[stanley29]

Why would the allowance for doubtful accounts have a credit balance before the adjusting entry? If you estimate the write-off, don't you write-off that amount? Example:
Year 2008 credit sales 8,700,000
Ada credit balance 32820
Using 1/4 of 1%
So the estimate would be 21,750, then would I add the credit balance of 32,820 os the adjusted balance would be 54,570 and that is what I would write-off for the year 2008?
Thanks

[morgaine300]

The adjusting entry done at the end of the year isn't the write-off's themselves. It's an estimate of what may be written off in the future. Yes, you'd add your credit adjusting entry to whatever's already in there and have a balance of 54,570. But that doesn't mean 54,570 is what you're going to write off. You also said what you'd write-off for 2008? Is that what you meant to say? i.e. you have 54,570 at the end of 2008, but you think that's what you're writing off in 2008?

That entry isn't writing anything off. If you'd said what you're writing off in 2009, that still isn't true, but at least would make more sense.

What you're doing is "setting aside" an amount estimated to be uncollectible into the future. This method is following the matching concept, saying expenses have to match revenues. So we want the cost of not collecting on our receivables to match the period in which those credit sales were made. But we don't know yet who might not pay. (If we did, why did we extend them credit?) So this is one of many things in accounting that we estimate based on past experience. It's as close as we can get. So we charge the expense so it matches sales in the same period. But let's say we wrote off $950. That would leave $50 in there.

But we aren't writing off any particular account. It's just an estimate of a dollar amount. So we can't take anything out of receivables itself. Therefore we use the contra allowance account, which offsets the balance in the receivables by being a credit. This reduces the value of the receivables. Think of the allowance account as an amount "set aside" for future write-offs. So in December we "set aside" $1000 in that allowance account. In January we get a bankruptcy notice from John Doe Co and decide to write this off. We now know who is not paying. So we can now remove that account out of receivables with a credit, and we also remove that amount out of the allowance account with a debit. As the year goes by, we keep doing this. If everything were perfect, by the end of the year, we'd have used up all out allowance we sat aside and that account would be zero.

It was only an estimate and real write-off's aren't going to be the same. So we end up with a balance in the account, a debit or credit either one. (Depending on whether we wrote off more or less than was in there.) Now it's the end of the year, and we do it again.