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15-2 Accounts Receivable and Uncollectible Accounts Section 1: The Allowance Method Of Accounting For Uncollectible Accounts Chapter 15 Section Objectives 1. Record the estimated expense from uncollectible accounts receivable using the allowance method. 2. Charge off uncollectible accounts using the allowance method. 3. Record the collection of accounts previously written off using the allowance method.

15-3 Methods used for writing off accounts that are determined to be uncollectible include the: Allowance Method Direct Charge-Off Method Losses from uncollectible accounts are a normal cost of doing business. Bad Debts

15-4 Allowance Method Estimates losses from uncollectible accounts. Matches uncollectible accounts expense to sales. Uses a valuation account (Allowance for Doubtful Accounts), a contra asset account which reduces the amount of accounts receivable shown on the balance sheet to its “net realizable value.”

15-5 The direct charge-off method is the method of recording uncollectible account losses as they occur. It is also the method used for tax purposes as the Allowance Method is not allowed since it would result in an estimated expense on the tax return. ANSWER : QUESTION : What is the direct charge-off method?

Debit Credit Dec 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts To record estimate of bad debts expected Recording the adjusting entry to record Uncollectible Accounts Expense is based on an estimate of bad debts for the period Using the Allowance Method

15-7 Allowance for Doubtful Accounts  Is a Contra-asset account  Is reported as a subtraction from the Accounts Receivable account on the Balance Sheet  Contains the estimate of accounts receivable deemed uncollectible Uncollectible Accounts Expense  Is reported on the Income Statement as an expense account Allowance Method of recording bad debts uses two new accounts:

15-8 Current Assets: Cash$ 9,320 Accounts Receivable $46,400 Less Allowance for Doubtful Accounts 1,900$44,500 On the Balance Sheet the balance in the Allowance account is subtracted from the balance in Accounts Receivable $44,500 is the amount actually expected to be collected from customers Kathy’s Kitchens Balance Sheet (partial) December 31, 2012

15-9 Percentage of net credit sales Aging the accounts receivable Percentage of total accounts receivable There are three ways to estimate uncollectible accounts expense: When using the Allowance Method

15-10 Third method of estimating your expected uncollectible accounts is by Aging the Accounts Receivable Classify accounts receivable according to how long they have been outstanding The longer an account is past due, the less likely it is to be collected Aging the Accounts Receivable

15-11 Aging the Accounts Receivable

15-12 Over 60 days past due 0.60 X 2, $ 1, Total estimated loss from doubtful accounts $ 2, Aging the Accounts Receivable 31–60 days past due0.20 X 1, –30 days past due0.06 X 7, Current X 38,

15-13 Allowance for Doubtful Accounts is adjusted so that its ending balance is a $2,370 credit balance. Assume the beginning balance in the Allowance account is $108 credit. QUESTION: What is the amount of the adjustment? ANSWER: Total estimated expense + or – beginning balance $2,370 Credit Credit $2, Credit

15-14 Income Statement Balance Sheet No effect on net income Assets Contra assets No effect on net equity Writing Off a Specific Account

Reinstate the account receivable. 2. Record the collection of cash. Occasionally an account that was written off is later collected Two entries are necessary: Record the collection of accounts previously written off under the allowance method Objective 3

15-16 Accounts Receivable and Uncollectible Accounts Section 2: Applying the Direct Charge-off Method and Internal Control of Accounts Receivable. Chapter 15 Section Objectives 4. Record losses from uncollectible accounts using the direct charge- off method. 5. Record the collection of accounts previously written off using the direct charge-off method. 6. Recognize common internal controls for accounts receivable.

15-17 Direct Charge-Off Method Does not match revenue and expenses (Matching Principle). Can overstate accounts receivable on the balance sheet. The only method allowed for income tax purposes.

15-18 Any company that extends credit is likely to have some type of uncollectible receivable. As with accounts receivable, notes receivable and other receivables can prove uncollectible. Losses from uncollectible notes receivable and other receivables can be handled by the direct charge-off method or the allowance method. Accounting for Other Receivables and Bad Debt Losses

15-19 Authorization of all credit sales. Procedures to properly record sales. Separation of duties. Invoices and monthly statements. Internal Control of Accounts Receivable Objective 6 Recognize common internal controls for accounts receivable

15-20 Authorize charge-off of accounts. Aging of accounts receivable. Internal Control of Accounts Receivable Investigation of past due accounts. Written approval of all write-offs. Continued efforts to collect written-off accounts.