You’ll notice that because of this, the allowance for doubtful accounts increases. A company can further adjust the balance by following the entry under the “Adjusting the Allowance” section above. The accumulated https://quickbooks-payroll.org/nonprofit-accounting-explanation/ depreciation account is perhaps the most common contra asset account used by business owners. Hopefully, you have a pretty clear idea of contra asset meaning—no need to ask to define contra asset accounts anymore.
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. This type of reporting allows anyone analyzing the balance sheet to understand much more about the company and its assets than if they were to simply look at the net value of the depreciated asset. By reflecting both accounts on the balance sheet, analysts can understand both the original price and the total decrease in value of a certain asset over time. Sometimes, it is important to keep the original balance of the accounts and create the contra accounts to be able to calculate the net value of the account. The purpose of a contra expense account is to record a reduction in an expense without changing the balance in the main account.
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. 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. Contra asset accounts are hugely beneficial for nearly all types of companies.
Each year of an asset’s life, another year of Depreciation Expense is recorded. The offset to the Depreciation Expense account is Accumulated Depreciation. You record the allowance for doubtful accounts by debiting the Bad Debt Expense account and crediting the Allowance for Doubtful Accounts account. You’ll notice the allowance account has a natural credit balance and will increase when credited.
Contra accounts play an important role in accounting by helping businesses track certain aspects of their finances more accurately. For example, contra revenue accounts can be used to track the full cost of sales less any discounts or returns. It can help businesses see the complete picture of their income and expenses.
Even small businesses benefit immensely from contra asset accounts. Contra accounts are used to reduce the original account directly, keeping financial accounting records clean. The difference between an asset’s balance and the contra account asset balance is the book value. 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.
The main reason is to make the remaining shares more valuable, as their prices are expected to rise after the stock buyback. The auditors aim to keep the balances at their adequate levels, but the controller might want to keep them as low as possible to reduce expenses and maximize profit levels. Contra Accounts serve as a reduction to the balance of their corresponding accounts to find their net values.
If you’re using accounting software, you’ll be able to create contra accounts when setting up your chart of accounts. The net of the asset and its related contra asset account is referred to as the asset’s book value or carrying value. In accounting lingo, a dual entry account system includes the concept of a contra entry. It’s an entry that’s the offset or reverse of an entry that’s on the other side of the account. An entry will be recorded on the credit side if and when a debit entry is recorded in an account and vice-versa.
However, only $100 is unconditionally due (to be paid within 30 days). The remaining $240 is contingent on the company’s future provision Crucial Accounting Tips For Small Start-up Business of the voice plan. If the company ceased to provide telecommunications services, the customer would not owe this amount.