Financial Accounting: An Integrated Statements Approach, 2nd Edition

DIRECT WRITE-OFF METHOD

FOR UNCOLLECTIBLE ACCOUNTS

Under the direct write-off method, bad debt expense is not recorded until the customer’s

account is determined to be worthless. At that time, the customer’s account receivable is

written off. To illustrate, assume that a $4,200 account receivable from D. L. Ross has

been determined to be uncollectible. The entry to write off the account is as follows:

May 10 Bad Debt Expense 4,200

Accounts Receivable—D. L. Ross 4,200

What happens if an account receivable that has been written off is later collected?

In such cases, the account is reinstated by an entry that reverses the write-off entry.

The cash received in payment is then recorded as a receipt on account.

To illustrate, assume that the D. L. Ross account of $4,200 written off on May 10

in the preceding entry is later collected on November 21. The reinstatement and receipt

of cash is recorded as follows:

Nov. 21 Accounts Receivable—D. L. Ross 4,200

Bad Debt Expense 4,200

21 Cash 4,200

Accounts Receivable—D. L. Ross 4,200

The direct write-off method is used by businesses that sell most of their goods or

services for cash and accept only MasterCardorVISA, which are recorded as cash

sales. In such cases, receivables are a small part of the current assets and any bad debt

expense would be small. Examples of such businesses are a restaurant, a convenience

store, and a small retail store.

ALLOWANCE METHOD FOR

UNCOLLECTIBLE ACCOUNTS

As we mentioned earlier, the allowance method is required by generally accepted

accounting principles for companies with large accounts receivable. As a result, most well-

known companies such as General Electric, PepsiCo, Inc.,

Intel,andFederal Expressuse the allowance method.

As discussed in the preceding section, the direct

write-off method records bad debt expense only when

an account is determined to be worthless. In contrast,

the allowance method estimates the accounts receivable

that will not be collected and records bad debt expense

for this estimate at the end of each accounting period.

Based upon this estimate, bad debt expense is then

recorded by an adjusting entry.

To illustrate, assume that ExTone Company began

operations in August and chose to use the calendar year

as its fiscal year. As of December 31, 2007, ExTone

Company has an accounts receivable balance of $1,000,000

that includes some accounts that are past due. However,

358 Chapter 8 Receivables

Describe the direct write-

off method of accounting

for uncollectible

receivables.

3

Describe the allowance

method of accounting for

uncollectible receivables.

4

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