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Sales Allowances-Sales allowances are also a part of the sales account. Sales allowance reduces the selling price when a customer agrees to accept a defective unit instead of returning it to the seller. DepreciationDepreciation is a systematic allocation method used to account for the costs of any physical or tangible asset throughout its useful life. Its value indicates how much of an asset’s worth has been utilized. Depreciation enables companies to generate revenue from their assets while only charging a fraction of the cost of the asset in use each year.
While accumulated depreciation is the most common contra asset account, the following also may apply, depending on the company. Reserve for obsolete inventory is a contra asset account used to write down the inventory account if inventory is considered obsolete. Excess, stored inventory will near the end of its lifespan at some point and, in turn, result in expired or unsellable goods. In this scenario, a write-down is recorded to the reserve for obsolete inventory. It is based on the accounting equation that states that the sum of the total liabilities and the owner’s capital equals the total assets of the company.
To illustrate, let’s use the contra asset account Allowance for Doubtful Accounts. Since it is a contra asset account, this allowance account must have a credit balance . The Allowance for Doubtful Accounts is directly related to the asset account entitled Accounts Receivable. Therefore, the net amount of the accounts receivable that is expected to turn to cash is $38,000. The contra account definition in business accounting is an account used in the general ledger for the purpose of reducing the amount in another account related to it.
Nora O’Malley covers small business finance and entrepreneurship topics for The Balance. Along with her writing work, Nora is an entrepreneur and consultant who opened an all-tap wine bar in New York’s East Village dubbed Lois and owns a sophisticated snack food business Aida. For her businesses, Nora is responsible for finances, marketing, operations, and fundraising.
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. To offset receivables and payables between 2 different legal entities/subsidiaries of a company so that one final amount remains. Investopedia requires writers to use primary sources to support their work. These include white papers, government data, original reporting, and interviews with industry experts.
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. 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). If cash is taken from the bank, due to business purposes then contra entry is made. If cash is taken for personal use, then it is recorded in the credit side of the bank column of the cash book. However, that $1.4 billion is used to reduce the balance of gross accounts receivable.
Usually, Liability accounts, Revenue accounts, Equity Accounts, Contra-Expense & Contra-Asset accounts tend to have the credit balance. Sales Returns-Sales returns is a Contra Ac of the sales account. This transaction records when a customer returns the paid goods, and a refund must be given. These accounts contra entry in accounting can be listed based on the respective asset, liability, or equity account to reduce their original balance. The contra equity account reduces the total amount of shareholders’ equity. Debit and credit aspects of a single transaction are entered in the same account but in different columns.
Definition of Contra Account
A contra account is a general ledger account with a balance that is opposite of the normal balance for that account classification. The use of a contra account allows a company to report the original amount and also report a reduction so that the net amount will also be reported.