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ACCOUNTING FOR ACCOUNTS RECEIVABLE REVIEW QUESTIONS 1. The allowance method is generally required for financial reporting purposes. 2. To use the allowance method, three steps are followed: a. At the end of each accounting period, the amount of uncollectible accounts is estimated. b. An adjusting entry is made to recognize the bad debt expense and reduce reported receivables for the amount of estimated uncollectible accounts. c. In a subsequent period, when a specific uncollectible account is identified, an entry is made to write off the account and reduce the balance in Allowance for Bad Debts. 3. Net realizable value is computed by subtracting Allowance for Bad Debts from Accounts Receivable. 4. The percentage of sales method is based on the relationship between the amount of credit sales and the amount of uncollectible accounts. Based on experience, uncollectible accounts as a percentage of sales is determined, and this percentage is used to estimate the uncollectible accounts. 5. The percentage of receivables method is based on the relationship between the amount of accounts receivable and the amount of uncollectible accounts. Uncollectible accounts is computed as a percentage of the aged accounts receivable. 6. Under the percentage of sales method, any balance in the Allowance for Bad Debts prior to adjustment generally is ignored in making the current period adjustment. Under the percentage of receivables method, this balance must be considered in making the current period’s adjusting entry. 7. Under the allowance method, the write-off of an account as uncollectible does not affect either the income statement or the balance sheet. 8. Two entries are made if an account that was previously written off is subsequently collected: a. The account must be reinstated by a debit to Accounts Receivable and a credit to Allowance for Bad Debts. b. The collection must be entered by a debit to Cash and a credit to Accounts Receivable. 9. Under the direct write-off method, the bad debt expense is not recognized until it has been determined that an account is uncollectible. Once an account is determined to be uncollectible, Bad Debt Expense is debited and Accounts Receivable is credited. 10. Three disadvantages of the direct write-off method are: a. Efforts to collect the account often extend over many months resulting in mismatching of revenues and expenses. b. The amount of bad debt expense recognized in a given period can be manipulated by management. This occurs because there is no general rule for deciding when an account becomes uncollectible. c.
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This note was uploaded on 03/27/2012 for the course ACCOUNTING 301 taught by Professor Sullivan during the Spring '11 term at Liberty.

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