Chapter

Seven

Accounting
for
Receivables

McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
McGraw-Hill/Irwin
Accounts Receivable and Notes
Receivable
When a company allows customers to “buy now and pay
later,” the company’s right to collect cash in the future is
called accounts receivable. Individually, these
receivables are typically small and are payable within 30
days.
When a longer credit term is needed, or when the
receivable is large, the company usually requires the
customer to issue a note that specifies interest and
other credit terms. The company then records a note
receivable.

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 Credit Terms and Bad Debts
Some customers may be unwilling or unable to pay
their accounts receivable. Because we do not want to
overstate assets, we must show accounts receivable at
its net realizable value on the balance sheet. The net
realizable value is the gross amount of the receivables
less some estimated allowance for doubtful accounts.
Multiplying the service revenue by
the percentage estimate of
uncollectible accounts is commonly
called the percent of revenue
method of estimating uncollectible
accounts expense.
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 Recognizing Uncollectible
Accounts Expense
Recognizing Uncollectible Accounts Expense
Based upon past experience, assume that a
company estimates that $75 of its current
accounts receivable balance will eventually
prove to be uncollectible.
Event No. Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow

3 (75) = NA + (75) NA – 75 = (75) NA

Accounts receivable $ 1,500

Less: Allowance for Doubtful Accounts 75
Net Realizable Value of Receivables $ 1,425

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Financial Statements

Panel C Financial Statements for 2013

7-4
Aging Schedule

7-5
 Balance Required under the
Percent of Receivables Method

7-6
 Computing Uncollectible
Accounts Expense
Required Allowance Balance $ 3,760
Less: Unadjusted Allowance Bal. (500)
Uncollectible Accounts Expense $ 3,260

Account Title Debit Credit

Uncollectible Accts. Exp. 3,260
Allow. For D.A. 3,260

Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow

Accts. Rec. - Allow.
NA 3,260 = NA + (3,260) NA – 3,260 = (3,260) NA

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 Direct Write-Off Method
Recall that in 2013, ATC recognized $14,000 of
revenue on account.
Event No. Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow
Accts. Rec.
14,000 = NA + 14,000 14,000 – NA = 14,000 NA

Account Title Debit Credit

Accounts Receivable 14,000
Service Revenue 14,000

No entry will be made at year-end to estimate

uncollectible accounts expense if ATC believes
that amount will be immaterial.
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 Direct Write-Off Method –
Writing Off an Account
During 2014, the company determines that a
customer who owes $70 is unable to pay.

Event No. Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow
Accts. Rec.
(70) = NA + (70) NA – 70 = (70) NA

Account Title Debit Credit

Uncoll. Accts. Exp. 70
Accounts Receivable 70

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 Direct Write-Off Method – Recovery of
a Written-Off Account
Also in 2014, ATC collects $10 from an account
that had been previously written off. ATC first
reinstates the account by reversing the write-off.

Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow

Accts. Rec.
10 = NA + 10 NA – (10) = 10 NA

Account Title Debit Credit

Accounts receivable 10
Uncollectible Accts. Exp. 10

7-10
 Direct Write-Off Method – Recovery of
a Written-Off Account

Once the account is reinstated, the event is recorded

the same as the collection of any other receivable.

Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow

Cash + Acct. Rec.
10 (10) = NA + NA NA – NA = NA 10 OA

7-11
Accounting for a
Promissory Note

7-12
 Notes Receivable
Event 1 Loan of Money
On November 1, 2013, ATS loans $15,000 cash to
Stanford Cummings. Cummings issues ATS a note
promising to repay the loan, with interest, in one
year.
Event No. Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow
1 Cash + Notes Rec.
(15,000) 15,000 = NA + NA NA – NA = NA (15,000) IA

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 Interest Revenue
Event 2 Recognition of Interest Revenue
At the end of 2013, ATS must accrue interest on its
note receivable.
$15,000 × 6% × 2/12 = $150 interest revenue

Event No. Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow
2 150 = NA + 150 150 – NA = 150 NA

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Collection of a Note Receivable
Event 3 Collection of Principal and Interest
On October 31, 2014, ATS collects the principal and
interest due on the note receivable. ATS first
recognizes interest revenue for the 10 months of
2014.

$15,000 × 6% × 10/12 = $750 interest revenue

Event No. Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow
3a 750 = NA + 750 750 – NA = 750 NA

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Collection of a Note Receivable
Event 3 Collection of Principal and Interest
Now that the entire $900 of interest receivable has
been accrued, ATS records the collection of $15,900
in principal and interest on the note.
Account Title Debit Credit
Cash 15,900
Notes receivable 15,000
Interest receivable 900
Event No. Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow
3b NA = NA + NA NA – NA = NA 15,000 IA
900 OA

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 Credit Card Sales
Rather than maintaining a credit-granting
department, many companies find it cost
beneficial to accept credit cards. The credit card
company deducts a fee, usually between 2% and
8%, from the gross amount of the sales, and
pays the merchant the net balance (gross sales
less credit card fee).

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 Credit Card Sales

Event 1 Recording a Credit Card Sale

ATS accepts a credit card in payment for services
of $1,000. The credit card company charges a fee of 5%
of the transaction.
Event No. Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow

1 950 = NA + 950 1,000 – 50 = 950 NA

Account Title Debit Credit

Accounts Receivable 950
Credit Card Expense 50
Service Revenue 1,000

7-18
 Credit Card Sales
Event 2 Collection of a Credit Card Receivable
ATS collects the full amount due from the
credit card company.

Event No. Assets = Liab. + Equity Rev. – Exp. = Net Inc. Cash Flow
2 Cash + Acct. Rec.
950 (950) = NA + NA NA – NA = NA 950 OA

Account Title Debit Credit

Cash 950
Accounts Receivable 950

7-19
Accounts Receivable Turnover

Accounts Receivable Sales

=
Turnover Ratio Accounts Receivable

The longer it takes to collect accounts

receivable, the greater the opportunity cost
of lost income.

7-20
 Days to Collect Receivable

Average Number of
365
Days to Collect = Accounts Receivable Turnover Ratio
Accounts Receivable

This ratio often helps simplify the issues

surrounding the collections of accounts
receivable.

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End of Chapter Seven

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