Accounting For Receivables
Accounting For Receivables
• Notes receivable may or may not arise from business or trade transactions, and they are usually
issued for longer-term periods. They may be classified as either short-term or long-term.
• Notes receivable represent written promises (typically evidenced by a formal instrument called
“promissory note”) to receive a specific amount of money (plus or with interest) at a designated
future date or on-demand.
• The promissory note is a written promise to pay a specified amount of money at some
definitive date or on-demand. The borrower (customer) promises to pay the lender (company) a
definite sum of money, plus (or including) interest, at a future date, which is known as the
maturity date, or the date on which the maker (or debtor) must pay the note balance to the
payee (or creditor).
• Borrower (maker/debtor)
• Lender (payee/creditor)
• Interest is the charge imposed on the borrower of funds for the use of
money. The specific amount of interest depends on the size, rate, and
duration of the note. In mathematical form, interest equals Principal x Rate x
Time.
• Interest is the charge imposed on the borrower of funds for the use of
money. The specific amount of interest depends on the size, rate, and
duration of the note.
• For example, a P1,000, 60-day note, bearing interest at 12% per year, would
result in interest of P20 (P1,000 x 12% x 60/360). In this calculation, notice
that the “time” was 60 days out of a 360-day year.
• Obviously, a year normally has 365 days, so the fraction could have been
60/365. But, for simplicity, it is not uncommon for the interest calculation to
be based on a presumed 360-day year or 30-day month.
• To illustrate the accounting for a note receivable, assume that Eren Co. initially
sold P10,000 of merchandise on account to Mikasa. Co. Mikasa Co. later
requested more time to pay and agreed to give a formal three-month note
bearing interest at 12% per year. The entry to record the conversion of the
account receivable to a formal note is as follows:
• At maturity, Eren Co.’s entry to the record collection of the maturity value
would appear as follows:
To compute the interest:
P10,000 x 12% = 1,200
1,200 / 12months x 3 months = 300
OTHER RECEIVABLES
• Other receivables include income tax refunds, interest receivable, and those that
do not typically arise from trade or business transactions and include amounts
loaned to employees or corporate officers.
• Accepting receivables in exchange for the sale of goods or services or the
lending of monies presents a company with credit risk—that of nonpayment.
ACCOUNTING FOR UNCOLLECTIBLE
RECEIVABLES
A simple method to account for uncollectible accounts is the direct write- off
approach. Under this technique, a specific account receivable is removed from the
accounting records at the time it is finally determined to be uncollectible. The
appropriate entry for the direct write-off approach is as follows:
While the direct write-off method is simple, it is only acceptable in those cases
where bad debts are immaterial in amount. In accounting, an item is deemed
material if it is large enough to affect the judgment of an informed financial
statement user. Accounting expediency sometimes permits “incorrect approaches”
when the effect is not material
ALLOWANCE METHOD
• With the direct write-off method, many accounting periods may come and go
before an account is finally determined to be uncollectible and written off. As a
result, revenues from credit sales are recognized in one period, but the costs of
uncollectible accounts related to those sales are not recognized until another
subsequent period (producing an unacceptable mismatch of revenues and
expenses). To compensate for this problem, accountants have developed
“allowance methods” to account for uncollectible accounts.
• Allowance methods will result in the recording of an estimated bad debts
expense in the same period as the related credit sales and generally result in a
fairer balance sheet valuation for outstanding receivables. As will soon be
shown, the actual write-off in a subsequent period will generally not impact
income.
FINANCIAL STATEMENT REPORTING
• A bookkeeping and accounting system needs internal control procedures for accounts
receivable in order to minimize the risk of fraud, error, and loss.
• The business should have well-documented policies and procedures on accounts
receivable internal controls such as credit and collection policies, to ensure that all staff
understands the accounts receivable process.
• Segregation of duties sometimes referred to as the separation of duties, is an accounting
internal control which means that a financial process is dealt with by at least two
individuals in order to prevent error, misappropriation, or fraud.
• In practice, the segregation of duties means ensuring that the person dealing with
physical assets such as cash, inventory, supplies, etc., is not the same person responsible
for the recording and bookkeeping of the transactions relating to those assets