In many different aspects of business, a rough estimation is that 80% of account receivable balances are made up of a small concentration (i.e. 20%) of vendors. For example, a company has $70,000 of accounts receivable less than 30 days outstanding and $30,000 of accounts receivable more than 30 days outstanding. Based on previous experience, 1% of accounts receivable less than 30 days old will be uncollectible, and 4% of those accounts receivable at least 30 days old will be uncollectible.
The two most common examples of contra asset accounts are the accumulated depreciation contra account, and the allowance for doubtful debts contra account. Allowance for doubtful accounts is netted from the accounts receivable balance. The company predicts which accounts receivable won’t be paid by customers and writes those off. When the account receivable is written off, it is added to bad debt expense on the income statement and placed in the contra account. If a company has a high or fast-growing allowance as a percentage of accounts receivable, keep a close eye on it. It could be growing with bad accounts, and cash flow will be affected.
Video Explanation of Accumulated Depreciation
After each accounting period, the company records a depreciation expense of the asset. The accumulated depreciation account plays a vital role in representing the accurate value of an asset in the financial statements. Contra accounts are a significant part of a company’s financial statements.
To drum up interest in the bond, the company will sell it at a discount. For example, a bond with a principal amount of $1,000 may be sold for only $950. The bond is listed on the balance sheet at the full amount of $1,000, but the cash received is just $950, so a contra liability for the discount is listed to make the entry balance. Contra asset accounts provide business owners with the true value of certain asset accounts. For example, let’s say your accounts receivable balance is currently $11,500, but you’re not entirely sure that you’ll be able to collect the entire balance due.
Definition and Examples of Contra Assets
Contra assets are still recorded along with other assets, though their natural balance is opposite of assets. While assets have natural debit balances and increase with a debit, contra assets have natural credit balance and increase with a credit. Overall, contra accounts are offsetting balances that https://personal-accounting.org/accounting-for-small-start-up-business/ are the opposite of specific accounts. There are several examples of contra accounts, including accumulated depreciation, accumulated depletion, accumulated amortization, allowance for receivables, etc. These are all examples of contra-asset accounts, which are the prevalent type of contra accounts.
The net of the asset and its related contra asset account is referred to as the asset’s book value or carrying value. Contra asset accounts can be used in a variety of areas, but there are Top 5 Best Software for Law Firm Accounting and Bookkeeping three contra asset examples that you should pay close attention to. If you’re using accounting software, you’ll be able to create contra accounts when setting up your chart of accounts.
What is Contra Account?
This make sense because Home Depot wouldn’t be carrying accounts receivable with long payment terms. Most accounts receivable would just be the time between purchase and credit card settlement. Accounts receivable (A/R) has a debit balance, but the allowance for doubtful accounts carries a credit
balance. The net amount – i.e. the difference between the account balance post-adjustment of the contra account balance – represents the book value shown on the balance sheet.
Instead, the existence of contra-asset accounts for companies will differ based on a company’s requirements. For example, if an account has a debit balance, a contra account will have a credit https://personal-accounting.org/accounting-for-tech-startups-what-you-need-to-know/ balance. Thus, netting off both will result in the final amount for the account. In the financial statements the asset a/c would be offset against the contra asset a/c to show the net balance.
Treasury International Capital (TIC) System
Examples of fixed assets include buildings, machinery, office equipment, furniture, vehicles, etc. The accumulated depreciation account appears on the balance sheet and reduces the gross amount of fixed assets. Contra accounts are used to reduce the original account directly, keeping financial accounting records clean. The difference between an asset’s balance and the contra account asset balance is the book value. A contra liability is an account in which activity is recorded as a debit balance and is used to decrease the balance of a liability.
- The allowance for doubtful accounts is a contra asset because it reduces the value of the accounts receivable (AR) account on the general ledger.
- A contra asset account is an asset account with a natural credit balance.
- This requirement also comes from the accounting standard for inventories.
- Therefore, it can assign this fixed percentage to its total accounts receivable balance since more often than not, it will approximately be close to this amount.
- However, there are some prevalent contra-asset accounts that may exist for all companies.
- Accountants use contra accounts rather than reduce the value of the original account directly to keep financial accounting records clean.