Inventory obsolescence is an expense account, while the allowance for obsolete inventory is a contra asset account, which aims to reduce the inventory valuation on your balance sheet. Your bank account, the inventory you currently stock, the equipment you purchase, and your accounts receivable balance are all considered asset accounts. If the bond is sold at a discount, the company will record the cash received from the bond sale as « cash », and will offset the discount in the contra liability account. Assume that a company uses a contra expense account to record the amounts that employees paid toward the company’s health insurance costs. For instance, the company might debit its expense account 4210 Employee Health Insurance Expense when recording the insurance company’s invoice of $10,000. If the company withholds $2,000 from its employees’ wages to pay part of the cost of the insurance, the company will credit its contra expense account 4211 Employee Withholdings for Health Ins.
Types of contra accounts
- Accounts receivable is rarely reported on the balance sheet at its net amount.
- Because contra asset accounts are used so frequently, it’s worth spending a little bit more time on them here, including common subtypes.
- Another description of a contra expense account is an account that reduces or offsets the amounts reported in another general ledger expense account(s).
- In the first month of the arrangement, the company pays the insurer $10,000, which Inscrutable records in a long-term disability insurance expense account.
- Given that liabilities have a credit balance, ensure that all your contra liabilities accounts have debit balances.
An expense account which is expected to have a credit balance instead of the typical debitbalance. Those who are struggling with recording contra accounts may benefit from utilizing some of the best accounting software currently available. When accounting for assets, the difference between the asset’s account balance and the contra account balance is referred to as the book value. There are two major methods of determining what should be booked into a contra account. There is the existence of contra accounts in accounting which are accounts that have the purpose of decreasing the value of another specific account if the two accounts are netted or summed together. This account serves two purposes — tracking total depreciation expenses while providing you with the accurate book value of the asset being depreciated.
Contra Account Definition, Types, and Example
Companies bury them in the footnotes and often don’t break out the actual calculation. Still, it is important when possible to consider how the net accounts are calculated and be wary of companies that are reporting a ton of bad debts. The contra equity account treasury stock is reported right on the balance sheet. Home Depot has repurchased more than $72 billion of stock to date, with around $7 billion coming during this accounting period.
How to Use Contra Asset Accounts
Contra Liability Account – A contra liability account is a liability that carries a debit balance and decreases other liabilities on the balance sheet. Revenue is an income statement account, but it flows through to the equity section of retained earnings as well. Any products that are sold at a discount or returns are deducted from gross revenue to produce net revenue as the top line on the income statement. A contra account is a general ledger account that offsets the balance of a corresponding account with which it’s paired.
Example of a contra account
- Purchase returns, allowances and discounts are all examples of contra expense accounts.
- However, these accounts are still useful when dealing with large quantities of reimbursements, where it is cleaner and less confusing to store the information in a separate account.
- 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.
- As evident from the table below, each contra account has a parent account whose normal balance is often exactly opposite of the normal balance of the relevant contra account.
- Writing off your obsolete inventory in this manner allows you to expense the cost of the obsolete inventory while also decreasing your current inventory balance using the contra asset account.
- Balance sheet readers cannot only see the actual cost of the item; they can also see how much of the asset was written off as well as estimate the remaining useful life and value of the asset.
If a contra account is not used, it can be difficult to determine historical costs, which can make tax preparation more difficult and time-consuming. In double entry bookkeeping terms, a contra expense account refers to an account which is offset against an expense account. Contra expense accounts are rarely used, because organizations find it to be easier to record third-party payments directly against an expense account. However, these accounts are still useful when dealing with large quantities of reimbursements, where it is cleaner and less confusing to store the information in a separate account. Thus, the use of a separate contra expense account makes it easier to monitor the flow of expenses and reimbursements. Each account in a general ledger will be designated debit or credit accounts depending on whether they’re categorized as assets, liabilities, revenues or expenses.
Asset accounts always maintain a debit balance, so anytime that you increase the value of an asset, such as when you deposit customer payments or invoice a customer, that asset account is debited or increased. Likewise, when you pay a bill, your cash account is reduced (credited) because you’re lowering the balance. The purpose of a contra expense account is to record a reduction in an expense without changing the balance in the main account. Of that amount, it is estimated that 1% of that amount will become bad debt at some point in the future.
Contra liability accounts
On the other hand, if you’re looking at a high-flying growth stock that reports new revenue growth records each quarter but has a massive allowance for doubtful accounts, there may be problems ahead. 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. Another type of contra account is known as “contra revenue,” which is used to adjust gross revenue to calculate net revenue, i.e. the “final” revenue figure listed on the income statement. Contra accounts are used to reduce the value of the original account directly to keep financial accounting records clean. 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.
Cash Flow Statement
In its general ledger, the business will want to capture its gross sales figures and the actual value of the discount. Contra asset accounts provide business owners with the true value of certain asset accounts. For example, let’s say your accounts receivable balance is currently $11,500, but you’re not entirely sure that you’ll be able to collect the entire balance due.
- For example, accumulated depreciation is a contra asset that reduces the value of a company’s fixed assets, resulting in net assets.
- In an accounting system, ledger accounts are designed to contain only similar transactions and/or balances.
- Discount on Bonds Payable is a contra liability account with a debit balance that reduces the normal credit balance of its parent Bonds Payable liability account in order to present the net value of payables on a company’s balance sheet.
- Wanting to spruce up its aging inventory, Show-Fleur purchased new, climate controlled-seats for its fleet, delivering increased comfort for passengers and a cleaner, more modern look for vehicle interiors.
- 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).
- The contra equity account treasury stock is reported right on the balance sheet.
For its day-to-day operations, the business maintains a fleet of 75 identical 2016 Ford Explorer limousines, each initially retailing at $150 thousand. However, these vehicles have experienced significant wear and tear in the intervening years. And currently, Show-Fleur anticipates that it could only sell each one for roughly $50 thousand, meaning the depreciation per vehicle is $100 thousand. If you keep a lot of inventory in stock, chances are that some of the inventory will become obsolete.