Question

Under the allowance method of uncollectible accounts, how does the adjusting entry to estimate the amount that will become uncollectible affect the accounting equation?

Answer 1

Allowance method is used to detect the uncollectible account which is also referred as bad debts. Under this method adjusting entry is recorded for the amount lost.

To know its affect on the accounting equation, we can go through its entries:

When a uncollectible amount is detected may be from sales or any other sections which was included in account receivables but as they are now declared uncollectible, the amount is debited to allowance for doubtful accounts and hence accounts receivables are credited with the same amount. This indicated reduction in reserves and assets.

Initially when the bad debts is recognised, a bad debts expenses account is debited and allowance for doubtful accounts is credited leading to the increase in the reserves.

The accounting equation is

Assets = Liabilities + Stockholders'equity

Due to this allowances method, the assets value is decreased in the balance sheet, when the uncollectible account is realized as the account receivables are credited and hence decreased.

But on the other hand a allowance for doubtful accounts is created and this makes the amount being balanced, and hence the balance sheet shows same amount on bothe sides that is the assets and the liability.

This is the affect of the adjusting entry on a counting equation.