Final answer:
Under the allowance method, writing off a bad debt does not affect a business's total assets or net income. The anticipated expense is recorded earlier when setting up the allowance. Factors such as payment history, borrower profitability, and market interest rates are crucial in determining a loan's value in the secondary market.
Step-by-step explanation:
When using the allowance method for accounting for doubtful accounts, writing off a past-due account does not affect the total assets or the net income of the business immediately. This method anticipates potential bad debts by establishing an allowance for doubtful accounts in advance. When a specific account is identified as uncollectible and is written off, it is removed from the accounts receivable and deducted from the allowance. Since the allowance was previously created to account for such losses, the write-off does not impact the net income or change the total assets, because the expense was recognized when the allowance was initially set up, not when the actual write-off occurs.
The money listed under assets on a bank's balance sheet may not be physically present in the bank because the bank utilizes fractional-reserve banking. This means that banks lend out a portion of the deposits they receive, only keeping a fraction of the total deposits as reserves to cover daily transactions and withdrawal demands. Assets reflect loans made to customers and investments in financial instruments such as government securities, which are not physically kept as cash in the bank.
In the secondary market for loans, a buyer assessing a loan's value will consider several factors relating to risk and returns. A loan where the borrower has been late on payments would likely be valued less due to the higher risk of default. Conversely, if the borrower is a firm with high profits, the loan may be seen as more valuable because profit indicates a higher likelihood of repayment. Changes in overall interest rates can also influence the value of a loan; the value may decrease if the market rates have risen since the loan was made, reducing the relative return, or it may increase if market rates have fallen, enhancing the return relative to new loans.