Tanning Company analyzes its receivables to estimate bad debt expense. The accounts receivable balance is $300,000 and credit sales are $1,000,000. An aging of accounts receivable shows that approximately 5% of the outstanding receivables will be uncollectible. What adjusting entry will Tanning Company make if the Allowance for Doubtful Accounts has a credit balance of $2,000 before adjustment?
Answer
a. Bad Debt Expense 20,000
Allowance for Doubtful Accounts 20,000
b. Bad Debt Expense 17,000
Allowance for Doubtful Accounts 17,000
c. Bad Debt Expense 15,000
Allowance for Doubtful Accounts 15,000
d. Bad Debt Expense 13,000
Allowance for Doubtful Accounts 13,000

C. Bad Debt Expense   $13,000(Debit)        

   Allowance for Doubtful Accounts $13,000 (Credit)

Explanation:

Uncollectible  receivable is a reduction in an entity`s asset (account receivables) and its value is transferred to income statement as expense for the period. For allowance for doubtful accounts, the balance is  not an expense but a provision recognized in respect of amount of receivables that is expected to be uncollectible.

On this background, any increase in allowance for doubtful account during the period is transferred to bad debt account in the income statement while decrease is taken to the income statement as income.

Allowance for doubtful Account                            $

Balance before adjustment      a                           2,000

New provision (5% of $300,000) b                       15,000 --New Balance

Increase(decrease)        a-b                                   13000

So the adjusting entry for tanning company will be:

Bad Debt Expense   $13,000(Debit)        

Allowance for Doubtful Accounts $13,000 (Credit)

Option D is correct.

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