Allowance for Doubtful Accounts Policy

Prepared By:

Approved By:

Revision Date:

Effective Date:

PURPOSE

This policy specifies guidelines that ensure uniform accounting for allowances for doubtful accounts.

EXCEPTION AUTHORIZATION

All variations from this policy must be approved by the vice president responsible for control, the vice
president responsible for the treasury function, or the chief financial officer.

DEFINITIONS

• Allowances for Doubtful Accounts (Allowance): The allowance for doubtful accounts (allowance) is
a valuation account used to adjust the total of the customer accounts and notes receivable to
anticipated net realizable values.
• Charge-Offs: Charge-offs include all trade accounts receivable that have been written off because of
non-collectability. Recoveries will not be netted against charge-offs.
• Formula Rate: The formula rate is determined by dividing the sum of the preceding X years charge-
offs by the sum of the preceding X years average annual trade receivable balances.
• Formula Allowance: The formula allowance is an amount determined by applying the formula rate to
the estimated current year average trade receivable balance plus specifically identifiable problem
notes receivable.
• Base Allowance: The base allowance is the greater of the sum of specifically identifiable problem
accounts and notes receivable or the formula allowance (see Appendix I).
• Accruals: Accruals include the monthly addition to the base allowance balance to provide for
estimated charge-offs to be made at midyear and year-end reviews and for anticipated changes in the
base allowance.

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 POLICY

Policy Statements

• Maintenance and review of the allowance for doubtful accounts shall be the responsibility of the
division, controlled subsidiary or joint venture.
• Accounts deemed uncollectible (see Appendix III) should be charged off in the month that they are
determined to be uncollectible. In addition, at (Insert Date) and (Insert Date), the allowance will be
adjusted to the base allowance.
• At interim periods, the allowance for doubtful accounts will be composed of the base allowance and
accruals.
• In the event Company X has a receivable and a payable from a bankrupt company on the books of
one or more divisions, the receivable and payable balances to be set off will be transferred to
corporate accounting.

PROCEDURES

• At (Insert Date) and (Insert Date), the allowance for doubtful accounts should be adjusted to the base
allowance using the Allowance for Doubtful Accounts Computation Worksheet (see Appendix I). Any
adjustment will be recorded as either income or expense.
• The review of the adequacy of the allowance for doubtful accounts will be conducted at midyear and
year-end by the division financial manager. This will include a review of all accounts written off in the
preceding six-month period. Appendix III identifies some guidelines that the reviewer should consider
when reviewing accounts charged off or to determine accounts to be charged off. Following the
review, the allowance computation sheet should be signed and retained at the operation for review by
internal audit during normal audits.
• When major problem accounts surface during the interval between the mid-year and year-end review,
the allowance will be adjusted upward immediately and considered in the determination of the base
allowance.
• If an acquisition indicates a larger allowance is needed, an upward adjustment of the allowance will
be made immediately.
• Abnormally large problem accounts and/or notes should be excluded from the base allowance and
provided for separately.
• Adjustments to allowance balances should be recorded in the following financial consolidation
accounts:
− (Insert Account) — Allowances for Doubtful Accounts Current Provision
− (Insert Account) — Charge-offs
− (Insert Account) — Collections
− (Insert Account) — Bad Debt Expense
• When a customer becomes bankrupt, notification should be sent to the treasury department
(Corporate Policy No. __). When it is determined that a multidivisional receivable/payable exists, the
treasury department will determine the amount of the receivable and payable balance to be

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 transferred to corporate accounting via cash control. These amounts will be equal and offsetting. The
transferred accounts will be monitored by the treasury department and will remain at corporate until
final disposition is made by the courts. Responsibility for any shortage in the settlement of claims will
remain with the divisions. Any adjustment will be cash controlled back to the divisions once the courts
have determined the legitimacy and amount of such setoffs.
• Attached Appendices IV and V are blank worksheets that can be used to determine the base
allowance and the allowance adjustment.

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 APPENDIX I

Allowance for Doubtful Accounts Computation Worksheet

The following is an example of the base allowance computation for midyear and year-end.

• (I) Specifically identifiable problem accounts and notes receivable.

Specifically identifiable problem accounts and notes receivable $ (Insert Amount)
• (II) Formula Allowance

Average Annual Trade

Preceding X Years Charge Off
Receivable Balances
$ (Insert Amount) $ (Insert Amount)
$ (Insert Amount) $ (Insert Amount)
$ (Insert Amount) $ (Insert Amount)
$ (Insert Amount) $ (Insert Amount)
$ $ (a)
$X $Y

Formula rate = (X) = ______ (b)

(Y)

Formula Allowance =
Estimated current year average trade receivable balance $
Formula rate
Increase in base allowance warranted by business acquisitions
during the past year
Specifically identifiable problem notes $
Total $
• In (Insert Month), the current years’ estimated charge-offs
and average trade receivable balance should be used.
• This rate is determined at year-end and is not changed at
midyear.

• (III) Base allowance (greater of I or II) $

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 APPENDIX II

Adjustments to income or expense and to the allowance for doubtful accounts

A. Ending allowance balance per books:

$
(financial consolidation accounts X through X)
B. Charge-offs $
C. Allowance balance after charge-offs $
D. Less: Base allowance from .18 III $
Abnormally large accounts
E. If C is greater than D, enter difference as addition to income
$
(adjust books accordingly)
F. If D is greater than C, enter difference as addition
$
to expense

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 APPENDIX III

Guidelines to consider when reviewing accounts to determine whether or not they should be
charged off

• Accounts Placed With Collection Agencies or Attorneys

− Write off:
− Over one year with no payments
− Returned uncollectible
− Paid less than X% in the current year

• Bankruptcies
− Chapter 11 or Chapter 13
ᵒ If small account balance and long-term payoff, consider writing off
ᵒ If no payments are anticipated to be made, write off
ᵒ If large balance, use judgment as to write off
− Chapter 7
ᵒ Write off

• Problem Accounts not Placed with Collection Agency or Attorney or Bankrupt

− Write off unless X% has been realized in current year

These guidelines should not be interpreted to be hard and fast rules since there may be exceptions which
will require judgment.

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 APPENDIX IV

Allowance for Doubtful Accounts Computation Worksheet

• (I) Specifically identifiable problem accounts and notes

Specifically identifiable problem accounts and notes receivable. $
• (II) Formula allowance

Average Annual Trade

Preceding X Years Charge Off
Receivable Balances

(a) (a)

Formula Rate = _________ = _______ (b)

Formula Allowance =
Estimated current year average trade receivable balance $
Formula rate
Increase warranted by business acquisitions during the past
year
Specifically identifiable problem notes $
Total $
• In (Insert Month), the current years’ estimated charge-offs
and average trade receivable balance should be used.
• This amount is determined at year end and is not changed
at midyear.

• (III) Base allowance (greater of I or II) $

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Adjustments to income or expense and to the allowance for doubtful accounts

A. Ending allowance balance per books:

$
(financial consolidation accounts X through X)
B. Charge-offs $
C. Allowance balance after charge-offs $
D. Less: Base allowance from .18 III $
Abnormally large accounts $
E. If C is greater than D, enter difference as addition to income
$
(adjust books accordingly)
F. If D is greater than C, enter difference as addition to expense
(adjust books accordingly) $

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