A Corporation Operates In An Industry With A High Rate Of Fa

A Corporation Operates In An Industry That Has A High Rate Of Bad Debt

A Corporation operates in an industry that has a high rate of bad debts. Before any year-end adjustments, the balance in Chatter’s Accounts Receivable account was $389,000 and the Allowance for Doubtful Accounts had a debit balance of $5,000. The year-end balance reported in the balance sheet for the Allowance for Doubtful Accounts will be based on the aging schedule shown below:

Days Account Outstanding | Amount | Probability of Collection

--- | --- | ---

Less than 16 days | $293,000 | 0.97

Between 16 and 30 days | $102,000 | 0.89

Between 31 and 45 days | $70,000 | 0.83

Between 46 and 60 days | $55,000 | 0.76

Between 61 and 75 days | $28,000 | 0.60

Over 75 days | $8,000 | 0.30

What is the appropriate balance for the Allowance for Doubtful Accounts at year-end? Show how accounts receivable would be presented on the balance sheet. What is the dollar effect of the year-end bad debt adjustment on the before-tax income?

Paper For Above instruction

The provided case involves calculating the year-end balance for the Allowance for Doubtful Accounts based on aging of receivables, presenting accounts receivable on the balance sheet, and determining the impact of the bad debt adjustment on pre-tax income. This analysis involves understanding the aging method for estimating uncollectible accounts, adjusting the allowance account, and assessing financial statement effects.

Firstly, the initial balances indicate that Chatter’s Accounts Receivable (AR) totaled $389,000, with a prior debit balance of $5,000 in the Allowance for Doubtful Accounts. The debit balance suggests that previous estimated uncollectibles were understated or that actual write-offs exceeded previously estimated allowances. The aging schedule provides data for estimating current uncollectible receivables.

Calculating the estimated uncollectible amount involves multiplying each aging category’s receivable amount by its respective probability of collection, then summing these amounts. For each category:

- Less than 16 days: $293,000 x (1 - 0.97) = $293,000 x 0.03 = $8,790

- 16-30 days: $102,000 x (1 - 0.89) = $102,000 x 0.11 = $11,220

- 31-45 days: $70,000 x (1 - 0.83) = $70,000 x 0.17 = $11,900

- 46-60 days: $55,000 x (1 - 0.76) = $55,000 x 0.24 = $13,200

- 61-75 days: $28,000 x (1 - 0.60) = $28,000 x 0.40 = $11,200

- Over 75 days: $8,000 x (1 - 0.30) = $8,000 x 0.70 = $5,600

Total estimated uncollectible = $8,790 + $11,220 + $11,900 + $13,200 + $11,200 + $5,600 = $61,910.

Since the Allowance for Doubtful Accounts already has a debit balance of $5,000, the adjustment needed is the difference between the estimated uncollectibles and the existing balance:

- Required allowance = $61,910

- Less existing debit balance = ($5,000)

- Adjusted allowance needed = $61,910 + $5,000 = $66,910

Thus, the year-end allowance for doubtful accounts should be adjusted to $66,910, increasing the Allowance account by $66,910 - (-$5,000) = $71,910.

Presentation of Accounts Receivable on the Balance Sheet:

Accounts Receivable (gross) = $389,000

Less: Allowance for Doubtful Accounts = $66,910 (estimated bad debts)

Net Accounts Receivable = $389,000 - $66,910 = $322,090

This presentation reflects the expected realizable value of receivables after accounting for estimated uncollectible accounts.

Impact on Pre-tax Income:

The bad debt expense adjustment of $66,910 will reduce pre-tax income by the same amount in the period it is recognized. Prior to adjustment, the Allowance for Doubtful Accounts had a debit balance, indicating that previous estimates were insufficient, and previous bad debt expense was likely understated. Recording this adjustment increases the bad debt expense, decreasing pre-tax income accordingly.

In conclusion, the appropriate ending balance for the Allowance for Doubtful Accounts is $66,910. The net accounts receivable on the balance sheet will be $322,090. The adjustment results in a decrease of $66,910 in pre-tax income for the period.

References

  • Anthony, R. N., & Reece, J. S. (2019). Financial Accounting: Principles and Practice. McGraw-Hill Education.
  • Gibson, C. H. (2020). Financial Reporting & Analysis. Cengage Learning.
  • Kimmel, P., Weygandt, J., & Kieso, D. (2018). Financial Accounting: Tools for Business Decision Making. Wiley.
  • Horngren, C. T., Sundem, G. L., & Elliott, J. A. (2019). Introduction to Financial Accounting. Pearson.
  • Worthy, A. F. (2019). Accounting for Bad Debts: Effective Strategies. Journal of Accounting Research, 57(2), 337-369.
  • Schroeder, R. G., Clark, M. W., & Cathey, J. M. (2020). Financial Accounting Theory and Analysis. Wiley.
  • Financial Accounting Standards Board (FASB). (2022). Accounting Standards Codification Topic 310 - Receivables.
  • International Financial Reporting Standards (IFRS). (2023). IFRS 9 Financial Instruments.
  • AccountingTools. (2021). Allowance for Doubtful Accounts: Overview & Calculation Methods.
  • Jones, M. J. (2019). Auditing and Assurance Services. Pearson Education.

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