They are used in case some customers won’t be able to pay the money they owe to the business. Whenever the balance of a contra asset account increases (credit to the contra asset account), the increased amount is written off as an expense and is reported in the company’s income statement. Both the asset and the corresponding contra asset accounts must be stated clearly in the balance sheet.
For example, an increase in the form of a credit to allowance for doubtful accounts is also recorded as a debit to increase bad debt expense. To illustrate the contra revenue account Sales Returns and Allowances, let’s assume that Company K sells $100,000 of merchandise on credit. It will debit Accounts Receivable for $100,000 and credit to Sales for $100,000. If a customer returns $500 of this merchandise, Company K will debit Sales Returns and Allowances for $500 and will credit Accounts Receivable for $500. Company K’s income statement will report the gross Sales of $100,000 minus the sales returns and allowances of $500 and the resulting net sales of $99,500. The contra asset account carries a credit balance because an asset account usually has a debit balance.
Maybe more importantly, it shows investors and creditors what percentage of receivables the company is writing off. The equity section of the balance sheet is where the shareholder’s claims to assets are reported. The main contra equity account is treasury stock, which is the balance of all stock repurchased by the company. When a company repurchases shares, it increases the fractional ownership of all remaining shareholders.
The sales allowance shows the discounts given to customers when returning the product. This is done to entice customers to keep products instead of returning them. The percentage of sales method assumes that a fixed percentage of goods or services sold by a company cannot be received. Contra accounts help provide more accurate financial information by separating certain items and highlighting their impact on the overall financial position. Treasury stock differs from other stocks in that it has no voting rights, and no dividends are paid to the treasury stock. Contra Accounts serve as a reduction to the balance of their corresponding accounts to find their net values.
Is Unearned Revenue a Contra Account?
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. When researching companies, the financial statement is a great place to start. Home Depot also devotes footnote 4 to its share repurchase program and reports that the company is authorized by its board to repurchase $20 billion in shares. The sales allowances account contains either an allowance for reductions in the price of a product that has minor defects, or the actual amount of the allowance attributable to specific sales. Double Entry Bookkeeping is here to provide you with free online information to help you learn and understand bookkeeping and introductory accounting.
- In this way, a contra asset (credit) lowers the overall value of your accounts receivables (debit) on the balance sheet.
- GAAP, the allowance for doubtful accounts represents management’s estimate of the percentage of “uncollectible” accounts receivable (i.e. the credit purchases from customers that are not expected to be paid).
- When the balance in the accumulated depreciation is $10,000 and your equipment account has a debit balance of $50,000, then the book value of your equipment is $40,000.
- 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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Contra accounts are used to reduce the value of the original account directly to keep financial accounting records clean. A contra revenue account is a revenue account that is expected to have a debit balance (instead of the usual credit balance). In other words, its expected balance is contrary to—or opposite of—the usual credit balance in a revenue account. A contra expense account is an account used to reduce the amount of an expense without changing the balance in the main expense account.
What is a Contra Account?
Any products that are sold at a discount or returns are deducted from gross revenue to produce net revenue as the top line on the income statement. When the amount recorded in the contra revenue accounts is subtracted from the amount of gross revenue, it equals the net revenue of a company. In case a customer returns a product, the company will record the financial activity under the sales return account. A contra account is a general ledger account that offsets the balance of a corresponding account with which it’s paired.
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. 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.
contra revenues account definition
Sometimes, both accounts can be written in a single line if they don’t represent a large portion of the assets. In case the contra asset account is not listed in the balance sheet, it must be listed in the footnotes of the financial statement for the users to be informed. Contra Asset Account – A contra asset account is an asset that carries a credit balance and is used to decrease the balance of another asset on the balance. A revenues account with a debit balance instead of the usual credit balance. Examples of contra accounts include allowance for doubtful accounts, reserve for obsolete inventory, and accrued liabilities.
Sales Discounts Account
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. Including contra accounts on a balance sheet is important as it allows for a more transparent view of a company’s financial position.
What is Accumulated Depreciation?
A key example of contra liabilities includes discounts on notes or bonds payable. 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 equity accounts carry a debit balance and reduce equity accounts. Contra revenue accounts reduce revenue accounts and have a debit balance.
The two most common contra accounts on a balance are accumulated depreciation and the allowance for doubtful debts. Accumulated depreciation tallies the depreciation to date of a fixed asset, such as a car or a building. 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.
A contra account offsets the balance in another, related account with which it is paired. Contra accounts appear in the financial statements directly below their paired accounts. Sometimes the balances in the two accounts are merged for presentation purposes, so that only a net amount is presented. If the related account is state tax and expenditure limits an asset account, then a contra asset account is used to offset it with a credit balance. If the related account is a liability account, then a contra liability account is used to offset it with a debit balance. Thus, the natural balance of a contra account is always the opposite of the account with which it is paired.