CHAPTER 15 ACCOUNTS RECEIVABLE AND UNCOLLECTIBLE ACCOUNTS

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1 CHAPTER 15 ACCOUNTS RECEIVABLE AND UNCOLLECTIBLE ACCOUNTS Chapter Opener: Thinking Critically Uncollectible accounts can be estimated in a number of ways. Students might consider historical data on uncollected accounts as one way of estimating the amount of uncollectible accounts a company can expect. Fast Facts Federal Express Corporation was founded 1971 in Little Rock, Ark. The most popular perk for employees is called jump seating. This allows employees to hitch an unlimited number of free rides anywhere FedEx flies. In 1973 on the first night of continuous operation, 389 Federal Express employees and 14 aircraft delivered 186 packages overnight to 25 U.S. cities. Currently, FedEx employs more than 275,000 employees and contractors worldwide and operates 684 aircraft and delivers an average daily volume of 8 million shipments for express, ground, freight and expedited delivery services. Managerial Implications: Thinking Critically The aging of accounts receivable would provide information about the length of time required to collect accounts. The balance sheet and income statement provide total sales, accounts receivable, and uncollectible accounts expense. Discussion Questions 1. The allowance method more closely matches revenues (sales) with expenses (uncollectible accounts) in the year the revenue is earned. 2. (a) percent net credit sales, (b) adjust allowance to percentage of total accounts receivable, and (c) age accounts based on different percentages for different ages of accounts. 3. On sales. Sales represents the revenues for the current period. The accounts receivable account reflects sales made in the current period and past periods. 4. Compute the loss from bad debts by multiplying the net credit sales by the predetermined loss percentage. Charge this amount to the expense account and credit Allowance for Doubtful Accounts for the same amount. If the balance in the allowance account is unusually low, it may be desirable to consider making a special provision for additional uncollectible accounts. 5. Determining balances for each customer and analyzing the balance between debt not yet due and debt past due for each period of time. 6. Allowance for Doubtful Accounts. 7. Debit Allowance for Doubtful Accounts and credit Accounts Receivable and the customer s account in the subsidiary ledger. 8. The matching principle and the conservatism constraint. 568 Chapter 15 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved.

2 Discussion Questions (continued) 9. Debit Accounts Receivable and the customer s subsidiary account and credit Allowance for Doubtful Accounts. Then debit Cash and credit Accounts Receivable and the customer s subsidiary account. 10. Credit the Allowance account for only enough to bring the balance to the estimated doubtful accounts based on the aging analysis. 11. It is a contra account and is subtracted from Accounts Receivable. 12. Uncollectible Accounts Expenses is shown as either a selling expense (if the sales department is responsible for granting credit), or as a general expense (if the sales department does not grant credit). 13. An individual account is charged to expense and credited to Accounts Receivable when it is determined that account is uncollectible. 14. Accounts Receivable is overstated and expense is understated for the current year and perhaps for the prior year(s). The matching principle is violated. 15. Businesses with few accounts receivable (so that the amount involved is immaterial) or with very few uncollectible accounts. The materiality constraint allows violations of GAAP when results obtained ar not materially different. 16. Uncollectible Accounts Expense is charged and Accounts Receivable credited at the time an individual debtor s account is determined to be uncollectible. 17. Accounts Receivable is debited and an income account, Uncollectible Accounts Recovered is credited. 18. Authorizing all credit sales, sending invoices and monthly statements, aging accounts receivable, separating duties of those involved in granting credit, handling cash, and keeping records related to accounts receivable. 19. Authorizing credit sales, recording receivables transactions, preparing bills and statements for customers, mailing bills or statements, processing payments from customers, giving approvals for write-offs. Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved. Chapter

3 EXERCISE 15.1 Total credit sales Less sales returns and allowances credit sales Net credit sales Estimated loss rate Estimated loss $16,403,600 61,600 $16,342, $49,026 GENERAL JOURNAL PAGE 2 2 Dec. 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts To record estimated uncollectible accounts 4 5 for fiscal year, based on 0.3% of net credit 5 6 sales of $16,342,000 6 EXERCISE 15.2 Accounts Receivable Estimated uncollectible rate Estimated uncollectible accounts Less credit balance of Allowance for Doubtful Accounts Adjustment amount $1,863, ,479 (3,621) $57, Chapter 15 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved.

4 EXERCISE 15.2 (continued) GENERAL JOURNAL PAGE 2 Dec. 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts To record adjustment of allowance account based 4 5 on 3.3% of Accounts Receivable of $1,863, EXERCISE 15.3 Accounts Receivable $920,000 Estimated uncollectible account rate Estimated uncollectible accounts 32,200 Add debit balance in Allowance for Doubtful Accounts 2,000 Adjustment amount 34,200 GENERAL JOURNAL PAGE 2 Dec. 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts To record adjustment of allowance account 4 5 to desired balance of $32, EXERCISE 15.4 GENERAL JOURNAL PAGE 2 Apr. 30 Allowance for Doubtful Accounts Accounts Receivable/Michele Waters To write off account determined to be 4 5 uncollectible 5 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved. Chapter

5 EXERCISE 15.5 GENERAL JOURNAL PAGE 2 Dec. 8 Accounts Receivable/Michele Waters Allowance for Doubtful Accounts To reverse entry dated April 30, 2013 writing 4 5 off this account, which was collected in full today Cash Accounts Receivable/Michele Waters To record receipt of cash on account previously 9 10 written off on April 30, EXERCISE 15.6 GENERAL JOURNAL PAGE Feb. 28 Accounts Receivable/Michele Waters Allowance for Doubtful Accounts To reverse entry dated April 30, 2013 writing 4 5 off this account, which was collected in full today Cash Accounts Receivable/Michele Waters To record receipt of cash on account written off 9 10 on April 30, EXERCISE 15.7 GENERAL JOURNAL PAGE 18 2 Sept. 10 Uncollectible Accounts Expense Accounts Receivable/Chris Freyer To write off uncollectible account Chapter 15 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved.

6 EXERCISE 15.8 GENERAL JOURNAL PAGE 2 Dec. 8 Accounts Receivable/Chris Freyer Uncollectible Accounts Expense To partially reverse September 10, 2013, 4 5 entry writing off this account EXERCISE 15.9 GENERAL JOURNAL PAGE Jan. 28 Accounts Receivable/Chris Freyer Uncollectible Accounts Recovered To partially reinstate amount of account 4 5 collected today, charged off Sept. 10, PROBLEM 15.1A 1. Wholesale ($2,040, ) $10, Retail ($548, ) 6, Total $16, Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved. Chapter

7 PROBLEM 15.1A (continued) GENERAL JOURNAL PAGE (2) 1 2 Dec. 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts To record estimated losses from uncollectible 4 5 accounts for the year, based on 0.5% of net 5 6 whsle. credit sales and 1.2% of retail net 6 7 credit sales (4) 8 9 Jan. 20 Allowance for Doubtful Accounts Accounts Receivable/Delphi Clothiers To write off account determined to be uncollectible (5) Nov. 26 Accounts Receivable/Delphi Clothiers Allowance for Doubtful Accounts To reverse entry dated January 20, writing off this account, which was collected in full today Ultra Leather Products Balance Sheet December 31, 2013 Accounts Receivable Less Allowance for Doubtful Accounts ($16, ) Analyze: Net Accounts Receivable for the year ended December 31, 2013 should be $375, Chapter 15 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved.

8 PROBLEM 15.2A ESTIMATE OF UNCOLLECTIBLE ACCOUNTS 1. Over 60 days past due ($1,532.25) $ days past due ($1,968.09) days past due ($5,240.03) Current ($37,848.01) Total estimated uncollectible accounts $1, ADJUSTMENT FOR ESTIMATED UNCOLLECTIBLE ACCOUNTS 2. Estimated uncollectible accounts $ 1, Less credit balance in Allowance for Doubtful Accounts Amount of adjustment for estimated uncollectible accounts $ GENERAL JOURNAL PAGE (3) 1 2 Dec. 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts To record adjustment of allowance account 4 5 to needed balance of $1, based on 5 6 aging of accounts receivable (4) 7 8 May 10 Allowance for Doubtful Accounts Accounts Receivable/John Ash To write off account determined to be uncollectible (5) June 12 Accounts Receivable/Zeke Martin Allowance for Doubtful Accounts To reverse entry dated November 8, 2013, writing off this account, which was collected in full today (6) Dec. 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts To record adjustment of allowance account to needed balance of $1, based on 2.5% of accounts receivable [(0.025 $46,588) $ = $956.50] 24 Analyze: Net income would be reduced by $68.90 ($ $887.60). Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved. Chapter

9 PROBLEM 15.3A 1. a. Credit sales $8,500,000 Less sales returns and allowances on credit sales 200,000 Net credit sales $8,300,000 Amount to be charged to the Uncollectible Accounts Expense ( $8,300,000) $20,750 b. Accounts Receivable $850,000 Accounts Receivable estimated uncollectible (0.033 $850,000) 28,050 Less credit balance in Allowance for Doubtful Accounts (3,000) Amount to be charged to the Uncollectible Accounts Expense $25, a. Computations and answers are the same as for 1a. b. Accounts Receivable estimated uncollectible $28,050 Add debit balance in Allowance for Doubtful Accounts 2,500 Amount to be charged to the Uncollectible Accounts Expense $30,550 Analyze: Using the sales basis would give highest income this year. 576 Chapter 15 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved.

10 PROBLEM 15.4A GENERAL JOURNAL PAGE 18 2 Feb. 7 Uncollectible Accounts Expense Accounts Receivable/Anne Baker To write off account determined to be uncollectible May 16 Uncollectible Accounts Expense Accounts Receivable/Martha Falls To write off account determined to be uncollectible July 2 Accounts Receivable/Anne Baker Uncollectible Accounts Expense To reverse part of entry dated February 7 writing off this account, which was collected today July 29 Accounts Receivable/Anne Baker Uncollectible Accounts Expense To reverse balance of entry dated February writing off this account, which was collected in full today Aug. 18 Uncollectible Accounts Expense Accounts Receivable/David Nye To write off account determined to be uncollectible Sept. 28 Accounts Receivable/Martha Falls Uncollectible Accounts Recovered To restore part of account charged off May 16, 2013, which was collected from estate of Martha Falls today Analyze: The net uncollectible accounts expense recorded for the year was $1,324. Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved. Chapter

11 PROBLEM 15.1B 1. Businesses ($1,800, %) $7, Individuals ($1,200, %) 10, Total losses in uncollectible accounts $18, GENERAL JOURNAL PAGE (2) 1 2 Dec. 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts To record estimated losses from uncollectible 4 5 accounts for the year, based on 0.4% of 5 6 business sales and 0.9% of individual sales (4) 7 8 Jan. 28 Allowance for Doubtful Accounts Accounts Receivable/Fain Enterprises To write off account determined to be uncollectible (5) June 15 Accounts Receivable/Fain Enterprises Allowance for Doubtful Accounts To reverse portion of entry dated January writing off this account, which was collected today 17 Ideal Plumbing Company Balance Sheet December 31, 2013 Accounts Receivable Less Allowance for Doubtful Accounts Analyze: The amount charged to Uncollectible Accounts Expense would be $19, Chapter 15 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved.

12 PROBLEM 15.2B ESTIMATE OF UNCOLLECTIBLE ACCOUNTS 1. Over 60 days past due ($1,046.40) $ days past due ($2,398.14) days past due ($4,389.04) Current ($8,815.01) Total estimated uncollectible accounts $1, ADJUSTMENT FOR ESTIMATED UNCOLLECTIBLE ACCOUNTS 2. Estimated uncollectible accounts $ 1, Plus debit balance in Allowance for Doubtful Accounts Amount of adjustment for estimated uncollectible accounts $1, GENERAL JOURNAL PAGE (3) 1 2 July 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts To record adjustment of allowance account to 4 5 needed balance of $1, based on aging 5 6 of accounts receivable 6 7 (4) 7 8 Aug. 28 Allowance for Doubtful Accounts Accounts Receivable/Jorge Urbina To write off account determined to be 10 uncollectible 11 (5) Sept. 21 Accounts Receivable/Barry King Allowance for Doubtful Accounts To reverse entry dated December 19, 2012, writing off this account (6) July 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts To record adjustment of allowance account to needed balance of $1, based on 8% of accounts receivable (8% $16,648) $ = $1, Analyze: The average uncollectible rate for all accounts receivable is 6.11% ($1, $16,648). Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved. Chapter

13 PROBLEM 15.3B 1. a. Credit sales $39,100,000 Less sales returns and allowances on credit sales 230,000 Net credit sales $38,870,000 Amount to be charged to the Uncollectible Accounts Expense ( $38,870,000) $132,158 b. Accounts Receivable $3,910,000 Accounts Receivable estimated uncollectible (0.028 $3,910,000) 109,480 Less credit balance in Allowance for Doubtful Accounts (6,500) Amount to be charged to the Uncollectible Accounts Expense $102, a. Computations and answers are the same as for 1a. b. Accounts Receivable estimated uncollectible $109,480 Add debit balance in Allowance for Doubtful Accounts 6,500 Amount to be charged to the Uncollectible Accounts Expense $115,980 Analyze: The method resulting in the highest uncollectible expense is 1a. 580 Chapter 15 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved.

14 PROBLEM 15.4B GENERAL JOURNAL PAGE 18 2 Mar. 15 Uncollectible Accounts Expense Accounts Receivable/Tony Smith To write off account of customer who died Apr. 22 Uncollectible Accounts Expense Accounts Receivable/Tom Greenberg To write off account determined to be uncollectible June 16 Accounts Receivable/Tony Smith Uncollectible Accounts Expense To reverse part of entry dated March writing off this account, which was collected in part from the estate of Tony Smith July 13 Accounts Receivable/Tom Greenberg Uncollectible Accounts Expense To reverse part of entry dated April writing off Greenberg account, which was collected in part from the bankruptcy court Oct. 8 Uncollectible Accounts Expense Accounts Receivable/Lisa Holmes To write off account determined to be uncollectible Feb. 12 Accounts Receivable/Tom Greenberg Uncollectible Accounts Recovered To reverse balance of entry dated April writing off this account, balance of which was collected from Tom Greenberg Analyze: The balance for Uncollectible Accounts Expense should be $6,900. Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved. Chapter

15 CRITICAL THINKING PROBLEM 15.1 GENERAL JOURNAL PAGE 18 2 Dec. 31 Allowance for Doubtful Accounts Accounts Receivable/Bob Anderson Accounts Receivable/Suzanne Bennett Accounts Receivable/James O'Brian Accounts Receivable/Omar Tirado Accounts Receivable/Casey Wilk To charge off uncollectible accounts Uncollectible Accounts Expense Allowance for Doubtful Accounts To record estimated bad-debt losses based on 0.32% of net credit sales Uncollectible Accounts Expense Allowance for Doubtful Accounts To record adjustment of allowance account to $26,245 required balance based on aging of accounts receivable ($26,245 $2,690 = $23,555) ESTIMATE OF UNCOLLECTIBLE ACCOUNTS Over 60 days past due 0.40 $23,840 = $9, days past due ,090 = 4, days past due ,000 = 4,500 Current ,000 = 8,100 Total estimated uncollectible accounts $26, Chapter 15 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved.

16 CRITICAL THINKING PROBLEM 15.1 (continued) Allowance for Doubtful Accounts Accounts Receivable 12/31 Chg. Off 25,510 12/31 Beg. Bal. 28,200 12/31 Beg. Bal. 990,440 12/31 Chg. Off 25,510 12/31 Adjustment 23,555 12/31 Final Bal. 964,930 12/31 Final Bal. 26,245 Balance in Allowance account before adjustment ($28,200 $25,510) Needed balance Adjustment $2,690 (credit) 26,245 (credit) $23,555 (credit) Analyze: The consistency principle has been violated. A lack of consistency in the method used to determine uncollectible accounts results in financial statements that are not compatible. It is possible to change methods, but the details of the change must be disclosed in the notes accompanying the financial statements. Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved. Chapter

17 CRITICAL THINKING PROBLEM 15.2 GENERAL JOURNAL PAGE (1) 1 2 Dec. 31 Accounts Receivable/Various Accounts 6, Sales 6, To record sales for Allowance for Doubtful Accounts Accounts Receivable/Craine Toy Outlets To write off account determined to be 8 9 uncollectible Allowance for Doubtful Accounts Cash Accounts Receivable/Youth Fun Shops To record partial payment and write off balance of account determined to be uncollectible Allowance for Doubtful Accounts Accounts Receivable/Toys on the Square To write off account determined to be uncollectible Allowance for Doubtful Accounts Accounts Receivable/Various Accounts To write off accounts determined to be uncollectible in old territory ESTIMATE OF UNCOLLECTIBLE ACCOUNTS Old territory ($6,280, ) $18, New territory ($200, ) Total estimated loss $24, Chapter 15 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved.

18 CRITICAL THINKING PROBLEM 15.2 (continued) GENERAL JOURNAL PAGE 29 2 Dec. 31 Uncollectible Accounts Expense Allowance for Doubtful Accounts To record estimated bad debt losses Allowance for Doubtful Accounts Amounts written off Beg. Bal. 6,200 22, Adjustment 24,840 25,000 6,800 22,600 Bal 45,560 ANALYSIS BY TERRITORY Old territory: Provision for losses in 2013 ($6,280, ) $18, Actual losses during , Excess losses in 2013 over provision in 2013 ($3,760.00) New territory: Provision for losses in 2013 ($200, ) $6, Actual losses during , Excess losses in 2013 over provision in 2013 ($48,000.00) The provision for uncollectible accounts is grossly inadequate and must be increased for There is an ending debit balance in the allowance account which is not acceptable. Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved. Chapter

19 SOLUTIONS TO BUSINESS CONNECTIONS Managerial Focus: 1. Permits losses from uncollectible accounts to be charged against period revenue. 2. Not desirable. The granting of credit is usually handled by administrative personnel, therefore not motivated by sales. 3. For correct historical documentation of customers accounts. 4. Prevents stealing, provides strong internal controls. Ethical Dilemma: It could be ethical if the current sales volume is to customers of unknown credit history. However, if the increase is from all known customers then it is unethical to increase the percentage solely to reduce the net income and therefore the tax liability. An audit of their tax returns will disclose the higher percentage and Jitters will need to justify the increase. Financial Statement Analysis: 1. $369.8 ($ $4.5) % ($15.4 decrease divided by $380.7) % ($365.3 $970.5) Teamwork: The sale of an invoice: Debit A/R, Credit Sales/Write off the account: Debit Allowance for Uncollectible, Credit A/R/ Reinstate A/R: Debit A/R Credit Allowance/ Pay the bill: Debit Cash, Credit A/R. Internet Connection: Commercial credit is the lifeline of your business. It is the critical factor in obtaining funding for expansio capital expenditures, staffing, research, and development. Commercial credit also allows you to use the cash that you have on hand to cover other expenses it provides you with the liquidity that allows you to respond quickly to time sensitive decisions without halting or compromising operations. 586 Chapter 15 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved.

20 SOLUTIONS TO PRACTICE TEST Part A True-False 1. TRUE 11. FALSE 2. FALSE 12. TRUE 3. FALSE 13. FALSE 4. FALSE 14. TRUE 5. FALSE 15. TRUE 6. FALSE 16. TRUE 7. TRUE 17. FALSE 8. FALSE 18. TRUE 9. FALSE 19. FALSE 10. TRUE Part B Exercise I 1. $8, $8, $5, $6,100 Part C Exercise II NETWORK DISTRIBUTORS Schedule of Accounts Receivable by Age December 31, 2010 PAST DUE DAYS ACCOUNT BALANCE CURRENT OVER 60 Ameche, John $6,000 $2,500 $3,500 Duong, Kim 7,000 2,500 $4,500 Graham, Ken 7,000 7,000 McCartney, Harold 6,800 $6800 Torelli, Andrew 9,000 9,000 Totals $35,800 $18,500 $6,800 $6,000 $4,500 Copyright 2012 The McGraw-Hill Companies, Inc. All rights reserved. Chapter