What is a contra asset account? Leave a comment

The contra asset account carries a credit balance because an asset account usually has a debit balance. Such accounts are allowance for doubtful https://personal-accounting.org/what-is-a-contra-asset-account/ accounts and the accumulated depreciation account. Contra accounts appear on the same financial statement as the related account.

• Much of our research comes from leading organizations in the climate space, such as Project Drawdown and the International Energy Agency (IEA).
• If a listed company purchases its own shares from the open market, it will have to debit the treasury stock account in order to record the transaction.
• The balance in the allowance for doubtful accounts is used to find out the dollar value of the current accounts receivable balance that is deemed uncollectible.
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• Far less common is the obsolete inventory reserve, which reduces the overall inventory value on the balance sheet.

The amount on the equity contra account is deducted from the value of the total number of outstanding shares listed on a company’s balance sheet. When a company gives a discount to customers in an effort to convince them to buy its goods or services, it is recorded in the discount on sales account. The allowance method of accounting enables a company to determine the amount reasonable to be recorded in the contra account.

What are the different types of contra accounts?

While accumulated depreciation is the most common contra asset account, the following also may apply, depending on the company. However, that $1.4 billion is used to reduce the balance of gross accounts receivable. 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. The balance in the allowance for doubtful accounts is used to find out the dollar value of the current accounts receivable balance that is deemed uncollectible.

• For example, the contra asset account Allowance for Doubtful Accounts is related to Accounts Receivable.
• The percentage of sales method assumes that the company cannot collect payment for a fixed percentage of goods or services that it has sold.
• Creating this contra asset account builds in a safeguard against overstating your accounts receivable balance.

The purpose of a contra asset account is to store a reserve that reduces the balance in the paired account. By stating this information separately in a contra asset account, a user of financial information can see the extent to which a paired asset should be reduced. Contra accounts are used to reduce the value of the original account directly to keep financial accounting records clean. This type of account could be called the allowance for doubtful accounts or bad debt reserve. The balance in the allowance for doubtful accounts represents the dollar amount of the current accounts receivable balance that is expected to be uncollectible.

Contra Account Definition in Accounting

The balance sheet shows the amount in the asset section underneath the accounts receivable. The net value of both these figures is usually reported on a third line. A contra asset is a negative account used in double-entry accounting to reduce the balance of a paired asset account in the general ledger. The proper size of a contra asset account can be the subject of considerable discussion between a company controller and the company’s auditors.

Or, if they contain relatively minor balances, they may be aggregated with their paired accounts and presented as a single line item in the balance sheet. In either case, the net amount of the pair of accounts is referred to as the book value of the asset account in question. When a contra asset account is not stated separately in the balance sheet, it may be worthwhile to disclose the amount in the accompanying footnotes, where readers can readily see it. Last, for contra revenue accounts there are sales discounts, sales allowances, or sales returns.

Why should one include contra accounts on a balance sheet?

We can see how the $10,000 allowance for doubtful accounts offsets the $100,000 A/R account from our illustrative example above (i.e. the account decreases the carrying value of A/R). Go a level deeper with us and investigate the potential impacts of climate change on investments like your retirement account. If you’re using the wrong credit or debit card, it could be costing you serious money. Our experts love this top pick, which features a 0% intro APR until 2024, an insane cash back rate of up to 5%, and all somehow for no annual fee. We follow ethical journalism practices, which includes presenting unbiased information and citing reliable, attributed resources.

Often when a company extends goods on credit, management expects some of those customers not to pay and so anticipates writing off bad debt. Contra equity reduces the total number of outstanding shares on the balance sheet. The key example of a contra equity account is Treasury stock, which represents the amount paid to buyback stock. Contra account is important as it not only allows a company to report the original amount of a transaction but also report any reductions that may have happened so that the net amount will also be reported. They are useful in preserving the historical value in the main account while presenting a write-down or decrease in a separate contra account that nets to the current book value. Contra accounts serve an invaluable function in financial reporting that enhances transparency in accounting books.

In the event that a contra account is not utilized, it can become increasingly troublesome to determine historical costs, which makes tax preparation time-consuming and difficult. Some of the most common contra assets include accumulated depreciation, allowance for doubtful accounts, and reserve for obsolete inventory. Contra assets are accounts in the general ledger—where you enter your transactions—that carry a balance used to offset the account with which it is paired.

• The purpose of a contra asset account is to store a reserve that reduces the balance in the paired account.
• Therefore, contra accounts, though they represent a positive amount, are used to net reduce a gross amount.
• Your bank account, the inventory you currently stock, the equipment you purchase, and your accounts receivable balance are all considered asset accounts.
• Allowance for doubtful accounts reduce accounts receivable, while accumulated deprecation is used to reduce the value of a fixed asset.

If you’re using accounting software, you’ll be able to create contra accounts when setting up your chart of accounts. The net amount – i.e. the difference between the account balance post-adjustment of the contra account balance – represents the book value shown on the balance sheet. Learn why contra accounts, when utilized correctly along with a paired account, are a crucial component of accurate accounting and financial review. By keeping the original dollar amount intact in the original account and reducing the figure in a separate account, the financial information is more transparent for financial reporting purposes. For example, if a piece of heavy machinery is purchased for $10,000, that $10,000 figure is maintained on the general ledger even as the asset’s depreciation is recorded separately.