Bad debts expense: Balance sheet approach
Under the balance sheet approach, bad debts expense is computed by a two-step process.
First, the balance in Accounts Receivable is multiplied by the estimated uncollectible percentage. The result is the desired ending balance in the Allowance account.
| Desired ending balance in the Allowance account | = | Balance in Accounts Receivable | × | Estimated uncollectible percentage |
|---|---|---|---|---|
| = | $115,000 × 0.5% | |||
| = | $575 | |||
Second, the amount of the adjusting entry must be calculated. Under the balance sheet method, the existing balance in the allowance account must be taken into consideration. Before adjustment, Allowance for Bad Debts has a debit balance. To determine the adjustment amount, the existing debit balance is added to the desired ending balance in the Allowance account.
| Adjusting entry amount | = | Desired ending (credit) balance | + | Existing debit balance in the Allowance account |
|---|---|---|---|---|
| = | $575 + $503 | |||
| = | $1,078 | |||
It might help to look at the following T-account:
Allowance
503
1,078
575
Therefore, the journal entry to record the adjusting entry for credit losses for the year is:
Debit Bad Debts Expense:
Bad Debts Expense, an expense account, is debited (increased) for $1,078.
Credit Allowance for Bad Debts:
Allowance for Bad Debts, a contra-asset account, is credited (increased) for $1,078.
Thus, the answer is:
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