MGT101 - Financial Accounting - I - Lecture Handout 25

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PROVISION FOR BAD DEBTS AND CONTROL ACCOUNTS

Debit: Provision for Bad Debts (P&L)
Credit: Provision for Bad Debts

The debit account is charged against current years profit and the credit head is shown as a deduction from debtors in the balance sheet.

Presentation of Provision for Bad Debts

Extract of P & L to show the Provision:

Profit and Loss Account
For the year ended June 30, 20—

Gross Profit

xxxxx
Less: Admin Expenses
Provision for bad debts
(5,000)

Extract of Balance Sheet to show the Provision

Current Assets:

Debtors 100,000  
Provision for Bad Debts (5,000) 95,000

Recording Of Bad Debts & Provision for Bad Debts

When the bad debt for which provision is already made is confirmed, following entry is passed:

Debit: Provision for Bad Debts
Credit: Debtors a/c

As expense has already been charged, therefore, no affect is given to P&L account at this point.

Reducing the provision

Debit: Provision for Bad Debts (Balance Sheet)
Credit: Provision for Bad Debts (P&L)

Increasing the provision

Debit: Provision for Bad Debts (P&L)
Credit: Provision for bad debts

Example # 1

Following information is available for A Ltd. For the year ended June 30, 2002.
Bad Debts During the year:
November

1,100
January
640
April
120

At the year end total debtors amounted to Rs. 68,000 out which Rs. 2,200 is considered to be doubtful / bad. Show the relevant accounts and extracts from Profit and Loss and Balance Sheet.

Solution

A Ltd. Bad Debts Account Account Code --
Date
2002
Vr.
#
Narration /
Particulars
Ledger
Code
DR.
Amount
CR.
Amount
Balance
Dr/(Cr)
Nov 01   Bad Debts   1,100   1,100
Jan   Bad Debts   640   1,740
Apr   Bad Debts   120   1,860
June 30   Transfer to
P&L
    1,860 0
A Ltd.Provision for Bad and Doubtful Debts(P & L)Account Code --
Date
2002
Vr.
#
Narration /
Particulars
Ledger
Code
DR.
Amount
CR.
Amount
Balance
Dr/(Cr)
Jun 30   Provision for the
Year
  2,200   2,200
Jun 30   Transfer to P&L     2,200 0

 

A Ltd. Provision for Bad and Doubtful Debts (B/S) Account Code --
Date
2002
Vr.
#
Narration /
Particulars
Ledger
Code
DR.
Amount
CR.
Amount
Balance
Dr/(Cr)
Jun 30   Provision for the
Year
    2,200 (2,200)

Presentation in Profit & Loss account:

A Ltd.
Profit and Loss Account
For the year ended June 30, 2002

Gross Profit

Less: Administration Expenses:
Bad Debts

(1,860)
Provision for bad debts
(2,200)

Presentation in Balance sheet:

A Ltd.
Balance Sheet
As On June 30, 2002

Current Assets:

Debtors 68,000  
Provision for Bad Debts (2,200) 65,800

Example # 2

A business creates a provision for bad debts @ 5% of its debtors on balance sheet date.

  • On Jan 01, 2002 the balance of Provision was 6,600.
  • During the year debts written off amounted to Rs. 5,400.
  • On December 31, 2002, debtors totaled Rs. 62,000.
  • Show Bad debts Account and provision for bad debts account.

Solution

Required closing balance of Provision =62000 x 5% = 3,100

Provision for Bad and Doubtful Debts Account (B/S) Account Code --
Date
2002
Vr.
#
Narration /
Particulars
Ledger
Code
DR.
Amount
CR.
Amount
Balance
Dr/(Cr)
Jan 01   Opening Balance     6,600 (6,600)
    Bad Debts   5,400   (1,200)
Dec 31   Provision for bad
debts
    1,900 (3,100)

Presentation in balance sheet:

XYZ,
Balance Sheet,
As on _________

Current Assets:

Debtors 62,000  
Provision for Bad Debts (3,100) 58,900

Control Accounts

We have studied about Purchases, Sales, Debtors and Creditors in our previous lectures. We have also studied that trial balance works as a check of mathematical accuracy of the book keeping. If the trial balance is not balanced, then it indicates an error in recording of transactions. To detect this error one has to go through all the transactions during the year to detect the error. Now, if the size of the business is small, it would be easier to detect the difference. But if the business is large, then it becomes difficult to detect the difference. To solve this problem, a system of checks is devised so that the ledger accounts are distributed in smaller groups and a trial is prepared for every group.

Usually with the growth of business, the number of suppliers (creditors) and customers (debtors) grow. So, if we open a separate ledger account for every creditor and debtor, then the general ledger and trial balance would become too voluminous to manage. Therefore, in order to simplify things, one ledger each is maintained for Debtors and Creditors. The Debtors Ledger is called Total Debtors Ledger or Sales Ledger Control Account (as Credit sales are recorded in this account). The Creditors Ledger is called Total Creditors Ledger or Purchase Ledger Control Account (as Credit purchases are recorded in this ledger). In General Ledger one account is kept for all the Debtors, called Debtors Control Account, and one for Creditors, called Creditors Control Account.

The principle on which control accounts are based is simple and as follows:

  • If the opening balance of an account is known, together with the total of deductions and additions entered in the account, the closing balance can be calculated.
  • The same method is applied to the whole ledger, the total of opening balances together with the additions and deductions during the period should give the total of closing balances.
  • Therefore, individual creditor’s and debtor’s accounts are opened in the total creditors’ ledger and total debtors ledger and their summarized figures are posted in the respective Control Accounts in the General Ledger.
    The principle described above can be illustrated as follows:

Take the example of Total Debtors Account:

Total of Opening Balances Dr. Rs. 200,000
Add. Total of Debit entries Rs. 650,000
    850,000
Less Total of Credit entries Rs. (300,000)
    650,000

The balance of Debtors control account in the general ledger should be Rs. 650,000. If this is not so, then there is an error in the procedure of recording, which should be traced out.

Information for Control Accounts – Debtors

In the above illustration, we used some information. Now we will study the sources from which the information is obtained.

Type of Information Source of Information
Opening balance of
debtors
List of debtors balances drawn up to the end of previous period.
Credit Sales A separate book is maintained to record individual transactions. Totals are
drawn from this book
Sales Return A separate book is maintained to record individual transactions. Totals are
drawn from this book
Cheques/Cash Received List of receipts is extracted from cash and bank book.
Closing Balance This is the balancing figure that can also be checked from the list of
individual balance of debtors.

Consider the following data:

Sales Journal
Date Invoice # Name Amount
Jan, 20--   A 10,000
Jan, 20--   B 12,500
Jan, 20--   C 15,000
    Total 37,500

Total of sales journal will be recorded in the Debtors Control Account through the following entry:

Debit: Debtors Control Account

37,500
Credit: Sales Account
37,500

Note that cash sales are not included in this whole process. They are directly recorded in the general ledger.

Information for Control Accounts – Creditors

The information flow in case of creditors is similar to debtors, which is listed here:

Opening balance of debtors List of creditors balances drawn up to the end of previous period.
Credit Purchases A separate book is (purchase journal) is maintained to record
individual transaction. Totals are drawn from this book
Purchase Return A separate book is (purchase return journal) is maintained to record
individual transaction. Totals are drawn from this book
Cheques/Cash Paid List of payments is extracted from cash and bank book. Or a separate
column is maintained in cash and bank books for this purpose.
Closing Balance This is the balancing figure that can also be checked from the list of
individual balance of debtors.

Consider the following data:

Purchase Journal
Date Invoice # Name Amount
Jan, 20--   X 5,500
Jan, 20--   Y 9,000
Jan, 20--   Z 8,500
    Total 23,000

Total of purchase journal will be recorded in the Creditors Control Account through the following entry:

Debit: Purchases Account

23,500
Credit: Creditors Control Account
23,500

Note that cash purchases are not included in this whole process. They are directly recorded in the general ledger.

Example # 1

Prepare a Creditors Control Account from the following data and work out the closing balance on April 30, of creditors.

Apr. 1 Opening Balance

44,500

Totals for the month of May:

Total Credit Purchases

32,000
Purchase Return
6,200
Cheques and Cash paid
28,800
Discounts received
2,500

Solution

Creditors Control Account Account Code --
Debit Side Credit Side
Date No. Narration Dr. Rs. Date No. Narration Cr. Rs.
April 30   Purchase return 6,200 April
01
  Balance B/F 44,500
April 30   Payments 28,800 April
30
  Total
Purchases
32,000
April 30   Discounts
received
2,500        
               
    Balance C/F 39,000        
    Total 76,500     Total 76,500

Example # 2

Prepare a Debtors control Account from the following data and work out the closing balance on May 31, of debtors.

May 1 Opening Balance

70,000

Totals for May:

Total Credit Sales (Sales Journal)

26,000
Returns Inward (Sales Inward Journal)
3,400
Cheques and Cash received
46,000
Discounts allowed
3,700

Solution

Debtors Control Account Account Code --
Debit Side Credit Side
Date No. Narration Dr. Rs. Date No. Narration Cr. Rs.
May1   Bal B/F 70,000 May31   Returns 3,400
May31   Total sales 26,000 May31   Receipts 46,000
        May31   Discounts 3,700
               
        May31   Bal C/F 42,900
    Total 96,000     Total 96,000

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