Question

Because of calamitous earthquake losses, Bernstein Company, one of your client’s oldest and largest customers, suddenly and unexpectedly became bankrupt. Approximately 30% of your client’s total sales have been made to Bernstein Company during each of the past several years. The amount due from Bernstein Company— none of which is collectible—equals 22% of total accounts receivable, an amount that is considerably in excess of what was determined to be an adequate provision for doubtful accounts at the close of the preceding year. How would your client record the write-off of the Bernstein Company receivable if it is using the allowance method of accounting for bad debts? Justify your suggested treatment.

Short answer

The receivables from the company must be reported under the appropriate loss account, and the loss must be adjusted against the allocated allowance for doubtful debts.

Step-by-step solution

Definition of Doubtful Accounts

Doubtful accounts include those receivables that will not get collected by the business entity. Business entities create an allowance account for such receivables. Such accounts are adjusted using two methods direct write-off and the allowance method.

Justification

All the receivable amounts that cannot be collected from Bernstein should be written off under the appropriate loss account in the income statement. It must be reported as an operating loss. Such loss must be adjusted against the portion of the doubtful allowance allocated to Bernstein at the end of the previous year.

The doubtful allowance is allocated according to the experience of the business entity.