That is done by crediting accounts receivable by $100 and debiting the contra revenue account sales returns and allowances for $100. Hence, the company will have gross revenue or net sales equal to $9,900. Sometimes, both accounts can be written in a single line if they don’t represent a large portion of the assets. In case the contra asset account is not listed in the balance sheet, it must be listed in the footnotes of the financial statement for the users to be informed. In bookkeeping, a contra asset account is an asset account in which the natural balance of the account will either be a zero or a credit (negative) balance. The account offsets the balance in the respective asset account that it is paired with on the balance sheet.
The most prominent of these include allowing companies to present a more accurate picture of their assets. For example, after six years, the asset’s book value on the balance sheet will be $40,000. However, it will also have a negative accumulated depreciation of $60,000, offsetting that cost.
A contra asset is a negative asset account that offsets the asset account with which it is paired. The purpose of a contra asset account is to store a reserve that reduces the balance in the paired account. By stating this information separately in a contra asset account, a user of financial information can see the extent to which a paired asset should be reduced. The most common contra equity account is called “treasury stock.” This special account decreases the number of shares outstanding in the market because the company repurchases some of the shares from its buyers. Therefore, it reduces the value of shareholders’ equity by the amount paid for those repurchased stocks.
Contra Accounts serve as a reduction to the balance of their corresponding accounts to find their net values. The purpose of the Allowance for Doubtful Accounts is to track the reduction in the value of the asset while preserving the historical value of the asset. By a miracle, it turns out the company ended up being rewarded a portion of their outstanding receivable balance they’d written off as part of the bankruptcy proceedings. Of the $50,000 balance that was written off, the company is notified that they will receive $35,000. NOW CFO is a “roll-up our sleeves” full service consulting firm with a singular focus on outsourced CFO, Controller, accounting, and finance needs.
Instead of debiting the asset account directly, the contra asset account balance will be credited (reduced) separately. Reserve for obsolete inventory is a contra asset account used to write down the inventory account if inventory is considered obsolete. Excess, stored inventory will near the end of its lifespan at some point and, in turn, result in expired or unsellable goods.
It can help companies see the complete picture of their income and expenses and their equity or net worth. All in all, contra accounts are an important tool for businesses to use to understand their financial standing better. This question is asked by many students, accountants, and professionals.
As mentioned, a company will usually have debit balances in its asset accounts. The main advantage of using a contra asset account is to separate this reduction from the asset account with which it is paired. By doing so, you can more clearly see the total amount of the related asset account, which would otherwise have been obscured by the offsetting amount of the reserve. While accumulated depreciation is the most common contra asset account, the following also may apply, depending on the company. Accumulated Depreciation is a contra asset that pairs with Fixed Assets.
Offsetting the asset account with its respective contra asset account shows the net balance of that asset. Note that the debit to the allowance for doubtful accounts reduces the balance in this account because contra assets have a natural credit balance. Also, note that when writing off the specific account, no income statement accounts are used.
Similarly, it allows companies to retrieve original account balances without complicated calculations. For stakeholders, looking at both accounts is also crucial in their decision-making process. A contra account enables a company to report the original amount while also reporting the appropriate downward adjustment. You can estimate the total to record in the allowance for doubtful accounts based on uncollectible revenue totals from the previous year or you can conservatively estimate the amount.
A similar account can be found in the bookkeeping records if the business sells its products or provides services on a credit. Allowance for doubtful accounts allows management to account for a portion of the debt they assume will be uncollectible in their analysis and business plans. If you offer credit terms to your customers, you probably know that not all of them will pay. Creating this contra asset account builds in a safeguard against overstating your accounts receivable balance. Contra assets may be stated in separate line items on the balance sheet. Or, if they contain relatively minor balances, they may be aggregated with their paired accounts and presented as a single line item in the balance sheet.
In the books, the account of the asset would have a debit value of $100,000, and the contra asset account would have a credit value of $30,000. If the asset account had a credit balance or the contra asset account had a debit balance, this would indicate an error in the journal entries. A contra asset account is an account in the balance sheet instant form 1099 generator that offsets the balance of a regular asset account. The allowance for doubtful accounts is a contra asset because it reduces the value of the accounts receivable (AR) account on the general ledger. Often when a company extends goods on credit, management expects some of those customers not to pay and so anticipates writing off bad debt.
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