Both bases are generally accepted the choice is a

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. Both bases are generally accepted. The choice is a management decision. It depends on the relative emphasis that management wishes to give to expenses and revenues on the one hand or to cash realizable value of the accounts receivable on the other. The choice is whether to emphasize income statement or balance sheet relationships. Illustration 9-5 compares the two bases. Accounts Receivable 403 Cash Flows H11001 500 A OE L H11005 H11001 H11001 500 H11002 500 Cash Flows no effect A OE L H11005 H11001 H11001 500 H11002 500 Illustration 9-5 Comparison of bases for estimating uncollectibles Percentage of Sales Matching Sales Bad Debts Expense Percentage of Receivables Cash Realizable Value Accounts Receivable Allowance for Doubtful Accounts Emphasis on Income Statement Relationships Emphasis on Balance Sheet Relationships The percentage-of-sales basis results in a better matching of expenses with revenues—an income statement viewpoint. The percentage-of-receivables basis PDF Watermark Remover DEMO : Purchase from to remove the watermark
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This basis of estimating uncollectibles emphasizes the matching of expenses with revenues. As a result, Bad Debts Expense will show a direct percentage rela- tionship to the sales base on which it is computed. When the company makes the adjusting entry, it disregards the existing balance in Allowance for Doubtful Accounts. The adjusted balance in this account should be a reasonable approxi- mation of the realizable value of the receivables. If actual write-offs differ signifi- cantly from the amount estimated, the company should modify the percentage for future years. Percentage-of-Receivables. Under the percentage-of-receivables basis , management estimates what percentage of receivables will result in losses from uncollectible accounts. The company prepares an aging schedule , in which it classifies customer balances by the length of time they have been unpaid. Because of its emphasis on time, the analysis is often called aging the accounts receivable . In the opening story, Whitehall-Robins prepared an aging report daily. After the company arranges the accounts by age, it determines the expected bad debt losses. It applies percentages based on past experience to the totals in each category.The longer a receivable is past due, the less likely it is to be collected. Thus, the estimated percentage of uncollectible debts increases as the number of days past due increases. Illustration 9-7 shows an aging schedule for Dart Company. Note that the estimated percentage uncollectible increases from 2 to 40% as the number of days past due increases. produces the better estimate of cash realizable value—a balance sheet viewpoint. Under both bases, the company must determine its past experience with bad debt losses.
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