University:
Grand Rapids Community College
Course:
Financial and Managerial Accounting: Information for Decisions - John J. Wild
Academic year:

2024
Views:

206

Pages:

2
Author:

stud_ice13

Direct Write-Off Method for Accounts Receivable The direct write-off method is used to record uncollectible accounts (bad debts) when it becomes clear that the customer will not pay. This method recognizes the bad debt only after the specific account is determined to be uncollectible. It is commonly used by companies with smaller volumes of receivables or when bad debts are immaterial. Recording and Writing Off Bad Debts When a company determines that an account is uncollectible, it writes off the amount by debiting Bad Debts Expense and crediting Accounts Receivable. This is straightforward and simple, but it does not attempt to estimate bad debts in advance or match them with related sales. For example, if TechCom cannot collect $520 from its customer, J. Kent, it would record the following journal entry on January 23 to write off the bad debt: Journal Entry: • • Debit: Bad Debts Expense $520 Credit: Accounts Receivable (J. Kent) $520 This entry reduces the accounts receivable balance and recognizes the loss as an expense in the current period. However, no effort is made to match this expense with the period when the sales were made, which is a potential downside of this method. Recovering a Bad Debt Occasionally, a customer who was written off as uncollectible later pays their debt. In such cases, the original write-off must be reversed before recording the payment. For instance, if J. Kent pays the $520 that was previously written off, TechCom would record the following two entries: 1. Reverse the Write-Off: o Debit: Accounts Receivable (J. Kent) $520 o Credit: Bad Debts Expense $520 2. Record the Payment: o Debit: Cash $520 o Credit: Accounts Receivable (J. Kent) $520 These entries restore the account and recognize the cash received, ensuring that the financial statements accurately reflect the recovery. Example of Direct Write-Off Method Entries Let’s go through the steps for the example involving the retailer and ZZZ Company: 1. Writing Off an Uncollectible Account: o The retailer determines it cannot collect $400 from ZZZ Company. Journal Entry: Debit: Bad Debts Expense $400 o Credit: Accounts Receivable (ZZZ Company) $400 2. Recovering the Bad Debt: o ZZZ Company unexpectedly pays the $400 it owes. o Step 1: Reverse the Write-Off: o o Debit: Accounts Receivable (ZZZ Company) $400 Credit: Bad Debts Expense $400 Step 2: Record the Payment: o o Debit: Cash $400 Credit: Accounts Receivable (ZZZ Company) $400 Advantages and Disadvantages of the Direct Write-Off Method Advantages: • • Simplicity: It is easy to apply since no estimates are required. No estimates needed: Bad debts are only recorded when they occur. Disadvantages: • • Temporary overstatement: Receivables and income may be overstated until bad debts are recognized. Expense matching issue: Bad debts are often recorded in a different period from the associated sales, leading to a mismatch between revenues and expenses. Conclusion The direct write-off method is simple and effective for companies with small volumes of receivables or immaterial bad debts. However, it can result in mismatches between expenses and revenues and may overstate receivables and income temporarily.