In these situations, the funds received from the other party should be recorded as a reimbursement of expenses and not as revenue. As a principle IMHO it is wrong because most readers of financial statements (i.e., investors and creditors) never hear of, nor really care about EITF 01-14. Clearly the $1,000 is being received to offset the costs incurred by Company A. I say Company A should reduce the expenses as recorded on their books, in order to reflect the true cost of establishing the partnership. The purpose of the Sales Returns account is to track the reduction in the value of the revenue while preserving the original amount of sales revenue. The purpose of the Accumulated Depreciation account is to track the reduction in the value of the asset while preserving the historical cost of the asset. There are various technical definitions of what constitutes a bad debt, depending on accounting conventions, regulatory treatment and the institution provisioning.
Below is the asset account debit balance and accumulated depreciation account credit balance on the balance sheet. The contra asset account, accumulated depreciation, is always a credit balance. This balance is used to offset the value of the asset being depreciated, so as of September 1, your $8,000 asset now has a book value of $7,866.67. They are expenses that are offset against revenue, reducing the total amount of income reported on a company’s financial statement.
Contra Expense vs. Revenue
At the end of each accounting cycle, adjusting entries are made to charge uncollectible receivable as expense. Accountants use contra accounts rather than reduce the value of the original account directly to keep financial accounting records clean. If a contra account is not used, it can be difficult to determine historical costs, which can make tax preparation more difficult and time-consuming.
The key example of a contra equity account is Treasury stock, which represents the amount paid to buyback stock. A contra expense account is a general ledger expense account that will intentionally have a credit balance (instead of the debit balance that is typical for an expense account). In other words, this account’s credit balance is contrary to (or opposite of) the usual debit balance for an expense account.
Presentation of Contra Expenses
This article will give you the definition of contra in accounting, talk about different contra accounts, and give examples. This account serves two purposes — tracking total depreciation expenses while providing you with the accurate book value of the asset being depreciated. If you’re using accounting software, you’ll be able to create contra accounts when setting up your chart of accounts. For example, contra expense when depreciating an asset, the accumulated depreciation account is used to reduce the book value of the asset while also keeping track of the total amount of depreciation that has been posted to date. There is the existence of contra accounts in accounting which are accounts that have the purpose of decreasing the value of another specific account if the two accounts are netted or summed together.
- Unlike an asset which has a normal debit balance, a contra asset has a normal credit balance because it works opposite of the main account.
- The accounts normally have a credit balance and in use are offset against the purchases account which is normally a debit balance.
- The accumulated depreciation account is perhaps the most common contra asset account used by business owners.
- The company estimates that it will not be able to collect 1,000 from its customers.
- Often when a company extends goods on credit, management expects some of those customers not to pay and so anticipates writing off bad debt.
- Contra expense accounts can be used to track expenses or income from other accounts in the general ledger.
Contra account is important as it not only allows a company to report the original amount of a transaction but also report any reductions that may have happened so that the net amount will also be reported. They are useful in preserving the historical value in the main account while presenting a write-down or decrease in a separate contra account that nets to the current book value. Allowance for doubtful accounts is a common contra asset listed on a company’s balance sheet under accounts receivable. When a company sells its products or services to customers on credit, the company records the amount sold in its accounts receivable account. If a company has receivables, this means it has made a sale on credit but has yet to collect the money from the purchaser. Remember that financial assets are deemed as having economic value, and can be expressed, in accounting terms, as cash.
Amortization of Discount on Bonds Payable
An estimate of bad debts is made to ensure the balance in the Accounts Receivable account represents the real value of the account. Allowance for Doubtful Accounts pairs with the Bad Debts Expense account when doing adjusting journal entries. Contra expense is an important component of financial accounting as it allows organizations to offset income and expenses in the same reporting period.
Another type of contra account is known as “contra revenue,” which is used to adjust gross revenue to calculate net revenue, i.e. the “final” revenue figure listed on the income statement. Another description of a contra expense account is an account that reduces or offsets the amounts reported in another general ledger expense account(s). Contra expense accounts are rarely used, because organizations find it to be easier to record third-party payments directly against an expense account. However, these accounts are still useful when dealing with large quantities of reimbursements, where it is cleaner and less confusing to store the information in a separate account. Thus, the use of a separate contra expense account makes it easier to monitor the flow of expenses and reimbursements.
Contra equity is a general ledger account with a debit balance that reduces the normal credit balance of a standard equity account to present the net value of equity in a company’s financial statements. Obsolete, Unsold and Unusable Inventory are contra asset accounts with a credit balance that reduce the normal debit balance of the main Inventory asset account in order to present the net value of inventory on a company’s balance sheet. Since it is a contra asset account, this allowance account must have a credit balance (which is contrary to the debit balances found in asset accounts). The Allowance for Doubtful Accounts is directly related to the asset account entitled Accounts Receivable.
- For a liability or revenue account that are naturally credit accounts, the contra accounts will be in a debit position.
- It might be more efficient or convenient for the department to initially pay all the expenses; however, the cost of that activity on the university’s books should only reflect its share of the expenses.
- The portion of the account receivable that is estimated to be not collectible is set aside in a contra-asset account called Allowance for doubtful accounts.
- These three types of contra accounts are used to reduce liabilities, equity, and revenue which all have natural credit balances.
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