The balance sheet would show the piece of equipment at its historical cost, then subtract the accumulated depreciation to reflect the accurate value of the asset. Contra assets are accounts in the general ledger—where you enter your transactions—that carry a balance used to offset the account with which it is paired. Instead of debiting the asset account directly, the contra asset account balance will be credited (reduced) separately. Allowance for doubtful accounts is contra asset accounts that offset the accounts receivable. They are used in case some customers won’t be able to pay the money they owe to the business. 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.
- The amount is reported on the balance sheet in the asset section immediately below accounts receivable.
- This means that accounts receivables have a debit balance of $10,000, and the firm credits revenue for $10,000.
- If the asset account had a credit balance or the contra asset account had a debit balance, this would indicate an error in the journal entries.
- This helps the firms to evaluate the book value of their assets and liabilities.
- Both the asset and the corresponding contra asset accounts must be stated clearly in the balance sheet.
Unlike the three previously mentioned contra accounts, contra revenue accounts are not listed in the balance sheet but are written near the top of the income statement. Contra revenue accounts typically offset revenue accounts in a firm’s income statement. Some of the most common contra assets include accumulated depreciation, allowance for doubtful accounts, and reserve for obsolete inventory. Normal asset accounts have a debit balance, while contra asset accounts are in a credit balance.
What is a Contra Account?
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Over 1.8 million professionals use CFI to learn accounting, financial analysis, modeling and more. Start with a free account to explore 20+ always-free courses and hundreds of finance templates and cheat sheets. Mary Girsch-Bock is the expert on accounting software and payroll software for The Ascent. In other words, accumulated depreciation will be $10,000 each year until the car depreciates to $0 twenty years later. 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.
Contra asset accounts journal entries
You can estimate the total to record in the allowance for doubtful accounts based on uncollectible revenue totals from the previous year or you can conservatively estimate the amount. If you keep a lot of inventory in stock, chances are that some of the inventory will become obsolete. This frequently happens to manufacturing companies that sell products with an expiration date since any inventory remaining in stock past the expiration date quickly becomes obsolete. Contra Accounts serve as a reduction to the balance of their corresponding accounts to find their net values. Upgrading to a paid membership gives you access to our extensive collection of plug-and-play Templates designed to power your performance—as well as CFI’s full course catalog and accredited Certification Programs. For the past 52 years, Harold Averkamp (CPA, MBA) has worked as an accounting supervisor, manager, consultant, university instructor, and innovator in teaching accounting online.
Note that the asset account balance represents the purchase price of the asset in question, also known as its historical cost. When accounting for assets, the difference between the asset’s account balance and the contra account balance is referred to as the book value. There are two major methods of determining what should be booked into a contra account. Learn why contra accounts, when utilized correctly along with a paired account, are a crucial component of accurate accounting and financial review.
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. In bookkeeping, a contra asset account is an asset account in which the natural balance of the account will either be a zero or a credit (negative) balance. The account offsets the balance in the respective asset account that it is paired with on the balance sheet. If you offer credit terms to your customers, you probably know that not all of them will pay. Creating this contra asset account builds in a safeguard against overstating your accounts receivable balance. The accumulated depreciation account is perhaps the most common contra asset account used by business owners.
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. Writing off your obsolete inventory in this manner allows you to expense the cost of the obsolete inventory while also decreasing your current inventory balance using the contra asset account. Inventory obsolescence is an expense account, while the allowance for obsolete inventory is a contra asset account, which aims to reduce the inventory valuation on your balance sheet. Contra assets may be stated in separate line items on the balance sheet. 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.
This helps the firms to evaluate the book value of their assets and liabilities. Contra accounts provide more detail to accounting figures and improve transparency in financial reporting. Editorial content from The Ascent is separate from The Motley Fool editorial content and is created by a different analyst team. Get instant access to lessons taught by experienced private equity pros and bulge bracket investment bankers including financial statement modeling, DCF, M&A, LBO, Comps and Excel Modeling.
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. Your bank account, the inventory you currently stock, the equipment you purchase, and your accounts receivable balance are all considered asset accounts. To oppose the revenue made by a company, contra revenue accounts must have a debit balance. 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. Sometimes, both accounts can be written in a single line if they don’t represent a large portion of the assets.
Definition and Examples of Contra Assets
Hence, the company will have gross revenue or net sales equal to $9,900. 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.
What is a contra asset account?
Note that in accounting, the term “book value” is also used interchangeably with net value. Last, for contra revenue accounts there are sales discounts, sales allowances, or sales returns. These contra revenue accounts tend to have a debit balance and are used to calculate net sales. Accountants use contra accounts rather than reduce the value of the original account directly to keep financial accounting records clean. If a contra account is not used, it can be difficult to determine historical costs, which can make tax preparation more difficult and time-consuming. Reserve for obsolete inventory is a contra asset account used to write down the inventory account if inventory is considered obsolete.
Contra equity accounts carry a debit balance and reduce equity accounts. Contra revenue accounts reduce revenue accounts and have a debit balance. Contra asset accounts include allowance for doubtful accounts and accumulated depreciation.
The purpose of a contra asset account is to store a reserve that reduces the balance in the paired account. By stating this information separately in a contra asset account, a user of financial information can see the extent to which a paired asset should be reduced. To offset this, the allowance for doubtful accounts balance is adjusted via a credit, while the bad what is an audit 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 account Allowance for Doubtful Account is credited when the account Bad Debts Expense is debited under the allowance method.