Question

How is the allowance method of accounting for bad debts different from the direct write off method? Which is the preferred method? Why? In what ways are accounts receivable similar to a note receivable? How are they different? Why might a company choose to issue a note receivable over an account receivable?

Answer 1

In allowance method record a possible allowance at the time which credit sales made. But in direct write off method record the entry only when the bad debt arises. In allowance method they are credit sales are matched with allowances during same year. In direct write of method both credit sales and adjustment of bad debt will comes in different years.

Direct write off method is most preferred. because under that bad debt are not considered early.Record only after they have been actually occurred. So there is no pre-calculation is needed.

Similarity

Accounts receivables and note receivables are almost similar, both are related to credit activities.When credit sales are occurre , there may be accounts receivables or notes receivables. In both cases payments are postpones for future period.Both will affect the liquidity of the firm

difference

Accounts receivable don't have a specified time to repay the money, after credit sales occur at any time the creditor can repay the money.It do not carry any interest

In notes receivable the there is a fixed period of time mentioned, it is a part of promissory note. it carries an interest

Accounts receivable is short term in nature, but notes receivable may short term or long term

Accounts receivable do not carry any legal formality, notes receivable is based on proper legal and written agreement

Companies prefer notes receivables because it is a legal document and it carries an interest. Because of being a formal and legal document , the company can sell that note to any merchant for getting payment. While comparing with accounts receivable the risk is comparatively low in case of notes receivable.