Question

What is meant by provision for doubtful debts? How are the relevant accounts prepared and what journal entries are recorded in final accounts? How is the amount for provision for doubtful debts calculated?

Answer 1

The provision for doubtful-debts is provided after deducting the amount of bad-debts from the debtors.

The provision for doubtful-debts is provided because of the rationale that the actual amount of bad-debts will only be known in the next year, when the amount of debtors will get realised.

Thus, it will only then be known as to how many of the debtors have become bad.

Thus, in order to bridge-up the expected future loss, we create a provision for doubtful-debts.

For the provision for doubtful-debts, we prepare debtors account and provision for doubtful-debts account.

For recording bad-debts, the following journal entry is passed.

Profit and Loss A/c   Dr.
   To Provision for Bad and Doubtful Debts A/c

Example: An extract from a Trial Balance as on December 31, 2010.

Debtors	10,500
Provision for Doubtful Debts as on January 01, 2010	1,000
Bad Debts Account	1,500

Adjustment:

(i) Further bad-debts amount to ₹ 500.

(ii) Create a provision for doubtful-debts at 5% on debtors.

Explanation

The provision for Doubtful Debt as on January 01, 2010 was ₹ 1,000 and the Bad Debts during the year were ₹ 1,500. In addition to this, there was a further Bad Debt of ₹ 500 which was known at the end of the year i.e., December 31, 2010.

Now we need to create a provision for Doubtful Debts at 5% on debtors.

Dr.	Profit and Loss A/c			Cr.
Particulars		Amount	Particulars	Amount
Bad Debts	1,500
Add: Further Bad Debts	500
Add: New Provision for Doubtful Debts	500
Less: Old Provision (given in Trial Balance)	1,000	1,500

 

Balance Sheet
Liabilities	Amount	Assets		Amount
		Debtors	10,500
		Less: Further Bad Debts	500
			10,000
		Less: New Provision for Doubtful Debts	500	9,500

The amount of provision for Doubtful Debts is calculated by debiting the amount of further Bad Debts from debtors and calculating the given percentage of provision on remaining debtors.

This provision is added to the Bad Debts amount in the profit and loss account and deducted from debtors in the assets side of a Balance Sheet.