This reduces the amount of the carrying value of a company’s fixed asset to account for the wear and tear over the asset’s useful life. Fixed assets are often listed on the balance sheet as property, plant and equipment. A contra account is an entry on the general ledger with a balance contrary to the normal balance for that categorization (i.e. asset, liability, or equity). Accumulated depreciation offsets a company’s real property assets, such as buildings, equipment and machinery. Accumulated deprecation represents the cumulative amount of depreciation expense charged against an asset. A transaction is made under the sales return account when a customer returns a product to the company for a refund.
These contra revenue accounts tend to have a debit balance and are used to calculate net sales. Transactions made to contra accounts are presented on a company’s financial statements under the related account. Contra accounts are important because they allow a company to follow the matching principle by recording an expense initially in the contra asset account. Business owners should understand the functions of contra accounts and their importance to maintaining accurate financial records.
It will debit Accounts Receivable for $100,000 and credit to Sales for $100,000. By reporting contra asset accounts on the balance sheet, users of financial statements can learn more about the assets of a company. Contra asset accounts allow users to see how much of an asset was written off, its remaining useful life, and the value of the asset. Key examples of contra asset accounts include allowance for doubtful accounts and accumulated depreciation. Accumulated depreciation reflects the reduction in value of a fixed asset. To illustrate the contra revenue account Sales Returns and Allowances, let’s assume that Company K sells $100,000 of merchandise on credit.
Is Unearned Revenue a Contra Account?
Sales allowance represents discounts given to customers to entice them to keep products instead of returning them, such as with slightly defective items. 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. The sales returns account contains either an allowance for returned goods, or the actual amount of revenue deduction attributable to returned goods. It is especially important to track sales returns separately and on a trend line, since this can provide important evidence of problems with a company’s products that are causing customers to return goods.
- Unlike regular assets and liabilities, contra assets typically keep a credit balance and contra liabilities typically keep a debit balance.
- In double entry bookkeeping terms, a contra revenue account or contra sales account refers to an account which is offset against a revenue account.
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- Offsetting the asset account with its respective contra asset account shows the net balance of that asset.
- The allowance for doubtful accounts – often called a “bad debt reserve” – would be considered a contra asset since it causes the accounts receivable (A/R) balance to decline.
- By keeping the original dollar amount intact in the original account and reducing the figure in a separate account, the financial information is more transparent for financial reporting purposes.
The account is normally a debit balance and in use is offset against the revenue account which is normally a credit balance. The net balance of the two accounts shows the net value of the sales after discounts. The sales returns contra sales account records the sales value of goods returned by a customer. The net balance of the cpa accounting, taxation & bookkeeping outsourcing services two accounts shows the net value of the sales made by the business for the accounting period. The contra revenue accounts commonly used in small-business accounting include sales returns, sales allowance and sale discounts. A contra revenue account carries a debit balance and reduces the total amount of a company’s revenue.
A regular asset account typically carries a debit balance, so a contra asset account carries a credit balance. Two common contra asset accounts include allowance for doubtful accounts and accumulated depreciation. Allowance for doubtful accounts represents the percentage of accounts receivable a company believes it cannot collect. Allowance for doubtful accounts offsets a company’s accounts receivable account.
What Is the Benefit of Using a Contra Account?
Whereas assets normally have positive debit balances, contra assets, though still reported along with other assets, have an opposite type of natural balance. A debit will be made to the bad debt expense for $4,000 to balance the journal entry. Although the accounts receivable is not due in September, the company still has to report credit losses of $4,000 as bad debts expense in its income statement for the month. If accounts receivable is $40,000 and allowance for doubtful accounts is $4,000, the net book value reported on the balance sheet will be $36,000. An entry which affects both cash and bank accounts is called a contra entry.
Example of a Contra Account
Contra asset accounts are recorded with a credit balance that decreases the balance of an asset. A key example of contra liabilities includes discounts on notes or bonds payable. Contra assets and contra liabilities are listed on a company’s balance sheet and carry balances opposite of their related accounts.
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. It would appear on the company’s income statement in the revenue section. This type of account could be called the allowance for doubtful accounts or bad debt reserve. Reserve for obsolete inventory is a contra asset account used to write down the inventory account if inventory is considered obsolete.
What is Contra Account?
Contra equity reduces the total number of outstanding shares on the balance sheet. The key example of a contra equity account is Treasury stock, which represents the amount paid to buyback stock. A contra revenue account allows a company to see the original amount sold and to also see the items that reduced the sales to the amount of net sales. It is important to realize that unearned revenue is not a contra revenues account. The balance is held as a current liability (credit) on the balance sheet of the business.
The debit and credit aspects of the transaction are recorded in the cash book itself in contra entries. Another contra asset listed on the balance sheet is accumulated depreciation. In bookkeeping, a contra asset account is an asset account in which the natural balance of the account will either be a zero or a credit (negative) balance. The account offsets the balance in the respective asset account that it is paired with on the balance sheet. Some of the most common contra assets include accumulated depreciation, allowance for doubtful accounts, and reserve for obsolete inventory. A contra revenue account is a revenue account that is expected to have a debit balance (instead of the usual credit balance).
We can see how the $10,000 allowance for doubtful accounts offsets the $100,000 A/R account from our illustrative example above (i.e. the account decreases the carrying value of A/R). Still, the dollar amounts are separately broken out in the supplementary sections most of the time for greater transparency in financial reporting. Harold Averkamp (CPA, MBA) has worked as a university accounting instructor, accountant, and consultant for more than 25 years. Completing the challenge below proves you are a human and gives you temporary access.
If the amounts of these line items are minimal, they may be aggregated for reporting purposes into a single contra revenue line item. However, that $1.4 billion is used to reduce the balance of gross accounts receivable. Therefore, contra accounts, though they represent a positive amount, are used to net reduce a gross amount. For this reason, contra accounts are primarily seen as having negative balances because they are used to reduce the balance of another account. 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.
There are four key types of contra accounts—contra asset, contra liability, contra equity, and contra revenue. Contra assets decrease the balance of a fixed or capital asset, carrying a credit balance. Contra revenue accounts reduce revenue accounts and have a debit balance. Contra asset accounts include allowance for doubtful accounts and accumulated depreciation.
Contra liability, equity, and revenue accounts have natural debit balances. These three types of contra accounts are used to reduce liabilities, equity, and revenue which all have natural credit balances. Therefore, for these three, the debit balance actually represents a negative amount. The accumulated depreciation account appears on the balance sheet as a credit and is a reduction from the total amount listed for fixed assets. Some companies choose not to include accumulated depreciation on the balance sheet and simply list the net amount of property, plant and equipment. To illustrate the contra revenue account Sales Returns and Allowances, let’s assume that Company K sells $100,000 of merchandise on credit.
Accounts receivable (A/R) has a debit balance, but the allowance for doubtful accounts carries a credit
balance. By keeping the original dollar amount intact in the original account and reducing the figure in a separate account, the financial information is more transparent for financial reporting purposes. For example, if a piece of heavy machinery is purchased for $10,000, that $10,000 figure is maintained on the general ledger even as the asset’s depreciation is recorded separately.