PROBLEM 1: AUDIT OF TRADE RECEIVABLES

STEP 1: Prepare T-accounts of Accounts BDE

receivables (A/R), Allowance for doubtful accounts Beg bal Reversal of bad debts
(ADA), and Bad debts expense (BDE). Current bad debts

A/R
Beg bal Collection End bal
Credit sales Write off
Recovery Recovery Please UNDERSTAND the movement of accounts
in T-accounts. It is easy to solve problems using T-
End bal accounts. Trust me.

Do not include the words. Just leave the T-accounts

Credit sales
blank. Later, amounts will be placed.
A/R xx
Sales xx STEP 2: Reconcile the subsidiary ledger against
general ledger.
Collection
Cash xx Copy the data from the activity.
A/R xx
Unadjusted Adjustments Adjusted
Write-off
Grace 139,200 139,200
ADA xx
Truth 252,800 - 99,200 153,600
A/R xx
Gusto 361,120 99,200 460,320
National 344,800 - 30,000 314,800
Recovery
Nano 96,000 96,000
A/R xx
Bruce 71,360 - 71,360 -
ADA xx
Privacy 281,440 281,440
1,546,720 1,445,360
Cash xx
A/R xx
Bruce Inc.
NOTE: When recovery of accounts there are no
changes in accounts receivable. The receivables from Bruce can't be collected
anymore. Thus, it must be written-off or removed.
ADA
National Co.
Write off Beg bal
Reversal of bad debts Current bad debts National Co.
Recovery "Recorded" amount 144,800.00
DIVIDED BY: 144.80
End bal Number of goods sold 1,000.00
MULTIPLY BY: 114.80
Bad debts "Should be" amount 114,800.00
BDE xx
ADA xx "Recorded" amount 144,800.00
"Should be" amount 114,800.00
ADA xx Overstated A/R 30,000.00
BDE xx
Since the recorded amount is overstated by 30,000,
it must be reduced.

Prepared by: DVGRFadri

 As you can see the ending balance of A/R is the
total amount computed AFTER adjustments had
been made.
Truth Corp. and Gusto Co.
REMEMBER: The result from the subsidiary ledger
The accounts receivable from Truth Corp. has is more accurate than the general ledger. Thus, it is
already been settled but it was deducted to Gusto's used as basis for the ending balance of A/R.
account.
STEP 4: Perform the schedule of aging of A/R in
Thus, 99,200 must be deducted against Truth, order to determine the REQUIRED ADA.
while add 99,200 back to Gusto.
Before the solution is shown, the estimation of bad
STEP 3: Prepare journal entries for those debts will be discussed.
adjustments and reflect those amounts in T-
THREE METHOD OF ESTIMATION OF BAD
accounts.
DEBTS
Truth
1. Percentage of Sales (income statement
Sales 99,200
approach)
A/R 99,200
- matches the matching principle, wherein there is
Gusto bad debts expense related to sales
A/R 99,200
Sales 99,200 Bad debts = Credits sales, END x Bad debt rate

In T-accounts, it will look like this

National
Sales 30,000 ADA
A/R 30,000 Beg bal
Current bad debts
Bruce
ADA 71,360
A/R 71,360 End bal

A/R
1,566,720 99,200 2. Percentage of A/R and
99,200 30,000
71,360 ADA, END = A/R, END x Bad debt rate
20,000 adjustment 3. Aging of A/R (balance sheet approach)
1,445,360
ADA, END = result of aging

Based on the given, the A/R, beg is NET of ADA of In T-accounts, it will look like this
46,720 so it must be added back to A/R, beg to get
ADA
its original amount. (1,520,000 A/R, beg + 46,720
Beg bal
ADA) Current bad debts
Adjustment
Sales 20,000
A/R 20,000 End bal

In order to determine the current bad debts, it must

be SQUEEZED.

Prepared by: DVGRFadri

Go back to the problem, aging of A/R will be ADA
computed. 71,360 46,720
151,960 current bad debts
Invoice
date to
Range
Year-end
(in days) 127,320
Grace 09/12/2021 139,200 110 91-120
Truth 12/12/2021 153,600 19 0-30
Gusto 11/17/2021 185,120 44 31-60 Current bad debts
10/08/2021 176,000 84 61-90 BDE 151,960
11/05/2021 99,200 56 31-60 ADA 151,960
National 12/08/2021 160,000 23 0-30
10/25/2021 114,800 67 61-90
08/20/2021 40,000 133 over 120
Nano 09/27/2021 96,000 95 91-120 1. 127,320. Since aging of A/R is used, its result is
Privacy 12/06/2021 112,000 25 0-30 the ending balance of ADA.
11/29/2021 169,440 33 31-60
2. 151,960. The bad debts expense is squeezed.
NOTE: Only the column of customers, amounts of
receivables and range are recommended to 3.
prepare during exam because of time limit. Other Accounts receivable, END 1,445,360
data are shown for better understanding. LESS: Allowances for:
doubtful accounts - 127,320
Add all amounts share within the same range.
sales return and allowances
0-30 425,600 sales discount
Net realizable value (NRV)/ CA of A/R 1,318,040
31-60 453,760
61-90 290,800
91-120 235,200 Please remember this formula.
over 120 40,000
TOTAL 1,445,360 4.

Adjustment
% of Sales 20,000
BDE A/R 20,000
uncollectible
0-30 425,600 2% 8,512
31-60 453,760 5% 22,688
61-90 290,800 10% 29,080 Before the solution is shown, discounting of notes
91-120 235,200 20% 47,040 receivable will be discussed first.
over 120 40,000 50% 20,000
TOTAL 1,445,360 127,320 DISCOUNTING OF NOTES RECEIVABLE

- happens when the entity SELLS its notes

A/R receivable (NOT A/R) to the bank for a discounted
1,566,720 99,200 price; in other words, there is TRANSFER OF
99,200 30,000 OWNERSHIP to the bank
71,360
20,000 adjustment
1,445,360

Prepared by: DVGRFadri

FORMULA:
CONDITIONAL SALES SECURED BORROWING
Discounting of N/R
Net proceeds = Maturity value - Discount Cash xx Cash
Loss on discounting xx Interest expense xx
N/R - discounted xx Liability for N/R discounted xx
Interest = Principal of Note x Interest Rate x Number of period Interest income xx Interest income xx
Maturity value = Principal of the Note + Interest N/R is measured at FACE amount.
Discounted = Maturity value x DISCOUNT RATE x Number of
Default of customer
periods left until maturity A/R xx A/R xx
Cash xx Cash xx
EXAMPLE: A/R (total amt due + service charge from the bank)
On May 1, the entity received a P300,000 note, SIX-month, 12%
N/R - discounted xx Liability for N/R discounted xx
interest bearing note from a customer dated January 1. N/R xx N/R xx
The note was discounted/sold at the bank on August 1 at 15%.
Collection of A/R from the customer PLUS the interest income earned based on their total amount
Cash xx Cash xx
Interest = 300,000 x 12% x 6/12 = 18,000 A/R xx A/R xx
Interest income xx Interest income xx
Maturity value = 300,000 + 18,000 = 318,000

Since the note was discounted at August 1, there were 3 months

PROBLEM 3: Various Receivable Transactions
Beginning balances:
left until the maturity date of October 31. A/R 672,000
ADA - 42,300
Discounted = 318,000 x 15% x 3/12 = 11,925 N/R 65,400

Net proceeds = 318,000 - 11,925 = 306,075

A A/R 2,623,800
Net proceeds is the CASH received from the bank Sales 2,623,800

after selling the note. B Cash 2,523,000

A/R 2,523,000
Do NOT FORGET the INTEREST INCOME earned
before the note was discounted at the bank. C ADA 41,400
A/R 41,400
Interest income = Principal x Interest Rate x D Cash 87,000
Number of periods before the discount date N/R 87,000

TYPES OF DISCOUNTING OF NOTES E N/R 216,000

A/R 216,000
RECEIVABLE
F N/R - discounted 108,000
1. Without Recourse – the bank can no longer run N/R 108,000
after you if the customer has not been able to pay
G A/R 6,075
the note sold by the entity to the bank Cash 6,075
N/R - discounted 6,000
2. With Recourse – opposite of without recourse N/R (6,075 - 60 -15) 6,075

− the primary liable to pay the note is still the H Cash 135,225
Loss on discounting 375
customer; however, when the customer defaults N/R - discounted 135,000
or delays their payment, the secondary liable is Interest income 600

the entity I A/R 1,500

ADA 1,500
a. Conditional sale – possible liability; contingent
Cash 1,500
liability is DISCLOSED
A/R 1,500

b. Secured borrowing – recognized liability J Sales return & allow 6,000

A/R 6,000

K BDE 39,357
ADA 39,357

Ending balances:
A/R 515,475
ADA - 41,757
N/R 86,400
N/R - discounted - Prepared
21,000 by: DVGRFadri
Since N/R-discounted account was used, it means
the transaction is a conditional sale – with recourse.
1. 2,850,000
PROBLEM 4: ASSIGNMENT OF ACCOUNTS
2. 3,000,000 – 1,870,000 = 1,130,000
RECEIVABLE
3. 4,000,000 – 2,000,000 – 150,000 – 200,000 =
ASSIGNMENT OF ACCOUNTS RECEIVABLE
1,650,000
- the entity borrows money from the bank
PROBLEM 5: FACTORING OF ACCOUNTS
- the entity set aside SOME accounts receivable RECEIVABLE
and assigned them in payment for the loan
FACTORING OF A/R
TYPES OF ASSIGNMENT OF ACCOUNTS
- SALE of A/R to the bank or other financial
RECEIVABLE
institutions
1. Notification basis
TYPES OF FACTORING – same concept applied
− customers are notified that they will pay to the with discounting
bank instead of the entity as payment of entity’s
1. Without recourse
loan
− collection: bank 2. With recourse

2. Non-notification basis a. Casual factoring – NOT regular sale of AR

− the entity will still collect the payments from − used if the problem is SILENT
customers, and the collection will be remitted to
b. Regular means of financing – continuing
the bank as payment of its loan
agreement; regular sale of AR
12/31/2021
A/R - assigned 4,000,000 Service charge
A/R 4,000,000
# reclassification entry − usually percentage of the proceeds that will be
received from the bank during sale
Cash (3M x 95%) 2,850,000 − costs shouldered by the entity
Service charge (3M x 5%) 150,000
L/P 3,000,000 Factor’s holdback
*L/P - loans payable
− a receivable of the entity
− usually percentage of the proceeds that will be
Cash 1,900,000
Sales discount 100,000 received from the bank during sale
A/R - assigned 2,000,000 − the bank deducted against the proceeds
because of possibility of sales returns and
12/31/2021 allowances, and defaults from the A/Rs sold to
N/P *balancing figure* 1,870,000 the bank by the entity
Interest expense (3M x − if NO sales return, etc., the bank will return the
12% x 1/12) 30,000 money
Cash 1,900,000

#the collection will be paid for the principal of

the loan AND interest not the
entire collection will be paid to the principal

Sales ret & allow 150,000 Prepared by: DVGRFadri

A/R - assigned 150,000

ADA 200,000
A/R 2,000,000
Service charge -60,000
PROBLEM 7: Audit of Loans Receivable
Factor's holdback -100,000
Net proceeds/ Cash 1,840,000 (Financing)

LOANS RECEIVABLE

Cash 1,840,000 − these are accounts receivable of FINANCIAL

Service charge/ Loss 60,000 INSTITUTIONS like banks, pawnshop, or
Receivable from factor 100,000 cooperatives
A/R 2,000,000
Origination costs
1. 1,840,000
These are costs spent by the bank for credit
2. 60,000 evaluation of the borrower. In other words, these
are expenses made to determine if the borrower
PROBLEM 6: Discounting of Accounts
has the capacity to pay after the loan has been
Receivable
granted to them.
For visual illustration purposes:
• Direct origination costs – capitalized; added
Jan-01 Apr-01 Sep-30
to the CA of L/R
Interest income
3 months
Discounted
6 months
• Indirect origination costs – expensed;
Maturity value
recorded in the income statement
Maturity value Origination fees
Principal 6,000,000
Interest (6M x 10% x 9/12) 450,000 6,450,000 These fees are ALREADY PAID by the borrower.
LESS: Discounted Thus, the receivable of the bank from the borrower
(6.45M x 12% x 6/12) -387,000 is reduced.
NET PROCEEDS/ CASH 6,063,000
IMPAIRMENT
Interest income (6M x 10% 3/12) 150,000
− happens when the expected collection of
receivables is lower than the amount supposed
04/01/2021 to be collected from loans receivable
Cash 6,063,000 − the borrower of the bank experiences financial
Loss on discounting *balancing figure* 87,000
difficulty to pay their debt
N/R - discounted 6,000,000
Interest income 1,500,000 Carrying amount of L/R > Present value of
10/01/2021
future cash flow (expected collection
A/R 6,500,000
STEP 1: Make a timeline of collections and
Cash (6.45M + 50K) 6,500,000
determine when the impairment happens for visual
N/R - discounted 6,000,000 presentation of the problem.
N/R 6,000,000
Impairment Date
01/01/2015 12/31/16 12/31/18 12/31/20 12/31/22
12/31/2021
Cash 6,652,500 12/31/15 12/31/17 12/31/19 12/31/21

A/R 6,500,000
Interest income 162,500 Interest are to be collected. PV of futute cash flow is to be determined.

(6.5M x 10% x 3/12)

STEP 2: Determine the amount of loan lent to the
borrower.

Prepared by: DVGRFadri

 L/R 10,000,000 STEP 5: Compute for the Impairment loss.
ADD: Direct origination cost 300,000
LESS: Origination fee -1,020,955 CA of L/R, 12/31/17 9,661,990
Carying amount of L/R 9,279,045 ADD: Unpaid interest 1,000,000
CA of L/R, 12/31/18 10,661,990
LESS: PV of future cash flow - 5,855,491
L/R (at face amount) 10,000,000 Impairment loss 4,806,499
Cash 9,279,045 Un
Unearned interest income 720,955
*balancing figure* 12/31/2018
Interest receivable 1,000,000
STEP 3: Make an amortization table until the last Interest income 1,000,000
collection from the borrower. Provide journal
Impairment loss 4,806,499
entries, IF NECESSARY.
Interest receivable 1,000,000
Carrying Face amount x Allowance for impairment 3,806,499
amount x Coupon rate
Effective rate (10M x 10%)
*balancing figure*
Interest Carrying
Date - Received Amortization
Income Amount STEP 6: Make an amortization table again using
01/01/2015 9,279,045
the expected cash flows made by the borrower.
12/31/2015 1,113,485 - 1,000,000 113,485 9,392,530
12/31/2016 1,127,104 - 1,000,000 127,104 9,519,634 Carrying amount CA - Next
12/31/2017 1,142,356 - 1,000,000 142,356 9,661,990 x Effective rate Principal
Interest Carrying
Date Collection - Principal
12/31/2015 income Amount
Cash 1,000,000 12/31/2018 5,855,491
12/31/2019 1,000,000 - 702,659 297,341 5,558,150
Unearned interest income 113,485 12/31/2020 2,000,000 - 666,978 1,333,022 4,225,128
Interest income 1,113,485 12/31/2021 2,500,000 - 507,015 1,992,985 2,232,143
12/31/2022 2,500,000 - 267,857 2,232,143 0
12/31/2016 8,000,000 2,144,509 5,855,491
Cash 1,000,000
Unearned interest income 127,104
12/31/2019
Interest income 1,127,104
Cash 1,000,000
L/R 1,000,000
12/31/2017
Cash 1,000,000
Allowance for impairment 702,659
Unearned interest income 142,356
Interest income 702,659
Interest income 1,142,356
12/31/2020
STEP 4: Compute for the present value of future
Cash 2,000,000
cash flows. L/R 2,000,000
No. of
PV of 1 at Allowance for impairment 666,978
Expected Periods
12% PV of Future Interest income 666,978
Amount Recovery from
effective Cash Flows
Date Impairment
rate
Date 12/31/2021
1,000,000 12/31/19 1 0.89 892,857 Cash 2,500,000
2,000,000 12/31/20 2 0.80 1,594,388 L/R 2,500,000
2,500,000 12/31/21 3 0.71 1,779,451
2,500,000 12/31/22 4 0.64 1,588,795 Allowance for impairment 507,015
5,855,491 Interest income 507,015

12/31/2022
Cash 2,500,000
L/R 2,500,000

Allowance for impairment 267,857

Interest income 267,857
Prepared by: DVGRFadri
 As you can see, the allowance for
impairment is reduced by the interest income. When
the borrower has COMPLETELY PAID the entire
loan, the allowance for impairment will be ZERO.
However, as of now, the bank has only collected
8,000,000, not yet 10,000,000.

ANSWERS:

1. D. 9,661,990

2. A. 4,806,499

3. C. 5,855,491

4. B. 5,558,150

5. D. 669,978

Prepared by: DVGRFadri