Question

Determining Financial Statement Effects of Bad Debt Expense Estimates and Write-Offs [LO (8-2)]

Blackhorse Productions, Incorporated, used the aging of accounts receivable method to estimate its bad debt expense. At the beginning of the year, they had an allowance for doubtful accounts balance of ( $ 8,000 ). Based on their analysis, they estimated that ( $ 12,000 ) of accounts receivable would be uncollectible. During the year, they wrote off ( $ 10,000 ) in accounts as uncollectible.

Answer 1

Blackhorse Productions estimated a bad debt expense of ($12,000) using the aging of accounts receivable method and wrote off ($10,000) in uncollectible accounts during the year. These accounting practices are akin to banks factoring in loan defaults into their financial planning, impacting their balance sheet and overall financial health.

Step-by-step explanation:

The scenario described relates to how Blackhorse Productions, Incorporated, uses the aging of accounts receivable method to estimate bad debt expense. Initially, they had an allowance for doubtful accounts balance of ($8,000). After their analysis, they concluded an additional ($12,000) of accounts receivable might be uncollectible. Throughout the year, actual write-offs totaled ($10,000) in accounts deemed uncollectible.

In accounting terms, to adjust for the estimated bad debt expense, the company would debit Bad Debt Expense for ($12,000) and credit Allowance for Doubtful Accounts for the same amount. When they write off ($10,000), they debit Allowance for Doubtful Accounts and credit Accounts Receivable, affecting the balance sheet but not the income statement.

Banks, similarly, account for loan defaults and factor in these potential losses into their balance sheet, estimating bad debt expense annually to reflect the risk of loans not being repaid. However, if the actual defaults exceed these estimates, as might occur during a recession, it can adversely impact the bank's financial health and potentially result in a negative net worth.