Key examples of contra asset accounts include allowance for doubtful accounts and accumulated depreciation. Accumulated depreciation reflects the reduction in value of a fixed asset. A contra asset is paired with an asset account to reduce the value of the account without changing the historical value of the asset. Examples of contra assets include Accumulated Depreciation and Allowance for Doubtful Accounts. Unlike an asset which has a normal debit balance, a contra asset has a normal credit balance because it works opposite of the main account.
When the balance in the accumulated depreciation is $10,000 and your equipment account has a debit balance of $50,000, then the book value of your equipment is $40,000. 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. Allowance for doubtful accounts is contra asset accounts that offset the accounts receivable.
Maybe more importantly, it shows investors and creditors what percentage of receivables the company is writing off. 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. A contra liability account is paired with another liability account, and is used to reduce the balance in that account. In essence, the paired liability account contains a credit balance that signifies the presence of an obligation, while the contra account reduces the amount of that liability with a debit balance. A contra account may also have a zero balance, if no offset against a related liability account is currently needed.
- Treasury stock and owner’s drawing account are examples of contra equity accounts.
- Each year of an asset’s life, another year of Depreciation Expense is recorded.
- While there is nothing wrong here, there is also another way you could represent it i.e. show the full value of machinery (cost) in the balance sheet and then reduce the depreciation amount.
- If the balance in your allowance for doubtful accounts has a credit of $1,000 and your accounts receivable has $20,000 in normal debit balance, then the net value of the receivables is $19,000.
- Harold Averkamp (CPA, MBA) has worked as a university accounting instructor, accountant, and consultant for more than 25 years.
This means that the $85,000 balance is overstated compared to its real value. At this point, it isn’t known which accounts will become uncollectible payroll accounting basics so the Accounts Receivable balance isn’t adjusted. Instead, an adjusting journal entry is done to record the estimated amount of bad debt.
Contra Liability Account
Contra accounts serve an invaluable function in financial reporting that enhances transparency in accounting books. Including contra revenue accounts is important in the income statement because it shows the original amount of sales the firm has made, along with any factor that has reduced that amount. Contra Equity Account – A contra equity account has a debit balance and decreases a standard equity account. Treasure stock is a good example as it carries a debit balance and decreases the overall stockholders’ equity. This type of account could be called the allowance for doubtful accounts or a bad debt reserve.
- In terms of the journal entries, the debit balance in “Discount on Bonds Payable” is subtracted from the credit balance in the “Bonds Payable”.
- Examples of deferred unearned revenue include prepaid subscriptions, rent, insurance or professional service fees.
- Make sure that you report contra accounts on the same financial statement as the related accounts.
- The first time a contra asset account is recorded in a journal entry, it is to be deducted from the expense.
- Showing contra assets on your balance sheet allows potential investors to see how you write-down a depreciable asset, such as a piece of equipment.
A contra expense account is an account used to reduce the amount of an expense without changing the balance in the main expense account. Examples of contra expense accounts include Purchase Returns, Purchase Discounts, and Advertising Reimbursements. Contra accounts act like regular accounts on the balance sheet but have a unique purpose. For the purpose of financial statement reporting, the amount on a contra account is subtracted from its parent account gross balance to present the net balance. A contra account is an entry on the general ledger with a balance contrary to the normal balance for that categorization (i.e. asset, liability, or equity).
Sales returns, sales allowance and sale discounts are different examples of contra revenue accounts. Contra accounts such as these have a debit balance and are deducted from the total amount of a company’s revenue. The first time a contra asset account is recorded in a journal entry, it is to be deducted from the expense.
Example of a Contra Account
The reason you show a contra asset on a balance sheet is so you can see the overall net balance of a particular asset and to give investors a more accurate look into your company’s financial activity. 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. The balance sheet shows the amount in the asset section underneath the accounts receivable. The net value of both these figures is usually reported on a third line. These examples illustrate how contra accounts are used in various contexts to provide a more accurate picture of a company’s financial position and performance. Overall, while maintaining contra accounts may require additional effort, the benefits they offer in terms of financial transparency and accountability make them an essential tool in accounting.
What Is a Contra 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. The exact process can vary depending on the specific contra account and the accounting practices of the company. However, the fundamental principle is that the contra account is used to offset the related main account, providing a more nuanced view of the company’s financial position. Accumulated Depreciation is a contra asset that pairs with Fixed Assets. Accumulated Depreciation acts as a subaccount for tracking the ongoing depreciation of an asset.
Contra Account Examples
Put simply, contra accounts are used to reduce the normal accounts on the balance sheet. If the related account has a debit as the natural balance, then the contra account will record a credit. In the books, the account of the asset would have a debit value of $100,000, and the contra asset account would have a credit value of $30,000.
It is not classified as a liability since it does not represent a future obligation. A liability that is recorded as a debit balance is used to decrease the balance of a liability. The contra revenue accounts commonly include sales returns, sales allowance and sale discounts.
In other words, the contra liability account is used to adjust the book value of an asset or liability. Any entry made to contra accounts is presented on a company’s balance sheet under the paired account. You may use accounting software packages, such as QuickBooks Online to set up contra accounts. Simply hit Control + N under the Chart of Accounts or Edit, then click New (to create a new account). For example, when a line item on your balance sheet presents the balance of accounts receivable, report the value of allowance of uncollectible accounts below the accounts receivable line. Be sure to enter the contra account on the opposite column of the account they’re offsetting.
Although you have not officially written off these debts yet, you show them to be a negative balance because you don’t believe the customer will pay you. Although the car is normally an asset because you can sell it for parts or use it for your business, when the car depreciates to a zero or negative balance, it is a contra asset on your balance sheet. The balance in the contra account is reduced when the corresponding asset or liability it is paired with is disposed of. When recording assets, the difference between the asset’s account balance and the contra account balance is the book value of the asset. Utilizing contra accounts in financial accounting has several significant advantages that enhance financial transparency and enable more effective financial management. By understanding the nature and function of contra accounts, businesses can accurately reflect their financial position, providing transparency to stakeholders such as investors, creditors, and internal management.