Question

Mitch Lang cannot understand why the cash realizable value does not decrease when an uncollectible account is written off under the allowance method. Clarify this point for Mitch.

Answer 1

Under  the allowance method we a portion of credit sales and estimates that the company will not collect that amount -

following journal entries will be passed based on estimate of credit sale -

Allowance for Doubtful Accounts a/c Dr

to Accounts Receivable a/c Cr

Then, when the cash is determined to be fully noncollectable we just have to reduce Allowance for Doubtful account and below Journal will be posted -

Bad Debt Expense a/c Dr.

to Allowance for Doubtful Accounts a/c Cr.

We saw that in 2nd Journal we are not using account receivable account and under allowance method we have alredy reduced AR balance by creating allowance for doubtful account (as per 1st journal) .

Hence, when an uncollectible account is written off under the allowance method it does not impact cash realizable value .