Sec 2 - Allowance - Income Statement Approach and Balance Sheet Approach

Question 1

Income Statement Approach

Answer 1

Income Statement Approach

• _Estimate as a % of sales_
• Directly calculates the amount of bad debt expense
• Credit sales x % of sales uncollectible = Bad debt expense

Question 2

Income Statement Approach

Example

Answer 2

Income Statement Approach

• Estimating the allowance _based on sales_, directly calculates the bad debt expense
• Sales and bad debt expense are both income statement accounts (Rev & Exp)

Assume the same facts:

• Sales = $500,000 3% uncollectible;
• AR = $200,000 6% uncollectible;
• Allowance balance (BB) = $3,000
• $500,000 x 0.03 = $15,000 (bad debt expense)
• Allowance (EB) = $3,000 + 15,000 = $18,000

T-Account Example

Allowance

Dr__Cr
$ 3,000 BB
15,000 Expense**
$18,000 EB

• ** This amount becomes the amount entered for the Allowance and the Bad Debt Expense.
• Here we calculated the bad debt expense of $15,000
• T-accounts will help reduce errors and help you visualize the account activity

Question 3

Balance Sheet Approach

Answer 3

Balance Sheet Approach

• _Estimate as a % of AR balance outstanding_
• Directly calculates _the ending balance of the allowance account_
• *AR x % AR uncollectible* = Balance needed in the allowance account

Question 4

Balance Sheet Approach
Aging of Accounts Receivable

Answer 4

Balance Sheet Approach
Aging of Accounts Receivable

• Usually the AR is aged and the allowance is calculated based on an aging schedule:
• O - 30 days 1% uncollectible
• 31-40 days 2% uncollectible
• 41 - 60 days 5% uncollectible
• > 61 days 8% uncollectible

Question 5

Balance Sheet Approach

Example

Answer 5

Example Fact Pattern

Assume the following facts:

• Sales $500,000 3% uncollectible
• AR $200,000 6% uncollectible
• Allowance $ 3,000 Beginning balance
• Estimating the allowance based on AR, directly calculates the _allowance balance (*needed* EB)_
• AR and Allowance accounts are both on the balance sheet
• AR x % AR uncollectible = allowance balance
• $200,000 x 0.06 = $12,000 (Allowance needed EB)
• Allowance (needed) +/- Allowance BB = Bad Debt Expense

Allowance (T-Account)

DrCr

$ 3,000 BB

$ 9,000 Expense

$ 12,000 EB (needed)

• Use T-accounts to determine the expense is $9,000

End of Year adjusting JE:

Dr. Cr.

Bad Debt Expense $9,000

Allowance for Uncollectible $9,000

What if the Allowance had a Debit Balance?

Allowance (T-Account)