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Chapter 5

Bad Debts, Bad Debts Provision and Bad Debts Recovered

(a) Bad Debts: Debtors who are bankrupt and their amounts due are written off. These are losses to the business therefore they are debited.

Double Entry: Debit: Bad Debts Credit: Debtors

At year-end Bad Debts are transferred to the Profit and Loss Account as Expenses.

Double Entry: Debit: Profit and Loss Credit: Bad Debts

Example: G.Borg, one of our debtors owed the business Lm400. He failed to pay and we decided to write off this amount due from the business accounts. Sales Ledger Dr G. Borg Account Cr

2006 2006 Jan-01 Balance b/d 400 Jan-31 Bad Debts 400

General Ledger

Dr Bad Debts Accounts Cr 2006 2006

Jan-31 G.Borg 400 Dec-31 To Profit and Loss 400

Profit and Loss Account (Extract) for the year ending 31 December 2000 Expenses Bad Debts 500 (b) Bad Debts Provision or Doubtful Debts Provision: This is an estimated loss on debtors. It is calculated as a percentage on debtors who might become bankrupt in the future. The percentage is based: � On past experience (this is known as General Provision). � When debtors’ accounts are examined individually and any debt likely to

become bad is listed. (This is known as Specific Provision).

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Example: 2004 2005 2006

Debtors Lm12,000 Lm20,000 Lm16,000 Bad Debts Provision 5% 5% 5% Workings: 2004: 5% x 12,000 = Lm600 (Creation of Bad Debts Provision) 2005: 5% x 20,000 = Lm1,000 (Increase of Lm400) 2006: 5% x 16,000 = Lm800 (Decrease of Lm200) Dr Bad Debts Provision Account Cr

2004 Lm 2004 Dec-31 Balance c/d 600 Dec-31 To Profit and Loss 600

2005 2005 Dec-31 Balance c/d 1,000 Jan-01 Balance b/d 600

Dec-31 To Profit and Loss 400 1,000 1,000

2006 2006 Dec-31 To Profit and Loss 200 Jan-01 Balance b/d 1,000 Dec-31 Balance c/d 800

1,000 1,000

2007 Jan-01 Balance b/d 800

Double Entry Used: Creation Debit: Profit and Loss Credit: Bad Debts Provision (With amount created) Increase Debit: Profit and Loss Credit: Bad Debts Provision (With amount of increase) Decrease Debit: Bad Debts Provision Credit: Profit and Loss (With amount of decrease)

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Profit and Loss Account (Extracts) for the years ending 31 December 2004/05/06

2004 Lm Gross Profit xxxxxx Less Expenses Creation of Bad Debts Provision

600

2005 Lm Gross Profit xxxxxx Less Expenses Increase of Bad Debts Provision 400

2006 Lm Gross Profit xxxxxx Revenues Decrease In Bad Debts Provision 200

Balance Sheet (Extracts) as at 31 December 1999,2000,2001

Currents Assets Lm Lm

Debtors 12,000 Less Bad Debts Provision (600) 11,400

Currents Assets Lm Lm

Debtors 20,000 Less Bad Debts Provision (1,000) 19,000

Currents Assets Lm Lm

Debtors 16,000 Less Bad Debts Provision (800) 15,200 (c) Bad Debts Recovered: When a debt written off as Bad in previous years is recovered / received in later years.

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Example: G.Borg was bankrupt on 31 January 2000. He owed the business, Lm200 and this amount was written off as a Bad Debt. On 30 July 2006 this amount was recovered. Dr G.Borg Account Cr

2006 Lm 2003 Lm Jul-30 (1) Bad Debts Recovered 200 Jul-30 (2) Cash 200

Dr Bad Debts Recovered Account Cr 2003 Lm 2003 Lm

Dec-31 (3) To Profit and Loss 200 Jul-31 (1) G.Borg 200

Dr Cash Account Cr

Jul-31 (2) G.Borg 200

Profit and Loss Account (Extract) for the year ending 31 December

2003

Lm Gross profit xxxxx Revenues:

Add Bad Debts Recovered 200

Double Entry Used: (1) Debit: Debtor Account Credit: Bad Debts Recovered Account (with amount of Debt) (2) Debit: Cash/ Bank Account Credit: Debtor Account (with amount received from debtor) (3) Debit: Bad Debts Recovered Account Credit: Profit and Loss Account (with amount recovered to be shown as gain in the profit and loss account)

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Exercises 1. L.Cauchi commenced business on 1 May 2000 as a wholesaler, selling

furniture to retail outlets. The final accounts of his business are prepared on 30 April each year. The Bad Debts Provision amounts to 5% of debtors. The following information relates to the 3 years ending 30 April - 2003.

Year Ending : 30 Apr 2001

30 Apr 2002 30 April 2003

Lm Lm Lm

Total Debtors at year end : 18,000 23,000 20,000

Bad Debts written off : 800 1,000 900

The Provision for Bad Debts was maintained each year at 5% of the Total debtors at year end. From the information given above prepare for the three years: a. A Bad Debts Account; b. A Provision for Bad Debts Account; c. Relevant extracts of the Profit and Loss Accounts; d. Balance Sheet Extracts.

2. During the year ended 31 May 2001 T.Hili, a sole trader, incurred the following bad debts : P. Sammut Lm25, T.Ebejer Lm31; F.Abela Lm18; G.Galea Lm43; T.Tanti Lm52. At the close of business on 31 May 2000, T.Hili’s Provision for Bad and Doubtful debts had a balance of Lm130. At the close of business on 31 May 2001 his debtors amounted to Lm3840 and on this date T.Hili

decided to increase the Provision for Bad and Doubtful Debts to 5% of the debtors (Lm3840). You are required: a. Draw up the Bad Debts Account and the Provision for Bad

Debts Account for the year ended 31 May 1999, showing the amounts to be transferred to the Profit and Loss Account.

b. Distinguish between Bad Debts and Bad Debts Provision.

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3. A business had always made a provision for bad debts at the rate of 5%

of debtors. On 1 January 2000 the provision for bad debts brought forward from the previous, was Lm200. During the year to 2000 the bad debts written off amounted to Lm500. On 31 December 2000 the remaining debtors totalled 6,000 and the usual provision for bad debts is to be made.

You are to show for 2000: (a) the bad debts account; (b) the provision for bad debts account; (c) Profit and Loss extract and Balance Sheet extract.