Example: The company uses the Aging Method to calculate bad debts. The company produced the following aging schedule on December 31, 2013:
Allowance for Doubtful Accounts had a credit balance of $9,000 on December 31. Record the adjusting journal entry for bad debt.
As with every other entry we have completed, the first step is to identify the accounts. This is another variation of an allowance method so we will use Bad Debt Expense and Allowance for Doubtful Accounts.
The calculation here is a few more steps but uses the same methodology used in all the other methods. Multiply the percentage by the balance outstanding. In this case, we have a percentage for each outstanding period. Once you know how much from each time period, add them to get the total allowance balance
The adjusted balance in Allowance for Doubtful Accounts is $14,360. Since the unadjusted balance is $9,000, we need to record bad debt of $5,360.
Can Allowance for Doubtful Accounts have a debit balance? How would that happen? Allowance for Doubtful Accounts is a holding account for potential bad debt. When an account is written off, the allowance is debited. If the company underestimates the amount of bad debt, the allowance can have a debit balance. If the company uses a percentage of sales method, it must ensure that there will be enough in Allowance for Doubtful Accounts to handle the amount of receivables that go bad during the year. One of the benefits of using a receivables method is that we are calculating the new balance in the allowance account or bring the allowance account up to the level needed for the percentage of receivables that are outstanding. This is not the case with the sales method.
Example: Record the adjusting entry assuming the same facts as above, except the Allowance for Doubtful Accounts has a debit balance of $2,000.
Since Allowance for Doubtful Accounts has a normal credit balance, a debit balance in the account is like overdrawing the account. We need to bring the account even, then add enough to get the balance to $14,360. Therefore, we want to add the amounts. You could also look at it like this:
When you subtract a negative, you add the number. The amount of the entry will be $16,360.
The most important thing to remember when working with the allowance methods for bad debt is to know what you have calculated! Once you figure a dollar amount, ask yourself if that amount is the bad debt expense or the allowance. If it is the allowance, you must then figure out how much bad debt to record in order to get to that balance.