Contra expense accounts have a credit balance, which is the opposite of the typical debit balance found in expense accounts. The purpose of a contra expense account is to reduce the total expenses shown on the income statement by reflecting specific adjustments, recoveries, or reimbursements related to the expense. To illustrate the use of contra accounts, consider a business accounting for bad debt expenses when customers fail to fulfill payment obligations. The Allowance for Doubtful Accounts, a contra asset account, estimates uncollectible receivables. Under accounting standards like those outlined by the Financial Accounting Standards Board (FASB), businesses estimate and record these allowances to report accounts receivable at their net realizable value. Suppose a company estimates that 5% of its $200,000 accounts receivable balance is uncollectible.
In the financial statements the purchases account would be offset against the contra expense accounts to show the net purchases. Contra asset accounts adjust asset values on the balance sheet to reflect their true economic value. A key example is accumulated depreciation, which offsets the cost of tangible fixed assets like machinery or buildings. Depreciation is calculated using methods such as straight-line or declining balance to allocate an asset’s cost over its useful life.
Do Contra Accounts Have Debit or Credit Balances?
These categories include asset, revenue, and liability accounts. 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. Of that amount, it is estimated that 1% of that amount will become bad debt at some point in the future.
- Since the purpose of the contra account is to be offset against the balance on another account, it follows that the normal balance on the contra account will be the opposite of the original account.
- However, that $1.4 billion is used to reduce the balance of gross accounts receivable.
- The discount on bonds payable is a notable example, reducing the face value of bonds issued below their market value.
- When working with discounts, we generally calculate the discount and record it at the time of payment.
- Contra accounts such as these have a debit balance and are deducted from the total amount of a company’s revenue.
Purchase returns, allowances and discounts are all examples of contra expense accounts. The accounts normally have a credit balance and in use are offset against the purchases account which is normally a debit balance. The net balance of the accounts shows the net value of the purchases made by the business for the accounting period. Accumulated Depreciation is a contra asset account with a credit balance that reduces the normal debit balance of Property, Plant and Equipment fixed assets in order to present the net value of long-term capital assets on a company’s balance sheet. Contra accounts are more commonly paired with asset accounts, such as accounts receivable or inventory, to reduce the carrying values of those assets. A liability that is recorded as a debit balance is used to decrease the balance of a liability.
The difference between the gross balance of a main account and its contra accounts reported as the net balance in a company’s financial statements is also referred to as a book value, current value, carrying value, or net realizable value. 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 national brand gives the grocery store cash, reducing the overall cost of printing the flyer. The purpose of the Accumulated Depreciation account is to track the reduction in the value of the asset while preserving the historical cost of the asset. Double Entry Bookkeeping is here to provide you with free online information to help you learn and understand bookkeeping and introductory accounting.
What is Accumulated Depreciation?
The value of Inventory dropped $3,000, which moves to the income statement as an expense. When recording sales transactions, we still must be concerned with whether the company uses perpetual or periodic inventory. Under the periodic method, we do not update the value in the inventory account until we do the adjusting entries at the end of the period. Therefore, we should never use the inventory account in purchase transactions for companies that use the periodic method.
Therefore, contra accounts, though they represent a positive amount, are used to net reduce a gross amount. For this reason, contra accounts are primarily seen as having negative balances because they are used to reduce the balance of another account. Contra accounts are used to reduce the value of the original account directly to keep financial accounting records clean. When an account has a balance that is opposite the expected normal balance of that account, the account is said to have an abnormal balance. For example, if an asset account which is expected to have a debit balance, shows a credit balance, then this is considered to be an abnormal balance.
Contra Expense Account Examples
Contra revenue is a general ledger account with a debit balance that reduces the normal credit balance of a standard revenue account to present the net value of sales generated by a business on its income statement. The balance sheet would report equipment at its historical cost and then subtract the accumulated depreciation. A contra liability is a general ledger account with a debit balance that reduces the normal credit balance of a standard liability account to present the net value on a balance sheet.
The Ultimate Guide To Accounting Project Management
First, we need to record the entry to show the purchase of the inventory. A company receives rebates for advertising it does on behalf of brands it carries in its stores. For example, a grocery store displays advertisements for a national brand in its weekly flyer.
It records a $10,000 allowance for doubtful accounts by debiting Bad Debt Expense for $10,000 and crediting Allowance for Doubtful Accounts for the same amount. This practice adheres to the matching principle, which requires expenses to be recorded in the same period as the related revenues. This adjustment reduces net accounts receivable on the balance sheet and increases expenses on the income statement, providing a comprehensive view of the company’s financial health. Key examples of contra asset accounts include allowance for doubtful accounts and accumulated depreciation. Accumulated depreciation reflects the reduction in value of a fixed asset.
Accumulated the contra account purchases discount has a normal debit balance. Depreciation acts as a subaccount for tracking the ongoing depreciation of an asset. A Fixed Asset is a Long-term Asset used by a company to create revenue. Examples of Fixed Assets are Vehicles, Equipment, and Buildings.
After 30 days, your payment is now late and the seller can add on late charges or interest, depending on state law. Notice that we used Inventory, because under the perpetual method, whenever the value of inventory is changing, we must show that change in the account.