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Accounting For Receivables

Receivables represent amounts owed to a company for goods or services provided. There are three main types of receivables - accounts receivable from sales, notes receivable from formal loans, and other receivables. Companies must estimate uncollectible receivables using an allowance method to properly account for and report receivables on the financial statements. Strong internal controls over receivables help minimize risks.

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0% found this document useful (0 votes)
50 views16 pages

Accounting For Receivables

Receivables represent amounts owed to a company for goods or services provided. There are three main types of receivables - accounts receivable from sales, notes receivable from formal loans, and other receivables. Companies must estimate uncollectible receivables using an allowance method to properly account for and report receivables on the financial statements. Strong internal controls over receivables help minimize risks.

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Anna Rose
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ACCOUNTING FOR RECEIVABLES

Financial Accounting and Reporting


Prepared by: Danielle Jane Lazaro
RECEIVABLES

• Receivable is the balance of money due to a firm for goods or


services delivered or used but not yet paid for by customers. They
reflect claims against others and are generally expected to be settled
for cash in the future.
• Accounts receivable can be one of the most liquid current assets held
by a company, listed on the balance sheet as a current asset. Their
significance to a company depends on a number of factors, including
the industry in which the company operates as well as the company's
credit policies.
CLASSIFICATIONS OF RECEIVABLES

Receivables are frequently classified into three categories: accounts


receivable, notes receivable, and other receivables.
• Accounts receivable arise from business/trade transactions.
• Notes receivable arise from written promises to pay a specified
amount at a specified time.
• Other receivables arise from nonbusiness and nontrade transactions.
ACCOUNTS RECEIVABLE

• Accounts Receivables are balances customers owe on account as a


result of the sale of goods or services.
• They are usually short-term, unsecured, noninterest-bearing, and
represent the most significant receivables held by a company.
• Because they arise from business or trade transactions, they are also
referred to as trade receivables.
• For example, if goods were sold on account, sales would increase (a
credit), and receivables would increase (a debit).
Later, when the customer pays cash for the amount they owe, the
company's cash is debited, which increases the cash balance. Receivables
are credited, which reduces the receivables balance.
NOTES RECEIVABLE

• 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

• Unfortunately, some sales on account may not be collected.


Customers go broke, become unhappy and refuse to pay, or may
generally lack the ethics to complete their half of the bargain.
• A company does have legal recourse to try to collect such accounts,
but those often fail. As a result, it becomes necessary to establish an
accounting process for measuring and reporting these uncollectible
items.
• Uncollectible accounts are frequently called “bad debts.”
DIRECT WRITE-OFF METHOD

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

The Christopher Corporation's balance sheet shows


accounts receivable of $67,000 and a $17,000
allowance for uncollectible accounts. The accounts
receivable balance means the company's customers
owe it $67,000. The allowance for uncollectible
accounts balance means the company expects to be
unable to collect $17,000 from its customers. As a
result, the company expects to be able to collect
$50,000 ($67,000 - $17,000) from its customers. It
is this $50,000 expected cash receipts that the
company's management would use in planning its
future cash expenditures
INTERNAL CONTROL OVER RECEIVABLES

• 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

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