Chapter 7 - Chapter 7: Accounts Receivable Accounts...

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Chapter 7: Accounts Receivable
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Accounts Receivable Money owed to us by customers Trade, non trade receivable Accounts, Notes receivable Related party receivables Journal entry: Accounts receivable $500 Sales revenue $500
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Subsidiary Ledger Control Account (General Ledger) Aggregate, total accounts receivable Balance is sum of the account balances in the Subsidiary ledger Subsidiary Ledger Includes an account for each individual
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Bad debts Journal entry for collection: Cash $500 Accounts receivable $500 What if not collected? Bad debt expense Direct write-off method Matching Principle Allowance method
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Allowance for bad debts Journal entry for estimated bad debts: Bad debt expense $30 Allowance for doubtful accounts $30 Journal entry to write-off a bad debt: Allowance for doubtful accounts $12 Accounts receivable $12
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Balance Sheet presentation Accounts receivable are reported net of the allowance for doubtful accounts. They are shown as the amount expected to be collected. If the balance in the accounts receivable account is $880 (Dr) and the balance in the Allowance for doubtful accounts is $65 (Cr – contra-asset account), then: Current assets: Accounts receivable, net of $65 allowance $815
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Exercise 7-1: Comparison of the Direct Write-Off and Allowance Methods of Accounting for Bad Debts. In its first year of business, Rideaway Bikes has net income of $145,000, exclusive of any adjustment for bad debt expense. The president of the company has asked you to calculate net income under each of two alternatives of accounting for bad debts: the direct write-off method and the allowance method. The president would like to use the method that will result in the higher net income. So far, no entries have been made to write off uncollectible accounts or to estimate bad debts. The relevant data are as follows: Write-offs of uncollectible accounts during the year $ 10,500 Net credit sales $650,000 Estimated percentage of net credit sales that will be uncollectible 2% Required: Compute net income under each of the two alternatives. Does Rideaway have a choice as to which method to use? Should it base its choice on which method will result in the higher net income? (Ignore income taxes)
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Net income under each of the two alternatives is as follows: Direct write-off method: $145,000 – $10,500 = $134,500 Allowance method: $145,000 – (2% × $650,000) = $145,000 – $13,000 = $132,000 Conclusion: The direct write-off method would result in a lesser amount of expense and therefore in a higher net income. However, under current accounting standards, if bad debts are material in amount, the allowance method must be used. In addition, it is not acceptable for a company to choose accounting methods on the basis of their effects on net income.
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Estimating Bad debts Journal entry for estimated bad debts: Bad debt expense $30 Allowance for doubtful accounts $30 1. Percentage of credit sales method Focus on the bad debt expense number
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This note was uploaded on 02/20/2012 for the course MGMT 200 taught by Professor Greigg during the Fall '08 term at Purdue University-West Lafayette.

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Chapter 7 - Chapter 7: Accounts Receivable Accounts...

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