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DEADLINE 27 03 18

Write on the treatment of the following items

- Provision of bad debts


- The provision for doubtful debts is the estimated amount of bad debt that will arise from
accounts receivable that have been issued but not yet collected. It is identical to the
allowance for doubtful accounts. The provision is used under accrual basis accounting,
so that an expense is recognized for probable bad debts as soon as invoices are issued to
customers, rather than waiting several months to find out exactly which invoices turned
out to be uncollectible. Thus, the net impact of the provision for doubtful debts is to
accelerate the recognition of bad debts into earlier reporting periods.

- A business typically estimates the amount of bad debt based on historical experience, and
charges this amount to expense with a debit to the bad debt expense account (which
appears in the income statement) and a credit to the provision for doubtful debts account
(which appears in the balance sheet). The organization should make this entry in the same
period when it bills a customer, so that revenues are matched with all applicable expenses
(as per the matching principle).

- The provision for doubtful debts is an accounts receivable contra account, so it should
always have a credit balance, and is listed in the balance sheet directly below the
accounts receivable line item. The two line items can be combined for reporting purposes
to arrive at a net receivables figure.

- Later, when you identify a specific customer invoice that is not going to be paid,
eliminate it against the provision for doubtful debts. This can be done with a journal entry
that debits the provision for doubtful debts and credits the accounts receivable account;
this merely nets out two accounts within the balance sheet, and has no impact on the
income statement. If you are using accounting software, create a credit memo in the
amount of the unpaid invoice, which creates the same journal entry for you.

- It is highly unlikely that the provision for doubtful debts will always exactly match the
amount of invoices that are actually unpaid, since it is only an estimate. Thus, you will
need to adjust the balance in this account over time to bring it into closer alignment with
the ongoing best estimate of bad debts. This can involve an additional charge to the bad
debt expense account (if the provision appears to initially be too low) or a reduction in
the expense (if the provision appears to be too high).

- Accruals and prepayments

Accrued expense is expense which has been incurred but not yet paid.
Expense must be recorded in the accounting period in which it is incurred. Therefore,
accrued expense must be recognized in the accounting period in which it occurs rather
than in the following period in which it will be paid. The accounting entry to record
accrued expense will therefore be as follows:

Debit: Expense (Income Statement)

Credit: Expense Payable (Balance Sheet)

As expense will be debited to record the accrued expense, a corresponding payable must
be created to account for the credit side of the transaction.

Accrued income is income which has been earned but not yet received.

Income must be recorded in the accounting period in which it is earned. Therefore,


accrued income must be recognized in the accounting period in which it arises rather than
in the subsequent period in which it will be received.

As income will be credited to record the accrued income, a corresponding receivable


must be created to account for the debit side of the transaction. The accounting entry to
record accrued income will therefore be as follows:

Debit Income Receivable (Balance Sheet)

Credit Income (Income Statement)

Prepaid income is revenue received in advance but which is not yet earned.

Income must be recorded in the accounting period in which it is earned. Therefore,


prepaid income must be not be shown as income in the accounting period in which it is
received but instead it must be presented as such in the subsequent accounting periods in
which the services or obligations in respect of the prepaid income have been performed.

Entity should therefore recognize a liability in respect of income it has received in


advance until such time as the obligations or services that are due on its part in relation to
the prepaid income have been performed. Following accounting entry is required to
account for the prepaid income:

Debit Cash/Bank

Credit Prepaid Income (Liability)

Prepaid expense is expense paid in advance but which has not yet been incurred.
Expense must be recorded in the accounting period in which it is incurred. Therefore,
prepaid expense must be not be shown as expense in the accounting period in which it is
paid but instead it must be presented as such in the subsequent accounting periods in
which the services in respect of the prepaid expense have been performed.

Entity should therefore recognize an asset in respect of expense it has paid in advance
until such time as the services that are due in relation to the prepaid expense have been
performed by the suppliers/contractors. Following accounting entry is required to account
for the prepaid expense:

Debit Prepaid Expense (Asset)

Credit Cash/Bank

- Depreciation
The accounting for depreciation requires an ongoing series of entries to charge a fixed
asset to expense, and eventually to derecognize it. These entries are designed to reflect
the ongoing usage of fixed assets over time.

Depreciation is the gradual charging to expense of an asset's cost over its expected useful
life. The reason for using depreciation to gradually reduce the recorded cost of a fixed
asset is to recognize a portion of the asset's expense at the same time that the company
records the revenue that was generated by the fixed asset. Thus, if you charged the cost of
an entire fixed asset to expense in a single accounting period, but it kept generating
revenues for years into the future, this would be an improper accounting transaction
under the matching principle, because revenues are not being matched with related
expenses.

In reality, revenues cannot always be directly associated with a specific fixed asset.
Instead, they can more easily be associated with an entire system of production or group
of assets.

The journal entry for depreciation can be a simple entry designed to accommodate all
types of fixed assets, or it may be subdivided into separate entries for each type of fixed
asset.

The basic journal entry for depreciation is to debit the Depreciation Expense account
(which appears in the income statement) and credit the Accumulated Depreciation
account (which appears in the balance sheet as a contra account that reduces the amount
of fixed assets). Over time, the accumulated depreciation balance will continue to
increase as more depreciation is added to it, until such time as it equals the original cost
of the asset. At that time, you stop recording any depreciation expense, since the cost of
the asset has now been reduced to zero.
For example, ABC Company calculates that it should have $25,000 of depreciation
expense in the current month. The entry is:

Debit: Depreciation expense 25,000


Credit: Accumulated depreciation 25,000