CH 5

Credit sales:

Transfer of goods or services to a customer today while bearing the risk of collecting payment from that customer in the future. Also known as sales on account or services on account.

Direct Write-Off Method (Not GAAP)

Recording bad debt expense at the time we know the account is actually uncollectible. -for tax reporting -It is important to emphasize that the direct write-off method is generally not allowed for financial reporting under GAAP. -It is only used in financial reporting if uncollectible accounts are not anticipated or are expected to be very small.

Allowance for Uncollectible Accounts.

"allowance for doubtful accounts."

net sales.

(net revenues) as total revenues less any amounts for returns, allowances, and discounts.

Bad debt expense:

The cost of estimated future bad debts that is reported as an expense in the current year's income statement.

The allowance for uncollectible accounts is a contra account to

accounts receivable.

Allowance for Uncollectible Accounts has a credit balance because it is a(n) _____ account.

contra-asset

Allowance for Uncollectible Accounts has a credit balance because it is a(n) _____ account. Multiple choice question.

contra-asset

Two entries are required when a previously written off account is collected. These two entries include:

record the collection on the account receivable reinstate the account receivable

When the direct write-off method is used, an entry for bad debt expense is required

when the account receivable is determined to be uncollectible.

ACCRUED INTEREST

Interest that has built up but has not yet been paid. -We record interest earned on notes receivable but not yet collected by the end of the year as interest receivable and interest revenue.

Understanding the Balance of Allowance for Uncollectible Accounts.

*a credit balance before adjustment indicates that the balance of the allowance account at the beginning of the year (or end of last year) may have been too high *A debit balance before adjustment indicates that the balance of the allowance account at the beginning of the year was too low.

allowance method vs the direct write-off method

-The difference between the two methods is in the timing. The direct write-off method is less timely in recognizing uncollectible accounts.

four of these transactions:

-Trade discounts -Sales returns -Sales allowances -Sales discounts

Accounts receivable:

Amounts to be received in the future due to the sale of goods or services (asset)

Average collection period:

Approximate number of days the average accounts receivable balance is outstanding. It equals 365 divided by the receivables turnover ratio.

Aging method:

Basing the estimate of future bad debts on the various ages of individual accounts receivable, using a higher percentage for "old" accounts than for "new" accounts.

Allowance for uncollectible accounts:

Contra asset account representing the amount of accounts receivable not expected to be collected. -We report the allowance for uncollectible accounts in the asset section of the balance sheet, but it represents a reduction in the balance of accounts receivable.

When an account previously written off is collected in full, the entry to reverse the previous write-off would require which of the following?

Credit Allowance for Uncollectible Accounts. Debit Accounts Receivable.

UNCOLLECTIBLE ACCOUNTS

Customers' accounts that no longer are considered collectible -cant pay

Warner Corp. sells goods on account for $10,000 on April 2. On April 20, the customer returns $3,000 of the merchandise. The customer has not yet paid for any of the goods. What is the entry Warner will make on April 20 when the goods are returned?

Debit Sales Returns; credit Accounts Receivable.

Joyce Corp. uses the percentage-of-receivables method to account for bad debt expense. Joyce determines that a customer account of $20,000 should be written off as uncollectible. The write off of the account will include which of the following entries?

Debit to Allowance for Uncollectible Accounts Credit to Accounts Receivable

Percentage-of-receivables method:

Method of estimating uncollectible accounts based on the percentage of accounts receivable expected not to be collected.

Allowance method:

Method of reporting accounts receivable for the net amount expected to be collected.

Receivables turnover ratio:

Number of times during a year that the average accounts receivable balance is collected (or "turns over"). It equals net credit sales divided by average accounts receivable.

contra revenue accounts

Sales returns, sales allowances, and sales discounts -We subtract the balances in these accounts from total revenues when calculating net revenues.

Net accounts receivable:

The difference between total accounts receivable and the allowance for uncollectible accounts.

WRITING OFF ACCOUNTS RECEIVABLE

When it becomes clear the customer will not pay, the company writes off the customer's account balance as uncollectible -and reduce the accounts receivable balance itself *Overall, the write-off of the account receivable has no effect on total amounts reported in the balance sheet or in the income statement. because, We have already recorded the negative effects of the bad news

The percentage-of-receivables approach to measuring bad debt expense is referred to as _____ method.

a balance sheet

The account "Allowance for Uncollectible Accounts" is classified as

a contra asset to accounts receivable.

To record an estimate for future bad debts at the end of the period, an adjustment would be made with a credit to

allowance for uncollectible accounts.

With the allowance method, bad debt expense is recorded

at the end of the period when bad debts are estimated.

The account "Allowance for Uncollectible Accounts" normally has a

credit balance

Adrian Corp. sells goods on account for $100,000 on May 1. The customer paid for the goods on May 10. On May 15, the customer returns $40,000 of the merchandise. The entry Adrian makes on May 15 will include the following:

credit to Cash debit to Sales Returns

The journal entry to record bad debt expense includes:

credit to allowance for uncollectible accounts debit to bad debt expense

sales allowance

customer doesn't return goods but the seller instead reduces the customer's balance owed for goods or services provided

Shannon Corp. uses the aging method to account for bad debt expense. Shannon determines that a customer account of $10,000 should be written off as uncollectible. The write off of the account will include

debit Allowance for Uncollectible Accounts.

cost of extending credit

delay in collecting cash from customers, and as already discussed, some customers may end up not paying at all. These disadvantages reduce the operating efficiency of the company and lead to lower profitability.

classify notes receivable as

either current or noncurrent assets -if the time to maturity is longer than one year, the note receivable is a long-term asset.

Gwendolyn uses the allowance method to account for uncollectible receivables. Gwendolyn should record _____ bad debt expense ______. Multiple choice question.

estimated; at the end of the year

Total revenues less discounts, returns, and allowances are referred to as

net revenues

Trade discounts

reduction in the listed price of a good or service. -Trade discounts also can be a way to change prices without publishing a new price list or to disguise real prices from competitors. (journal entries do not need to include the original price) -recognized by reducing the revenue amount recorded.

sales discount

represents a reduction, not in the selling price of a good or service, but in the amount to be received from a credit customer if collection occurs within a specified period of time. -A sales discount is intended to provide incentive to the customer for quick payment.

Sales to customers in which the customers pay within 30 to 60 days are referred to as

sales on account. credit sales.

Notes Receivable

similar to accounts receivable but are more formal credit arrangements evidenced by a written debt instrument, or note. Notes receivable typically arise from loans to other entities (including affiliated companies); loans to stockholders and employees; and occasionally the sale of merchandise, other assets, or services.

Accounts receivable are typically classified as current assets because

they will be converted to cash within 1 year.

invoice

A source document that identifies the date of sale, the customer, the specific items sold, the dollar amount of the sale, and the payment terms.

"Sales Revenue" vs "Service Revenue"

-refer to the sale of goods -sale of services.

stages of the allowance method

1. At the end of the initial year, establish an allowance by estimating future uncollectible accounts 2.During the subsequent year, write off actual bad debts as uncollectible 3.At the end of the subsequent year, once again estimate future uncollectible accounts

sales return.

If a customer returns goods previously purchased,

notes receivable.

When receivables are accompanied by formal credit arrangements made with written debt instruments

A company that expects that some of its customers will not pay the agreed upon sales price must utilize the

allowance method

Receivables not expected to be collected should

not be counted in assets of the company.

The receivables turnover ratio and average collection period can:

provide an indication of management's ability to collect cash from customers in a timely manner.

Nontrade receivables

receivables that originate from sources other than customers. -They include tax refund claims, interest receivable, and loans by the company to other entities, including stockholders and employees.

calculate interest on notes recievable

the face value of the note multiplied by the stated annual interest rate multiplied by the appropriate fraction of the year that the note is outstanding.

COLLECTION OF NOTES RECEIVABLE

the same way as collection of accounts receivable, except that we also record interest earned as interest revenue in the income statement.

Benefits of Extending Credit

the seller makes it more convenient for the buyer to purchase goods and services. In the long term, credit sales should benefit the seller by increasing profitability of the company.

Estimated uncollectible accounts reduce assets.

to avoid overstating the assets of the company, we need to reduce accounts receivable in the balance sheet by an estimate of the amount expected not to be collected.