How to Account for Uncollectible Accounts? Step by Step Guidance with Example

The primary accounting issue regarding accounting for uncollectible accounts is matching the bad debts with the sales of the period that gave rise to the bad debts. Nikki’s Products is undecided about which base to use in estimating
uncollectible accounts. On December 31, 2013, the balance in https://personal-accounting.org/uncollectible-accounts-receivable-definition-and/ Accounts
Receivable was $680,000 and net credit sales amounted to $3,800,000 during
2013. An aging analysis of the accounts receivable indicated that $40,000
in accounts are expected to be uncollectible. Past experience has shown
that about 1% of net credit sales eventually are uncollectible.

The entry for bad debt would be as follows, if there was no carryover balance from the prior period. Avett Furniture Store has credit sales of $400,000 in 2013 and a debit
balance of $600 in the Allowance for Doubtful Accounts at year end. As of
December 31, 2013, $130,000 of accounts receivable remain uncollected. The
credit manager prepared an aging schedule of accounts receivable and
estimates that $7,000 will prove to be uncollectible. Then all of the
category estimates are added together to get one total estimated
uncollectible balance for the period. The entry for bad debt would
be as follows, if there was no carryover balance from the prior
period.

Importantly, an allowance method must be used except in those cases where bad debts are not material (and for tax purposes where tax rules often stipulate that a direct write-off approach is to be used). As will soon be shown, the actual write-off in a subsequent period will generally not impact income. The estimation is
typically based on credit sales only, not total sales (which
include cash sales). In this example, assume that any credit card
sales that are uncollectible are the responsibility of the credit
card company. It may be obvious intuitively, but, by definition, a
cash sale cannot become a bad debt, assuming that the cash payment
did not entail counterfeit currency. The estimation is typically based on credit sales only, not total sales (which include cash sales).

Legal Remedies and Collections Agencies in Navigating Uncollectible Accounts Receivable

Pine Boat Company often requires customers to sign promissory notes for
major credit purchases. Journalize the following transactions for Pine Boat
Company. May 25 Natasha Co. received a $30,000, 2-month, 6% note from Khan Company
in settlement of an account receivable. (b) Indicate the statement presentation of the financing charges and the
credit card service charge expense for Lamontague Stores. Aug. 1 Added 1% finance charges to $13,000 of credit card balances for not
paying within the 30 day grace period. (b) On January 10, Jill Flynn uses her Calhoun Co. credit card to purchase
merchandise from Calhoun Co. for $9,000.

• Accounts receivable decreases because
  there is an assumption that no debt will be collected on the
  identified customer’s account.
• Notes can be held to maturity.
• Companies record accounts receivable at invoice price.
• To illustrate, imagine Company A cleans Company B’s carpets and sends a bill for the services.

Collection agencies often take a huge cut of the collectible amount—sometimes as much as 50 percent—and are usually only worth hiring to recover large unpaid bills. Coming to some kind of agreement with the customer is almost always the less time-consuming, less expensive option. Many companies will stop delivering services or goods to a customer if they have bills that are more than 120, 90, or even 60 days due. Cutting a customer off in this way can signal that you’re serious about getting paid and that you won’t do business with people who break the rules. Simply getting on the phone with a client and reminding them about unpaid invoices can often be enough to get them to pay. Sending email reminders at regular intervals—say, after 15, 30, 45, and 60 days—can also help jog your customers’ memory.

Disputed Charges: When Clients Won’t Pay

The payment terms vary, but 30 days to 90 days is normal for most companies. In conclusion, accounting for uncollectible accounts involves estimating the amount of uncollectible accounts and creating an allowance for doubtful accounts. If the estimate of uncollectible accounts was too high, the company can reverse some of the allowance. This entry reduces the accounts receivable balance by $1,000 and reduces the allowance for doubtful accounts balance by $1,000.

2: Accounting for Uncollectible Accounts

Once you’re done adjusting uncollectible accounts, you’d then credit “accounts receivable—Keith’s Furniture Inc.” by $500, also decreasing it by $500. Because we’ve decided that the invoice you sent Keith is uncollectible, he no longer owes you that $500. Most companies operate by allowing a portion of their sales to be on credit.

COMPLETION STATEMENTS

Any amount of money owed by customers for purchases made on credit is AR. Let’s consider a situation where BWW had a $20,000 debit balance
from the previous period. The adjusting journal entry would
recognize the following. This application probably violates the
matching principle, but if the IRS did not have this policy, there
would typically be a significant amount of manipulation on company
tax returns. For example, if the company wanted the deduction for
the write-off in 2018, it might claim that it was actually
uncollectible in 2018, instead of in 2019.

This means that BWW believes $48,727.50 will be uncollectible debt. Let’s consider that BWW had a $23,000 credit balance from the previous period. The adjusting journal entry would recognize the following. A bank lends money to a couple purchasing a home (mortgage).

Short-term receivables are reported in the current assets section
before temporary investments. In order to accelerate the receipt of cash from receivables, owners may
sell the receivables to another company for cash. Allowance for Doubtful Accounts is debited under the direct write-off
method when an account is determined to be uncollectible. For example, you can immediately see that Keith’s Furniture Inc. is having problems paying its bills on time. You might want to give them a call and talk to them about getting their payments back on track. We’ll walk you through how to write a demand letter for payment with samples you can emulate in your own business.

But with the right strategies and tools, you can minimize their impact, ensuring smoother cash flow and firmer financial footing. Our blog has additional resources on why cash flow management matters, calculating accounts receivable, and more. Businesses with lenient credit policies or those that lack a rigorous vetting process for clients might find themselves juggling a higher number of uncollectible accounts. Uncollectible accounts create ripple effects in your business financials. They skew your revenue projections, lead to discrepancies in financial reporting, and can even mislead stakeholders about the company’s financial health. The outstanding balance of $2,000 that Craft did not repay will remain as bad debt.