Both of these accounts offset each other to represent a net balance on a company’s balance sheet. Anytime you need to depreciate an asset, you’ll use an accumulated depreciation contra asset account, which records the amount of depreciation that has been expensed while offsetting the value of the asset being depreciated. An asset account which is expected to have a credit balance (which is contrary to the normal debit balance of an asset account). For example, the contra asset account Allowance for Doubtful Accounts is related to Accounts Receivable.
- If you keep a lot of inventory in stock, chances are that some of the inventory will become obsolete.
- The contra asset account Accumulated Depreciation is deducted from the related Capital Assets to present the net balance on the parent account in a company’s balance sheet.
- Reserve for obsolete inventory is a contra asset account used to write down the inventory account if inventory is considered obsolete.
- For example net sales is gross sales minus the sales returns, the sales allowances, and the sales discounts.
- There is no reason for there to ever be a debit balance in a contra asset account; thus, a debit balance probably indicates an incorrect accounting entry.
The balance in the allowance for doubtful accounts represents the dollar amount of the current accounts receivable balance that is expected to be uncollectible. The amount is reported on the balance sheet in the asset section immediately below accounts receivable. Allowance for doubtful accounts (ADA) is a contra asset account used to create an allowance for customers who are not expected to pay the money owed for purchased goods or services. The allowance for doubtful accounts appears on the balance sheet and reduces the amount of receivables.
What Is a Contra Asset?
This balance is used to offset the value of the asset being depreciated, so as of September 1, your $8,000 asset now has a book value of $7,866.67. If you offer credit terms to your customers, you probably know that not all of them will pay. Creating this contra asset account builds in a safeguard against overstating your accounts receivable balance. Writing off your obsolete inventory in this manner allows you to expense the cost of the obsolete inventory while also decreasing your current inventory balance using the contra asset account.
The credit balance in the account Allowance for Doubtful Accounts tells us how much of the debit balance in Accounts Receivable is unlikely to be collected. In response, the firm should decrease its accounts receivable and revenue balances. That is done by crediting accounts receivable by $100 and debiting the contra revenue account sales returns and allowances for $100. Hence, the company will have gross revenue or net sales equal to $9,900.
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 contra liability account is less common than the contra asset account. An example of a contra liability account is the bond discount account, which offsets the bond payable account. A contra liability account is not classified as a liability, since it does not represent a future obligation. A contra asset account is an asset account with a natural credit balance.
Is a Contra Account a Debit or Credit?
Reserve for obsolete inventory is a contra asset account used to write down the inventory account if inventory is considered obsolete. Excess, stored inventory will near the end of its lifespan at some point and, in turn, result in expired or unsellable goods. In this scenario, a write-down is recorded to the reserve for obsolete inventory. The revenue contra accounts Sales Returns, Discounts and Allowances are subtracted from the main Sales Revenue account to present the net balance on a company’s income statement. A contra revenue represents any deductions or offsets that need to be removed from gross revenue to provide a clearer understanding of actual income — such as in the example just provided. These accounts will typically help track sales discounts, product returns, and allowances (e.g., a price reduction for a good with minor defects).
What Are the Different Types of Contra Accounts?
If every single buyer had taken advantage of the early payment discount, the company would have provided roughly $10 thousand in discounts during that same timeframe. In reality, the actual number of company discounts came closer to $5 thousand. Rather, it is an adjunct account or a valuation account that is added to the face value of the bonds to arrive at the carrying value (or book value) of the bonds on the balance sheet. Contra asset accounts also provide a clear picture of the companies’ accumulation of assets.
Do Contra Accounts Have Debit or Credit Balances?
This account only relates to a company’s intangible assets rather than tangible. If you’re using accounting software, you’ll be able to create contra accounts when setting up your chart of accounts. Whenever the balance of an account needs to be reduced in a company’s ledger, it is not always applicable to credit the account if it is an asset or debit the account if it is a liability. Now, if that sounded like a lot of mumbo-jumbo jargon to you, don’t worry. In this article, we’re going on a deep dive into what exactly a contra account is, how contra accounts work, why and how you would use contra accounts and more. The accounting entries for a discount on notes receivables are as follows.
Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team. Master accounting topics that pose a particular challenge to finance professionals. Harold Averkamp (CPA, MBA) has worked as a university accounting instructor, accountant, and consultant for more than 25 years. Treasury stock differs from other stocks in that it has no voting rights, and no dividends are paid to the treasury stock. The main reason is to make the remaining shares more valuable, as their prices are expected to rise after the stock buyback.
When combined, the AR account and the allowance for doubtful accounts contra assets offer a projection of how much net cash is expected to be received from outstanding accounts. For example, accumulated depreciation is a contra asset that reduces the value of a company’s fixed assets, resulting in net assets. Including contra revenue accounts is important in the income statement because it shows the original amount of sales the firm has made, along with any factor that has reduced that amount. Note that the contra liability account has a positive balance (a debit balance), and the liability account normally has a credit balance.
Types of Contra Assets
The difference between an asset’s account balance and the contra account balance is known as the book value. In other words, contra revenue is a deduction from gross revenue, which results in net revenue. https://accounting-services.net/contra-inventory-account-accountingtools/ Similarly, it allows companies to retrieve original account balances without complicated calculations. For stakeholders, looking at both accounts is also crucial in their decision-making process.