How to Record Year-End Adjusting Entries for Bad Debt Expenses
When you operate a business that frequently has accounts receivable, you will have bad debt expenses. It is just the way that business operates. With some well-written policies and continuous effort in managing these receivables, you can minimize the impact of bad debt on your business. When a person or business does not pay you, however, it is important to account for that expense to ensure that you do not report a higher income than you actually produced. If you already claimed the receivable as a sale, you can deduct it from your income tax.
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Instructions
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Review the accounts receivable for your business. Look at any account that has a balance and review the past payment history of these accounts. Some accounts are habitually slow in paying their bills. If the receivable is still collectible based on the account's past history, you should not write it off at this time and review it again in a month or two.
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Contact the accounts that you have identified as unlikely to pay their bills. Send a final notice letter, stating that you may seek legal remedies if the account holder does not settle the bill immediately. Follow up with a phone call. If the account holder still does not pay his bill, enlist the services of a collection agency or your attorney, particularly if the size of the account is substantial. For a bad debt to be tax-deductible, you must show evidence that you have tried to collect the balance.
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Make a credit entry in the accounts receivable journal for each account that you are going to write off. Credit entries decrease the value of an asset. Post these journal entries under each individual account and record the total of the account in your general ledger. If you do this correctly, each of the accounts that you wish to write off should now have a zero balance.
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Enter the corresponding debit entry for these bad debt expenses into the bad debt expense account. Depending on your accounting system for the business, you may be able to make one entry into the journal for the total of these bad debts or you may need to make an individual entry for each bad debt. If you make one debit entry, ensure that the combined sum of all of the totals of the written-off balances matches the total debit. The debit entry to the expense account increases the value of the expense account. At the end of the accounting period, you will subtract all expenses from income to arrive at the net profit or loss.
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Tips & Warnings
Review your accounts receivable regularly and determine if any write-offs need to be done monthly or at least quarterly. This will help your income statement to be more realistic, with less of an impact from the end-of-year accounting.
Review your sales process regularly to determine if you are regularly creating accounts that will not pay. It may be necessary to adjust your sale and credit terms.
