In reality, the actual number of company discounts came closer to $5 thousand. The difference between an asset’s account balance and the contra account balance is known as the book value. This account serves two purposes — tracking total depreciation expenses while providing you with the accurate book value of the asset being depreciated. When a company gives a discount to customers in an effort to convince https://business-accounting.net/ them to buy its goods or services, it is recorded in the discount on sales account. The allowance method of accounting enables a company to determine the amount reasonable to be recorded in the contra account. For example, Sales returns and allowances is a contra-revenue account, in which sales returns and allowances are separately accounted for in order to have a separate data for such items.

Similarly, accrued liabilities reduce the total amount of current liabilities. Sales returns, sales allowance and sale discounts are different examples of contra revenue accounts. Contra accounts such as these have a debit balance and are deducted from the total amount of a company’s revenue. The contra asset account carries a credit balance because an asset account usually has a debit balance. Such accounts are allowance for doubtful accounts and the accumulated depreciation account.

1. Still, it is important when possible to consider how the net accounts are calculated and be wary of companies that are reporting a ton of bad debts.
2. A contra account is a general ledger account with a balance that is opposite of the normal balance for that account classification.
3. Hence, the term valuation account represents all types of balance sheet accounts related to their corresponding balance sheet accounts.
4. 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.

The auditors want to ensure that reserves are adequate, while the controller is more inclined to keep reserves low in order to increase the reported profit level. The amount of this reserve is typically based on the company’s historical loss experience for each reserve. At Invoiced, we provide a suite of solutions that work together to make managing your invoicing, accounts receivable, and accounts payable seamless and easy. To convert your invoice management efforts to an electronic format that can easily share data with other financial systems, businesses can leverage Invoiced’s E-invoice Network. Nor would it count as a liability as it does not reflect a future obligation.

Contra Asset

Therefore, the book value of an asset in the books is equal to its historical cost (the debit balance of the asset) minus the related amount of contra asset in the balance sheet (the credit balance of the contra asset). A contra asset account is an account in the balance sheet that offsets the balance of a regular asset account. The use of contra accounts ensures the accuracy of financial accounting records, as the value of the original accounts is not directly reduced. In the event that a contra account is not utilized, it can become increasingly troublesome to determine historical costs, which makes tax preparation time-consuming and difficult. Home Depot reports net receivables and net property and equipment, implying that both are reduced by contra assets. We’ll need to dig into the footnotes to find out what the contra accounts are.

What Is a Contra Asset?

The contra asset account then allows recording of the value factoring in depreciation. Let’s consider a fictional example of a small business called “GreenThumb Nursery” to illustrate the use of contra asset accounts in financial accounting. To offset this, the allowance for doubtful accounts balance is adjusted via a credit, while the bad debt account is debited to balance out the AR account. When combined, the AR account and the allowance for doubtful accounts contra assets offer a projection of how much net cash is expected to be received from outstanding accounts. The allowance for doubtful accounts is a contra asset because it reduces the value of the accounts receivable (AR) account on the general ledger. Often when a company extends goods on credit, management expects some of those customers not to pay and so anticipates writing off bad debt.

Contra Revenue Account

Offsetting the asset account with its respective contra asset account shows the net balance of that asset. Whereas assets normally have positive debit balances, contra assets, though still reported along with other assets, have an opposite type of natural balance. Allowance for doubtful accounts is contra asset accounts that offset the accounts receivable.

For example, an asset was purchased by a company for $100,000 – that is, the historical cost of the asset was $100,000 – and its contra asset counterpart has a balance of $30,000. Note that the asset account balance represents the purchase price of the asset in question, also known as its historical cost. 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. Whenever the balance of an account needs to be reduced in a company’s ledger, it is not always applicable to credit the account if it is an asset or debit the account if it is a liability.

When recording assets, the difference between the asset’s account balance and the contra account balance is the book value of the asset. The balance in the allowance for doubtful accounts is used to find out the dollar value of the current accounts receivable balance that is deemed uncollectible. The balance sheet shows the amount in the asset section underneath the accounts receivable.

However, it’s important to keep in mind that you can create any contra account you want to more clearly describe your business — this is not an exhaustive or definitive list. As mentioned, contra asset accounts are usually listed below their matching asset accounts, and the net values of those assets are written next to the contra accounts. In response, the firm should decrease its accounts receivable and revenue balances. That is done by crediting accounts receivable by $100 and debiting the contra revenue account sales returns and allowances for $100. Sometimes, both accounts can be written in a single line if they don’t represent a large portion of the assets.

Contra liability accounts

The account Allowance for Doubtful Account is credited when the account Bad Debts Expense is debited under the allowance method. The use of Allowance for Doubtful Accounts allows us to see in Accounts Receivable the total amount that the company has a right to collect from its credit customers. The credit balance in the account Allowance for Doubtful Accounts tells us how much of the debit balance in Accounts Receivable is unlikely to be collected. Or, if they contain relatively minor balances, they may be aggregated with their paired accounts and presented as a single line item in the balance sheet. In either case, the net amount of the pair of accounts is referred to as the book value of the asset account in question. When a contra asset account is not stated separately in the balance sheet, it may be worthwhile to disclose the amount in the accompanying footnotes, where readers can readily see it.

This type of account could be called the allowance for doubtful accounts or a bad debt reserve. The balance in the allowance for doubtful accounts represents the dollar amount of the current accounts receivable balance that is expected to be uncollectible. The amount is reported on the balance sheet in the asset section immediately below accounts receivable. 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. Contra liability accounts are special accounts in the liabilities section of the balance sheet. This would let users of the financial statements calculate the book value of the liability.

The discount on bonds payable amount shows the difference between the amount of cash received when issuing a bond and the value of the bond at maturity. When the original dollar amount is kept in the original account and a separate account is used for recording the deduction, the resulting financial information becomes more transparent and helpful for stakeholders. For example, contra asset accounts a building is acquired for $20,000, that $20,000 is recorded on the general ledger while the depreciation of the building is recorded separately. A contra account is a general ledger account with a balance that is the opposite of another, related account that it is paired with. Balance of such accounts are under debit side, while revenue balances are under credit side.