Accounts Receivable

Definition

Accounts receivable (A/R) or receivables are the amount customers owe to the company for the goods delivered or services provided. It occurs when the company sells its goods or services on credit to customers. In this case, the company expects to receive cash in the future.

The accounts receivable are the current assets that are shown on the balance sheet for which the balances are due within one year.

Why sell on credit?

Many companies provide credit programs to their regular customers to encourage them to buy more and to create a close relationship with their customers by allowing them to purchase goods without needing to have money at the moment. This way their customers will be happy as they can receive goods without the need to pay the money today.

The credit term usually ranges from 30 days to 90 days for customers to pay the amount owed on the credit purchase.

Accounts Receivable Journal Entry

When the company sells the goods on credit, the company still record sale on credit side as usual; but on the debit side, instead of cash, the company will record accounts receivable instead.

The journal entry would look like this:

Account Debit Credit
A/R xxx  
Sales   xxx
Account Debit Credit
Cost of goods sold xxx  
Inventory   xxx

Settle Accounts Receivable

When the company receives cash for the credit sale on the later date, they will debit cash as it comes in and credit accounts receivable to settle the amount received in cash.

The journal entry would look like this:

Account Debit Credit
Cash xxx  
A/R   xxx

Example:

On 28 July 2018, ABC Co. sold goods $210 on credit to its customer. The goods cost $150 in the inventory.

On 26 August 2018, the customer paid $210 to settle the account on the credit purchase.

What are the accounting entries?

Solution

The journal entry on 28 July 2018:

Account Debit Credit
A/R 210  
Sales   210
Account Debit Credit
Cost of goods sold 150  
Inventory   150

The journal entry on 26 August 2018:

Account Debit Credit
Cash 210  
A/R   210

Accounts Receivable Aging

Accounts receivable aging or A/R aging is the report used by the company to manage and control the receivables. Here the company used it to alert accounts receivable team on long-overdue customers in order to take appropriate action, such as calling or visiting customers to collect cash.

A/R Aging Report shows all the receivables classified by the day overdue which detail all customers that still owe the company.

Example of A/R Aging:

ABC Company has accounts receivable from 4 customers in which 3 of the customers has overdue their payment for some days already.

The A/R Aging Report of ABC Company look like below:

Accounts receivable aging

 

*“Current” column means the balance is still within the credit term.

**“1-30 days” column means the balance is overdue from 1 to 30 days.

Accounts receivable aging report template:

The accounts receivable aging report template in the excel file of the picture above is in the link here: Accounts receivable aging report excel

Allowance for Doubtful Accounts

Accounts receivable are the amount the company expects to receive in the future, but sometimes not all balances are collectible. Hence, the company might need to estimate the uncollectable amount which is called “allowance for doubtful accounts”.

Allowance for Doubtful Accounts is used for making provisions on the receivables. As a result, the amount of receivables is reduced by the provisioning amount. Allowance for doubtful accounts is a contra account on receivables balance and shown in the balance sheet as negative current asset.

 

 

Allowance for doubtful accounts

The allowance for doubtful accounts will help to reflect the actual value on the accounts receivable that the company have (accounts receivable – allowance for doubtful accounts). After all, the receivables that customer is not going to pay have no value as they are the assets that have no economic benefits inflow to the company.

Calculate Allowance for Doubtful Accounts

A/R Aging report is very useful in making allowance for doubtful accounts. Usually the longer the overdue the more likely that the customers are not going to pay back the money. Hence A/R Aging report can be used to make allowance for doubtful accounts by allocating the percentage on the number of days overdue in which the longer the overdue the bigger the percentage allocated.

For example, on 31 December 2018, ABC Company use the A/R Aging report to make allowance on accounts receivable by allocating the percentage as below

AR Allowance

 

*The percentage of each column (5%, 20%, 25%, 50%) varies from company to company based on the business industry and their own experiences.

The journal entry of A/R Allowance here would be:

Account Debit Credit
Bad Debt Expense   180  
Allowance for Doubtful Accounts    180