Accounting for Receivables - Lecture Notes | ACC 101, Study notes of Financial Accounting

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ACC101 – CHAPTER 7

Accounting for Receivables

Key Terms and Concepts to Know

Accounts Receivable: Result from sales on account (credit sales), not cash sales. May also result from credit card sales if there is a delay between when sale is made and when the cash is received from the credit card company.

Accounting for Uncollectible Accounts: Not all sales on account result in cash being collected from the customer. The Allowance Method debits bad debt expense in the period when the sale is recorded and credits a contra-asset account, Allowance for Uncollectible Accounts. When a specific account is determined to be uncollectible, the Allowance is debited and Accounts Receivable is credited. The Direct Write-off Method debits bad debt expense and credits Accounts Receivable in the period when a specific account is determined to be uncollectible. The Direct Write-off Method violates the matching principle because it does not match revenues and expenses in the same period.

Determining the Amount of Uncollectible Receivables and Bad Debt Expense: The Percent of Sales Method uses one income statement account, Sales, to estimate the change in another income statement account, Bad Debt Expense, for the period. This is the amount of the adjusting entry required. The balance in the Allowance account is then the balance in the ledger before adjustment plus the adjusting entry for bad debt expense. The Percent of Receivables Method uses the balance in one balance sheet account, Accounts Receivable, to estimate the balance in another balance sheet account, Allowance for Uncollectible Accounts, at the end of the period. The adjusting entry for bad debt expense is the difference between the balance in the ledger before adjustment and the estimated balance in the allowance account.

Accounts Receivable on the Balance Sheet: Allowance account is deducted from Accounts Receivable to determine Net Realizable Value.

Notes Receivable: Notes Receivable may be accepted by the seller in payment for a sale or to replace an account receivable from a prior sale. Notes bear interest for their term which is paid at the end of the term, the maturity date. Interest rates are typically stated as a percent per annum, that is, as a yearly or annual rate. Interest revenue is earned as time passes, regardless of whether payment has been received. Interest revenue for outstanding notes receivable is typically accrued at the end of the year, although it may be accrued at the end of a quarter or month.

UNCOLLECTIBLE ACCOUNTS RECEIVABLE: THE

ALLOWANCE METHOD

1. Uncollectible accounts expense is estimated at the end of each accounting period in order to properly match the expense with the revenue earned for the period.

December 31 Uncollectible Accounts Expense 5, Allowance for Doubtful Accounts 5,

2. Uncollectible Accounts Expense is reported on the Income Statement
3. Allowance for Doubtful Accounts is a contra asset account and is reported on the Balance Sheet as a deduction from Accounts Receivable. The result is called Net Realizable Value.

Current Assets: Accounts Receivable 25, less allowance for doubtful accounts 3, Net Realizable Value 22,

4. To write-off Customer A’s account:

June 5 Allowance for Doubtful Accounts 1, Accounts Receivable-Customer A 1,

5. To reinstate Customer A when the balance is subsequently paid:

July 10 Accounts Receivable-Customer A 1, Allowance for Doubtful Accounts 1, 10 Cash 1, Accounts Receivable-Customer A 1,

Example #1: Journalize the following transactions. 2001 12/31 Estimated that $7,000 of accounts receivable would become uncollectible. 2002 1/05 Wrote-off the $800 balance owed by Jane Camp and the $500 balance owed by Friends, Inc. 3/18 Reinstated the account of Jane Camp that had been written off as Uncollectible and recorded receipt of the $800 cash in full payment.

Solution # 2001 12/31 Uncollectible Accounts Expense 7, Allowance for Doubtful Accounts 7, 2002 01/05 Allowance for Doubtful Accounts 1, Accounts Receivable – Jane Camp 800 Accounts Receivable – Friends, Inc. 500 03/18 Accounts Receivable – Jane Camp 800 Allowance for Doubtful Accounts 800 Cash 800

Accounts Receivable – Jane Camp 800

METHODS FOR ESTIMATING THE

UNCOLLECTIBLE AMOUNT

PERCENTAGE OF SALES METHOD

Multiply the percentage times the given to the sales to determine the uncollectible accounts expense for the period. This will be the amount of the adjusting entry.

Example #2: Uncollectible accounts expense is estimated at ¼ of 1% of net sales of $4,000,000 for the year. The current balance in Allowance for Doubtful Accounts is $300 credit. Determine the following: a. The uncollectible accounts expense for the year. b. The adjusting entry to be made on December 31. c. The balance in Allowance for Doubtful Accounts after adjustment.

Solution # a. 4,000,000 * .0025 = $10, b. Uncollectible Accounts Expense 10, Allowance for Doubtful Accounts 10, c. $300 credit balance + 10,000 additional credit = $10,300 credit balance

AGING OF ACCOUNTS RECEIVABLE METHOD

The current balance of accounts receivable is analyzed by use of an aging schedule to determine the desired ending balance for the Allowance for Doubtful Accounts. The uncollectible accounts expense for the period is determined based on the current (unadjusted) balance in the Allowance, the desired ending balance in the Allowance account and any write-offs of uncollectible accounts during the period.

Example #3: The balance of Allowance for Doubtful Accounts before adjustment at the end of the period is $400 debit. Based on an analysis of Accounts Receivable, it was estimated that $9,000 would become uncollectible. Determine the following: a. The uncollectible accounts expense for the year. b. The adjusting entry to be made of December 31. c. The balance in Allowance for Doubtful Accounts after adjustment.

On July 17, 2001, received a $12,000, 90-day, 10% note on account from Adams Co

Due Date: Term of the note = 90 days Days remaining in July 31 – 17 = 14 days Remaining term of the note 76 days Days in August 31 days Remaining term of the note 45 days Days in September 30 days Remaining term of the note 15 days

Since the remaining 15 days are less than the 31 days in October, the note is due on October 15.

Interest: Calculated as Principal X Rate X Time $12,000 * .10 * 90/360 = $

Time is calculated as the term of the note divided by 360 days for the year. Time is always based on a 360-day year.

Maturity Value : Calculated as Principal + Interest $12,000 + $300 = $12,

Journal Entries: 07/17 Notes Receivable 12, Accounts Receivable 12,

10/15 Cash 12, Notes Receivable 12, Interest Revenue 300

Dishonoring the Note: If the maker of the note failed to pay (dishonored) the note on October 15, the following entry would be made:

10/15 Accounts Receivable 12, Notes Receivable 12, Interest Revenue 300

Note that the differences between the two entries for 10/15 are the account to be debited.

Adjusting Entries for accrued interest: At the end of the accounting period, in order to comply with the matching principle, interest must be accrued for the number of days between the most recent interest payment date and the end of the accounting period using the calculation method shown above.

Example #4: Journalize the adjusting entry for accrued interest on December 31 for the following outstanding notes receivable. Journalize the receipt of the amount due on the due date for each note.

1. $24,000, 60-day, 10% note dated December 1.
2. $12,000, 90-day, 15% note dated October 22.

Solution #

1. Interest has been earned for 30 days on this note: Days remaining in December 31 – 1 = 30 days

2. We have earned 65 days of interest on this note: Days remaining in October 31 – 22 = 9 days Days in November = 30 days Days in December = 31 days Total days to accrue 70 days

12/31 Interest Receivable 550 Interest Revenue 550

01/20 Cash 12,450 (12,000 *.15 * 90/360)

Notes Receivable 12,

Interest Receivable 350 (interest earned last year)

Interest Revenue 100 (interest earned this year)

01/30 Cash 24,400 (24,000 * .10 * 60/360)

Notes Receivable 24,

Interest Receivable 200 (interest earned last year)

Interest Revenue 200 (interest earned this year)

Practice Problem #2: Journalize the following transactions

09/12 Received a $30,000, 12%, 120-day note on account. 10/09 Received a $15,000, 10%, 60-day note on account. 11/15 Received an $18,000, 15%, 30-day note on account. 12/08 Received the amount due on the note of October 9. 12/15 The note of November 15 was dishonored. 12/31 Accrued interest on the note of September 12.

6. Allowance for Doubtful Accounts has a credit balance of $500 at the end of the year (before adjustment), and an analysis of customers’ accounts indicates doubtful accounts of $11,500. Which of the following entries records the proper provision for doubtful accounts? a. Debit Uncollectible Accounts Expense, $11,000; credit Allowance for Doubtful Accounts, $11,000. b. Debit Uncollectible Accounts Expense, $12,000; credit Allowance for Doubtful Accounts, $12,000. c. Debit Allowance for Doubtful Accounts, $12,000; credit Uncollectible Accounts Expense, $12,000. d. Debit Allowance for Doubtful Accounts, $11,000; credit Uncollectible Accounts Expense, $11,000.
7. If the direct write-off method of accounting for uncollectible receivables is used, what general ledger account is debited to write off a customer’s account as uncollectible? a. Uncollectible Accounts Payable b. Accounts Receivable c. Uncollectible Accounts Expense d. Allowance for Doubtful Accounts
8. The amount of the promissory note plus the interest earned on the due date is called the: a. Realizable value b. Face value c. Net realizable value d. Maturity value
9. A $7,000, 30-day, 12% note recorded on November 21 is not paid by the maker at maturity. The journal entry to recognize this event is: a. Debit Cash 7,070; Credit Notes Receivable 7, b. Debit Accounts Receivable 7,070; Credit Notes Receivable 7,000; Credit Interest Revenue 70. c. Debit Notes Receivable 7,070; Credit Accounts Receivable 7, d. Debit Accounts Receivable 7,070; Credit Notes Receivable 7,000; Credit Interest Receivable 70.
10. In reference to a promissory note, another word(s) for “discount” is: a. Fair Value b. Interest c. To buy for more than face value d. Maturity
11. Receivables are usually listed on the Balance Sheet after cash in what order? a. Cash, Accounts Receivable, Notes Receivable, Interest Receivable b. Cash, Interest Receivable, Notes Receivable, Accounts Receivable c. Cash, Notes Receivable, Accounts Receivable, Interest Receivable d. Cash, Notes Receivable, Interest Receivable, Accounts Receivable

12. Receivables are usually listed in order a. Of liquidity b. Of the due date c. Of the size d. Alphabetically
13. Accounts Receivable Turnover measures a. Number of days outstanding b. Fair market value of Accounts Receivables c. The efficiency of the accounts payable function d. How frequently during the year the Accounts Receivable are converted to cash
14. The Number of Days Sales in Receivables a. Measures the number of times the receivables turn over each year b. Is Net Credit Sales divided by Average Receivables c. Is not meaningful and therefore not used d. Is an estimate of the length of time the receivables have been outstanding
15. Accounts receivable are reported on the balance sheet at their a. Fair market value b. Present value c. Net realizable value d. Maturity value
16. Under the allowance method the write-off of an account receivable leaves the net realizable value of the accounts receivable unchanged. a. True b. False
17. The direct write-off method violates the matching principle. a. True b. False
18. When an account is written off under the allowance method the a. Uncollectible Accounts Expense account is debited. b. Accounts Receivable account is debited. c. Allowance for Doubtful Accounts is debited. d. Loss on Accounts Receivable account is debited.
19. A note receivable is recorded at its a. Face Value b. Fair market value c. Present value d. Maturity value

SOLUTIONS TO PRACTICE PROBLEMS

(30,000 * .12 * 110/360 = $1,100 interest)

(Maturity Value: 12,000 * .12 * 90/360 = 360 + 12,000 = 12,360) (Discount: 12,360 * .10 * 60/360 = 206; 30 days from 01/07 to 02/06)

• Practice Problem #
• 05/14 Cash 15,
  • Allowance for Doubtful Accts 5,
    • Accounts Receivable-Webb 20,
• 06/20 Accounts Receivable 5, - Allowance for Doubtful Accts 5,
  • Cash 5,
    • Accounts Receivable 5,
• 07/27 Allowance for Doubtful Accts 2, - Accounts Receivable 2,
• 12/31 Uncollectible Accounts Expense 11, - Allowance for Doubtful Accts 11, (11,500 – 200 credit bal = 11,300) - 2) 62,000 – 11,500 = $50, 1) 11,500 (based on analysis of A/R)
• 12/31 Uncollectible Accounts Expense 10, - Allowance for Doubtful Accts 10, (2,000,000 * .005 = 10,000) - 2) 62,000 – 10,200 = $51, 1) 10,200 (10,000 + 200 credit bal)
• Practice Problem #
• 09/12 Notes Receivable 30, - Accounts Receivable 30,
• 10/09 Notes Receivable 15, - Accounts Receivable 15,
• 11/15 Notes Receivable 18, - Accounts Receivable 18,
• 12/08 Cash 15, - Notes Receivable 15, - Interest Revenue
• 12/15 Accounts Receivable 18, - Notes Receivable 18, - Interest Revenue
• 12/31 Interest Receivable 1, (18,000 * .15 * 30/360 = $225 interest) - Interest Revenue 1,
• Practice Problem # (Sept 12 – Dec 31 = 110 days)
• 01/07 Notes Receivable 12, - Cash 12,
• 02/05 Accounts Receivable-Joshua 22, - Sales 22,
  • COMS 13,
    • Mdse Inventory 13,
• 02/06 Cash 12, - Notes Receivable 12, - Interest Revenue
• 02/15 Accounts Receivable-Jade, Inc. 33, (Proceeds: 12,360 – 206 = 12,154) - Sales 33,
  • COMS 19,
    • Mdse Inventory 19,
• 03/09 Notes Receivable 22, - Accounts Receivable-Joshua 22,
• 03/20 Notes Receivable 33, - Accounts Receivable-Jade, Inc. 33,
• 05/08 Cash 22, - Notes Receivable 22, - Interest Revenue
• 07/18 Accounts Receivable-Jade, Inc. 34, (22,200 * .08 * 60/360 = $296) - Notes Receivable 33, - Interest Revenue 1,