The definition can be expanded to include contra accounts in general. Contra accounts act like regular accounts on the balance sheet but have a unique purpose. Contra asset accounts are created to show that there is a decrease in a company’s assets within a given period. A contra account is used in order to better portray the relationship between certain debits and credits within the overall financial structure of an entity.

• Allowance for doubtful accounts is contra asset accounts that offset the accounts receivable.
• By keeping the original dollar amount intact in the original account and reducing the figure in a separate account, the financial information is more transparent for financial reporting purposes.
• By reporting contra accounts on the balance sheet, users can learn even more information about the company than if the equipment was just reported at its net amount.
• The size of the reserve also reveals the amount of bad debt that the company expects to experience from the current set of receivables.
• The equity section of the balance sheet is where the shareholder’s claims to assets are reported.
• Contra asset accounts are recorded with a credit balance that decreases the balance of an asset.

To oppose the revenue made by a company, contra revenue accounts must have a debit balance. Learn about the meaning of contra accounts, how and why they are used, and how to account for balances with them. Contra assets are accounts in the general ledger—where you enter your transactions—that carry a balance used to offset the account with which it is paired. Instead of debiting the asset account directly, the contra asset account balance will be credited separately. This account appears next to the current asset Accounts Receivable. The account Allowance for Doubtful Account is credited when the account Bad Debts Expense is debited under the allowance method. The use of Allowance for Doubtful Accounts allows us to see in Accounts Receivable the total amount that the company has a right to collect from its credit customers.

Closing Entries, Sales, Sales Returns & Allowances in Accounting

When a company sells the asset — usually a long-term asset such as a building or vehicle — the closing entry removes the related accumulated depreciation in the contra asset account. Therefore, these accounts will have no balance to net against an asset account or report through disclosures. A contra asset account is an asset account with a natural credit balance. This account is paired with and offsets another asset account, so that a net balance is reported on the balance sheet. Contra accounts are used to reduce the original account directly, keeping financial accounting records clean.

Balance sheet, users of financial statements can learn more about the assets of a company. Contra asset accounts allow users to see how much of an asset was written off, its remaining useful life, and the value of the asset. A contra equity account reduces the total number of outstanding shares listed on a company’s balance sheet.

What Does Contra Account Mean?

This make sense because Home Depot wouldn’t be carrying accounts receivable with long payment terms. Most accounts receivable would just be the time between purchase and credit card settlement.

In other words, a contra asset account maintains acredit balance instead of a debit balance. Taking into account the list of contra asset accounts, how would you calculate the net value of assets? If the example looks difficult, rest assured the solution is very simple. Because contra assets simply detract from the total value of the asset account, all one has to do is add up all the assets together first. Finally, take the total of depreciation and subtract it from total assets. If a ledger were to be observed in this situation, then one would see a balance of three asset debits matched up against three contra asset credits .

What is a contra asset account in accounting?

In this way, the historical cost, the amount of write-off, and the book value of an asset can always be seen on the balance sheet. In a company’s bookkeeping, some accounts interrelate in that their recording depends on the value and information in the other account. Still, a decrease in one account causes a reduction in the other. These accounts enable the business to account for the losses made within a given period and the earnings realized by the company within a given period since they cannot be accounted for together. Contra accounts are a little tricky to think about when you are first starting out. Just remember that they carry an opposite balance than the other accounts in their account type.

• Accumulated depreciation is a contra asset account used to record the amount of depreciation to date on a fixed asset.
• An example would be a contra liability account which would be debited to offset a regular liability account.
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• The allowance for doubtful accounts is not specifically reported, but the 10 reported that the allowance is immaterial to the amount.
• Provision for a discount from creditors and discount on bills receivable are other widely used examples.
• Accumulated depreciation is the counterpart of depreciable assets.

If we show $60,000 as an asset in the third year, it will be challenging to understand whether $60,000 is all new purchases or the remaining value of an asset. This account helps all the stakeholders understand the financial numbers accurately. The allowance for doubtful accounts – often called a “bad debt reserve” – would be considered a contra asset since it causes the accounts receivable (A/R) balance to decline.

How to Adjust Entries on a Trial Balance for Note Payable

When a company repurchases shares, it increases the fractional ownership of all remaining shareholders. Allowance for doubtful accounts is netted https://www.wave-accounting.net/ from the accounts receivable balance. The company predicts which accounts receivable won’t be paid by customers and writes those off.