Allowance for Doubtful Accounts and Bad Debt Expenses Cornell University Division of Financial Affairs

Your bank account, the inventory you currently stock, the equipment you purchase, and your accounts receivable balance are all considered asset accounts. When the amount recorded in the contra revenue accounts is subtracted from the amount of gross revenue, it equals the net revenue of a company. In case a customer returns a product, the company will record the financial activity under the sales return account. Contra liability accounts such as discount on bonds payable and discount on notes payable usually carry debit balances. This means that an entry on the debit side (left side of the T-account) of the expense account means an increase in that account balance while an entry on the credit side means a decrease in the balance. A contra expense account is an account used to reduce the amount of an expense without changing the balance in the main expense account.

  • Accountants use contra accounts rather than reduce the value of the original account directly to keep financial accounting records clean.
  • Contra accounts such as these have a debit balance and are deducted from the total amount of a company’s revenue.
  • Contra equity is a general ledger account with a debit balance that reduces the normal credit balance of a standard equity account to present the net value of equity in a company’s financial statements.
  • Add contra account to one of your lists below, or create a new one.

The amount in allowance for doubtful accounts is deducted from the accounts receivable account of a company. As shown in the tables above, when the company incurs a marketing expense, the expense is increasing. Similarly, the opposing entry of Bank which is an asset is credited with $5,000. In accounting terminology, account classes either have a debit or a credit nature.

Everything You Need To Master Financial Modeling

Creating this contra asset account builds in a safeguard against overstating your accounts receivable balance. The accumulated depreciation account is perhaps the most common contra asset account used by business owners. Contra account is important as it not only allows a company to report the original amount of a transaction but also report any reductions that may have happened so that the net amount will also be reported. They are useful in preserving the historical value in the main account while presenting a write-down or decrease in a separate contra account that nets to the current book value. Contra accounts serve an invaluable function in financial reporting that enhances transparency in accounting books. Expense accounts are contra equity accounts because their balance is linked to the overall equity balance.

  • The balance in the allowance for doubtful accounts is used to find out the dollar value of the current accounts receivable balance that is deemed uncollectible.
  • Contra liability accounts such as discount on bonds payable and discount on notes payable usually carry debit balances.
  • Last, for contra revenue accounts there are sales discounts, sales allowances, or sales returns.
  • Whereas assets normally have positive debit balances, contra assets, though still reported along with other assets, have an opposite type of natural balance.

Therefore, a contra expense account that contains a debit balance must have a negative ending balance. The book value of an asset is the value of the asset recorded in the company’s balance sheet. Contra accounts are needed for determining the book value of assets held by a company.

What is an example of a contra revenue account?

Of course, you’ll also have to pay your employees’ wages, your rent, your utilities and other costs. Those are expenses, too, because, without them, you wouldn’t have had a store in which to sell the shoes and collect the revenue. Expense accounts and the contra expense accounts with which they are paired are typically combined in the income statement in a single line item, so that readers are not aware that a contra account even exists. Examples of contra accounts include allowance for doubtful accounts, reserve for obsolete inventory, and accrued liabilities. Each of these accounts helps to offset another account on the balance sheet.

contra expense accounts

I want an answer about changing an expense account to a contra-revenue account. Before viewing the different types of expense accounts, it is important to understand the two different types of costs or expenses that a business incurs. This type of reporting allows anyone analyzing the balance sheet to understand much more about the company and its assets than if they were to simply look at the net value of the depreciated asset. By reflecting both accounts on the balance sheet, analysts can understand both the original price and the total decrease in value of a certain asset over time.

Contra Asset, Contra Liability and Contra Equity

But in order to prepare financial statements complete and with true and fair view we cannot just ignore the transactions that we do not want to adjust in a specific account. So, what we do is that we maintain another account in which we will record the transactions. Usually these additional accounts that we maintain are retrograde (opposite in nature) to the normal accounts. In either case, using these accounts can help you better manage depreciation expense, keep your accounts receivable balance accurate, and properly dispose of and account for obsolete inventory. The amount on the equity contra account is deducted from the value of the total number of outstanding shares listed on a company’s balance sheet.

Cam Merritt is a writer and editor specializing in business, personal finance and home design. He has contributed to USA Today, The Des Moines Register and Better Homes and Gardens”publications. Merritt has a journalism degree from Drake University and is pursuing an MBA from the University of Iowa. Harold Averkamp (CPA, MBA) has worked as a university accounting instructor, accountant, and consultant for more than 25 years. He is the sole author of all the materials on

For instance, the allowance for doubtful accounts reduces the net amount of accounts receivable, while the reserve for obsolete inventory does the same for inventory. Similarly, accrued liabilities reduce the total amount of current liabilities. The use of contra accounts ensures the accuracy of financial accounting records, as the value of the original accounts is not directly reduced.

contra expense accounts

The net value of both these figures is usually reported on a third line. Contra accounts are shown in the financial statements below the paired accounts, although sometimes the balances of the two accounts are merged to a net amount for presentation purposes. Expense accounts are usually listed on the lower half of an income statement. This is where the company’s operating and other expenses are recorded. These expenses are subtracted from gross profit to arrive at the net profit. A contra asset is a negative account used in double-entry accounting to reduce the balance of a paired asset account in the general ledger.

Overview: What is a contra asset account?

Just remember that they carry an opposite balance than the other accounts in their account type. Still, the dollar amounts are separately broken out in the supplementary sections most of the time for greater transparency in financial reporting. The articles and research support materials available on this site are educational and are not intended to be investment or tax advice. All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly. Go a level deeper with us and investigate the potential impacts of climate change on investments like your retirement account.

Instead, an adjusting journal entry is done to record the estimated amount of bad debt. Accumulated Depreciation is a contra asset that pairs with Fixed Assets. Accumulated Depreciation acts as a subaccount for tracking the ongoing depreciation of an asset. A Fixed Asset is a Long-term Asset used by a company to create revenue. Each year of an asset’s life, another year of Depreciation Expense is recorded. The offset to the Depreciation Expense account is Accumulated Depreciation.

What Is the Difference Between a Sales Return & a Sales Allowance?

Inventory obsolescence is an expense account, while the allowance for obsolete inventory is a contra asset account, which aims to reduce the inventory valuation on your balance sheet. Anytime you need to depreciate an asset, you’ll use an accumulated depreciation contra asset account, which records the amount of depreciation that has been expensed while offsetting the value of the asset being depreciated. In accounting, assets are things of value that your business owns.

  • This type of account could be called the allowance for doubtful accounts or bad debt reserve.
  • The expense account uses its debit balance to reduce the revenue account’s credit balance.
  • The accumulated depreciation account is a contra asset account because it reduces the effective value of fixed assets of a firm.
  • There is often a debate as to which method should be used to record expenses.
  • The balance in the allowance for doubtful accounts represents the dollar amount of the current accounts receivable balance that is expected to be uncollectible.
  • The allowance, sometimes called a bad debt reserve, represents management’s estimate of the amount of accounts receivable that will not be paid by customers.
  • Accumulated depreciation decreases the value of an asset, bringing it more in line with its market value.