The allowance for receivables reduces the reported trade receivables general ledger account balance to reflect uncertainties over collectability
There may be some amounts due from credit customers where there is some cause for concem that not all amounts may be fully recovered but those amounts are not yet regarded as irrecoverable and written-off. Such amounts due may be considered to be 'doubtful' and an allowance is required recognise that such amounts may not be fully recovered
Any amount regarded as 'doubtful' remains within receivables, but a separate 'allowance for receivables' general ledger account is established. The allowance is a credit balance This is netted off against the trade receivables general ledger account balance in the statement of financial position to give a net figure for trade receivables that are regarded as probably recoverable.
The allowance should consist only of specific amounts where, for example, the customer is known to be in financial difficulty, or is disputing an invoice, or payment is already overdue, or is refusing to pay for some other reason (e.g. a faulty product sold), and therefore the amount owing may not be fully recovered. Therefore, an allowance can only be established where there is some evidence or indication that a particular receivable may not be recovered in part or in full.
To account for an allowance against receivables, the accounting entries are as follows:
Debit:
Irrecoverable debts
Credit:
Allowance for receivables
Normally the allowance is assessed and adjusted at each accounting year-end. An increase in the allowance from one year-end to another is accounted for as follows:
Debit:
Irrecoverable debts expense
Credit:
Allowance for receivables
A decrease in the allowance from one year-end to another is accounted for as follows:
Debit:
Allowance for receivables
Credit:
Irrecoverable debts expense
At 1 January 20X6, J Stamp had trade receivables' totalling $68,000 and an allowance for receivables of $3,400. During the year ended 31 December 20X6, J Stamp made credit sales of $354,000 and had receipts from receivables' of $340,000.
At 31 December 20X6, J Stamp reviewed the individual receivables' ledger accounts and identified $2,000 which was to be accounted for as irrecoverable. In addition, at that date, it was estimated that amounts totalling $5,000 were overdue and that an allowance should be made for this amount.
Prepare the trade receivables, irrecoverable debts expense and allowance for receivables general ledger accounts for the year ended 31 December 20X6
| Date | $ | Date | $ | ||
|---|---|---|---|---|---|
| 1 Jan X6 | Balance b/d | 68,000 | 31 Dec X6 | Irrecoverable debt | 2,000 |
| Sales | 354,000 | 31 Dec X6 | Cash at bank | 340,000 | |
| 31 Dec X6 | Bal c/d | 80,000 | |||
| 422,000 | 422,000 | ||||
| 1 Jan X7 | Balance b/d | 80,000 |
Receivables
| Date | $ | Date | $ | ||
|---|---|---|---|---|---|
| 1 Jan X6 | Balance b/d | 3,400 | |||
| 31 Dec X6 | Irrecoverable debts | 1,600 | 31 Dec X6 | Balance c/d | 5,000 |
| 5,000 | 5,000 | ||||
| 1 Jan X7 | Balance b/d | 5,000 |
Allowance for receivables
| Date | $ | Date | $ | ||
|---|---|---|---|---|---|
| 31 Dec X6 | Receivables w/off | 2,000 | 31 Dec X6 | P&L expense | 3,600 |
| 31 Dec X6 | Allowance for receivables | 1,600 | |||
| 3,600 | 3,600 |
Irrecoverable debts expense
Note that the change in the allowance for receivables required (from $3,400 to $5,000 = $1,600) is accounted for as follows:
Debit
Irrecoverable debts expense $1,600
Credit
Allowance for receivables $1,600
Izumi had trade receivables' of $11,200 at 31 May 20X4. Of these it was decided to write off an amount of $500 from P Foster as this customer has been declared bankrupt. In addition, there is some doubt as to whether or not an amount of $214 due from A Evans be recovered as that is now overdue for payment.
At 1 June 20X3 Izumi had a balance on the allowance for receivables' account of $230.
Step 1
Write off the irrecoverable debt of $500 and remove it from the trade receivables general ledger account at 31 May 20X4.
Step 2
Calculate the change in the allowance for receivables required at 31 May 20X4.
Step 3
Write up the allowance for receivables account putting in the opening balance of $230 and the closing balance required of $214. The decrease in allowance required of $16 is credited to the irrecoverable debts expense account.
| Date | $ | Date | $ | ||
|---|---|---|---|---|---|
| 31 May | Irrecoverable debts expense | 16 | 1 June | Bal b/d | $230 |
| 31 May | Bal c/d | 214 | |||
| 230 | 230 | ||||
| 1 June | Bal b/d | 214 |
Allowance for receivables
| Date | $ | Date | $ | ||
|---|---|---|---|---|---|
| 31 May | Receivables | 500 | 31 May | Allowance for receivable | 16 |
| 500 | 31 May | P&L a/c | 484 | ||
| 500 |
Irrecoverable debts expense
Conclusion
When a specific allowance for receivables is to be made, the amounts remain due and are not removed from receivables, as in the case of an irrecoverable debt. Note that the change or movement in the allowance for receivables is accounted for in the irrecoverable debts expense account.
Hinata is preparing annual financial statements for the year ended 30 June 20X9. The balance on the trade receivables general ledger account is $78,635. Included in this figure are $2,385 of customers whose debts are now deemed to be irrecoverable. Hinata has already written off $2,634 of debts during the year. In addition, Hinata wishes to create an allowance for receivables for $3,250 owed by certain customers known to be in financial difficulties. The opening allowance for receivables in July 20X8 was $4,300.
Required:
(a) Adjust the trade receivables general ledger account in respect of the irrecoverable debts.
(b) Calculate the change in the allowance for receivables required and prepare the general ledger account for the allowance for receivables.
(c) Prepare the irrecoverable debts expense account.
and of the book