Allowance for doubtful accounts.
In plain English
The allowance for doubtful accounts is a contra-asset account that reduces gross accounts receivable down to the amount management actually expects to collect. The company records an expense when it creates or increases the allowance, not when a specific customer finally defaults. That timing follows the matching principle, because the cost of extending credit belongs in the same period as the sale it supported. When an account is finally deemed uncollectible it is written off against the allowance, which does not hit the income statement a second time. A shrinking allowance while receivables and DSO climb is a combination worth questioning.
01Why it matters
Because the allowance is an estimate management controls, it is one of the easier places to make a quarter look better, so its trend deserves as much attention as the revenue line.
02The math, step by step
Say gross receivables are 500,000 dollars and history suggests 3 percent go bad. The allowance is 15,000 dollars, net receivables show 485,000 dollars, and 15,000 dollars of bad debt expense hits this period. When a 4,000 dollar account later fails, it clears against the allowance with no new expense.
Illustrative example. The amounts here are hypothetical, chosen to show how the math works, not real quoted rates or figures.
03What this is NOT
The allowance is a forward-looking pool covering receivables in general. A write-off is the later act of removing one specific balance. The expense was already taken when the pool was funded, so the write-off itself does not reduce profit again.
04Receipts
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Plain-English answers from our glossary. Receipts included. Never advice.
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