Accounting for Receivable

Definition of Receivable
Receivables are amounts that are expected to be collected from different entities such as
customers and organizations

2.1. CLASSIFICATION OF RECEIVABLES

Based on the source, receivables are classified as trade and non trade receivables:
1) Trade Receivables – receivables that originate from the major operation of the business such
as sale of goods or services on account
2) Non-trade Receivables- receivables that originate from miscellaneous source rather than the
major operation of the business and includes lending money to:
 Outsiders
 Employees as advance
 Officers
Based on the nature, receivables are classified in to two as
1) Accounts Receivable and
2) Notes Receivables:
1) Accounts Receivable: are receivables based on non written or oral promises to pay for goods
and services on credit. Accounts receivable:
 Are open accounts
 Are normally collectible within 60 days
 Are non interest bearing
2) Notes Receivable: is receivables based written promises to pay certain sum of money on a
specified future date to the bearer of the note.
Promissory Note (Notes Receivables):
 Note is a written promise to pay a sum of money on demand or at a definite time.
 Are usually used for credit periods of more than 60 days and for transaction of
relatively large amounts.
 May also be used in settlement of an open account (Account receivables) and in
borrowing or lending money, since note is legal and formal instrument.

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Characteristics of Notes Receivables
a) Notes receivable is more liquid than Accounts Receivables
b) Notes receivable can be made interest bearing or non interest bearing. A note that provides
for the payment of interest for the period between the issuance date and the due date is called
an interest bearing note. If the note makes no provision for interest, it is said to be non-
interest bearing note.
c) Promissory notes have a stronger legal status than open accounts.
d) There are two parties regarding notes:
1. Payee – the party to which the ordered note is payable, and
2. Maker – the party which is making the promise.
Example 1
On May 1, 2005 GG Co purchased merchandise for Br 5,000 from XYZ Co giving a written
promise to pay after 90 days. Determine the Payee and the maker of the note
Payee: XYZ Company
Maker: GG Company
2.2. DETERMINATION OF INTEREST, DUE DATE, AND MATURITY VALUE
1. Determination Of Interest
Interest = Principal @ Rate @ Time

Example 2:
Compute the interest on Br 10,000, 12%, 90 days promissory note.
 Interest = 10,000 @ 12% @ 90/ 360
 Interest = Birr 300
2. Determination of Due Date
Due Date (Maturity Date):
 is the date on which the note is to be paid.
 The term of the note may be stated in terms of specified number of days or months.
 When the term of a note is stated in days, the due date is the specified number of days
after its issuance.
 When the term of a note is stated as a certain number of months after the issuance date,
the due date is determined by counting the number of months from the issuance date.

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Example 3
X Company issued 90 days, 12%, Br 10,000 note, dated October 14 to Y Corporation in
settlement of an open account. Determine the due date of the note.
Solution:
Terms of the note........................................... 90 Days
Days remaining in October (31-14)............... 17 Days
Days in November......................................... 30 Days
Days in December.......................................... 31 Days
Total............................................................... 78 Days
Due Date, January.......................................... 12
Example 4
W & W Company issued a 60-day, 12% Br1000, dated May 10, to L Corporation. Determine the
due date of the note?
Solution:
Terms of the note........................................... 60 Days
Days remaining in May (31-10)..................... 21 Days
Days in June................................................... 30 Days
Total............................................................... 51 Days
Due Date, July................................................ 9
3. Determination of Maturity Value
 The amount that is due at the maturity or due date is called the maturity value
 The maturity value of a non-interest bearing note is the face amount.
 The maturity value of interest-bearing note is the sum of the face amount and the interest.
Example 5
W Co. issued a 60 day, Birr 10,000, 12% interest bearing note , dated May 19 to L Corporation
on account. Determine the Maturity Value of the Note.

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Solution:
 Face Value........................................................ Br 10,000.00
 Add: Interest (10,000 @ 12% @ 60/360)......... 200.00
 Maturity Value.................................................. Br 10,200.00
2.3. Accounting For Notes Receivable
 If the accounts of a customer become delinquent, the creditor may insist that the account
be converted into a note.
 If the debtor is given more time and the creditor needs more funds, the note may be
endorsed and transferred to a bank or other financial agency.
Example 6
ABC Co purchased merchandise for Br 30, 000 on Nov 11, 1995 with terms 2/10, n/30 from
XYZ Corporation. However, as ABC Company didn’t pay its account to its creditors on the
agreed date (Dec.11, 1995) and XYZ Corporation insisted the debtor to give a note in the place
of the open account (A/R). Consequently, ABC Company signs a Br 30,000, 12%, 90 days
interest bearing note dated December11, 1995. Required: Record the appropriate journal entry to
be made by XYZ Corporation (seller):
1. On December11, 1995 when the note was received
2. On December 31, 1995, end of the fiscal year
3. At maturity date of the note
A. Assuming reversing entry was made on Jan 1, 1996
B. Assuming reversing entry was not made on Jan 1,1996
Solution:
1. To convert an open account to a note
Dec. 11, 1995: Notes Receivable...................................................
30,000.00
Accounts Receivable................................ 30,000.00
2. To record accrued interest for 20 days
 From Dec. 11 to Dec. 31 = 20 days
 Accrued Interest = 30,000 @ 12% @ (20 / 360) = Br 200
Dec. 31, 1995: Interest Receivable................................................
200.00
Interest Income......................................... 200.00
3. On Maturity Date

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 A. Assuming Reversing Entry was made
Terms of the note........................................... 90 Days
Days Remaining December (31-11).............. 20 Days
Days in January.............................................. 31 Days
Days in February............................................ 29 Days
Total............................................................... 80 Days
Due Date: March............................................ 10
March 10, 1996:
Cash.......................................................................
30,900.0
0
Notes Receivable..................................... 30,000.00
Interest Income......................................... 900.00
B. Assuming Reversing Entry was not made
Cash.......................................................................
30,900.0
0
Notes Receivable..................................... 30,000.00
Interest Receivable................................... 200.00
Interest Income......................................... 700.00
2.4. ACCOUNTING FOR UNCOLLECTIBLE ACCOUNTS
 When merchandise or services are sold without the immediate receipt of cash, a part of
the claims against customers is proves to be uncollectible.
 The operating expense incurred because of the failure to collect receivable is called an
expense or a loss from uncollectible accounts, doubtful accounts, or bad debts.
 There are two methods:
1) The Allowance Methods/Reserve Method and
2) Direct Write off Methods/Direct Charge off Method
2.4.1. Allowance Method
 This method makes a provision for possible future uncollectible amount in advance.
 This procedure requires
o you to make an estimate about possible uncollectible amounts and

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 o recognize this in the record as an adjustment to account receivable account at the
end of every accounting period.
 The journal entry for the estimated amount is:
Uncollectible Account Expense.......................... xxxx
x
Allowance for Doubtful Accounts......... xxxxx
Note: Uncollectible accounts expense is generally reported on the income statement as an
administrative expense. Allowance for doubtful accounts is the amount to be deducted from
A/R to determine net realizable value.
Partial Balance Sheet Presentation
Current Asset:
Cash.................................................................... xxxxx
Accounts Receivable..........................................xxxxx
Less: Allowance for Doubtful Accounts............xxxxx xxxxx
Write-off to the Allowance Account
During the year, as more accounts or portions of accounts are determined to be uncollectible, it is
written off against allowance for doubtful accounts. When an account is believed to be
uncollectible, it is written off against the allowances account as follows
Allowance for Doubtful Accounts...................... xxxx
x
Accounts Receivable.............................. xxxxx
 The total amount written off against the allowance account during the period will rarely be
equal to the amount in the account at the beginning of the period
 The allowance account will have a credit balance at the end of the period if the write offs
during the period amount to less than the beginning balance
 It will have a debit balance if the write the write offs exceed the beginning balance
 After the year-end adjusting entry is recorded the allowance account will have a credit
balance
Reinstatement of Write-off Entry
An account receivable that has been written off against the allowance account may later be
collected. In such cases, the account should be reinstated as:

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 Accounts Receivable........................................... xxxx
x
Allowance for Doubtful Accounts......... xxxxx
Example 7
ABC Company’s account receivable has a balance of Br 25,000 at the end of the period. Based
on study, it is estimated that a total of Br 2,000 will be uncollectible. The Adjusting Entry on
December 31
Uncollectible Account Expense.......................... 2,000.00
Allowance for Doubtful Accounts......... 2,000.00
Account Receivable………………………………… 25,000.00
Less: Allowance for doubtful account………………….2000.00
Net Realizable Value of account receivable …………23,000.00
Assuming Br 500 of the receivables is believed to be uncollectible and is written off on January
10, the entry would as follows:
Allowance for Doubtful Account........................ 500.00
Accounts Receivables............................ 500.00
Account receivable............................................... 24,500.00
Less: Allowance for Doubtful Account............... 1,500.00
Net Realizable Value of Account Receivable...... 23,000.00
Note: there is no change in net realizable value of account receivable.
Further assume that the Br 500 written-off in the preceding journal entry is later collected. The
entry to reinstate the account would be as follows:
Accounts Receivables......................................... 500.00
Allowance for Doubtful Account.......... 500.00
Estimating Uncollectible
The estimate of uncollectible at the end of the fiscal period is based on past experience and
forecasts of future business activity. The two methods to estimate uncollectible are:
1. Estimate Based on Credit Sales
2. Estimate Based on Analysis Age of Receivables
1. Estimate Based on Credit Sales
Example 8
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Assume that the allowance account has a credit balance of Br 1,500 before adjustment. The
credit sales for the year is Br 100,000 and it is known from past experience 1% of the credit sales
will be uncollectible. Therefore, the adjusting amount will be = 1% @ 100,000= Br 1,000
Uncollectible Account Expense.......................... 1,000.00
Allowance for Doubtful Accounts......... 1,000.00
 After adjusting entry is posted, allowance for doubtful account has Br 2,500 credit balance.

 If the balance of Allowance for Doubtful Account had been a debit balance of Br 300, the
amount of the adjustment would still have been Br 1,000 (that is 1% @ 100,000)
Uncollectible Account Expense.......................... 1,000.00
Allowance for Doubtful Accounts......... 1,000.00
 After the adjusting entry is posted, allowance for doubtful account has Br 700 debit balance.
2. Estimate Based on Analysis of Age of Receivables (Aging of Receivables)
There are some steps in aging of receivables methods:
1) Classify account receivable by age(days that receivables past due)
2) Provide percentage provision for uncollectibility
3) Apply the percentage
Example 9
Amount of Est. Percentage Amount of
Age Interval
Receivable of uncollectible Uncollectible
Not due 60,000 1% 600
1 – 30 days 15,000 2% 300
31 – 60 days 10,000 10% 1,000
61 – 90 days 8,000 25 % 2,000
The Estimate of Uncollectible 3,900

 The estimate of uncollectible account is 3,900.

 This amount is the desired balance of the Allowance for Doubtful Account after
adjustment.
 Therefore, the adjustment will be determined taking into account the existing balance of the
Allowance for Doubtful Account.
Assume that the Allowance for Doubtful Account has a credit balance of Br 1,500 before
adjustment. The adjusting entry will be by Br 2,400 (3,900 – 1,500)

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 Uncollectible Account Expense.......................... 2,400
Allowance for Doubtful Accounts......... 2,400
After posting is made, the Allowance for Doubtful Account has a credit balance of Br 1,500 +
2,400 = Br 3,900. If there had been a debit balance of Br 300 in the Allowance for Doubtful
Account before the year end adjustment, the amount of the adjustment would have been 4,200
(3,900 + 3,00=4,200)
Uncollectible Account Expense.......................... 4,20
0
Allowance for Doubtful Accounts......... 4,200
After posting is made, the Allowance for Doubtful Account has a credit balance of Br 3,900.
2.4.2. DIRECT WRITE-OFF METHODS
 The entry to write off an account when it is believed to be uncollectible is as follows:
Uncollectible Account Expense.......................... xxxxx
Accounts Receivables............................ xxxxx
 If an account that has been written off is collected later, the account should be reinstated.
o If the recovery is in the same fiscal year as the write off, the entry to reinstate is
Accounts Receivables......................................... xxxxx
Uncollectible Account Expense............. xxxxx
 If the recovery is made in the subsequent fiscal year, it may be reinstated by an entry
illustrated below:
Accounts Receivables................................................................ xxxxx
Recovery of Written-off Uncollectible Account........... xxxxx

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