bad debts. explanation if a business finds it impossible to collect debt then the debt should be...
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Bad debts
ExplanationIf a business finds it impossible to collect debt then the debt should be ‘written off’ as a bad debt.
A bad debt is therefore an expense for the business.
MP Ltd sold goods costing £50 to Mr Farnish. Unfortunately Mr Farnish is experiencing financial difficulties and is unable to pay his debt.
MP Ltd also sold goods costing £240 to Mr Goldstone. Mr Goldstone paid £200, but is unable to pay the remaining £40.
Using white boards, show the affects of these bad debts on the three accounts
Example
Dr £ Cr £
Mr Farnish 50Mr Goldstone 40
90
Profit & Loss 90a/c
Mr Farnish Account
Mr Goldstone Account
Dr Cr
£ £
Sales 50 Bad debts 50
Dr Cr
£ £Sales 240 Cash 200
Bad debts 40
Bad debts AccountDr Cr
Provision for bad debtsIt is impossible to determine with absolute accuracy how much the value of bad debts will be. In order to arrive at a figure of doubtful debts, a business must first consider that some debtors will never be able to pay whilst other might be able to pay a some of the debt.
A doubtful debt = not sure if the debt can be repaid
A bad debt = the debt will not be repaid
Some businesses make an ‘aging schedule’ showing how long the debts have been owing. The longer the debt has been owed the more likely these debts will be turned in to ‘bad debts’
Period debt owing £ % doubtful Allowance
1-4 weeks 5,000 1 50
5-7 weeks 3,000 3 90
8-10 weeks 800 4 32
10-15 weeks 200 5 10
ExampleAt 31 December 2011, the accounts receivable figure after deducting bad debts was £10,000. it is estimated that 2% of the debts (£200) will eventually prove to be bad debts and it is decided to make a provision for these.
Profit & Loss
Dr Cr
Allowance for doubtful debts
200
£ £
Allowances for doubtful debt
Dr Cr
Profit & loss 200
£ £
ExampleA business started on 1 January 2007 and its financial year end is
31 December. A table of debtors, the bad debts written off and the
estimated doubtful debts at the rate of 2% of debtors at the end of
each year, as well as the double entry accounts are below.
See worksheet
Assessment 1Hart & Partners started a business on January 1 2009. During its first year of trading the following debts were found to be bad and the business decided to write them off as bad:
May 16 Bayley £550
July 31 Carter £223
Nov 9 Roche £467
On 31 December 2009, the schedule of remaining debtors, amounting in total to £26,000, is examined and it is decided to make a provision for doubtful debts of 2%.
1. Show the bad debts account and the provision for doubtful debts account
2. The charge to the profit & loss account3. The relevant extracts from the balance sheet
Assessment 2Date Total debtors Profit & Loss Dr / Cr Final figure for
Balance sheet
2007 7000
2008 8000
2009 6000
2010 7000
The table shows the figure for debtors appearing in a trader’s books.
The provision for doubtful debt is to be 1% of debtors. Complete the
table indicating the amount to be debited or credited to the profit &
loss accounts for the final year ended and the amount for the final
figure of debtors to appear in the balance sheet on each date.
Questions – In a new business during the year ended 31 December 2013, the following debts are found to be bad, and are written-off on the dates shown:31 May S.Gill & Son £60030 Sept H.Black Ltd £40030 Nov A.Thom £200
On 31 December the schedule of remaining accounts receivable totalling £15,000 is examined and it is decided to make an allowance for doubtful debts of £500.
You are required to show:a.The bad debts a/c and the allowance for doubtful debts a/cb.The charge to the income statementc.The relevant extracts from the statement of financial position as at 31 December 2013
Bad debts a/cAllowance for
doubtful debts a/c
May 31 S.Gill & Son 600
Sep 30 H.Black Ltd 400
Nov 30 A.Thom 200
Dec 31 P&L 1,200
1,200 1,200
Dec 31 P&L 500
Income statement (extract)
Sales:COGSGross Profit
Expenses:Bad debtsAllowance for doubtful debts......Net Profit
Statement of financial position (extract)
Fixed Assets:
Current Assets:Debtors - £15,000
less allowance for doubtful debt (£500)
£14,500
Liabilities
Capital employed
Question 2A business had always made an allowance for doubtful debt at the rate of 2% of accounts receivable. On 1 January 2011 the amount for this brought forward from the previous year was £300.
During the year to 31 December 2011 the bad debts written-off amounted to £700On 31 December the accounts receivable balance was £17,000 and the usual allowance for doubtful debt was made (2%)
You are required to show:•The dab debts account for the year ended 31 December 2011•The allowance for doubtful debts account for the year•Extract from the income statement•Extract from the statement of financial position.
Bad debts a/cAllowance for
doubtful debts a/c
Jan 1 bal b/d 300Dec 31 bal c/d 340
Dec 31 P&L 40
340 340
Homework –
1. finish bad debt work book
2. Draw a bad debt poster on the last 2 pages
in the bad debt work book explaining the
process of bad debts. Use page 285-294 to
help you.
Tuesday