Question

What are the two options available for recording and writing-off bad debts? Briefly describe each method.

What accounts are affected when recording and writing off bad debts under the direct write off method? Which account is debited, and which is credited?

What accounts are affected when recovering a bad debt under the direct write off method? Which account(s) are debited, and which are credited?

What accounts are affected when recording bad debts expense using the allowance method?

Under the Allowance Method, what method of estimating bad debt is based on income statement? Explain your answer.

Under the Allowance Method, what method of estimating bad debts is based on the balance sheet? Explain your answer.

Under the Allowance Method, which method of estimating bad debts uses both past and current receivables information to estimate the allowance amount? Explain your answer.

What accounts are affected when recording an honored note? What accounts are affected when recording a dishonored note?

How do you calculate the Accounts Receivable Turnover ratio?

What is the formula for computing interest?

Answer 1

The two options for recording and writing off bad debts are:

1. The Direct Write-off Method
2. The Allowance Method.

The direct write-off method involves a debit to Bad Debt Expense and a credit to Accounts Receivable. Since this method does not result in proper matching of revenues and expenses, it not not generally accepted.

Under the allowance method, an uncollectible debt is written off by a debit to the Allowance for Doubtful Accounts and a credit to Accounts Receivable.

When there is bad debt recovery under the direct write-off method, then reverse the original write-off entry by debiting accounts receivable and crediting bad debt expense for reinstating the accounts receivable. Then debit cash and credit accounts receivable in order to record the bad debt recovery.

Under the Allowance Method, the Percentage of Sales Method is based on the Income Statement, since credit sales are reported on the Income Statement.

Under the Allowance Method, the Percentage of Receivables Method is based on the Balance Sheet, since accounts receivables are reported on the balance sheet.

Under the Allowance Method, the percentage of receivables method involves estimating bad debts using both past and current receivables information to estimate the allowance account. The aging schedule under the method classifies accounts receivables by the age of the invoices that remain unpaid after the expiry of the credit period. Therefore, both past as well as current receivables are considered for estimating the allowance amount by assigning uncollectible percentages to each age category.

In case of an honored note, Cash is debited, Interest Expense is debited, and Note Receivable is credited.

In case of a dishonored note, three situations are possible: a. Renewal of the same note for a further period at the same / changed rate of interest, b. Replacing the dishonored note by another note or c.Conversion of the note to Accounts Receivable.

Accounts Receivables Turnover ratio = Total Credit Sales / Average Accounts Receivable.

Interest Expense = Principal x rate of Interest x time period of the borrowing.