Contra Account: A Complete Guide + Examples Xero accounting

The use of contra accounts ensures the accuracy of financial accounting records, as the value of the original accounts is not directly reduced. In the event that a contra account is not utilized, it can become increasingly troublesome to determine historical costs, which makes tax preparation time-consuming and difficult. The balance in the allowance for doubtful accounts is used to find out the dollar value of the current accounts receivable balance that is deemed uncollectible.

What Is a Contra Liability Account

In the above example, the debit to the contra liability account of $100 lets the company recognize that the bond was sold at a discount. Contra accounts allow you to show the amounts that offset a paired related account. As a small business owner, understanding how to set up contra accounts enables you to prepare and maintain accurate financial records. Accumulated depreciation is the total of all depreciation that has been charged to existing fixed assets such as equipment and buildings. There can be hidden value in stocks that have a lot of fully depreciated buildings. Companies like to depreciate assets as quickly as possible to get the tax savings, so the balance sheet may not state the true value of fixed assets.

How to Use Contra Asset Accounts

Two primary methods exist for estimating the dollar amount of accounts receivables not expected to be collected. For example, suppose a business has an amount of 1,000 owed by a customer for services provided on account, but also has an amount of 200 due to a supplier (in this case the customers business) for goods it has purchased. Contra accounts provide more detail to accounting figures and improve transparency in financial reporting. Post this entry to the general ledger, and regularly monitor the AR ledger to track outstanding invoices. Reconcile the AR balance with the AR aging report periodically to ensure accuracy. Accounts Payable (AP) refers to the money a company owes to its suppliers or vendors for goods and services received but not yet paid for.

• These less-frequent contra accounts come into play when you need to account for changes in the outstanding liabilities for your business.
• At the end of year 20, the car and the accumulated depreciation accounts will be written off from the balance sheet, as the car will be a fully depreciated asset.
• The most common contra equity account is called “treasury stock.” This special account decreases the number of shares outstanding in the market because the company repurchases some of the shares from its buyers.
• In finance, a contra liability account is one that is debited for the explicit purpose of offsetting a credit to another liability account.
• As a small business owner, understanding how to set up contra accounts enables you to prepare and maintain accurate financial records.

What Is A Contra Asset Account?

Key examples of contra asset accounts include allowance for doubtful accounts and accumulated depreciation. The discount on bonds payable amount shows the difference between the amount of cash received when issuing a bond and the value of the bond at maturity. The allowance method of accounting enables a company to determine the amount reasonable to be recorded in the contra account. When recording assets, the difference between the asset’s account balance and the contra account balance is the book value of the asset. Contra equity accounts are accounts in the equity section of the balance sheet that reduce the amount of equity a company holds. Therefore, contra equity accounts have a debit balance to offset their corresponding equity balances.

Double Entry Bookkeeping

For industries that rely on natural resources — mining, logging, oil, gas — depletion tracks the gradual exhaustion of the raw material in question, offsetting that loss in value against the initial appraisal of the land. So an Accumulated Depletion account would serve as the contra for the parent contra expense account Fixed Asset account. Taking the example of CCC again, the company has $50,000 in accounts receivable at year-end of December 31. CCC estimates that 5% of accounts receivable will most likely be unrecoverable. Accounts use this method of estimating the allowance to adhere to the matching principle.

Contra liabilities

For example, GAAP accounting (or generally accepted accounting principles) requires fixed assets to be reported at cost on the balance sheet, but, over time, that value depreciates as the assets are used. The balance sheet will show a gross fixed assets value, a contra account value for accumulated depreciation, and a net value. All three values can be useful for investors depending on what they’re looking for. These less-frequent contra accounts come into play when you need to account for changes in the outstanding liabilities for your business.

• Given that liabilities have a credit balance, ensure that all your contra liabilities accounts have debit balances.
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• For the past 52 years, Harold Averkamp (CPA, MBA) hasworked as an accounting supervisor, manager, consultant, university instructor, and innovator in teaching accounting online.
• Contra Accounts serve as a reduction to the balance of their corresponding accounts to find their net values.
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• For instance, to increase asset and expense accounts, we simply record a debit and to decrease those accounts, we can record a credit.

When a contra asset account is first recorded in a journal entry, the offset is to an expense. For example, an increase in the form of a credit to allowance for doubtful accounts is also recorded as a debit to increase bad debt expense. In response, the firm should decrease its accounts receivable and revenue balances. That is done by crediting accounts receivable by $100 and debiting the contra revenue account sales returns and allowances for $100.

How Do You Record the Allowance for Doubtful Accounts?

• Accounts receivable is rarely reported on the balance sheet at its net amount.
• The amount is reported on the balance sheet in the asset section immediately below accounts receivable.
• Treasury stock and owner’s drawing account are examples of contra equity accounts.
• Contra Asset Account – A contra asset account is an asset that carries a credit balance and is used to decrease the balance of another asset on the balance.
• The sales method applies a flat percentage to the total dollar amount of sales for the period.
• The use of contra accounts ensures the accuracy of financial accounting records, as the value of the original accounts is not directly reduced.

The sales method applies a flat percentage to the total dollar amount of sales for the period. For example, based on previous experience, a company may expect that 3% of net sales are not collectible. If the total net sales for the period is $100,000, the company establishes an allowance for doubtful accounts for $3,000 while simultaneously reporting $3,000 in bad debt expense. Make sure that you report contra accounts on the same financial statement as the related accounts. If you’re the one managing your company’s books of accounts, be sure to report the contra account on your financial statement on the line item directly beneath the main account.

Adjusting the Allowance

For instance, to increase asset and expense accounts, we simply record a debit and to decrease those accounts, we can record a credit. For example, if the balance of accumulated depreciation increases from $20,000 to $50,000, this means that the depreciation expense amounts to $30,000, which will be listed in the income statement. Although they all aim at reducing the balance of some type of account, it is useful to have some general foundational knowledge of the different types of accounts.