Accounting for Advanced Accruals
The transactions and closing entry are shown in T-accounts as follows:
Illustration 6-5: T-accounts for illustration #1 about bad debt expense
| Assets |
= |
Liabilities |
+ |
Equity |
||
| Cash |
|
0 |
|
Retained Earnings |
||
| (2) 1,800 |
|
|
|
|
|
(cl.) 2,800 |
| Bal. 1,800 |
|
|
|
|
|
Bal. 2,800 |
|
|
|
|
|
|
||
| Accounts Receivable |
|
|
|
Services Revenue |
||
| (1) 3,000 |
(2) 1,800 |
|
|
(cl.) 3,000 |
(1) 3,000 |
|
| Bal 1,200 |
|
|
|
|
|
Bal. 0 |
|
|
|
|
|
|
||
| Allowance for Doubtful |
|
|
|
Bad Debts Expense |
||
| Accounts |
|
|
|
(3) 200 |
(cl.) 200 |
|
|
|
(3) 200 |
|
|
|
Bal. 0 |
|
|
Bal. 200 |
|
|
|
|
|
Three financial statements are shown below in the horizontal model:
Illustration 6-6: Financial statements for illustration #1 in the horizontal model
Financial Statements for 20X7 |
|||||
| Income Statement |
Balance Sheet |
Statement of Cash Flows |
|||
|
|
|
|
|
|
|
| Service Revenue |
3,000 |
Assets |
|
Operating Activities: |
|
| Bad Debt Expense |
(200) |
Cash |
1,800 |
Cash Receipts |
1,800 |
|
|
|
Accounts Receivable |
1,200 |
|
|
| Net Income |
2,800 |
Less: Allowance |
(200) |
Investing Activities: |
0 |
|
|
|
Net Realizable Value |
1,000 |
Financing Activities: |
0 |
|
|
|
Total Assets |
2,800 |
|
|
|
|
|
|
|
Net Change in Cash |
1,800 |
|
|
|
Equity |
|
|
|
|
|
|
Retained Earnings |
2,800 |
Beginning Cash Balance |
0 |
|
|
|
|
|
Ending Cash Balance |
1,800 |
|
|
|
|
|
|
|
6.3 Illustration #2 of accounting for allowance for doubtful accounts
In the previous illustration we assumed the amount of allowance for doubtful accounts ($200). However, how is it estimated in real life? Usually, accountants use data from previous periods and adjust it to the current period situation. For example, in prior periods uncollectible receivables were 5% of the gross accounts receivable balance. This is an example of historical data usage. In addition, for this period, it is expected that a larger amount will not be collected because there were many purchases by customers with bad credit history. This is an example of adjusting to the current period situation. Taking the two factors into account, the company's management decides to increase this percentage to 7 (%). So, if the company has an ending balance of the accounts receivable of $10,000, then the allowance for doubtful debts will be $700 (i.e., $10,000 x 7%). The net realizable value will be $9,300 ($10,000 - $700). Remember that the net realizable value is included in total assets in the balance sheet.
Let us go on to transactions in the next accounting period (20X8). The company:
- Wrote off an uncollectible accounts receivable in amount of $150.
- Provided $2,000 of training services on account during the period.
- Recovered a part ($30) of bad debt expense that was written-off.
- Recognized bad debts expense for 20X8.
Page 3 of 9
Location