Chapter 5, Problem 13E

1.

To determine

Prepare the journal entry for each transaction using allowance method.

Explanation of Solution

Allowance method:

It is a method for accounting bad debt expense, where uncollectible accounts receivables are estimated, and recorded at the end of particular period. Under this method, bad debts expenses are estimated and recorded prior to the occurrence of actual bad debt, in compliance with matching principle by using the allowance for bad debt account.

1. Journal entry for installing air conditioning systems on account:

Date	Account Title and Explanation		Debit($)	Credit($)
2021	Accounts receivable		190,000
		Service revenue		190,000
	(To record the services rendered on account)

Table (1)

Company BHA, has provided services on account, this increases accounts receivable and service revenue.

An increase in accounts receivable (asset account) is debited with $190,000 and

An increase in sales revenue (stockholders’ equity account) is credited with $190,000.

2. Journal entry for collecting cash from customers on account:

Date	Account Title and Explanation		Debit($)	Credit($)
2021	Cash		185,000
		Accounts receivable		185,000
	(To collect cash on account)

Table (2)

An increase in cash (asset account) is debited with $185,000 and

A decrease in accounts receivable (asset account) is credited with $185,000.

3. Journal entry for recording the adjustment of uncollectible accounts using the allowance method:

Date	Particulars		Debit	Credit
2021	Bad debt expense (1)		$4,650
		Allowance for uncollectible accounts		$4,650
	(To adjust the allowance for uncollectible accounts)

Table (3)

• An increase in bad debt expense (decrease in stockholders’ equity account) is debited with $4,650, and
• An increase in allowance for uncollectible accounts (contra asset account) is credited with $4,650.

Working notes:

To determine the balance of accounts receivable at the end of the year 2021, prepare T account for accounts receivable:

Accounts receivable
Opening Balance	$26,000	Cash	$185,000
Service revenue	$190,000
		Bal.	$31,000

Calculation of uncollectible accounts at the end of 2021:

$\begin{array}{c}\text{Uncollectible accounts}=\left[\begin{array}{l}\text{Balance of accounts receivable}\times \\ \text{ uncollectible accounts estimate}\end{array}\right]\\ =\$31,000\times 15\%\\ =\$4,650\end{array}$

(1)

4. Entry for the write-off of uncollectible accounts:

Date	Particulars		Debit	Credit
2022	Allowance for uncollectible accounts		8,000
		Accounts receivable		8,000
	(To record write-off actual bad debts)

Table (4)

• A decrease in allowance for uncollectible accounts (contra asset account) is debited with $8000 and,
• A decrease in accounts receivable accounts (asset account) is credited with $8,000.

2.

To determine

Prepare the journal entry for each transaction using direct write-off method.

Explanation of Solution

1. Journal entry for installing air conditioning systems on account:

Date	Account Title and Explanation		Debit($)	Credit($)
2021	Accounts receivable		190,000
		Service revenue		190,000
	(To record the services rendered on account)

Table (5)

Company BHA, has provided services on account, this increases accounts receivable and service revenue. Hence,

An increase in accounts receivable (asset account) is debited with $190,000 and

An increase in sales revenue (stockholders’ equity account) is credited with $190,000.

2. Journal entry for collecting cash from customers on account:

Date	Account Title and Explanation		Debit($)	Credit($)
2021	Cash		185,000
		Accounts receivable		185,000
	(To collect cash on account)

Table (6)

• An increase in cash (asset account) is debited with $185,000 and
• A decrease in accounts receivable (asset account) is credited with $185,000.

3. Journal entry to record the adjustment of uncollectible accounts using the direct write-off method.

No entry required

Direct write off method does not record the adjustment.

4. Prepare the journal entry to record written off uncollectible amount $8,000 using the direct write-off method.

Date	Account Title and Explanation		Debit($)	Credit($)
2022	Bad debts expenses		8,000
		Accounts receivable		8,000
	(To record the actual bad debts)

Table (7)

• An increase in the bad debts ( decrease in stock holder’s equity) it is debited with $8,000 and
• A decrease in the accounts receivable (asset) it is credited with $8,000.

3.

To determine

Calculate the difference in net income (before taxes) in 2021 and 2022 between the two methods.

Explanation of Solution

The difference in net income (before taxes) in 2021 and 2022 between the two methods is:

Bad debt expense	Allowance method	Direct write-off method
2021	$ 4,650	$ 0
2022	$ 0	$ 8,000

Table (8)

• Under allowance method bad debts (2021) are recorded as $4,650, so net income would be lowered by $4,650 under allowance method when it is compared to the direct write-off method.
• Under direct write-off method bad debts (2022) are recorded as $8,000 so net income would be lowered by $8,000 under direct write-off method when it is compared to the allowance method.
• The difference in amount in both the years indicates that bad debts estimated in 2021 did not occur in 2022.