Class Notes (810,206)
Canada (493,988)
Rotman Commerce (1,034)
RSM219H1 (86)

chapter 8

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University of Toronto St. George
Rotman Commerce
Alexander Edwards

1. Types of Receivables 1.1Receivables refer to amounts due from individuals and other companies that are expected to be collected in cash. 1.2Receivables are classified as either: 1.2.1 Accounts receivable, are amounts owed by customers on account. These receivables are expected to be collected within 30 days or so. 1.2.2 Notes receivable represent claims for which formal instruments of credit are issued as evidence of the debt. The debtor normally is required to pay interest and the time period may extend for 30 to 90 days or longer. Notes and accounts receivable that result from sales transactions are often called trade receivables. 1.2.3 Other receivables include nontrade receivables such as GST recoverable, interest receivable, loans to company officers, advances to employees, and recoverable income taxes. 2. Recognizing Accounts Receivable 2.1Accounts receivable are recognized when merchandise is sold on account, as explained in Chapter 5. 2.2Recognizing accounts receivable also occurs when a company sells merchandise and a customer uses the company’s own credit card. 2.2.1 Credit card sales result in a debit to Accounts Receivable and a credit to Sales. 2.2.2 Receivables are created by services or sales on account and reduced when cash is collected or when the customer takes advantage of a sale discount or returns the product. If customers fail to pay within a specified period (usually 30 days), the seller adds interest. The interest is debited to Accounts Receivable and credited to Interest Revenue. Accounts receivable subsidiary ledger:  A subsidiary ledger is the group of accounts that share a common characteristic. The subsidiary ledger has a reasonable account for each customer and the total of all balances in the customer’s account in the subsidiary ledger should equal to the total balance in the general ledger receivable accounts.  This equality occurs because when receivables transactions are recorded in the subsidiary and lectures on a customer buy customer bases, some rays of these transactions are recorded in the general ledger  The general ledger contains only one receivables account--accounts receivable—which acts as a control account to the subsidiary ledger.  Control account is the general ledger account that summarizes the subsidiary inventory that and at all times the control account balance must equal to the total up to all individual customers receivables balances in the subsidiary ledger  Under this system of control and subsidiary accounts, each journal entry that affects accounts receivables must therefore be posted twice: wants to the subsidiary ledger account and wants to the general ledger control account * see the illustration in page 414* 1 Interest revenue  If the customer doesn’t pay in full within a specified period of time, and interest (financing) charge may be added to the balance due. When financing charges are added, the Sellers to recognize interest revenue and increases the accounts receivable amounts old to buy the customer 3. Valuing Accounts Receivable • Some accounts receivable become uncollectible • Losses from these uncollectible accounts are debited to an account called Bad Debts Expense • Bad debts expense is recognized in the same period that the related sales revenue is generated • 3.1Valuing receivables involves reporting them at their net realizable value. Net realizable value is the net amount expected to be received in cash.  Net realizable value  Net amount expected to be collected in cash  Excludes amounts the company estimates it will not collect  Keeps receivables from being overstated on the balance sheet 3.2.2 The Allowance Method The allowance method is required for financial reporting purposes when bad debts are material in amount.  The allowance method of accounting for bad debts estimates the uncollectible accounts at the end of each period and shows this estimate in allowance for doubtful accounts, which is a Contra asset account with a credit balance that is shown below accounts receivable. This allows it is an estimate of the amount of receivable that are expected to become uncollectible in the future  A Contra account is used instead of a direct credit to accounts receivable for two reasons: 1. We do not know which individual customer will not pay. If the company uses a subsidiary ledger, we are unable to credits specific a strike comes to show they are uncollectible also we are unable to credit the control account itself as this would mean that the balance would not equal to the sum of all the customer’s account in the subsidiary ledger. 2. The balance in allowance for doubtful accounts is just an estimate. A Contra account helps to separate estimates from actual amount such as those found in accounts receivable  The laws method is required for financial reporting. It has 3 essential features: Recoding Estimated Uncollectible accounts: and the amount of uncollectible accounts receivable is estimated by ensuring that the balance in allowance for doubtful accounts is equal to the estimate of uncollectible accounts. Any increase to the amounts balance is also recorded in bad debt expense so that it can be recorded in the same period that the related revenue was earned. * see the illustration 8-2 in page 417*  Estimating the amounts: Under the percentage of receivables basis, management establishes a percentage relationship between the amount of receivables and expected losses from uncollectible accounts. This percentage can be applied to total receivables or to groupings of receivables by age. Because of its emphasis on time, using stratification is called aging the accounts receivable 2 -This basis produces a better estimate of net realizable value (balance sheet viewpoint). -An aging schedule is often used to determine the required balance in the allowance account at each balance sheet date. - When the adjusting entry is made, the amount of bad debt expense is the difference between the required balance and the existing balance in the allowance account - the amount of the bat that adjusting entry is the difference between the required balance and the existing balance of the allowance account. * see the illustration 8-3 in page 417 and 418* Recording the write-off of an uncollectible account: actual uncollectible are written off at that time the specific amount is determined to be uncollectible. This will cause a reduction in accounts receivable because the amount is not collectible. It will also cause a reduction in the allowance for doubtful accounts, because the amount is no longer doubtful.  To prevent premature or unauthorized write-offs, of each write-off should be formally approved in writing by authorized management personnel.  Under the allowance market, every accounts receivable by the entry is debited to the amount account and not too bad debts expense.  It debit to back debt expense would be incorrect because the expense was already recognized when the adjusting entry the estimated the laws balance was reported last year. The allowance account can sometimes and up with a debit balance after a write-off of uncollectible account. This occurs if the write-offs during the period to exceed the opening balance which is a temporary situation because it will be corrected when the adjusting entry for estimated uncollectible accounts is made at the end of the period. * see the illustration in page 418* the recovery of uncollectible accounts: when an account that was previously written off is later collected, the original write-off is reversed and the collection is recorded. Note that neither the write-off the more the subsequent recovery extracts the income statement  2 entries are required to record the recovery of a bad debt: 1. the entry made in writing off the account is reversed to reinstate the customer’s account and 2. The collection is recorded in the usual way. *see the illustration in page 419)* Summary of allowance method 1. Estimate Uncollectible accounts receivable: Bad debts expense XX Allowance for doubtful accounts XX -the amount to record can be determined by using a percentage of total receivables or an aging schedule. This entry is an adjusting entry that is made at the end of the period 2. Actual uncollectible or write-off: Allowance for doubtful accounts XX Accounts receivable XX - This entry is not an adjusting entry and is recorded as sold as it can be determined that the collection of an account is unlikely. 2. Later recoveries, are recorded in two separate entries: Accounts receivable XX Amounts for doubtful accounts XX 3 Cash XX Ac
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