Accounting for Irrecoverable Receivables, Taxation and Dividends

Question 1

recoverability of receivables - general info

Answer 1

• in an ideal world we would be able to recover 100% of all receivables, however this is unrealistic
• customers become unreliable at paying debts or fall out of business and can’t pay their debts
• accounting rules exist to recognise the fact that companies won’t necessarily collect all the cash from their receivables
• there is always a risk that credit customers will default on their debts, even if they haven’t during the current financial period and accounting rules exist to recognise this risk, companies should be slow to recognise profits and quick to recognise costs

Question 2

irrecoverable debts - general info

Answer 2

• if a business believes a debtor will definitely not pay, they should be prudent and recognise this in the accounts
• are defined as debts which are not expected to be maid
• are ‘written off’ as an expense in the statement of profit or loss
  — the revenue figure is not altered
  — the write off is recognised as an irrecoverable debts expense which is shown as an administrative expense

Question 3

irrecoverable debts have the following effects on the financial statements:

Answer 3

increase administrative expenses (irrecoverable debts expense) - statement of profit or loss

decrease current assets (trade receivables) - statement of financial position

impact: reduces current assets, reduces profit

Question 4

allowance for receivables - general info

Answer 4

• companies are also required to calculate an allowance for receivables each period which is required by IFRS 9 financial instruments
• is defined as an amount in relation to the probability of the non-recovery of debts that reduces the receivable asset to its prudent valuation in the statement of financial position
• is an expense in the statement of profit or loss

Question 5

allowance for receivables has the following effects on the financial statements:

Answer 5

increase administrative expenses (irrecoverable debts expense) - statement of profit or loss

decrease current assets (allowance for receivables) - statement of financial position

Question 6

determining the allowance for receivables

Answer 6

• requires significant judgement, how do we determine the probability of non-payment?
  — detailed analysis of the aged receivables listed
  — use of industry averages and past trends
  — are there any known payment issues for specific receivables?
  — consider changes in the wider economy

Question 7

increase/decrease in the allowance for receivables

Answer 7

an increase has the following effects on the financial statements:
- increase administrative expenses (irrecoverable debts expense) by the amount of the increase in allowance - statement of profit or loss
- decrease in current assets (allowance for receivables) by the amount of increase in the allowance - statement of financial position
- reverse for if it decreases

Question 8

why do we only need to account for the movement in the allowance in the current period?

Answer 8

there is already an allowance for receivables which exists in the statement of financial position and has been posted in the statement of profit or loss. we therefore only need to account for any increase or decrease in the allowance

Question 9

accounting for taxation

Answer 9

• a company pays corporation tax on its profits
• a company will estimate its tax liability at year-end
• the actual payment will often be after the year-end date, therefore will be recorded as a liability in the statement of financial position

has the following effects on the financial statements:
- increase income tax expense - statement of profit or loss
- increase current liabilities (income tax payable) - statement of financial position (current as it has to be paid within a year)

Question 10

accounting for dividends

Answer 10

• a company might pay dividends to its shareholders
• dividends are a distribution of profit to shareholders
• the actual payment of dividends will sometimes happen after the year-end date therefore will be recorded as a liability (trade and other payables) in the statement of financial position
• accounting for dividends (where the payment is made after the year-end date) has the following effects on financial statements:
  — increase current liabilities (trade and other payables) - statement of financial position
  —- decrease of equity (retained earnings) - statement of financial position

sometimes companies pay dividends during the financial year, this will reduce the cash and cash equivalents balance of the business in the statement of financial position

Question 11

key points summary

Answer 11

irrecoverable debts are removed from trade receivables and written off as an expense in the statement of profit or loss

companies are required to calculate an allowance for receivables each period

this is calculated as a percentage of the trade receivables balance

the allowance for receivables account will reduce the net trade receivables on the face of the statement of financial position

only the increase or decrease in the allowance for receivables is posted to administrative expenses in the statement of profit or loss each year

companies are required to pay corporation tax on their profits, which is categorised as an income tax expense in the statement of profit or loss and an income tax payable liability in the statement of financial position

companies may pay dividends to their shareholders, which are a distribution of profit - this reduces retained earnings in the statement of financial position