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Accounting Fundamentals II: Lesson 3 Page 1 of 6

Accounting Fundamentals II: Lesson 3 (printer-friendly version)


Your Instructor: Charlene Messier

INSTRUCTIONS:

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Chapter 1

Introduction

Whenever a business extends credit to its customers, there will always


be accounts that the business can't collect and must write off. In this
lesson, we'll talk about an unpleasant aspect of the business:
determining, journalizing, and posting uncollectible Accounts
Receivable.

You'll also learn how to reenter a previously written-off account that the
customer eventually pays. These are all very important transactions to
the success of the business and the accuracy of its Accounts
Receivable.

You'll need to print out a new General Journal page for this lesson. To
do that, just click Lesson 3 Form in the Supplementary Material.

Chapter 2

Estimating and Recording Uncollectible Accounts Expense

Many corporations sell merchandise on account. This means that customers may purchase and
receive the merchandise on one date and pay for it at a later date. This encourages sales and also
allows sales to be more easily completed over the telephone or by mail.

Businesses usually fully investigate a customer's credit rating before allowing them to purchase on
account. The business expects to receive its money according to the terms that it offers for charge
purchases. However, the business may be unable to collect some Accounts Receivable amounts.
These are referred to as uncollectible accounts, or more commonly as bad debts.

When a business is unable to collect the amount owed on an account, the business loses some of its
Accounts Receivable assets. This uncollectible amount is taken out of the Accounts Receivable
classification and entered into an Expense classification. The account that is used for this expense is
called Uncollectible Accounts Expense. The amount in this expense does not decrease the business'
sales; rather, it is considered an expense of operating the business. A sale was realized at the time of
the sale. A customer's failure to pay does not cancel the sale; hence, the loss is treated as an
expense.

Because a business cannot predict which customers will not pay


their accounts, the customer's account in the Accounts
Receivable Subsidiary Ledger cannot be adjusted until the
customer actually does not pay the balance owed to the

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Accounting Fundamentals II: Lesson 3 Page 2 of 6

business. Likewise, the controlling account in the General


Ledger, Accounts Receivable cannot be adjusted.

However, an estimate of uncollectible Accounts Receivable must be made. This is because all
expenses must be reported in the fiscal period in which the revenue was earned from that expense.
For example, if the business used $500.00 worth of office supplies for the month of December, that
amount must be included as an expense for that month even if the purchase was made and the money
spent in a previous month. This is referred to as matching expenses with revenue. To get a true picture
of the business' net income or net loss, all expenses relating to the fiscal period must be included in
the financial records for that period.

Therefore, an estimation of uncollectible Accounts Receivable will be determined, entered on the


worksheet as an adjusting entry, journalized in the General Journal, and finally posted to the General
Ledger. We will complete the worksheet report later in this course. Estimating the uncollectible
Accounts Receivable prevents two situations from occurring:

z An overstatement of the value of the asset account Accounts Receivable.

z An understatement of expenses on the Income Statement Report. An understatement of


expenses would make the net income for the fiscal period higher than it actually is; therefore, all
expenses must be considered in the fiscal period in which they were incurred.

To record this estimation of uncollectible Accounts Receivable, two accounts are used: Uncollectible
Accounts Expense and Allowance for Uncollectible Accounts. Because all expense accounts have
normal debit balances and increase with an entry on the debit side, Uncollectible Accounts Expense
will be debited for the estimate of uncollectible Accounts Receivable. Allowance for Uncollectible
Accounts will be credited for the same amount to ensure the equality of the debits and credits in the
General Ledger.

Allowance for Uncollectible Accounts is a contra account. This simply means that the balance in this
account goes against the balance in another account. For example, if the General Ledger Accounts
Receivable account had a balance (debit) of $25,000.00, and the General Ledger Allowance for
Uncollectible Accounts had a balance (credit) of $5,000.00, the true value or book value of Accounts
Receivable would be $20,000.00.

The credit balance in the Allowance for Uncollectible Accounts is deducted from the debit balance in
the Accounts Receivable account to determine the book value of Accounts Receivable for the
corporation.

When completing the Balance Sheet report later in this course, it is the book value, or the $20,000.00
figure above, that would be used for the balance in Accounts Receivable.

Many corporations use a percent of total sales on account to calculate (estimate) the uncollectible
account expense. For this lesson, we will use 1% of sales on account for estimating the uncollectible
Accounts Receivable expense. Let's assume that for the month ending December 31, the sales on
account totaled $543,500.00. Remember, these are only charge sales, not cash sales. If we take 1% of
that amount, we estimate that our uncollectible Accounts Receivable for the month will be $5,435.00.

The transaction to record this expense would be a credit for $5,435.00 to Allowance for Uncollectible
Accounts, and a debit to Uncollectible Accounts Expense. This adjusting entry would first be entered in
the worksheet report, then journalized in the General Journal and posted to the General Ledger.

All adjusting entries are entered on a separate General Journal page. Open a new General Journal
page and label it page 13. On the first line in the Account Title column, write Adjusting Entries.

Let's journalize and post an estimation of uncollectible Accounts Receivable.

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Accounting Fundamentals II: Lesson 3 Page 3 of 6

Transaction #33: Dec. 9, Estimated uncollectible Accounts Receivable for the month will
be 1% of the total charge sales of $53,200.00. The estimated amount of uncollectible
Accounts Receivable would be $532.00 (1% of the total charge sales), Memorandum #1.

To journalize this, enter the date on the second line of the new General Journal page 13 you just
opened. Next, enter Uncollectible Accounts Expense in the Account Title column. Put M1 in the Doc.
No. column, and enter $532.00 in the Debit column. Then, on the next line, enter Allowance for
Uncollectible Accounts in the Account Title column and put $532.00 in the Credit column. That's all
there is to journalizing this transaction. Now go to the General Ledger accounts and post this
transaction.

Chapter 3

Canceling Uncollectible Accounts Receivable

In spite of the many ways that a business can encourage its customers to pay, some accounts prove to
be uncollectible and must be written off. This simply means that it is not expected that the customer will
pay the account balance in the future.

The transaction to write off a customer's account is journalized in the General Journal as a debit to
Allowance for Uncollectible Accounts and a credit to Accounts Receivable. It is also entered into the
Accounts Receivable Ledger in the customer's individual account as a credit. In the General Journal,
the transaction would appear like this:

Doc. Post
Date Account Title Debit Credit
No. Ref.
Allowance for Uncollectible
12/8 M2 $500.00
Accounts
Accounts Receivable/Jeff
$500.00
Barnes

This is simply an example of a journal entry to write off an account. Teammates, Inc. has no customer
named Jeff Barnes. The above is for illustrative purposes only.

Writing off a customer's account does not change the book value of Accounts Receivable because the
same amount ($500.00 above) is deducted from the Accounts Receivable account and the Allowance
for Uncollectible Accounts account. For example:

Accounts Receivable (-) Balance of Allowance for Uncollectible Accounts = Book Value
of Accounts Receivable

$25,000.00 - $5,000.00 = $20,000.00

After writing off Jeff Barnes account, the equation would appear as follows:

Accounts Receivable (-) Balance of Allowance for Uncollectible Accounts = Book Value
of Accounts Receivable

$24,500.00 - $4,500.00 = $20,000.00

Now let's journalize writing off a couple of Accounts Receivable accounts:

Transaction #34: Dec. 9, Write off Roger Blackstone's account in the amount of
$575.00, Memorandum #2.

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To journalize this transaction, enter the date on the next available line of General Journal, page 12. Put
M2 in the Doc. No. column. In the Account Title column, enter Allowance for Uncollectible Accounts
and enter $575.00 in the Debit column. On the next line, enter Accounts Receivable/Roger Blackstone
in the Account Title column, and put $575.00 in the Credit column.

To post this transaction, first go to the account Allowance for Uncollectible Accounts in the General
Ledger and enter a $575.00 debit. Then go to Accounts Receivable in the General Ledger and enter a
credit for $575.00. Last, go to Roger Blackstone's individual account in the Accounts Receivable
Ledger and enter a $575.00 credit. This will zero out his account. Don't forget your Post Ref. number
as you post from the Journal to the Ledgers.

Let's do one more transaction for writing off a customer's account:

Transaction #35: Dec. 9, Write off Glen Wright's account in the amount of $850.00,
Memorandum #3.

Journalize and post this transaction just like you did for Transaction #34.

Chapter 4

Collecting Written-Off Accounts Receivable

Sometimes a customer will pay off an account that is very


past due and has been written off. Of course, we do not
want to send the money back and say, "no thanks—we've
written that debt off." Instead, we will journalize a transaction
in the General Journal to show that this account has been
paid off.

To do this, we need to put the amount back into the General


Ledger Accounts Receivable account, and also back into the
customer's account in the Accounts Receivable Subsidiary
Ledger. We also need to take it out of the General Ledger
account Allowance for Uncollectible Accounts.

Let's journalize and post a transaction of this type:

Transaction #36: Dec. 9, Received a check from Roger Blackstone in the amount of
$575.00 (account was previously written off as uncollectible), Memorandum #4 and
Receipt #4.

To journalize this transaction, we need to first enter the balance back into Roger's account and the
Accounts Receivable account in the General Ledger. We also need to take the amount out of
Allowance for Uncollectible Accounts in the General Ledger.

First, on the next line of the General Journal, page 12, enter the date and use M4 as the Doc. No. In
the Account Title column, enter Accounts Receivable/Roger Blackstone and enter $575.00 in the Debit
column. On the next line, enter Allowance for Uncollectible Accounts and enter $575.00 in the Credit
column. Post this transaction to both the General Ledger accounts and Roger's individual account in
the Accounts Receivable Ledger.

Now, using the next line in the Cash Receipts Journal, enter Roger Blackstone in the Account Title
column and put R4 in the Doc. No. column. Enter the $575.00 payment under the Accounts Receivable
Credit and Cash Debit special amount columns. That is all you need to do to journalize this transaction.

Next, go to Roger's account in the Accounts Receivable Ledger and post the $575.00 payment from
the Cash Receipts Journal. Remember to enter CR12 in the Post Ref. column. You can see that the

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account was first written off, then the amount put back in, and finally paid in full, leaving no balance in
Roger's account.

Chapter 5

Conclusion

You have learned a lot in this lesson: how to determine and calculate uncollectible Accounts
Receivable and how to journalize and post the estimated amount of uncollectible Accounts Receivable.
You have also learned how to write off a bad debt and how to reverse that entry when the customer
makes payment. All of these transactions are important to any business that extends credit to its
customers. Although a little confusing, with thought and practice, these transactions become very clear
and their purpose appreciated.

In the next lesson, we will account for plant assets and depreciation.

When you feel ready, please take the quiz for Lesson 3. Continued good luck!

Supplementary Material

Lesson 3 Form
/crs/pix/af2/L03-Form.pdf
Here's the new General Journal page that you'll need to complete
this lesson's work.

Lesson 3 Solutions
/crs/pix/af2/L03-Solutions.pdf
All finished? Click here to check your work against this lesson's
solution forms. You can either print them or check the amounts
online. Unfortunately, some of the wider forms can only appear
sideways, so printing may be your better option. If you don't mind
tilting your head, you'll be able to see what you need to see on the
screen while saving some printer ink and paper! Note: Only those
forms and accounts with new entries in them will appear in each
lesson's solutions. If you're curious about a transaction in a
previous lesson, you'll have to go back to that lesson's Solution
link.

Estimating Uncollectible Accounts Receivable


http://panoptic.csustan.edu/2110/06/tsld044.htm
Follow the slides for transactions relating to Uncollectible Accounts
Receivable.

FAQs

Q: What is an uncollectible Account Receivable?

A: An uncollectible Account Receivable is an account that the corporation does not


expect to receive payment for.

Q: How is the amount in Uncollectible Accounts Expense determined?

A: The amount is determined by multiplying the total charge sales for the period by a
percent determined by the business. This percent is usually 1% or 1 ½%

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Q: What does it mean to cancel an uncollectible Account Receivable?

A: This term means that the business will write off the balance in the account as
uncollectible.

Q: Once an account is written off, what happens if it is paid?

A: An account previously written off and paid at a later date is re-entered into the General
Ledger and Accounts Receivable Ledger. The payment is then journalized and posted as
any payment on account would be.

Q: Why might a business sell merchandise on account?

A: By selling merchandise on account, customers are encouraged to purchase


merchandise. Accounts also make it easier to make purchases over the telephone or by
mail.

Course content © 1997-2007 by Charlene Messier. All rights reserved. Reproduction or redistribution
of any course material without prior written permission is prohibited.

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