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Net accounts receivable is the difference between a company’s accounts receivable and the allowance for bad debts. Two methods for creating the reserve portion of net accounts receivable are taking a percentage of credit sales or a dollar amount of old accounts receivable.
Net accounts receivable is the difference between a company’s current accounts receivable and the allowance for bad debts. Businesses create an allowance for doubtful accounts since they do not expect to collect 100 percent of their accounts receivable. There are two methods for creating the reserve portion of net accounts receivable. Taking a percentage of credit sales or a dollar amount of old accounts receivable are the two most common calculation methods. Businesses can use whichever method produces the most accurate number.
Credit sales occur when a business allows customers to purchase goods on account. Most companies will keep the accounts receivable balance on their books internally. Accountants will maintain balances and age them by date. Most aging reports list unpaid balances in 30-day increments. Aging reports will list all balances in categories named current, 30 days, 60 days, 90 days, and 120 days.
To calculate net accounts receivable using the percentage of sales method, companies must review their past collections of accounts receivable. This typically results in a percentage of credit sales that went uncashed for a period of time. An accountant will multiply current credit sales by this percentage and determine what dollar amount of accounts receivable will be uncollectible. A journal entry posted to the general ledger will debit bad debt expense and doubtful account credit allowance for the calculated figure.
The other calculation method is to determine a figure based on the accounts receivable aging report. For example, an accountant can simply take all open accounts that are 120 days old or older and post this amount as allowances for doubtful accounts. The sum of all these accounts is posted to the company’s general ledger using the same journal entry presented above. This process can be a monthly journal entry to present more accurate net receivables for financial statements.
Creating a provision for doubtful accounts does not mean that it is impossible for a company to collect these outstanding balances. Net accounts receivable is simply an estimate to produce financial reporting accuracy. If a company collects an open account that was written off for bad debt, the accountant must reverse the initial entry. This entry is a debit to allowance for doubtful accounts and a credit for bad debt expense. The accountant can then post the collection of the outstanding debt and remove the account receivable from the company’s books.
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