Accounting for Bad Debts: Allowance Method and Estimation

What is the direct write-off method used for in accounting?

What is the alternative method to the direct write-off method in accounting for bad debts?

What is the term used to describe an account that is only a few days late in payment?

What is the journal entry to record a write-off of a bad debt using the direct write-off method?

At what point is an account considered past due or overdue?

What is the term used to describe an account that is unlikely to be paid by the customer?

What is the purpose of evaluating accounts receivable?

What is the disadvantage of using the direct write-off method?

What is the term used to describe the amount of money that is unlikely to be paid by customers?

Why is the direct write-off method simple?

Estimating Bad Debts Expense

There are two approaches to estimate bad debts expense using the allowance method:
- Percentage of Total Receivables method
- Percentage of sales method

Consequences of Not Paying Past Due Balance

Consequences of not paying past due balance include:
- Phone calls from creditors or service providers
- Past due letters in the mail
- Discontinued service (in the case of utilities)
- Negative impact on credit score
- Legal action

Recording Customer Information

Information is a fact, thought, or data conveyed through various types of communication
Knowledge communicated or received concerning a particular fact or circumstance

Direct Write-Off Approach

The direct write-off approach involves:
- Recording the write-off of an uncollectible account
- Debiting Uncollectible Accounts Expense and crediting Accounts Receivable
- Reducing the receivables balance for the item that is deemed uncollectible

Allowance Method

The allowance method involves:
- Estimating doubtful debts made at the end of the period
- Making an adjusting entry at the end of each accounting period
- Recognizing the expense in the same period as the related revenue
- Creating an allowance that will be deducted from accounts receivable on the balance sheet
- Accounting for bad debts consistently with the principles of accrual accounting

Overdue Account Reporting System

An overdue account is considered past due as soon as a payment is missed
Even if only a few days late, the account is technically considered overdue
The account may face collection efforts if payment is not made

Learn how to estimate bad debts expense using the allowance method, including the percentage of total receivables and percentage of sales methods. Understand the consequences of not paying past due balances. Test your knowledge on accounting principles and bad debt estimation.