BAD DEBTS WRITTEN OFF
Bad debt: The amount which is not recoverable from debtors is called as Bad debt. It is also termed as Uncollectible amount. Bad debt is total loss to the firm, and it records in debit side of income statement.
Methods of Accounting treatment for Bad debts:
Accounting for bad debts is two methods, such as:
1. Allowances method:
In this method, first, we need to estimate the uncollectible (doubtful debt) receivables. This estimation procedure will depend on the respective company. For example, some companies consider on percentage of sales, some companies consider on percentage of receivables, etc. Then, Bad debts expense is recognized before the debt actually become un-collectible. The adjusting entry at the end of an accounting period to recognize estimated bad debts expense. Thus, a provision account called as "Allowances for doubtful account" is created. The below adjusting entry which is having hypothetical values as under is for example.
Dr. Bad debts expense A/c (Expenses - P/L) 20,000
Cr. Allowance for doubtful debt (Receivables - Asset) 20,000
The Allowance for doubtful debt is a contra asset A/c which will be display on balance sheet by subtracting it from Accounts receivable (debtors). For example, the debtors value was 1,50,000 before passing the above entry, then Debtors balance will be show as Rs1,30,000 after recorded the above entry. In the next period, when a debt is actually determined as uncollectible for 5,000, the below written off journal entry has to record.
Dr. Allowance for doubtful debt (Receivables - Asset) 5,000
Cr. Debtor A/c (Accounts receivable - asset) 5,000
As more and more debts are written off, the balance in the "Allowance for doubtful debt" will decrease.
If any bad debt is recovered, then, two journal entries should pass as below.
(a) Reverse the write off entry as (assume for Rs 3,000) :-
Dr. Debtor A/c (Accounts receivable - asset) 3,000
Cr. Allowance for doubtful debt (Receivables - Asset) 3,000
(b) record the receipt entry as below:-
Dr. Cash / bank A/c (asset) 3,000
Cr. Debtor A/c (Accounts receivable - asset) 3,000
2. Direct written off method:
In this method, we can directly written off bad debts, and no involvement of contra-asset A/c i.e. "Allowance for doubtful debt".
Bottom line: We can use Direct written off method for small amounts, whereas Allowances method for huge amounts.