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. A second example of a contra asset account is Accumulated Depreciation. Allowance for doubtful accounts is netted from the accounts receivable balance. The company predicts which accounts receivable won’t be paid by customers and writes those off. When the account receivable is written off, it is added to bad debt expense on the income statement and placed in the contra account.
These contra revenue accounts tend to have a debit balance and are used to calculate net sales. A contra liability is an account in which activity is recorded as a debit balance and is used to decrease the balance of a liability. Contra Liability a/c is not used as frequently as contra asset accounts. It is not classified as a liability since it does not represent a future obligation. Contra liability, equity, and revenue accounts have natural debit balances.
- These contra revenue accounts tend to have a debit balance and are used to calculate net sales.
- Contra expense accounts can be used to track expenses or income from other accounts in the general ledger.
- Last, for contra revenue accounts there are sales discounts, sales allowances, or sales returns.
- For example, a company pays for medical insurance on behalf of its employees, which it records in an employee benefits expense account.
- However, these accounts are still useful when dealing with large quantities of reimbursements, where it is cleaner and less confusing to store the information in a separate account.
The amount is reported on the balance sheet in the asset section immediately below accounts receivable. The difference between an asset’s account balance and the contra account balance is known as the book value. Those who are struggling with recording contra accounts may benefit from utilizing some of the best accounting software currently available.
Contra Asset Journal Entry Accounting
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. In addition to sales returns, the most common contra revenues are sales discounts and sales allowances. Sales allowances are price reductions offered to persuade customers to accept merchandise with damage or minor defects not serious enough to warrant a return. The benefit of using the contra expense account is that the company’s managers can see in account 4210 the total amount that the company paid to the health insurance company. Then in account 4211 they can see the portion of the cost that was paid by the employees. The company’s income statement will report the combination of the amounts in accounts 4210 and 4211 in order to show the company’s actual expense of $8,000 ($10,000 minus $2,000).
A contra expense account is a general ledger expense account that will intentionally have a credit balance (instead of the debit balance that is typical for an expense account). In other words, this account’s credit balance is contrary to (or opposite of) the usual debit balance for an expense account. As you saw in the example, contra accounts can be an important part of your financial statement analysis, but they are hard to find. Companies bury them in the footnotes and often don’t break out the actual calculation.
- For example net sales is gross sales minus the sales returns, the sales allowances, and the sales discounts.
- To drum up interest in the bond, the company will sell it at a discount.
- Since it is a contra asset account, this allowance account must have a credit balance (which is contrary to the debit balances found in asset accounts).
- 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.
- You’ve just converted $20 worth of cash into $20 worth of shoes; an asset that remains in your inventory.
- The purpose of the Accumulated Depreciation account is to track the reduction in the value of the asset while preserving the historical cost of the asset.
The company uses Straight-Line Depreciation to track the loss of value of the asset over time. A contra account enables a company to report the original amount while also reporting the appropriate downward adjustment. Harold Averkamp (CPA, MBA) has worked as a university accounting instructor, accountant, and consultant for more than 25 net profit margin definition formula and example calculation years. When the company pays the cost of having the flyer printed, a journal entry is done. The purpose of the Sales Returns account is to track the reduction in the value of the revenue while preserving the original amount of sales revenue. When the two balances are offset against each other they show the net balance of both accounts.
What Is the Benefit of Using a Contra Account?
The monthly accounting close process for a nonprofit organization involves a series of steps to ensure accurate and up-to-date financial records. Contra expense is an important component of financial accounting as it allows organizations to offset income and expenses in the same reporting period. This helps them to accurately present their financial position to both internal and external stakeholders. A contra account is a general ledger account with a balance that is opposite of the normal balance for that account classification.
Everything You Need To Master Financial Modeling
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. Founded in 1993, The Motley Fool is a financial services company dedicated to making the world smarter, happier, and richer. The Motley Fool reaches millions of people every month through our premium investing solutions, free guidance and market analysis on Fool.com, top-rated podcasts, and non-profit The Motley Fool Foundation. Still, the dollar amounts are separately broken out in the supplementary sections most of the time for greater transparency in financial reporting.
Bookkeeping
If a company has a high or fast-growing allowance as a percentage of accounts receivable, keep a close eye on it. It could be growing with bad accounts, and cash flow will be affected. A contra expense is an account in the general ledger that is paired with and offsets a specific expense account. The account is typically used when a company initially pays for an expense item, and is then reimbursed by a third party for some or all of this initial outlay. For example, a company pays for medical insurance on behalf of its employees, which it records in an employee benefits expense account. Then, when the employee-paid portion of the expense is paid to the company by employees, these reimbursements are recorded in a benefits contra expense account.
Additionally, revenue is reported on the income statement while contra expense is not. A contra expense is an account in the general ledger that offsets a specific expense account. It is used when a company initially pays for an expense item and is then reimbursed by a third party. An example of this is when a company pays for medical insurance for its employees and records it as an employee benefits expense. The reimbursements from employees are recorded in a benefits contra expense account, which results in a reduced total benefits expense for the company. Expenses are the costs of doing business, but not all costs are expenses.
In accounting terms, an expense is a cost incurred to produce revenue reported on the income statement. If you buy a pair of shoes from your supplier for $20, that’s a cost, but it’s not yet an expense. That’s because, as far as accounting is concerned, you haven’t really “spent” $20. You’ve just converted $20 worth of cash into $20 worth of shoes; an asset that remains in your inventory.
Contra liabilities are common in companies that sell bonds to raise capital. To drum up interest in the bond, the company will sell it at a discount. For example, a bond with a principal amount of $1,000 may be sold for only $950.
Unlike an asset which has a normal debit balance, a contra asset has a normal credit balance because it works opposite of the main account. Contra expense accounts have a natural credit balance, as opposed to the natural debit balance of a typical expense account. Therefore, a contra expense account that contains a debit balance must have a negative ending balance. The following are examples of contra expense accounts used in double entry bookkeeping.
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 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.
