A company, ABC Co., purchased a depreciable asset worth $100,000. The company expects the asset to have a useful life of 10 years. After each accounting period, the company records a depreciation expense of the asset.
The accumulated depreciation account plays a vital role in representing the accurate value of an asset in the financial statements. In essence, contra-asset accounts have a negative balance while other asset accounts have a positive balance. Both of these accounts offset each other to represent a net balance on a company’s balance sheet. This means that accounts receivables have a debit balance of $10,000, and the firm credits revenue for $10,000.
Overview: What is a contra asset account?
Still, the dollar amounts are separately broken out in the supplementary sections most of the time for greater transparency in financial reporting. The accounting entries for accumulated amortization are as follows. Mary Girsch-Bock is the expert on accounting software and payroll software for The Ascent. You can estimate the total to record in the allowance for doubtful accounts based on uncollectible revenue totals from the previous year or you can conservatively estimate the amount.
This frequently happens to manufacturing companies that sell products with an expiration date since any inventory remaining in stock past the expiration date quickly becomes obsolete. Get instant access to lessons taught by experienced private equity pros and bulge bracket investment bankers including financial statement modeling, DCF, M&A, LBO, Comps and Excel Modeling. In other words, accumulated depreciation will be $10,000 each year until the car depreciates to $0 twenty years later.
Financial Management: Overview and Role and Responsibilities
Contra accounts appear in the financial statements directly below their paired accounts. Sometimes the balances in the two accounts are merged for presentation purposes, so that only a net amount is presented. If the related account is an asset account, then a contra asset account is used to offset it with a credit balance.
Contra Liability a/c is not used as frequently as contra asset accounts. It is not classified as a liability since it does not represent a future obligation. Contra asset accounts are hugely beneficial for nearly all types of companies.
Allowance for Receivables
Hopefully, you have a pretty clear idea of contra asset meaning—no need to ask to define contra asset accounts anymore. Including contra asset accounts on your balance sheets can be hugely beneficial for your business. The importance of contra asset accounts is generally to reduce the value of some related account. The contra asset account pulls the value of the combined accounts down, which in turn decreases the value of the second account as well, which is a normal account. To offset this, the allowance for doubtful accounts balance is adjusted via a credit, while the bad debt account is debited to balance out the AR account. When combined, the AR account and the allowance for doubtful accounts contra assets offer a projection of how much net cash is expected to be received from outstanding accounts.
Contra asset accounts are a type of contra account that net off against asset accounts. These include accumulated depreciation, accumulated amortization, allowance for receivables, obsolete inventory, and discount on notes receivables. A contra liability is an account in which activity is recorded as a debit balance and is used to decrease the balance of a liability.
Create a free account to unlock this Template
A customer returned $100 worth of items, claiming them to be defective. Therefore, it reduces the value of shareholders’ equity by the amount paid for those repurchased stocks. A contra asset account is an account in the balance sheet that offsets the balance of a regular asset https://business-accounting.net/accounting-vs-law-whats-the-difference/ account. The natural balance of a contra asset account, in this case, is exactly the opposite of the balance of the related account. The allowance for doubtful accounts is a contra asset because it reduces the value of the accounts receivable (AR) account on the general ledger.
- Specifically, it is contra to shareholders’ equity because it decreases the total shareholders’ equity on the balance sheet.
- Therefore, a contra asset can be regarded as a negative asset account.
- Note that the asset account balance represents the purchase price of the asset in question, also known as its historical cost.
- That is to completely or partially offset the balance of their related asset accounts.
- It’s highly likely that your books will benefit from this process in terms of clarity, transparency, and the amount of time it takes to do accounting.
- Similarly, allowance for receivables will pair with accounts receivable balances.
They aim to reduce the balance of some related liability accounts. This would let users of the financial statements calculate the book value of the liability. Both the asset and the corresponding contra asset accounts must be stated clearly in the balance sheet. Usually, the asset account is listed first, and its contra asset counterpart is listed underneath, with the asset’s net value or book value.
Definition and Examples of Contra Assets
There are four key types of contra accounts—contra asset, contra liability, contra equity, and contra revenue. Contra assets decrease the balance of a fixed or capital asset, carrying a credit balance. Contra liabilities reduce liability accounts and carry How to Start Your Own Bookkeeping Startup a debit balance. Contra equity accounts carry a debit balance and reduce equity accounts. Contra revenue accounts reduce revenue accounts and have a debit balance. A contra account offsets the balance in another, related account with which it is paired.
- For example, if an account has a debit balance, a contra account will have a credit balance.
- While accumulated depreciation is the most common contra asset account, the following also may apply, depending on the company.
- Contra revenue accounts typically offset revenue accounts in a firm’s income statement.
- This helps the firms to evaluate the book value of their assets and liabilities.
- The auditors want to ensure that reserves are adequate, while the controller is more inclined to keep reserves low in order to increase the reported profit level.