Contra Accounts Examples & How They Work

Define Contra Asset Account

After each accounting period, the company records a depreciation expense of the asset. However, there are some prevalent contra-asset accounts that may exist for all companies. A contra account is an account that companies use to reduce the value of a related account. It usually nets off against related accounts and provides an opposite effect to the balance. Therefore, contra accounts are the reverse accounts that decrease a specific account’s balance.

  • The company has a contra asset account for accumulated depreciation expense and a separate asset account for equipment cost.
  • We can see how the $10,000 allowance for doubtful accounts offsets the $100,000 A/R account from our illustrative example above (i.e. the account decreases the carrying value of A/R).
  • This will repeat until the machinery has been totally depreciated, sold, or retired.
  • If you keep a lot of inventory in stock, chances are that some of the inventory will become obsolete.

Whenever the balance of an account needs to be reduced in a company's ledger, it is not always applicable to credit the account if it is an asset or debit the account if it is a liability. The allowance method of accounting allows Accounting For Small Start-up Business a company to estimate what amount is reasonable to book into the contra account. The percentage of sales method assumes that the company cannot collect payment for a fixed percentage of goods or services that it has sold.

Contra Assets Account Example

By reporting contra asset accounts on the balance sheet, users of financial statements can learn more about the assets of a company. Contra asset accounts allow users to see how much of an asset was written off, its remaining useful life, and the value of the asset. Contra asset accounts are a type of contra account that net off against asset accounts.

Define Contra Asset Account

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. The allowance for doubtful accounts – often called a “bad debt reserve” – would be considered a contra asset since it causes the accounts receivable (A/R) balance to decline. The second entry will be accumulated depreciation, which will be in credit. Another question that we get is what is the relationship between a contra asset balance and the book value.

Definition of Contra Account

For this reason, contra accounts are primarily seen as having negative balances because they are used to reduce the balance of another account. Accountants use contra accounts rather than reduce the value of the original account directly to keep financial accounting records clean. 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. This type of account could be called the allowance for doubtful accounts or a bad debt reserve. The balance in the allowance for doubtful accounts represents the dollar amount of the current accounts receivable balance that is expected to be uncollectible.

  • It might be important for a business to track the full cost of sales less contras to see the full picture.
  • ADAs are used to create allowances for clients that bought the company’s goods or services but somehow failed to pay the owed amount.
  • It usually nets off against related accounts and provides an opposite effect to the balance.
  • The balance sheet would show the piece of equipment at its historical cost, then subtract the accumulated depreciation to reflect the accurate value of the asset.
  • Therefore, these companies must maintain an obsolete inventory reserve account to net off any unusable stock from the account.
  • The account offsets the balance in the respective asset account that it is paired with on the balance sheet.

That is because some of the bonds are issued at a discount, so this reduces the balance of their bonds payable. Even small businesses benefit immensely from contra asset accounts. Obsolete inventory or obsolete inventory reserves is another popular type of contra asset accounts.

Contra Account Examples

For example net sales is gross sales minus the sales returns, the sales allowances, and the sales discounts. The net realizable value of the accounts receivable is the accounts receivable minus the allowance for doubtful accounts. Contra asset accounts include allowance for doubtful accounts Why does bookkeeping and accounting matter for law firms and accumulated depreciation. Contra asset accounts are recorded with a credit balance that decreases the balance of an asset. A key example of contra liabilities includes discounts on notes or bonds payable. Contra liability accounts are not as popular as contra asset accounts.