Understanding Direct Write Off Method
When companies are accounting (Also see How an Accounting Firm Can Help Your Business Turnover) for the debts that it can no longer collect from the customers, one of the methods that they can use is the direct write off method. That amount of debt is known as bad debt, which is the amount of money that the customers will not pay to the company. When dealing with bad debt, there are two methods that one could use, which are the direct write off method and the allowance method.
Both methods are equally important in terms of ensuring the accuracy of the financial statement. This is because if business owners do not make any adjustments for the amounts that they can no longer collect, the amounts for accounts receivable will look greater than the real situation. Thus, if business (Also see Errors That You May Commit When Recording Business Transactions) owners have no idea about the accounting treatments related to bad debt, they should consider hiring a bookkeeping firm in Singapore and seek help from the experts.
If business owners choose to use the direct write off method approach to record the bad debt, they should debit the bad debt expense account and credit the accounts receivable account. Typically, unpaid invoices will appear on the debit side of the accounts receivable account. Keep in mind that such invoices fall under the category of assets as they carry monetary values for the company. In accounting, when there is an increase in assets, it is a debit. As against, one should record a credit if the assets have decreased.
Now, what is the difference between the direct write off method and the allowance method? For a company that chooses to use the former, it needs to debit bad debt expense account as well as credit accounts receivable account as soon as it is sure that an invoice has become uncollectible. This method removes the revenue and the outstanding balances that the customer owes to the company from the records.
On the other hand, according to the allowance method, business owners should review their accounts receivables (Also see What are the Audit Procedures for Accounts Receivable?) and predict the amount of money that they will not receive from the clients. After that, they need to debit the bad debt expense account and credit the allowance for doubtful accounts, which is a contra account.
Thus, we can conclude that the direct write off method refers to an approach where the business owners should write off the bad debt once they are sure that they will not be able to collect payment from a customer. The allowance method, on the contrary, requires business owners to estimate the amount of bad debt they would have at the end of the year. Compared to the allowance method, the direct write off method is easier to understand and implement. This may be a more popular method among small business owners without any prior knowledge in accounting (Also see What are Provision and Accrual in Accounting?).