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M.:
Methods of calculating doubtful receivables
It is possible in four ways:
A) percentage method of accounts receivable
b) The percentage method of credit sales
c) Age analysis method of accounts receivable
d) case study method
A) percentage method of accounts receivable:
Based on this method, a percentage of the accounts receivable is usually allocated as a reserve for doubtful receivables based on the experiences of the past years.
Example: The balance of accounts receivable of Iran Trading Institute at the end of the financial period is 14,000,000 rials. Every year, this institution keeps a reserve equal to 5% of its accounts receivable balance for doubtful claims. Is it desirable to calculate and record the necessary reserve for accounts receivable?
700000=5% * 14000000
The cost of doubtful receivables is 700,000
Reserve for doubtful accounts 700,000
First note: the cost of doubtful receivables is a temporary profit and loss account and it is necessary to close it to profit/loss at the end of the financial period in order to comply with the principle of matching (allocation).
Second note: the reserve account for doubtful debts has a creditor balance, and in order to comply with the principle of reality, it should be written in the balance sheet in the row of current assets as a decrease under accounts receivable.
b) Percentage method of credit sales:
According to this method, at the end of the financial period, a percentage of the institution’s credit sales is considered for doubtful claims.
Example: The total annual sales of an institution is 16,000,000 Rials, of which 30% is cash and the rest is credit. This institution takes 3% of its credit sales as a reserve every year for doubtful receivables. Is it desirable to calculate and record the necessary reserve?
11200000=70% * 16000000
336000= 3% * 11200000
The cost of doubtful receivables is 336,000
Reserve for doubtful accounts 336,000
c) Age analysis method of accounts receivable:
In this method, the life of accounts receivable is examined. Usually, the probability of collecting claims that have been overdue for a long time is low and often impossible.
Example: An institution uses the age breakdown method to consider the reserve of doubtful receivables. The following table shows the institution’s accounts receivable also the period that has passed since the due date.
Answer:
100=5% * 2000
500=10% * 5000
200 = 20% * 1000
2000=50% * 4000
2800= 100 + 500 + 200 + 2000
The cost of doubtful claims is 2800
2800 doubtful claims reserve
Adjustment of the balance of the reserve account for doubtful receivables at the end of the financial period is as follows: This account is a permanent and balance sheet account, which means that the balance of the reserve account for doubtful receivables must be adjusted and updated at the end of the financial period and then transferred to the next financial period.
d) case study method:
Almost the best method to calculate the necessary reserve for doubtful receivables is that the accounts receivable of the institution are analyzed case by case and a certain amount is taken for doubtful receivables.
Example: The table below shows the accounts receivable of an institution separately. Also, the required percentage for doubtful receivables has been proposed. According to the information presented, is it desirable to calculate the necessary reserve for doubtful receivables?
The percentage of the possibility of collecting the amount demanded by the customer’s name
100% of 1,200,000 Rials of Rahnama Institute
75% of Rial 800,000 Saidi
90% of Hamidi Rial 500,000
80% Rial 1,000,000 Moradi
100% Rial 1,500,000 Kaveh Trading
Answer:
200000= 25% * 800000
50000= 10% * 500000
200000= 20% * 1000000
450000 = 200000 + 50000 + 200000
The cost of doubtful receivables is 450,000
Reserve for doubtful accounts 450,000