ACCOUNTS
RECEIVABLE
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ACCOUNTS RECEIVABLE
TECHNICAL KNOWLEDGE
.
 To know the classification and presentation of receivables.
 To know the initial and subsequent measurement of
accounts receivable.
 To identify the adjustments necessary in determining the net
realizable value of accounts receivable.
 To understand the gross method and net method of
recording credit sales.
 To know the accounting for doubtful accounts, worthless
accounts written off and recoveries of accounts written off.
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ACCOUNTS RECEIVABLE
Definition
Receivables are financial assets that represent a
contractual right to receive cash or another financial
asset from another entity.
For retailers or manufacturers, receivables are
classified into trade receivables and nontrade
receivables.
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Trade and nontrade receivables
Trade receivables refer to claims arising from sale of merchandise or services in the
ordinary course of business.
Trade receivables include accounts receivable and notes receivable.
Accounts receivable are open accounts arising from the sale of goods and services in the
ordinary course of business and not supported by promissory notes.
Other names of accounts receivable are customers' accounts, trade debtors, and trade
accounts receivable.
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Notes receivable are those supported by formal promises to pay in the form of notes.
Nontrade receivables represent claims arising from sources other than the sale of
merchandise or services in the ordinary course of business.
Loans receivable
For banks and other financial institutions, receivables
result primarily from loans to customers,
The loans are made to heterogeneous customers
and the repayment periods are frequently longer or
over several years.
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Classification
.
Trade receivables which are
expected to be realized in
cash within the normal operating cycle or one year,
whichever is longer, are classified as current assets.
Nontrade receivables which are expected to be realized
in cash within one year, the length of the operating cycle
notwithstanding, are classified as current assets.
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If collectible beyond one year, nontrade receivables are
classified as noncurrent assets.
Classification
The classifications are in . accordance with PAS 1,
Presentation of Financial Statements, paragraph 66,
which states:
"An entity shall classify an asset as current when the
entity expects to realize the asset or intends to sell or
consume it in the entity's normal operating cycle, or when
the entity expects to realize the asset within twelve
months after the reporting period."
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Presentation
Trade receivables and nontrade receivables which are
currently collectible shall be presented on the face of the
statement of financial position as one line item called
trade and other receivables.
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However, the details of the total trade and other
receivables shall be disclosed in the notes to financial
statements.
For example, the disclosure may appear as follows:
Accounts receivable
5,000,000
Allowance for doubtful accounte
(200,000)
Notes receivable
1,000,000
Accrued interest on note receivable
150,000
Advances to officers and employees
100,000
Dividends receivable
250,000
Total trade and other receivables
6,300,000
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Examples of nontrade receivables
a.
Advances to or receivables from shareholders, directors, officers
or employees. If collectible in one year, such advances or
receivables should be classified as current assets.
b.
Otherwise, such advances or receivables are classified as
noncurrent assets.
b. Advances to affiliates are usually treated as long-term investments.
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c. Advances to supplier for the acquisition of merchandise are current
assets.
Examples of nontrade receivables
d. Subscription's receivable are current assets if collectible within one year.
Otherwise, subscriptions receivable. should be shown preferably as a
deduction from subscribed share capital
e. Creditors' accounts may have debit balances as a result of overpayment or
returns and allowances. These are classified as current assets.
If the debit balances are not material, an offset may be made against the
creditors' accounts with credit balances and only the net accounts payable may
be presented.
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f. Special deposits on contract bids normally are classified an noncurrent
assets because such deposits are likely to remain outstanding for a
considerable long period of time.
Examples of nontrade receivables
However, the deposits that are collectible currently should be classified as
current assets.
G. Accrued income such as dividend receivable, accrued rent receivable,
accrued royalty's receivable and accrued interest receivable on bond
investment are usually classified as current assets.
H. Claims receivable such as claims against common carriers for losses or
damages, claim for rebates and tax refunds, claim from insurance entity, are
normally classified as current assets.
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Customers' credit balances
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Customers' credit balances are credit balances in
accounts receivable resulting from overpayments,
returns and allowances, and advance payments from
customers.
These credit balances are classified as current liabilities
and are not offset against the debit balances in other
customers accounts, except when the same is not
material in which case only the net accounts receivable
may be presented.
For example, the accounts receivable controlling account
reports a balance of P500,000. Examination of the
subsidiary ledgers reveals the following details in the
customers' accounts:
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The accounts receivable should be presented as current asset at P550,000
representing the accounts of A and B. The credit balance in the account of C
is classified as current liability and not offset against the debit balances in
the
accounts
of
A
and
B.
No adjustment is necessary to formally recognize the customers' credit
balances because ultimately these are canceled for sales and cash
settlement.
But an adjustment may be made only for worksheet purposes, meaning, not
formally journalized and posted to the ledger, as follows:
Accounts receivable
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Customers' credit balances
50,000
50,000
Initial measurement of accounts receivable
PFRS 9, paragraph 5.1.1, provides that a financial asset shall be recognized initially at fair value
plus transaction costs that are directly attributable to the acquisition.
The fair value of a financial asset is usually the transaction price, meaning, the fair value of the
consideration given.
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For short-term receivables, the fair value is equal to the face amount or original invoice
amount.
Cash flows relating to short-term receivables are not discounted because the effect of
discounting is usually immaterial.
Accordingly, accounts receivable shall be measured initially at face amount or original invoice
amount.
Subsequent measurement
.
In accordance with PFRS 9, paragraph
5.2.1, after initial recognition,
accounts receivable shall be measured at amortized cost.
The amortized cost is actually the net realizable value of accounts
receivable.
The term amortized cost has more relevance in long-term note receivable.
Thus, the term net realizable value is preferably used in relation to
accounts receivable.
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The net realizable value of accounts receivable is the amount of cash
expected to be collected or the estimated recoverable amount.
Net realizable value
.
The initial amount recognized for accounts receivable shall be
reduced by adjustments which in the ordinary course of
business will reduce the amount recoverable from the
customer.
This is based on the established basic principle that assets shall
not be carried at above their recoverable amount.
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Accordingly, in estimating the net realizable value of trade
accounts receivable, the following deductions are made:
a. Allowance for freight charge
b. Allowance for sales return
c. Allowance for sales discount
d. Allowance for doubtful accounts
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Terms related to freight charge
.
In order to give proper accounting
recognition to freight charge
in relation to accounts receivable, the following terms should
be understood - FOB destination, FOB shipping point, freight
collect and freight prepaid.
The term FOB destination means that ownership of the goods
purchased is vested in the buyer upon receipt thereof.
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Accordingly, the seller shall be responsible for the freight
charge up to the point of destination.
Terms related to freight
.
The term charge
FOB shipping point means
that ownership of the goods
purchased is vested in the buyer upon shipment thereof.
Thus, it is incumbent upon the buyer to pay for the transportation charge
from the point of shipment to the point of destination.
The term freight collect means that freight charge on the goods shipped
is not yet paid. The common carrier shall collect the same from the buyer.
Thus, under this, the freight charge is actually paid by the buyer.
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The term freight prepaid means that freight charge on the goods shipped
is already paid by the seller.
Accounting for freight charge
●
●
Sometimes, goods are sold FOB destination but shipped
freight collect with the understanding that the buyer will pay
for the freight charge and deduct the same when remittance
is made by him.
On the part of the seller, the freight charge is recorded by
debiting freight out and crediting allowance for freight
charge.
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For example, an entity has a P100,000 account receivable at the end of
accounting
period.
The terms are 2/10, n/30, FOB destination and freight collect. The customer
paid
freight
charge
of
P5,000.
1. To record the sale:
Accounts receivable
100,000
Freight out
5,000
Sales
100,000
Allowance for freight charge
5,000
2. To record the collection
discount period:
Cash
Sales discount
Allowance for freight charge
Accounts receivable
within the
93,000
2,000
5,000
100,000
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Allowance for sales returns
The measurement of accounts receivable shall also recognize the probability
that some customers will return goods that are unsatisfactory or will make
other claims requiring reduction in the amount due as in the case of shipment
shortages and defects.
For example, an amount of P50,000 of the total accounts receivable at year-end
represents selling price of goods that will probably be returned. The journal
entry to recognize the probable return is:
Sales return
50,000
Allowance for sales return
50,000
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Sales discount
.
 Entities usually offer cash discounts to credit customers. A cash discount
is a reduction from an invoice price by reason of prompt payment.
 A cash discount is known as sales discount on the part of the seller and a
purchase discount on the part of the buyer.
 A cash discount may be expressed as 5/10, n/30. This means that the
customer is entitled to a 5% discount if payment is made in 10 days from
the invoice date.
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 If the customer fails to pay within the 10-day discount period, the gross
amount of the invoice price must be paid within 30 days from the
invoice date.
Methods of recording credit sales
a. Gross method - The accounts receivable and sales are
recorded at gross amount of the invoice. This is the common
and widely used method because it is simple to apply.
b. Net method - The accounts receivable and sales are
recorded at net amount of the invoice, meaning the invoice
price minus the cash discount.
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Illustration - Gross method
.
1. Sale of merchandise for P100,000, terms 5/10, n /30.
Accounts receivable 100,000
Sales
100,000
2. Assume collection is made within the discount period.
Cash
95,000
Sales discount
5,000
Accounts receivable
100,000
3. Assume collection is made beyond the discount period.
Cash
Accounts receivable
100,000
100,000
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Illustration - Net method
.
1. Sale of merchandise for P100,000, terms 5/10, n/30.
Accounts receivable
Sales
95,000
95,000
2. Assume collection is made within the discount period.
Cash
Accounts receivable
95,000
95,000
3. Assume collection is made beyond the discount period.
Cash
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100,000
Accounts receivable
95,000
Sales discount forfeited
5,000
The sales
discount forfeited
account is
classified as
other income.
Allowance for sales discount
If customers are granted cash discounts for prompt payment, then, conceptually
estimates of cash discounts on open accounts at the end of the period based on
experience
shall
be
made.
For example, of the accounts receivable of P1,000,000 at the end of the period, it
is reliably estimated that discounts to be taken will amount to P50,000.
The
adjustment
to
record
the
expected
sales
discount
is:
Sales discount
Allowance for sales discount
50,000
50,000
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The adjustment may be reversed at the beginning of the next in order that
discounts can then be charged normally to sales discount account.
Accounting for bad debts
Business entities sell on credit
. rather than only for cash to
increase total sales and thereby increase income.
However, an entity that sells on credit assumes the risk that
some customers will not pay their accounts.
When an account becomes uncollectible, the entity has
sustained a bad debt loss. This loss is simply one of the
costs of doing business on credit.
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Two methods are followed in accounting for this
bad debt loss, namely;
1. Allowance method
2. Direct write-off method
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Allowance method
The allowance method requires recognition of a bad debt loss if the accounts are
doubtful of collection. The journal entry to .recognize the doubtful accounts is:
Doubtful accounts
XX
Allowance for doubtful accounts
XX
The "allowance for doubtful accounts" is deduction from accounts receivable.
If the doubtful accounts are subsequently found to be worthless or uncollectible, the
accounts are written off as follows:
Allowance for doubtful accounts
Accounts receivable
XX
XX
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Generally accepted accounting principles require the use of the allowance method
because it conforms with the matching principle.
Moreover, accounts receivable would be properly measured at net realizable value.
Recoveries of accounts written off
If a collection is made on account previously written off as uncollectible,
.
the customary procedure is first to recharge
the customer's account with
the amount collected and possibly with the entire amount previously
charged off if it is now expected that collection will be received in full.
The collection is then recorded normally by debiting cash and crediting
accounts receivable.
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The recharging of the customer's account is usually followed because it is
evidence of the attempt of the customer to reestablish his credit with the
entity.
What account should be credited when the customer's
account is recharged?
The generally accepted approach is to simply reverse the
original entry of write-off regardless of whether the
recovery is during the year of write off or subsequent there
to.
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Illustration - Allowance method
1. Accounts of P30,000 are considered doubtful of collection.
Doubtful accounts
30,000
Allowance for doubtful accounts
30,000
2. The accounts are subsequently discovered to be worthless or uncollectible.
Allowance for doubtful accounts
Accounts receivable
30,000
30,000
3. The same accounts that are previously written off are unexpectedly recovered
or collected.
Accounts receivable
30,000
Allowance for doubtful accounts
30,000
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Cash
30,000
Accounts receivable
30,000
Direct write off method
The direct write off method requires recognition of a bad debt loss only when the accounts
proved to be worthless or uncollectible. recorded by debiting bad
Worthless accounts recorded by debiting bad and crediting accounts receivable. If the
accounts are only doubtful of collection, no adjustment is necessary.
This approach is often used by small businesses because it is simple to apply.
As a matter of fact, the Bureau of Internal Revenue recognizes only this method for income
tax purposes.
However, the direct write off method violates the matching principle because the bad debt
loss is often recognized in later accounting period than the period in which the sales
revenue was recognized.
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The direct write off method is not permitted under IFRS.
Illustration - Direct write off method
1. Accounts of P30,000 are considered doubtful of collection.
.
No entry is necessary.
2. The accounts proved to be worthless.
30,000
Bad debts
Accounts receivable
30,000
3. The same accounts that are previously written off as worthless are recovered or
collected.
Accounts receivable
Bad debts
Cash
30,000
30,000
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30,000
Accounts receivable 30,000
If the recovery is subsequent
to the year of write off and
the direct write off method is
used, recovery may simply be
credited to other income.
Doubtful accounts in the income statement
1. Distribution cost
If the granting of credit and collection of accounts are under the charge of
the sales manager, doubtful accounts shall be considered as distribution
cost.
2. Administrative expense
If the granting of credit and collection of accounts are under the charge of
an officer other than sales manager, doubtful accounts shall be considered
as administrative expense.
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In the absence of any contrary statement, doubtful accounts shall be
classified as administrative expense.
Thank you!
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