Bad Debts and Provision for Bad Debts

A bad debt is a debt that a business knows with certainty will not be collected. Once it has been
established that a debt is bad, the debtor (account receivable) is closed of or written of from the ledger.
Sometimes the debtor is only able to pay part of his debt. The unpaid balance on the account is written off
as bad. At the end of the year the bad debts account is closed off to the Profit and Loss Account/Income
Statement as an expense.
Journal and Ledger entries to write off bad debts
Example:
The accountant at Harris Enterprises notes the following:
S. Hall is a debtor who owes $820. She is unable to pay her debt due to bankruptcy. It was decided to
write off her debt as bad on June 1 2008. J. McIntosh owes $980. Due to financial difficulty he is only able
to pay $.40 on every dollar. In July 1 2008 it was decided to write off part of the debt as bad.

Harris Enterprises
General Journal
Details

Date
2008
Jun 1
Jul 1

Bad Debts A/c

S. Hall A/c.
To record bad debts written of
Cash
Bad debts A/c
J. McIntosh
To record bad debts written of after part

Debit

Credit

$
820

$
820

392
588
980

payment
Dec 31

Income statement
Bad Debts A/c
To close of bad debt A/c at the end of the

1 408
1 408

period

Sales Ledger

Date
2008

Details

S. Hall A/c
Amou
Date
nt

2008

Details

Amount
$

Jun 1

Date

Bal. c/d

Details

$
820

Jun 1

J. McIntosh A/c
Amou
Date

2008

nt

2008

Jul 1

$
980

Jul 1

Bal. c/d

Bad debts A/c

Details

820

Amount
$

Cash
Bad debts A/c

980

392
588
980

General Ledger

Date

Details

Bad Debts A/c

Amou
Date

2008

nt

Jun 1
Jul 1

$
820
588
1 408

S. Hall
J. McIntosh

Details

2008
Dec 31 Income statement

Amount
$
1 408
1 408

***At the end of the year, the bad debts account is closed off to the Income Statement
Provision for Doubtful/Bad Debts
Doubtful debts are those which cannot be classified as bad but which experience says will probably go bad
eventually. The amount of doubtful debts to be provided for is determined largely through the experience
of the businessman and the accountant. Some firms simply apply a small percentage to the total of the
accounts receivable.
In an alternative but more acceptable method (the aging debt method), a list is prepared comprising of the
debtors whose payments are overdue for varying periods. After a careful examination of the lost of debtors

with the aging debts, a decision is made to declare a percentage of each category on that list as doubtful.
The firm will apply a larger percentage for older debts.
List of aging debts
Age of Debts

Debtors

Amount Owed

Provision %

9 months

C. Baird

1 200

10%

A. Small

800

6 months
3 months

N. Gray

750

V. Blue

910

F. Ali

460

N. Fish

1 290

5%
3%

At some point the firm will create a provision for doubtful debts accounts. The accounting entry for the
creation of a provision for doubtful debts is:
Debit

Income statement/profit and loss

Credit

Provision for doubtful debts account

At the end of the accounting period the Provision for Doubtful Debts would have served two purposes:
1. Reduce the profit for the period by providing for estimated loss
2. Reduce the asset of debtors on the balance sheet, since the provision is deducted from debtors in
the balance sheet.
In this way the account will have a true and fair representation of the profit expected and the amount the
business reasonably expects to collect from debtors.
Example:
The accounts receivable of a business total $28 600 as at March 31 2009 and it has decided to create a
provision for doubtful debts at 5%.

Date

Details

2009
Mar
31

Provision for Doubtful Debts

Amou
Date
Details
nt

Bal. c/d

$
1 430

2009
Mar 31 Profit and Loss

Amount
$
1 430

Apr 1

Bal. b/d

1 430

The balance brought down on the provision for doubtful debts is deducted from the debtors figure in the
Balance Sheet.
Balance Sheet (Extract)
Current Assets:
Debtors

28 600

Less provision for doubtful debts

(1 430)

27 170

Maintaining the Provision for Doubtful Debts

Once a provision for doubtful debts has been established, it remains on the books and appears in the
Balance Sheet. In subsequent accounting periods the amount to be treated as doubtful debt will vary:
1. When the provision is to be increased:
Debit
Credit

profit and loss

provision for doubtful account (with the amount needed to increase
the provision)

2. When the provision is to be decreased:

Debit
Credit

provision for doubtful account

profit and loss account (with the amount needed to decreased the
provision)

Example:
Singhs Flower Shop has provided you with the following information relating to the firms debtors.

Year

Debtors Balance

Bad Debts Write

Provision for Bad

Off

Debts

Year 1 (2010)

18 900

450

369

Year 2 (2011)

36 000

720

1 764

Year 3 (2012)

27 760

555

816

Provision for Bad Debts A/c

Date

Details

Amou

Date

2010

nt

2010

Dec

$
369

Bal. c/d

31
2011

Details

Amount
$

Dec 31 Profit and loss

369

2011

Dec

Bal. c/d

1 764

Jan 01

Bal. b/d

369

31
Dec 31 Profit and Loss
1 764
2012
Dec

1 395
1 764

2012
Profit and Loss

948

Jan 01

Bal. c/d

816
1 764

Dec 31

Bal. b/d

1 764

31
1 764
2013
Jan 01

Bal. b/d

816

Effect on the Income Statement/Trading and Profit and Loss

Both bad debts and increases in provision for bad debts are subtracted from gross profit in the profit and
loss account. Decreases in the provision for debts are treated as additions to the gross profit in the profit
and loss account.
Income Statement (extract) for 2010

Gross profit

18 000

Bad debts

450

Provision for doubtful debts

369

Other expenses

1 000

Net profit

(1 819)
16 181

Income Statement (extract) for 2011

Gross profit

12 000

Bad debts

720

Increase in provision for bad debts

1 395

Other expenses

1 000

(3 115)
8 885

Income Statement (extract) for 2012

Gross profit

16 450

Add reduction in provision for doubtful debts

948
17 398

Bad debts

555

Other expense

1 000

Net profit

15 843

Effect on the Balance Sheet

Balance Sheet (extract) 2010
Current Assets:

Debtors

18 450

Less provision for bad debts

(369)

18 081

Balance Sheet (extract) 2011

Current Assets:
Debtors

35 280

Less provision for bad debts

(1 764)

33 516

Balance Sheet (extract) 2012

Current Assets:

(1 555)

Debtors

27 205

Less provision for bad debts

(816)

26 389

When a trial balance is drawn up any bad debts already written off will appear in the debit column. If a
provision for doubtful debt has been created before, the opening balance will appear on the credit side.

Bad Debts Recovered

In some instances, payment is received after a debt has been written off as bad. This is probably due to
change in fortune of the debtor. The payment is credited to a bad debt recovered account and NOT to
the personal account of the debtor since the account was closed off some time in the past. The recovered
debt is transferred to the debit side of the Profit and Loss Account.
Example:
E. Cain, a former debtor, has sent a cheque for $575 as payment for a debt, which was written off as bad
some time ago.
Date

Details
Bank

Debit

Credit

575
Bad debt recovered

575

Payment received for a debt previously written of as bad

Bad debts recovered
Profit and loss
Bad debts recovered transferred to the Profit and Loss Account

575
575