Bad Debts

These are amounts which are owed by a debtor and are not recovered, for example, due to a company going bankrupt. It is a loss to business and reduce the amount of debtors. The full amount should be written off to the “profit and loss account” of the related period or to a provision for bad debts. They are losses, hence they are debited and a debtor’s account is credited.

 

Journal entry to record bad debts

 Bad Debts A/C  Debit  Nominal Account  Dr. All Losses
   To Debtors A/C  Credit  Personal Account  Cr. The Giver

 

At the time of preparing final accounts, the bad debts written off during a period and after preparing a trial balance are transferred to the profit and loss account by passing a below journal entry.

 Profit & Loss A/C  Debit
   To Bad Debts A/C  Credit

 

 

Example

Let us assume that Mr.Unreal, a sole proprietor, was supposed to pay 1,00,000 on an invoice to ABC Corp. However, he filed for bankruptcy and is declared insolvent. In this case, ABC Corp will go through the following accounting for bad debts in their books:

 

At the time of realization (Assuming there were nil bad debts till now)

 Bad Debts A/C  1,00,000
   To Mr Unreal A/C  1,00,000

 

At the time of transferring the amount to P&L Account

 Profit & Loss A/C  1,00,000
   To Bad Debts A/C  1,00,000

 


 

How is Accounting For Recovery of Bad Debts Done?

Sometimes, when a debtor pays for a debt which is already accounted in the books it is considered as bad debts recovered. The amount received in lieu of such bad debts is a gain to the business, because it was earlier written off as a bad debt (loss).

 

The journal entry will be

 Bank A/C  Debit
   To Bad Debts Recovered A/C  Credit

 

If the company is not maintaining a provision for a doubtful debts account, the closing entry would be

 Bad Debts Recovered A/C  Debit
   To Profit & Loss A/C  Credit