss statement and also accounts receivable in the
balance sheet.

It is June 30 and the closing of the quarterly accounts. ABC has not
received the USD 10,000 on its due date due to various reasons.
ABC decides to specify the 10,000 as Bad Debts in the P & L and releases the
financial statements.


A few months later, the buyer decides to pay back the 10,000 that they owed
ABC.

How does ABC record this in the financial statement (especially the P&L).
They have already specified it as Bad Debts in the P&L.
How does ABC show this 'unexpected' income.

Its easy to put this in the Cash Flow statement as Cash in - but how about
the P & L.


Regards
 
Ad

Advertisements

J

john

Mulligan said:
Hi,

Need your help on a basic question on balance sheets and profit and loss
statements.

Suppose a company ABC sells some equipment for USD 10,000 on 60 days credit
on May 1.

In the financial statements of ABC, the amount of USD 10,000 is shown as
Sales in the profit and loss statement and also accounts receivable in the
balance sheet.

It is June 30 and the closing of the quarterly accounts. ABC has not
received the USD 10,000 on its due date due to various reasons.
ABC decides to specify the 10,000 as Bad Debts in the P & L and releases the
financial statements.


A few months later, the buyer decides to pay back the 10,000 that they owed
ABC.

How does ABC record this in the financial statement (especially the P&L).
They have already specified it as Bad Debts in the P&L.
How does ABC show this 'unexpected' income.

Its easy to put this in the Cash Flow statement as Cash in - but how about
the P & L.


Regards
hint: examine the "allowance for bad debts" account
 
D

DGG

If the debt was directly written off, that is, no "allowance for bad
debts" contra asset acount is used, the original entry would have
been:

Bad debts expense 10,000
Accts Receivable 10,000


When payment from XYZ is actually received the reversing entry would
be:

Cash 10,000
Bad debts expense 10,000



However, if proper accounting was used and a contra receivable account
was in place, the entry would have been

Allow for bad debts 10,000
Accts Receivable 10,000

When the cash was received the entry would be

Cash 10,000
Allow for bad debts 10,000


Keep in mind that with the allowance for bad debts accounts an
estimate is made each period for bad debts based on the company
history and business judgement. This better "matches" the bad debt to
the period in which is actually occurred.

DGG
"I am not a bigot: I hate everyone, separately, but equally"
 
T

The Prophet, Bubba Hoshimoto

If the allowance method allows for better matching, than how does the entry
(debiting allowance, crediting A/R) make any sense? Matching is intended to
match expenses and income, and the entry you've made has no impact on the
income statement. The more appropriate entry would have been to debit bad
debts expense and credit allowance for bad debts, would it not? That's the
point of the allowance - to act as a credit against accounts receivable and
show that not all of it might be collectible.
 
J

JD

You obviously have no knowledge of financial accounting. This is not about
the income statement. This is about the balance sheet. Assets = Total
Liability and Equity. Thus the bad debts expense is a liability and AR is an
asset.
What DGG wrote is correct.
 
Ad

Advertisements

J

JD

One thing I forgot to mention. What you do to one side of the balance sheet
must be done to the other. In a manner of speaking.
 
T

The Prophet, Bubba Hoshimoto

You're obviously a bit of a jerk.

"The matching concept focuses on income determination; its goal is to
ensure the recognition of expenses in the period they contribute to the
generation of revenue."

He's the one that mentioned matching. Matching relates to the income
statement.

The way he talked about doing an allowance for bad debts is wrong. There
has to be an income statement impact, to bad debts expense, otherwise it's
meaningless. All he's done is allocate some A/R to the allowance, with the
allowance then showing up as a debit.

"It is also called Allowance for Doubtful Accounts. It is an estimate of
uncollectible customer accounts. It is called a "contra" account because it
is listed with the current assets on the balance sheet although it is a
credit balance account. The account balance is determined through use of the
Historical Method or Over 90 Days Past Due Method."

I think you need to pull your head out of your ass. Unless you're trolling,
in which case I took the bait.
 
J

John

DGG (generic guy) is correct, he just did not show the original entry
creating the allowance account which impacts the income statement.
 
T

The Prophet, Bubba Hoshimoto

John said:
DGG (generic guy) is correct, he just did not show the original entry
creating the allowance account which impacts the income statement.
Ok, that's more like it. After thinking about it, I suspected we weren't
talking about the same thing exactly.
 
D

DGG

Geez, I'm going to print these out and show them to my wife. She
thinks I'm wrong about EVERYTHING.

DGG
"Accounting is 50 percent science, 50% art, and 50% attention to
detail"
 
Ad

Advertisements

D

DGG

Thank you for this insight. A strong, comprehensive
credit/collections policy is critical to a company involved in selling
on credit for many reasons. Mostly because the cycle starts with
salespeople/marketing.

I didn't into the policies/thoughts behind this because there isn't
enough information. As a normal course of business you wouldn't write
off a receivable that is one day past due. However, it could be that
the customer is insolvent and there is no reasonable expectation that
payment will be made. The "various reasons" may be valid enough to
require the write-off.

By the way, the credit/collections policy that I wrote for a national,
publicly traded company is available for a reasonable price. I,
however, require cash on the barrelhead.

DGG
"Stop me before I debit again!!!!"
 
S

Stephanie Serba

First, I think it is pushing the envelope to be writing it off as a bad debt
within days of it going over 60.

Second, as others have posted:

If you use an Allowance for Bad Debts on the Balance Sheet then you post as
follows:

Allowance for Bad Debts 10,000.00
Accounts Receivable 10,000.00

Then, at the end of the year, you would offset that:

Bad Debt Expense 10,000.00
Allowance for Bad Debts 10,000.00

Remembering that you would also add to the amounts immediately above any
other bad debts written off during the year. You would then be
re-establishing your full Allowance and accounting for the write-offs on the
P&L. Then you would post the recovery of the funds as a debit to Cash and a
credit to the Allowance for Bad Debts prior to year-end. This would
eliminate the need to post to the Expense account barring other defaulting
amounts.

If you do NOT use an Allowance for Bad Debts:

Bad Debt Expense 10,000.00
Accounts Receivable 10,000.00

In which case your recovery of the Bad Debt would be posted as either of the
two following:

Cash 10,000.00
Bad Debt Expense 10,000.00

or

Cash 10,000.00
Recovered Bad Debt 10,000.00


Personally, I have always worked with a company which maintains an Allowance
for Bad Debts account, so I have always posted each bad debt to the
Allowance as it happens, then to the expense account at the end of the year.
Then posted any recovered funds to the Recovered BD account.


--
Stephanie Serba, AICIA
Partner, Durham Business Outsource
Accounting & Technology
www.dbo.ca
(e-mail address removed)
REMOVE NOSPAM TO REPLY
 
S

Sarah Berel-Harrop

Bad Debt expense is an Operating Expense.

So in the first period, you debited Bad Debt Expense,
which is an operating expense.

In the second period, you credit Bad Debt expense,
which is an operating expense.

(Or more properly, it's the correction of an error,
but let's not even go there)

But understand that what you are describing is not
GAAP. That is what everyone here is trying to tell
you. The GAAP thing to do is to estimate the bad
debt expense in the period of the sales (eg % of
revenues) or using a balance sheet approach you
analyze the A/R aging and you reduce net A/R (A/R +
allowance, which is a contra-asset) to the Net
Realizable Value. This is done periodically, say
annually. Then when you have a specific write-off
you write-off against the allowance. If the account
is recovered you restore the receivable through the
allowance. The only entries that affect the P & L
are your periodic adjustments to the allowance.
 
S

Sarah Berel-Harrop

I realize this is open to misconception. At the end
of the day, the net A/R should be stated at Net
realizable value, whether you use the A/R approach
or the % of sales approach. Naturally, the allowance,
and hence the Net A/R, is an estimate.
 
N

No One

Bad Debts expense is not a liability. It is an operating expense and goes on
the income statement.

Accounts Receivable is an asset and goes on the Balance Sheet.

The
 
Ad

Advertisements

S

Sarah Berel-Harrop

No One said:
You're wrong.
Wrong is not the right word for it. You're
articulating the textbook solution. Sloppy
is a better word.

Your ledger and DGG's ledger are identical
at the end. He's skipping some entries to
the subsidiary ledger. (reinstatement of the
A/R, recording of the receipt). If one's company
doesn't actually need this information, one
can skip these steps. It is sloppy though because
the customer's records are not updated. The
A/R reflects the customer as unpaid, and a write-
off, which is not correct. But say you are auditing
a company and you see this. You ask and you
get the answer, say oh, ok, that is not such a
good idea, but you don't make them re-do it.
 
P

Paul A. Thomas

No One said:
You're wrong.

If no one said I'm wrong, does that mean I'm right?


--
Paul A. Thomas, CPA
Athens, Georgia
(e-mail address removed)
WARNING: This post may contain violent
punctuation, explicit grammatical errors,
and a shocking ending with a preposition.
 
S

Sally Choise

If you don't have any 'real' accounting experience (only book
knowledge) don't make statements like "you're wrong".

When and if you complete your studies and if you look back at your
statements, you'll come to the same conclusion as others "you're an
idiot for saying you're wrong".

Accounting is a science and an art. The more you understand the
client and the nature of transactions, the more you'll be able to come
up with simple, yet intuitve answers, to their complex situations.
 
Ad

Advertisements

D

DrumDesigner

Sally,
I totally agree with you. It's par for the course with students (or
those beginning their study of accounting) who have new knowledge. In study
groups, I've seen students aggressively argue a position as far as the right
accounting treatment of a given transaction. I find it interesting that the
group learns from each other and finds the ultimate right answer (well,
according to GAAP anyway). I do believe accounting is both a science and an
art form. Once the requisite knowledge is obtained, we realize that there
are "exceptions" to those basic principles we all learned that may pertain
to an individual business or business situation. Obviously, concepts such as
materiality and representational faithfulness have a lot to do with some
choices, which could be a reason why someone would pick the direct write-off
method versus the allowance method. Some small business use the direct
write-off method simply because the amount to be written off is below the
threshold of materiality and is reasonably infrequent. So even though that
method is not considered GAAP, there are situations where it is acceptable
to use it. The strange thing with "book" learning is that we learn the basic
principles and underlying framework. However, in the real world, things can
be adjusted, changed, or altered to fit the clients accounting needs. Of
course, this is all within reasonable parameters of acceptability!
Drum
 

Ask a Question

Want to reply to this thread or ask your own question?

You'll need to choose a username for the site, which only take a couple of moments. After that, you can post your question and our members will help you out.

Ask a Question

Top