In th is module we applying the different methods of calculating bad debt expens

Question

In th is module we applying the different methods of calculating bad debt expense and evaluating how the different methods produce different results on the financial statements Outcome Analyze, calculate and record entries for bad debt using the different GAAP methods Instructions Your friend owns a business that offers customers credit on their purchases, but she/he has never used any of the generally accepted allowance methods to calculate and record bad debt expense. For this discussion, prepare a recommendation for the business as follows: 1. Review the generally accepted allowance methods and determine which one you believe is the best method 2. Prepare a summary of the method you selected that justifies why you belleve it is the best method.

Explanation / Answer

As per Generally Accepted Accounting Principles, there are two approach to record bad debt expenses and these are:

Income Statement Approach- As per this approach management uses a ratio on total sales as bad debt expenses. Ratio is decided based on past actual experience considering quality of customer and economic environment.

Balance Sheet Approach – As per this approach management uses a ratio on total receivables as bad debt expenses. Ratio is decided based on past actual experience.

Both approaches are commonly used based on type and nature of industry in which it operates.

I shall choose Balance Sheet approach because sales may go up and down and we may add new customers. Actual bad debt would depend upon accounts receivables long over due and not the sales made. Sales are in cash also and proportion of cash sales to credit may go up and down.

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